Tencent's record profit soothes fears it's throwing margins away
Lulu Yilun Chen
Tencent Holdings Ltd. delivered record quarterly profit that reassured investors bracing for a big hit to margins from spending on everything from video to old-school retail.
While worried investors had sold off more than US$90 billion of stock since January, Tencent posted a 61 percent jump in net income to 23.3 billion yuan (US$3.7 billion) in the March quarter, outstripping estimates by almost a third. That’s partly thanks to a one-time gain of almost 7.6 billion yuan from its investments in arenas like video and news.
China’s largest social network and gaming company defied fears that outsized spending would hammer profitability. The owner of the giant WeChat messaging platform opened its wallet to sustain growth as PC gaming slows, investing in cloud computing, entertainment and physical retail to lock horns with Alibaba Group Holding Ltd. It’s also secured Chinese distribution rights to some of the world’s hottest games, including PlayerUnknown’s Battlegrounds, adapting it into mobile titles to draw in smartphone users.
“Its margins were better than people expected,” said Julia Pan, a Shanghai-based analyst at UOB Kay Hian. “Analysts were expecting a drag on margins because of increasing contribution from cloud and payments, but it looks like Tencent was pretty good at controlling costs.”
The gross profit margin in the quarter was more than 50 percent, higher than the 47 percent expected by analysts.
Shares of Tencent closed little changed before earnings were released. The stock has fallen 16 percent since a record close on January 23. Naspers Ltd., which as Tencent’s top shareholder is often regarded as a proxy for the Chinese firm, rose more than 6 percent Wednesday.
Revenue rose 48 percent to 73.5 billion yuan, also surpassing estimates for 70.8 billion yuan. But adjusted earnings-per-share, which strips out one-time items, came to 1.92 yuan, missing the 1.94 yuan average estimate.
“The results were good even without the one-time gains, but the gains made it even better,” said Bhavtosh Vajpayee, a Hong Kong-based research analyst at Bernstein.
Tencent continues to draw the lion’s share of its business from gaming, while counting on advertising and finance via WeChat to drive future growth. Revenue from Value Added Services, which includes online games and messaging, rose 34 percent to 46.9 billion yuan. The company has however been leery of barraging its users with ads -- on Wednesday, it declared that it had raised the maximum number of ads that customers see on WeChat Moments, a function similar to Facebook’s newsfeed, to just two a day, from one previously.
Honour of Kings continues to be a core source of earnings. Developed by Tencent’s own studio, the mobile title resembles the popular desktop title League of Legends, whose developer was acquired by Tencent in 2015. Anchored by its marquee title, the smartphone games business yielded 68 percent growth in the quarter.
But overall costs surged 51 percent. Tencent executives have signaled a willingness to sacrifice margins in favor of longer term growth in new businesses, though that would depend on growing and engaging a massive user base now primarily confined to China.
“We will continue to invest in improving our own products as well as enabling services for our partners,” founder and Chief Executive Officer Ma Huateng said in a statement.
WeChat had 1.04 billion monthly active users while QQ -- the older of its two social networks -- saw users drop 6.4 percent to 805.5 million at the end of the quarter.
“Mobile game growth was very strong, as the first quarter is usually a good season when users spend more time on their devices during the holidays,” said Benjamin Wu, a Shanghai-based analyst with Pacific Epoch. “Honour of Kings was a major contributor for mobile gaming revenue.”
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