Tencent? More Like 48 Trillion Cent…

We are endlessly fascinated by the structural differences between Chinese and American technological disruption, and today we bring you a brief case study of Tencent Holdings. Unlike the other two well-known Chinese technology giants – Alibaba and Baidu – its only US market presence is through an OTC Markets listed ADR (TCEHY). Still, it is 5.3% of the MSCI Emerging Markets Index and therefore the biggest holding in EEM, the largest ETF for this asset class by assets under management. If you own EEM for clients or in your own account, you own Tencent.

There are many reasons why Tencent’s $485 billion market cap rivals Facebook ($483 billion) and tops Alibaba ($459 billion) and Baidu ($81 billion), but they all come down to market domination in several verticals:

  • Online messaging apps (Weixin and WeChat) with over 1 billion users worldwide. Through these mobile phone apps users can exchange texts and images/video, pay bills, book doctor’s appointments in major cities, and see paid advertising.
  • Gaming. Tencent sells both PC based and smartphone games, and has large franchises in each. It owns LA-based Riot Games and has stakes in Epic and Activision. The company also owns Honour of Kings, which press accounts describe as “The most profitable game in the world” making “$1 bn a quarter”.
  • Media and other services. With 1 billion users, Tencent has a built in customer base for a range of services. It owns stakes in Didi Chuxing (China’s Uber), film distributor STX, Chinese ecommerce company JD.com, and supermarket chain Yonghui Superstores, among many others.

All that translates into some impressive financials, even when compared to American social media companies:

  • Total 2017 revenues of $36.4 billion, up 56% year over year.
  • Operating profits of $13.8 billion, up 61% year over year, and a 38% operating margin.
  • Net profits of $11.1 billion, up 75% year on year, and a 30% net margin.
  • In comparison, Facebook’s 2017 revenues were $40.6 billion and operating/net profits were $20.2/$15.9 billion. The big difference: Tencent generates the bulk of its profits from users, not advertisers.

Bottom line – Tencent has become the world’s most valuable non-US tech company for two reasons.

  • First, it built a business on two consumer products that generate high levels of user engagement: social media and gaming.
  • Second, it is users – not advertisers – that pay Tencent’s bills. Yes, the company benefits from the generally closed ecosystem of Chinese consumer technology. Even then there is plenty of competition in this market. Customers have choices, and Tencent competes to acquire, retain and have them pay directly.

In short, Tencent builds things actual people want to buy. And for all the complexities inherent in tech-based disruption, there is something refreshingly simple in that approach.

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