Why Tencent Holdings Was Rallying Today

The Chinese tech giant beat analyst profit expectations as high-margin businesses surged.

Shares of Chinese tech giant Tencent Holdings (TCEHY 4.39%) rallied about 5% on Tuesday as of 1:52 p.m. ET after the company released its earnings results for the first quarter of 2024.

Tencent has various businesses across video games, online advertising and social media, video and music subscriptions, fintech services, and cloud software. But while video games get the lion’s share of attention and were slightly down, virtually all of Tencent’s other segments posted solid growth.

And even though games revenue was down, there was also positive news even in that important segment.

Impressive profit growth

Like other major Chinese tech companies, Tencent has pivoted amid the more difficult economic landscape in China. Prior to 2021, Tencent pursued aggressive growth, but since China’s government cracked down on big tech giants and the economy hit a downturn, Tencent has since pursued a more measured growth path with a focus on profitability.

That was on display in the first quarter, as revenue grew just 6%, but gross margin expanded by a huge 8 percentage points, from 45% in the year-ago quarter to 53% last quarter. That led to non-GAAP (adjusted) gross profits surging 23% and adjusted net income available to common shareholders rocketing 54% higher.

How did Tencent manage it? The company posted an impressive 26% growth in the high-profit online advertising segment, as video account usage surged 80% over the past year. Perhaps like its U.S. peers Facebook and Instagram, which are owned by Meta Platforms, Tencent has been able to use generative artificial intelligence (AI) to increase user engagement on its WeChat social media platform and enhance advertiser targeting capabilities.

Aside from social media, other segments showed surprising strength as well. Video subscriptions grew 8% and music subscriptions were up 20%, their best growth figures in a while. Meanwhile, the company posted business services growth, including cloud computing software and services, in the mid-teens. That was particularly encouraging, as cloud growth in China had really disappointed in recent years relative to U.S. peers.

But what perhaps may be moving the stock the most was good news hidden under the surface of the gaming segment. Even though value-added services, including gaming revenue, was down 0.9%, including domestic games revenue down 2% and international games revenue up just 3%, both segments’ gross receipts, including deferred revenue paid upfront to be recognized in future periods, was much more encouraging. Gross receipts in international gaming was up 34%, while domestic games gross receipts flipped from declines back to growth, increasing 3% over the prior year.

Tencent still looks like a cheap stock

Even after today’s surge, Tencent still looks quite cheap. The company made $7.1 billion in adjusted net profits last quarter, annualizing to $28.1 billion. And while Tencent’s market cap is now $486 billion after today’s surge, Tencent also has about $120 billion in equity holdings of other companies, as well as a net cash position of $13 billion.

So when stripping those assets out of its valuation, Tencent’s enterprise-value-to-profit ratio comes to a mere 12.5.

Considering Tencent is in the midst of accelerating share buybacks and just raised its dividend, it still looks like one of the best bets for those comfortable investing in China.

Randi Zuckerberg, a former director of market development and spokeswoman for Facebook and sister to Meta Platforms CEO Mark Zuckerberg, is a member of The Motley Fool’s board of directors. Billy Duberstein has positions in Meta Platforms. The Motley Fool has positions in and recommends Meta Platforms and Tencent. The Motley Fool has a disclosure policy.

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