Date: October 14, 2024
Broker: China Galaxy International Securities (Hong Kong)
Game Revenue Growth Likely Accelerated in 3Q24F
Tencent’s game revenue in the third quarter of 2024 likely saw accelerated growth, driven by its newly launched mobile game, Dungeon & Fighter (DnF). This game, launched in May 2024 in the domestic market, has shown strong performance in retail sales rankings. DnF ranked No. 1 in China for June and July, No. 2 in August, and No. 3 in September. Its strong content pipeline and high customer retention suggest that it could become another evergreen game for Tencent. Additionally, Tencent’s two largest games, Game for Peace and Honor of Kings, showed recovery in 3Q24 after facing revenue declines in the first quarter of 2024.
Tencent’s domestic and international game revenues are expected to have grown 15% and 8.5% year-over-year, respectively, in 3Q24 (compared to 8.8% and 9.4% in 2Q24). Overall, the value-added services segment likely grew by 9.5% year-over-year in 3Q24, a rise from 6.2% in 2Q24, driven mainly by stronger domestic game revenues.
Solid Advertising Revenue but Slowing Fintech Business
Tencent’s advertising revenue is expected to have grown by 16% year-over-year in 3Q24, a slight slowdown from the 19.5% growth seen in 2Q24. Weak macroeconomic conditions and a lack of strong drama content on Tencent Video contributed to the ad revenue growth slowdown. However, most e-commerce platforms in China started ramping up their marketing for the upcoming 11.11 shopping festival, which should help maintain solid ad revenue growth into 4Q24.
On the fintech front, Tencent’s online payment business was impacted by weak domestic consumption, leading to flat revenue growth for its fintech and business services segment in 3Q24. However, a key development in this space occurred on September 4, 2024, when Alibaba announced that its Taobao and Tmall stores would start accepting Tencent’s WeChat Pay, marking a significant step towards collaboration between these major internet giants. This move is expected to boost WeChat Pay revenue in 4Q24.
Margin Expansion and Profit Growth
Tencent’s margins continued to improve in 3Q24. The company’s gross profit is estimated to have risen by 14% year-over-year (compared to 21% in 2Q24), with a 3.1 percentage point increase in gross profit margin (GPM) to 52.6%. The improvement is attributed to a shift toward higher-margin revenue streams, such as games and advertising, as well as effective cost management.
Non-IFRS operating profit (OP) likely increased by 22% year-over-year in 3Q24 (following a 27% rise in 2Q24), driven by streamlined operations and a 4.7 percentage point expansion in non-IFRS operating profit margin (OPM) to 40.6%. These improvements are expected to support Tencent’s overall revenue and net profit growth throughout 2024 and beyond.
Outlook and Valuation
China Galaxy International maintains an “Add” rating for Tencent with a DCF-based target price (TP) of HK$524. This target price is based on a weighted average cost of capital (WACC) of 11.2% and a terminal growth rate (TG) of 3%. The broker remains optimistic about Tencent’s growth potential across all business units, forecasting steady improvement in margins over the next 3-5 years. Risks to this outlook include potential margin pressure from increased competition, slower sales growth amid weak macroeconomic conditions, and regulatory changes that could impact top-line growth.
Key Financials
- Current Price: HK$438.8
- Target Price: HK$524 (upside: 19.4%)
- Market Capitalization: US$523.9 billion
- Expected 3Q24 Revenue Growth: 7.6% year-over-year
- Expected 3Q24 Non-GAAP Net Profit Growth: 14.9% year-over-year
- Major Shareholders: Naspers Ltd (31%), Ma Huateng (8.4%)
