Tencent(OTC: TCEHY) posted its fourth-quarter earnings report on March 22. The Chinese tech giant's revenue rose 0.5% year over year to 145.0 billion yuan ($20.8 billion), which still missed the consensus forecast by half a billion yuan.
But its net profit increased 12% to 106.3 billion yuan ($15.3 billion), which exceeded analysts' estimates by 27.6 billion yuan. Excluding a one-time gain of 106.6 billion yuan from its exit from the shopping platform Meituan(OTC: MPNG.Y) and other one-time items, Tencent's adjusted net profit grew 19% to 29.7 billion yuan ($4.3 billion).
Image source: Getty Images.
For the full year, Tencent's revenue dipped 1% to 554.6 billion yuan ($79.6 billion) and decelerated from its 16% growth in 2021. Its adjusted net profit fell 7% to 115.6 billion yuan ($16.6 billion), compared to its 1% growth in 2021.
Tencent's slowdown is disappointing, but it wasn't too surprising since its core gaming, advertising, fintech, and cloud businesses have all faced tough macro, competitive, and regulatory challenges over the past year. But will this bellwether of the Chinese tech sector prove the bears wrong and bounce back this year?
Simplifying Tencent's sprawling business
In 2022, Tencent generated 52% of its revenue from its value-added services (VAS) division, which houses its domestic video games, international video games, and non-advertising revenues from its social media and streaming media platforms. The core growth engine of its domestic gaming business is Honor of Kings, a multiplayer online battle arena (MOBA) game which was initially launched in 2015 and remains one of the most popular games in China.
Its fintech and business services unit, which houses its WeChat Pay digital payments services and Tencent Cloud platform, brought in 32% of its revenue. Another 15% came from its online advertising business, which sells ads across its entire ecosystem of social media apps, games, and free media streams, while the remaining 1% came from its other businesses.
WeChat (known as Weixin in China) is the "super app" that bonds users to its core VAS, advertising, and fintech businesses. WeChat's 1.31 billion monthly active users (MAUs) can access a wide range of mobile messaging, social networking, e-commerce, digital payments, media, and gaming services without ever leaving the app.
What happened to Tencent over the past year?
All three of Tencent's core businesses faced tough headwinds over the past year. The VAS division's growth decelerated as the Chinese government tightened its video game playtime restrictions for minors and staggered its approvals of new games. That pressure forced Tencent to aggressively expand its overseas gaming business, but that division also struggled with sluggish growth in a post-pandemic market. Its streaming media segment -- which includes Tencent Video and Tencent Music(NYSE: TME) -- also faced intense competition as COVID lockdowns disrupted consumer spending.
The fintech and business services segment struggled as slower consumer and enterprise spending affected WeChat Pay and Tencent Cloud, respectively. Tencent also intentionally scaled back some of Tencent Cloud's unprofitable services to cut costs, which suggests it's struggling to keep pace with its two larger competitors -- Alibaba(NYSE: BABA) Cloud and Huawei Cloud -- in China's cloud infrastructure market.
Meanwhile, its online advertising business was hit by COVID disruptions, which forced many companies to rein in their ad spending, a slowdown that was exacerbated by the government's unpredictable crackdown on the country's gaming, fintech, e-commerce, internet, and online education sectors over the past year. All of those challenges generated fierce headwinds and caused Tencent's growth to slow to a crawl throughout 2022:
Metric | Q4 2021 | Q1 2022 | Q2 2022 | Q3 2022 | Q4 2022 |
|---|---|---|---|---|---|
VAS revenue growth (YOY) | 7% | 0% | 0% | (3%) | (2%) |
Fintech and business services revenue growth (YOY) | 25% | 10% | 1% | 4% | (1%) |
Online advertising revenue growth (YOY) | (13%) | (18%) | (18%) | (5%) | 15% |
Total revenue growth (YOY) | 8% | 0% | (3%) | (2%) | 0.5% |
Data source: Tencent. YOY = Year over year.
Are brighter days ahead?
As Tencent's growth decelerated, it aggressively cut costs to boost its profits. As a result, its adjusted operating margin rose four percentage points year over year (but still dipped two percentage points sequentially) to 27% in the fourth quarter. For the full year, its adjusted operating margin stayed roughly flat at 28%.
Tencent's revenue growth should accelerate again as China ends its zero-COVID restrictions, approves more games, and eases its crackdowns on private companies. That's why analysts expect its revenue to rise 11% in 2023 and 12% in 2024. Its reported net income is expected to decline 25% in 2023 (due to its divestment of Meituan in 2022) and rise 16% in 2024.
Based on those expectations, Tencent looks reasonably valued at 23 times forward earnings. But it's also a Chinese stock that still faces delisting threats in the U.S. At the same multiple, it's easy to find non-Chinese tech stocks that are growing at similar rates and face fewer macro, regulatory, and competitive challenges. Therefore, I expect Tencent's stock to trade sideways this year until those headwinds fully dissipate and Chinese stocks look like worthwhile investments again.
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Leo Sun has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Tencent. The Motley Fool recommends Meituan. The Motley Fool has a disclosure policy.
