Tencent Borrows Big in US Currency

Tencent Taking Advantage of the Borrower’s Market

Tencent TCEHY, the second largest public tech company in China, just debuted a $6 billion bond auction today. The auction consisted of bonds with maturities ranging from 5-30 years. The sale is Asia’s largest bond auction in US dollar for over a year and Tencent’s largest bond auction ever. The Fed’s recent dovish verbiage has plummeted bond yields the past few months making this a prime opportunity to take advantage of “cheap” money in US currency. Tencent was able to achieve a 10 yr bond yield that was only 145 bps above the “risk-free” 10 yr US Treasury yield.

Tencent Overview

Tencent is best known for its communication application called WeChat (Weixin), which had over 1 billion monthly active users (MAU) at the end of 2018, making it the largest social community in China. WeChat saw MAU growth of 11% year-over-year. Tencent also owns QQ and Qzone, which are social networking applications each with over 500 million MAU. Total revenues for the business jumped 32% from last year.

One-third of Tencent’s revenue is driven by online games, with the primary growth driver being smartphone games. The largest dollar figure top-line growth driver is their social networking sites/apps which grew 30% this year. Online advertising revenue is also quickly growing at a 44% rate from last year. You can see below that Tencent’s top-line has more than quadrupled in the past 5 years.

 

Tencent Growth Potential

China’s freeze on current video games and a ban on new video games into the market took a hit on Tencent’s profits this year, deteriorating margins. The Chinese government cited the video game criticism of its addictive attributes as well as inappropriate content as the reason for the new ruling. The freeze was finally lifted in December, and the Chinese government is slowly approving some of Tencent’s most lucrative smartphone games. The approvals should expand both top-line growth and margins for them in 2019.

It isn’t clear what Tencent is going to do with this $6 billion surge in cash, but given its historical and projected growth rates, I would wager the return on this additional capital will be sizeable. Annual earnings for 2019 and 2020 are expected to be 24.79% and 29.45%. These growth rates are unprecedented for any firm, especially one that has been around for over 20 years. Tencent is given a PE-to-growth valuation of 1.4, which is in line with the industry average. A US-China trade deal could provide this stock with substantial gains. I would continue to keep an eye on this stock, with an annualized 2-year return of 28%, TCEHY could offer some strong diversification in your portfolio adding to any international growth allocation – TCEHY Zacks Rank #3 (Hold).

BATs and The Trade War

China’s biggest tech companies make up the acronym BATs: Baidu BIDU, Alibaba BABA, and Tencent TCEHY. The combined market caps of these three tech powerhouses is approximately $1 trillion, with Alibaba and Tencent making up 95% of that value. The ensuing trade war between the US and China hit these stocks hard pulling around $300 billion in value completely out of the market by the end of 2018. As you can see below these three stocks have recovered a bit since there downward trajectory last year but only Alibaba is showing positive 52-week growth.

 

Keep an eye on all these stocks as trade negotiations continue. Positive reformation to US’s trade agreement with China will likely give these Chinese Tech stocks a sizable boost.

 

 

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