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Tencent Music’s Sales Soar Over 50% During the Fourth Quarter

Leo Sun, The Motley Fool

Shares of Tencent Music (NYSE: TME) recently slipped after it released its first quarterly report as a public company. For the fourth quarter, its revenue rose 50.5% year over year to 5.4 billion RMB ($785 million), beating estimates by $4 million.

On the bottom line, it reported a net loss of 876 million RMB ($127 million), compared to a profit of 536 million RMB a year earlier. The loss was attributed to a one-time 1.52 billion RMB ($221 million) accounting charge from the issuance of shares to two music partners -- Warner Music Group and Sony Music Entertainment.

A young woman listens to music on her smartphone.

Image source: Getty Images.

Tencent Music's adjusted net profit (which excludes that stock-based charge, stock-based compensation, and other one-time charges) rose 37% year over year to 916 million RMB ($133 million), or $0.08 per ADS, which matched Wall Street's expectations. Tencent Music's headline numbers look solid, so why did some investors sell the stock?

The key numbers

Tencent Music is the largest music streaming platform in China. It splits its business into two main divisions: online music, which includes the streaming platforms QQ Music, Kugou, and Kuwo; and social entertainment, which includes its WeSing live-streaming karaoke platform.

During the fourth quarter, mobile monthly active users (MAUs) for its online music platform rose 6.8% annually to 644 million, while MAUs on its social entertainment platform rose 9.1% to 228 million. However, the social entertainment platform generated much higher revenue than Tencent Music's online music platform.

Segment

Q4 revenue (RMB)

Growth (YOY)

Online Music

1.52 billion

45%

Social Entertainment

3.88 billion

52.8%

Total

5.40 billion

50.5%

Data source: Tencent Q4 earnings report. Chart by author. YOY = year over year.

Tencent Music monetizes its online music users with premium subscriptions and sales of digital albums. It monetizes its social entertainment user base by selling virtual gifts and concert tickets for WeSing's live-streaming karaoke users.

Over the past year, Tencent Music's paid online music users rose 39.2% to 27 million, while its paid social entertainment users climbed 22.9% to 10.2 million. Its online music ARPPU (average revenue per paid user) fell 1.1% to 8.6 RMB ($1.28) per month, but social entertainment ARPPU climbed 24.3% to 126.7 RMB ($18.90) per month on the strength of its live video features.

A young woman broadcasts a live video on her smartphone.

Image source: Getty Images.

How Tencent Music compares to Spotify and Pandora

Tencent Music's addition of a live video ecosystem sets it apart from its overseas counterparts Spotify (NYSE: SPOT) (which owns a major stake in Tencent Music) and Sirius XM's Pandora.

Spotify generates most of its revenue from paid subscriptions and a smaller percentage from ads. Pandora takes the opposite approach, generating most of its revenue from ads and a smaller percentage from subscriptions. Generally speaking, ads are less profitable and are more vulnerable to seasonal headwinds than subscriptions.

However, Tencent Music's social entertainment ARPPU indicates that live video streams are much more lucrative than either ads or streaming subscriptions. As a result, analysts have much higher growth expectations for Tencent Music than for Spotify, which finished 2018 with 207 million MAUs:

Company

Est. sales growth (current year)

Est. EPS growth (current year)

Tencent Music

39%

5%

Spotify

27%

N/A (net loss)

Data source: Yahoo Finance. Chart by author. Est. = estimated.

Analysts expect Spotify's net loss to widen this year due to high content licensing expenses. Tencent Music faces the same headwind, but it's mitigating that with the expansion of its higher-growth live video ecosystem and favorable deals with record labels like Warner and Sony, which are both invested in the company's growth.

Tencent Music's cost of revenue (up 62.5% year over year last quarter) and operating expenses (up 58.1%) will likely continue to rise quickly in 2019 as the company expands its ecosystem, secures more licensing deals, and ramps up its marketing efforts. However, those investments should help it retain its lead against smaller rivals like NetEase Cloud Music and lock in listeners and viewers over the long term.

Why Tencent Music is still a great buy

Tencent Music trades more than 30% above its IPO price, and the stock doesn't look cheap at 30 times its projected 2020 earnings. However, its growth metrics are solid, it doesn't face any meaningful competitors, and its leading position in China's music streaming market gives it plenty of leverage in negotiating favorable licensing deals with record labels. Tencent Music isn't a stock for queasy investors, but it remains a great long-term play on China and the music streaming market.

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Leo Sun owns shares of Apple. The Motley Fool owns shares of and recommends Apple and NetEase. The Motley Fool owns shares of Sirius XM Radio and is long January 2020 $150 calls on Apple and short January 2020 $155 calls on Apple. The Motley Fool has a disclosure policy.