Amid regulatory crackdowns, Tencent takes a tactical approach to its investments

Over a little more than a year, China’s regulatory landscape for internet companies has transformed in ways that few anticipated. This has stymied numerous major enterprises that have established themselves as some of the country’s largest conglomerates, including the country’s most valuable tech firm, Tencent. While new rules to roll back antitrust business practices and foster better cybersecurity were implemented, Tencent reported its slowest revenue growth since it went public in 2004, and saw its share price plunge by nearly 40% in 2021.

Despite these headwinds, Tencent remained prolific in its investments. In 2021, Tencent invested RMB 130 billion (USD 20 billion) into 265 companies, its highest volume ever, information from business data aggregator IT Juzi shows.

Now in its 23rd year, Tencent has planted roots in every corner of the tech sector. Its services are ingrained in the daily lives of people in China, with its most popular application, WeChat, functioning more like an indispensable utility rather than merely a useful platform. As Tencent’s many holdings mature and exits provide new liquidity for fresh investments, that outlook is at odds with regulators’ expectations for tech companies to temper their growth and remain in specific lanes.

Tencent’s diverse investments in 2021

Pony Ma, the CEO and co-founder of Tencent, said to his company’s executives in 2021 during a leadership meeting that their strengths are the ability to maintain a high volume of traffic and to keep Tencent’s pockets deep. The latter quality was of particular importance when regulators decided to clamp down on the widespread control of tech companies—it gave Tencent a way to plant seeds for further growth during what seemed to be a regulatory winter.

As one of the largest video game companies in the world, Tencent’s investment arm used to be the most active financier in this sector in China. It invested in a game company every three days in Q1 2021. However, after China capped playtime for minors to three hours per week and suspended the approval process for new games in July 2021, Tencent’s pace of writing checks for domestic game developers slowed down for the rest of the year, and the company stopped doing this in October altogether. Instead, it stepped up investment in overseas gaming firms. It acquired Sumo Group, a British game publisher, for USD 1.27 billion in July. In November, Tencent acquired a 6.86% stake in Japanese media conglomerate Kadokawa for USD 264 million to develop a stronger presence in the country.

While games may be the tech giant’s bread and butter, it has also cultivated significant holdings in companies that build and offer enterprise services. Tencent invested in at least 56 companies in this space last year, double the number from 2020. Most of these companies are startups or unicorns focusing on artificial intelligence, cloud computing, and software-as-a-service, data from IT Juzi shows. Moore Threads, a semiconductor unicorn, raised RMB 2 billion (USD 317 million) in its series A funding led by Tencent in November 2021.

Another sector where Tencent is increasing its holdings is online-to-offline business. With Tencent’s WeChat already on over 1 billion phones in China, the company has developed a focus to lead customers from online channels to transact in brick-and-mortar stores. In 2021, nearly RMB 70 billion (USD 11 billion) was pumped into companies of this type by Tencent, an amount 1,000% higher than the previous year, according to IT Juzi.

One major funding round led by Tencent was for Xiaohongshu, a popular social media platform that has shaped the beauty sector in China. Xiaohongshu raised more than USD 500 million in November 2021, according to 36Kr. Earlier in the year, food delivery giant Meituan received another HKD 31 billion (USD 4 billion) from Tencent to develop automated delivery robots.

These stakes in various directions ensure Tencent maintains a diverse portfolio. Its latest quarterly earnings report showed that “other income,” which mostly consisted of gains from sales of holdings and adjustments to the valuations of existing assets, reached RMB 23 billion (USD 3.6 billion) and accounted for over 50% of its net profit in Q3 2021.

Navigating regulatory headwinds

In 2021, Chinese tech companies lost hundreds of billions of dollars in value, including companies that are part of Tencent’s portfolio, like Kuaishou. In all, Tencent owns 21.6% of the short video platform developer. Kuaishou’s share price cratered and has lost nearly 80% of its value since its post-IPO peak in February 2021, and has so far been unable to recover since hitting its all-time low in January 2022. Similarly, after Meituan’s stock reached a high point in February 2021, it plunged by more than 50% to hit its all-time low for the year in August.

However, Tencent’s holdings in listed companies, excluding its subsidiaries, were worth the equivalent of USD 190 billion as of the end of September 2021—nearly 40% higher than the figure it reported in the same period last year.

“We manage our investment portfolio with the primary objective of strengthening our leading position in core businesses,” the company said in its interim report released in August 2021.

But these moves have been characterized by Chinese regulators as “disorderly expansion of capital” that damages a fair business environment.

“Platform companies leverage the massive data they obtain and flood money to lucrative fields. This leads to monopolies and hampers China’s goal to achieve common prosperity,” Xu Zheng, a finance professor at East China University of Science and Technology, wrote in an article published by state-backed media outlet Guangming Daily.

One proposed move by Tencent had already been shot down by government officials last year. Its plan to merge China’s two largest video game streaming sites, Huya and Douyu, was blocked by the State Administration for Market Regulation (SMAR), which cited antitrust concerns. The company was also fined at least 20 times in 2021 for failing to report merger or acquisition deals to regulators in advance.

In the future, there will be more limitations on how Tencent can invest its money. The same will apply to all major internet companies in China. Already, ByteDance has dismantled its venture arm. New rules set up by the Cyberspace Administration of China say tech conglomerates with more than 100 million users or annual revenue exceeding RMB 10 billion (USD 1.57 billion) will need to seek approval before making investments.

The regulatory walls are closing in, and Tencent has decided to offload investments that have matured, like those in Sea Group and JD.com. With new and future consumer habits in mind, Tencent is writing checks for companies that will offer services related to metaverse activities.

After seeking a USD 3 million exit from its stake in Sea Group, Tencent has invested in 27 companies, according to business tracking platform Tianyancha. The biggest deal was its RMB 2.7 billion (USD 420 million) acquisition of Black Shark, a major gaming smartphone maker that will manufacture VR headsets for Tencent to lay the foundation of its business in the metaverse.

The tech conglomerate is also stepping up its investments in deep tech industries that have gained the government’s support. So far, in 2022, Tencent has invested in five semiconductor companies, four enterprise service providers, and developers of IoT and autonomous driving solutions. This is in line with the government’s plan to foster the development of “little giants,” which are startups that operate in industries deemed by government officials to be strategically important, like semiconductors, AI, and robotics.

Tencent is just an ordinary company that’s easy to replace, Pony Ma said at the company’s most recent year-end meeting. The tech giant should not cross any lines, and be a “good aid” to the country, he said.

Author: Jiaxing Li, KrAsia

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