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Inside Tencent’s USD 17 billion foreign investment gamble

Written by Low De Wei Published on     7 mins read

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Tencent outspent its Chinese peers on strategic investments last year, now with over 1,200 portfolios under its wings.

Despite being Asia’s largest tech giant, with a market capitalization of over RMB 6 trillion (USD 955 billion), Tencent is far from resting on its laurels. The Chinese conglomerate has a message for the rest of the world: You’re next.

Tencent, known for managing the social media platform WeChat, underwent its most aggressive period of investment last year, according to data compiled by IT Juzi, a Beijing-based startup market researcher. Nearly a quarter of its yearly revenue, or USD 17 billion (RMB 110 billion), was channeled into foreign investment alone.

The company’s scope has also grown. Investments and acquisitions were made in 168 Chinese and foreign firms in 2020. No other Chinese company came close to the same number, which even dwarfed the portfolio expansion of venture capital firms like Sequoia Capital China.

But as Tencent’s acquisitions made headlines across tech markets, they have also raised eyebrows. Critics have questioned whether such a scattered investment strategy is really value for money, while doubts have crept in about the firm’s financial power elsewhere.

Grasping the future

Like its American counterparts Google and Apple, Tencent has not been shy about its desire to control promising startups that are likely to garner consumer interest in the future.

The COVID-19 pandemic has provided an ideal opportunity for such gains. For instance, online education has emerged as a popular alternative for home-schooling children, with many new businesses seeking to take a slice of the virtual classroom pie. And Tencent’s checkbook has followed.

Beijing-based Yuanfudao, a homework tutoring app and one of China’s first online education platforms, has attracted five rounds of investment from Tencent, according to data from Chinese business directory Tianyancha, with one of the most significant series G funding rounds it led last year raising up to USD 1.2 billion for the startup. Yuanfudao has since grown into one of the world’s largest edtech unicorns.

At the other end of the spectrum, Tencent led a series A funding round with Sequoia Capital late last year to raise USD 80 million for a sub-brand of another online tutoring platform VIPKid, Dami Wangxiao (Dami Online School). The Beijing-headquartered startup touts its use of smaller classes and livestreaming of English and math courses conducted by American tutors to educate 700,000 Chinese primary school students.

Additionally, Tencent, the world’s largest video game developer by revenue, has also had to shore up its core focus of social media and gaming, which managed to garner most of its investment firepower in 2020.

After investing in just six gaming companies in 2019, a four-year low, investments in gaming developers jumped to 29 last year, with a focus on indie developers of tower defense and other mobile 2D games.

The resurgence has been driven in part by competition. Other developers like Shanghai startup miHoYo shocked executives last year when its global launch of mobile game Genshin Impact managed to bypass Tencent gaming distribution platforms and become the most successful game launch in Chinese history.

Radical steps have been taken to combat competition in the gaming space. Tencent currently owns a third of China’s two largest game streaming sites, Douyu and Huya, after increasing its stake in the companies last year. Douyu alone, China’s largest game streaming site, attracted more than 174 million monthly users in the last quarter of 2020 alone, eclipsing its western equivalent, Twitch.

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The backlash

The streaming market is one area where Tencent’s scattered investment strategy has paid dividends. The company is currently invested in several other popular sites, including an 18% stake in anime streaming site Bilibili, whose stock price has increased tenfold after listing on the Nasdaq stock exchange in New York last year. It also backs Kuaishou, a short-video sharing mobile app that raised USD 5.4 billion in a blockbuster IPO debut on the Hong Kong Stock Exchange in February this year.

Tencent’s crown jewel, however, is its 40% stake in American game developer and publisher Epic Games, which has found huge success with its popular title Fortnite and its Unreal Engine for game development.

Still, Tencent’s growing investment web masks the fact that it is not alone in the game. The tech giant is increasingly feeling the heat from major competitors, which are eager to obtain a slice of the lucrative domestic gaming and streaming market via acquisitions as well.

Kuaishou remains locked in fierce competition with its main rival Bytedance, which also controls short-video streaming apps, including Tiktok and its Chinese equivalent, Douyin. Efforts to attract streamers to use its platforms for promoting online shopping continue to face stiff competition from entrenched e-commerce firms with their own streaming sites like Alibaba and JD.com.

Even in the gaming field, Tencent has faced major setbacks. Its failed effort to reign in miHoYo has become the stuff of legends in Chinese acquisition circles. A report from Chinese tech news site LatePost quoted a source close to Tencent who revealed that miHoYo has consistently rebuffed its non-conditional offers. “After all, they (miHoYo) are not short of money,” said the source.

A more painful missed opportunity came in March last year. Tencent lost out to Bytedance in a bidding war for game developer Moonton, despite its co-founder being an ex-Tencent employee. The Shanghai-based firm has been a top target for acquisition, having developed popular mobile games, including Mobile Legends: Bang Bang, which found widespread success across Southeast Asia, as well as Magic Push, the best game on Google Play in 2015.

Bytedance has long been a major thorn in Tencent’s side after siphoning off mobile game developer C4-Games to the tune of RMB 15 billion. The Beijing-based firm previously helped Tencent develop a Chinese version of the popular strategy game Red Alert, dubbed “Red Alert OL (online)” for distribution to Android users.

More worrying for Tencent, though, is increasing regulatory scrutiny over the power of tech firms in China. After throwing its weight behind a merger between Huya and Douyu last year, the outcome of an ongoing review of the deal by China’s State Administration for Market Regulation (SAMR) is now in doubt after regulators tightened rules on reporting mergers and acquisitions in recent months as part of a wider antitrust enforcement campaign in the tech sector.

From coffee to cars

For now, Tencent remains undeterred in its drive to acquire firms, and it is no stranger to failed investments, such as its two rounds of financing between 2015 and 2016 for Chinese education platform Fengkuang Laoshi (“Crazy Teacher”), which ended with the business ceasing operations. A USD 300 million investment in Essential Products, a startup founded by Andy Rubin, widely credited as the “father of Android,” also turned sour just three years later when the company shut down after its new smartphone meant to revolutionize the industry failed to make waves.

But Tencent’s investment strategy has shifted towards an approach taken by venture capitalists: Be prepared to take risks and suffer losses, but maintain a diverse portfolio with a light touch. It primarily holds minority interests in the firms it invests in, with little attempt to dictate or interfere with their operations, reserving an option to increase its investment only if the firm performs well.

Tencent’s laissez-faire approach has been largely embraced by its investees. The founder of Pinduoduo, China’s third largest e-commerce firm, Colin Huang, previously said in an interview with financial magazine Caijing that Tencent treats his firm more like a slice of their investment empire rather than “a son to be groomed,” despite a sizeable 16.5% stake in the company.

Pinduoduo, like Canadian coffee and doughnuts chain giant Tim Horton, have both enjoyed the investment benefits that a social media behemoth can bring—publicity. The fast-food chain’s expansion into China has been fueled not just by Tencent’s investments, which further rose this year, but access to over 1 billion users on its WeChat platform for promoting its products, while Pinduoduo has similarly relied on users using the platform to coordinate bulk purchases, which are key to its business model’s success.

Tencent has reaped financial windfalls from areas where it has little expertise or history, none more apparent than its successful breakthrough into the automobile market.

A checkered history in the sector would have easily raised second thoughts. Early attempts in 2018 to finance Renrenche, an online platform for trading second-hand cars, for USD 300 million backfired after the company was put on sale for just USD 1,000 last year, according to a Bloomberg report.

An early investment that has paid off in spectacular fashion was its 5% stake in Tesla, the California-based Electronic Vehicle (EV) startup in 2017. But a reduction of its ownership to just 0.5% by 2020 also meant that Tencent has largely missed out on significant sums it could have made from the huge surge of Tesla’s stock last year.

But the wooing of William Li, the founder of China’s answer to Tesla, Nio, has been the most consequential. Li has previously welcomed the empowering but decentralized nature of Tencent’s investments, whose growth in 2020 has made it the Shanghai-based EV maker’s second largest investor. The rise of Nio’s stock by over 1,500% since floating on the Nasdaq last year has been a windfall for Tencent.

With over 1,200 firms in its investment portfolio, from which the company earned more than six times that of its normal operational profits last year, Tencent faces little threat of falling from its perch anytime soon.

Others within the company believe that even its current investment footprint is too conservative. Tom Mitchell, a former Goldman Sachs director who is now Tencent’s chief strategy officer, recently said in an internal meeting that returns from gaming investments were too high, an implicit warning that the firm was not willing to take enough risks on gaming startups.

The jaw-dropping numbers of Tencent’s investments in 2020 may therefore hide one irony. If it wants to thrive, this may just be the start.

This article was originally written by Zhong Wei as part of the Insight Series for 36Kr, the parent company of KrASIA.

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