Mobile games grow; PC games suffer

Tencent, the biggest games company globally, is still experiencing strong growth from its extensive games business. Q4 2019 revenue of its online games business was RMB 30.3 billion (~$4.27bn) excluding social network games, which represented an increase of 25% year-on-year and 6% quarter-on-quarter. Total mobile games revenue climbed by 37% year-on-year to RMB 26 billion (~$3.66bn) including social network games, while PC client games decreased 7% year-on-year to RMB 10.4 billion (~$1.47bn). 

The results reflected the general shift of the Chinese gamer away from PC games to mobile games. Tencent did not disclose the revenue or profit for any specific game, but did highlight that the driving force of revenue growth in its game business was mobile games. The company’s best performing titles include Honour of Kings, Peacekeeper Elite, PUBG Mobile and Call of Duty: Mobile.

Citing App Annie data, Tencent also announced that during Q4 2019 its mobile games made up 5 of the top 10 mobile games outside of mainland China ranked by daily active user (DAU). This was evidence of the good response its games have received internationally. As a result, Tencent made 23% of its games revenue from international markets, which more than doubled year-on-year in Q4 2019. Note, this was the first time that Supercell's financial performance was fully included in its results. During Q3 2019, Tencent confirmed that international share of its games revenue was in the 'teens %' so the jump has been significant.  

During 2019, Tencent underlined its expertise in mobile games development and used this as a backbone for growing its global business. Through the year, the company strengthened its internal studios and worked closely with international partners (many of which it has invested in) including Activision Blizzard and Bluehole to deliver high quality games.

Tencent’s internationalisation takes on a more aggressive edge

International growth has been a key growth strategy for Tencent during the last two years. Spurred on by the costly pause to game approvals in China during nine months of 2018 and slowing growth in the domestic mobile games market, major Chinese games publishers have been looking to diversify their product base and expand internationally. Tencent’s international games business has been underpinned by extensive M&A and investment activity across a wide range of games companies since 2011 and more recently it has taken a more aggressive stance to launching and operating its games globally.

Both these strategies had an impact on Q4 games revenue. Tencent’s 81.4% share of Finnish mobile games company Supercell meant the company benefitted from the strong global performance of Clash of Clans, Clash Royale and Brawl Stars. Additionally, Tencent managed to grow its international business significantly due to the success of developing mobile games based on well-known games IP, specifically PlayerUnknown’s Battlegrounds (PUBG) and Call of Duty. 

Tencent’s increasingly successful global expansion has a couple of major implications both internally and externally. While Tencent has been used to controlling user acquisition and distribution in its domestic market resulting in very high margins for its in-house developed games, its international success has come through games based on licenses and through iOS and Android app store distribution, which will inevitably impact margin as this part of its business grows. 

Externally, Tencent is already heavily entwined with the commercial performance of many of the West’s best known games companies through investment, but its direct-to-consumer games offerings raise the level of competition with established Western publishers and platform holders.          

Console-related revenue still a footnote in Tencent’s business

In addition to PC and mobile games, Tencent is also significantly invested in the console segment through its partnership with Nintendo to bring the Switch console to the mainland China market. Switch was launched into the Chinese market on December 10^th 2019 but with only one official game approved for sale, and made little impact on the company’s earnings as a result. We expect the console business to be an incremental opportunity for Tencent in 2020 rather than a major growth engine. 

There are a few reasons for this not least the fact that the console market in mainland China has always been very small compared to games spending on other platforms. Culturally, Chinese consumers are more focused on gaming on PC and mobile than on console. Nintendo Switch may eventually outsell the official sales of the current biggest console platform in China – Sony’s PlayStation 4 – but sales are likely only to be in the low millions over its lifecycle. 

Another reason is that official sales are undermined by the availability of grey market import consoles. As the Switch has been available since 2017 via imports from markets such as Hong Kong and Japan, many consumers have already invested in the platform before the launch of the official console. These buyers also get access to a huge list of existing games. As of the end of March, 2020, the console still only has 3 official games approved and released for the platform, although buyers of the official console can also play grey market imported games.     

COVID-19: Expect surge in usage and revenues in Q1 2020 earnings

Looking ahead, clearly the biggest impact on Tencent's business in the first quarter of 2020 is going to have been the pandemic. Overall, the extended Chinese New Year and enforced lockdown of much of mainland China during Q1 will have been beneficial to its games business, as people spent more time staying home playing games instead of going outdoors. Indeed, several daily usage records for its big domestic games - Honour of Kings (150 million daily active users) and Peacekeeper Elite (100 million daily active users) - were reported over late January and early February. Like other games companies, Tencent has effectively seized the opportunity to win more users in China and international markets during this crisis. It will now focus its efforts on continuing to engage that audience and retain these users when the pandemic is over. 

Tencent’s limited, although growing, exposure to the console market means that any supply chain impact on Nintendo Switch availability in mainland China is unlikely to have a material impact on Q1 company performance. One of the unknowns remains any potential negative impact on game development lead times, which will take longer to be revealed. Impact would depend on how near any specific game development projects were to completion. Those projects with longer to run will likely be less impacted as resource levels can be adjusted to catch up on lost time.