UBS Cuts Tencent Price Target by 3.9%, Reiterates Buy Rating, Expects Q3 Adjusted Net Profit to Swing from Growth to Decline

UBS has issued a research report lowering its price target for Tencent Holdings (700.HK) by 3.9%, from HK$770 to HK$740, while reiterating its "Buy" rating.

UBS expects Tencent's third-quarter revenue to grow 7% year-on-year, a slower pace than in the second quarter. Meanwhile, weighed down by artificial intelligence investments and a possible decline in the contribution ratio from associate company profits, adjusted net profit is expected to swing from growth to decline — after rising 9% year-on-year in the second quarter, it is projected to fall 7% year-on-year to 65 billion yuan in the third quarter.

On margins and operating performance, thanks to a business mix shifting toward higher-margin segments, the bank expects Tencent's gross margin to rise 0.8 percentage points year-on-year to 57.2%. However, due to increased depreciation and AI-related operating expenses, adjusted operating profit is forecast to decline 2% year-on-year to 71 billion yuan. Excluding the impact of AI investments, Tencent should be able to sustain its operating leverage effect, with adjusted operating profit growth estimated at 13%.

Breaking down by business segment, in the gaming business, the domestic market saw 17% growth in the second quarter due to a high base in the same period last year; the bank expects Tencent's third-quarter gaming growth to slow to 12%. In the international market, due to weak performance from Supercell and a limited number of new game launches in the third quarter, revenue is forecast to decline 3% year-on-year.

On the advertising business, UBS expects Tencent's third-quarter revenue to grow 18% year-on-year, with growth slowing due to persistent macroeconomic headwinds. Gains from advertising technology upgrades, increased ad load on Video Accounts, and higher-eCPM ad formats have therefore also been constrained.

In fintech and enterprise services, the bank expects overall performance to remain stable with 8% year-on-year growth. Although payment business growth is relatively weak, cloud business growth may accelerate slightly as chip supply improves and WorkBuddy subscription revenue increases.