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Tencent's Advertising Business Is Just Getting Started

By Adam Levy – May 17, 2018 at 5:00PM

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WeChat users are starting to see more ads.

Tencent's (TCEHY -1.31%) advertising business is growing quickly. The company's overall online advertising business grew 55% year over year in the first quarter. Social advertising grew faster, 69% year over year, and totalled 7.4 billion yuan (about $1.2 billion) -- 69% of total ad revenue.

But Tencent made an interesting note in its quarterly report.

"To cater to the strong demand for social advertising on our platforms, Weixin Moments increased its maximum ad load to two advertisements per user day in late March."

In other words, the 1.04 billion Weixin/WeChat users were only seeing a maximum of one advertisement per day in Moments, a product similar to Facebook's (META -0.54%) news feed. Considering the number of ads Facebook has managed to cram into news feed, there's plenty of room to increase ad load on WeChat.

Two girls in an airport looking at a smartphone.

Image source: Getty Images.

Advertising is still a small business for Tencent

Tencent's advertising business is relatively tiny, especially compared to the global leader in social advertising, Facebook.

Last quarter, Facebook generated $2.1 billion in the Asia-Pacific region. What's more, it did so with fewer users (873 million), who are primarily located in countries with lower GDP per capita than China like India, Indonesia, and Vietnam. So, its average revenue per user, $2.45, is more than twice as much as Tencent generates on Weixin users.

Tencent has kept advertising artificially low on its platform. And that seems to be a smart strategy. It's been able to grow users quickly, going from less than 200 million users in the first quarter of 2013 to over 1 billion today.

Importantly, Tencent has other sources of revenue to rely on to support the growth and development of WeChat as it adds more users and functionality. Its gaming business continues to drive strong growth, totalling 28.8 billion yuan last quarter, not including in-game virtual item sales. Tencent has also managed to expand into other services including video and music streaming, payments, and referring people to services ranging from taxis to doctors.

So, not inundating its users with advertisements has allowed it to focus on those businesses.

Ready to start growing (slowly)

Tencent's businesses outside of advertising are still growing quickly, despite their size. Value Added Services grew 35% year over year in the first quarter, and other revenue more than doubled. That said, management believes there's a lot of room to grow in advertising, and it's ready to start taking those steps.

"Given our ad loads for social and feeds products are only small fractions of those of industry peers, we believe there is a long runway for continued growth of our social and others advertising," management wrote in its earnings release.

Considering Tencent is practically doubling its ad load in Moments, investors should see a significant increase in social revenue starting next quarter. It will likely have a negative impact on average ad prices, but management also said it's seen strong demand. Facebook saw notable changes in its average ad prices when it changed the ad formats on its website to reduce total ad inventory. Tencent could experience the opposite effect with such a steep jump in ad inventory.

As such, investors shouldn't expect Tencent's social advertising business to double overnight. However, the change should result in accelerated growth in the business, which, let me remind you, was up 69% year over year last quarter. And two ads per day is still practically nothing compared to what Facebook and other social media users are used to. There's a "long runway" indeed.

Adam Levy owns shares of Facebook. The Motley Fool owns shares of and recommends Facebook and Tencent Holdings. The Motley Fool has a disclosure policy.

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