Chinese tech giant Tencent (OTC:TCEHY) launched a content publishing feature for its messaging platform WeChat in 2012. The in-app articles loaded more quickly than articles on external browsers and corralled users into WeChat's walled garden.

The articles were free to read, but Tencent added a "tipping" feature to the articles, which enabled readers to pay their favorite writers, in 2017. Tencent retained a cut of those tips as revenue, which prompted Apple (NASDAQ:AAPL) to declare that it was also entitled to a 30% cut on iOS devices -- since the tips counted as in-app purchases.

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Image source: Getty Images.

Tencent and Apple settled their differences in 2018. Both companies agreed that the tips would go entirely to the content creator, and neither would charge a transaction fee. The agreement was considered a concession for Apple, and indicated that WeChat's in-app ecosystem could cut Apple out of the loop.

However, Tencent recently erected paywalls for certain articles on WeChat. The move wasn't surprising, since paywalls can generate more stable revenues than tips, but Tencent surprisingly agreed to give Apple a 30% cut of those revenues. Does this concession indicate that Apple is gaining the upper hand over Tencent?

What is Tencent's game plan?

Tencent's WeChat is the most popular messaging platform in China. Its monthly active users (MAUs) grew 6% annually to 1.15 billion last quarter, and it generates a large portion of the online advertising revenues that accounted for 19% of its top line.

Tencent launched Mini Programs for WeChat in early 2017. These streamlined versions of mobile apps ran within WeChat, and effectively gave Tencent a mobile app ecosystem which was detached from iOS and Android.

WeChat's total number of Mini Programs topped one million in 2018, making it roughly half the size of Apple's App Store in China. Tencent stated that daily active users (DAUs) for those Mini Programs rose 45% annually to 300 million last quarter.

That growing ecosystem seems like a gold mine for monetization, but it's been easier to monetize Android users than iOS users. Android users in China can directly use Tencent's WeChat Pay to pay for Mini Program services like ride hailing, bills, deliveries, and games without ever leaving the app. iOS users are usually redirected to another Mini Program to complete their payments in an external browser and circumvent Apple's rules for in-app payments.

Apple repeatedly pressured Tencent to process Mini Program payments as in-app transactions and give it a 30% cut, but Tencent didn't budge. However, Tencent's sudden decision to give Apple a 30% cut of its paywall revenues suggests that the stalemate is nearly over.

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Image source: Getty Images.

Will Tencent's paywall actually help Apple?

Apple generated 15% of its revenues from the Greater China region last quarter. And 14% of its revenues came from its growing services segment, which includes the App Store, Apple Music, Apple TV, Apple Pay, and other services.

Apple was the fifth largest smartphone maker in China in 2019, according to research firm Canalys, but its annual shipments plunged 21%. Meanwhile, Huawei's shipments surged 35% and reinforced its position as China's top smartphone maker.

Apple needs to rely more heavily on the App Store, which generates the lion's share of its service revenues, as it faces declining iPhone shipments in China. Yet Tencent is obstructing that strategy with Mini Programs, which cut Apple out of the payments loop.

Tencent's decision to share paywall revenues with Apple initially seems like an olive branch, but it could merely be tossing it bread crumbs to silence its complaints. Those crumbs might slightly boost Apple's revenues in China, but they probably won't offset its slowing hardware sales.

The key takeaways

Tencent isn't alone in rebelling against Apple's "app store tax." Netflix and Spotify also avoid paying Apple by directing users to pay for subscriptions on external browsers instead of within their iOS apps. These clashes indicate that Apple remains vulnerable to larger tech companies which can maintain their users without the App Store.

Tencent's paywall decision suggests that it's willing to play ball with Apple, but investors shouldn't assume that Apple is gaining the upper hand. WeChat remains the dominant messaging and Mini Program ecosystem in China, and Apple doesn't have much clout in negotiating better terms.