Tencent-Backed Kuaishou, TikTok's Main Rival in China, Readies its IPO

You might have just come to this article after taking in a "Sea Shanty," the latest music craze to hit short-form video platform TikTok. But TikTok, owned by China's Bytedance, is still a private company -- likely one of the world's largest.

However, soon there will be a way for investors play the skyrocketing short video social media craze. China's Kuaishou, the country's number two short-form video platform, is set to hit the public markets in the next week or two. Although Kuaishou is China's second-place platform behind Douyin, which is what Bytedance calls the Tik-Tok equivalent in China, Kuaishou is also backed by internet giant Tencent (TCEHY +2.76%), which has a history of incubating very, very successful internet companies. Kuaishou aims to raise about $5 billion, at a valuation of $50 billion or higher.

Here are the ins and outs of Kuaishou and the case for its stock.

Tencent-backed Kuaishou is going public. Image source: Getty Images.

History of Kuaishou

Kuaishou was founded in 2011 by founders Su Hua, who used to work at Google (GOOG +0.98%) (GOOGL +1.11%) China, and Cheng Yixiao, a former developer at Hewlett-Packard (HPQ 1.32%). Kuaishou was initially conceived as an app to share animated GIFs, but the company moved to a short video social media platform in 2013 and added live streaming capabilities in 2016. The company then launched Kuaishou Express, a different variant of the Kuaishou app, in August 2019.

In the third quarter last year, Kuaishou garnered 769 monthly active users and 305 million daily active users. Daily users spend an average of 86 minutes per day on the platform, up significantly from the 52.7 minutes spent in 2017.

How Kuaishou makes money

One of the interesting cultural differences between China's internet economy and the U.S. internet economy is that while many U.S. internet platforms make money strictly through advertising, much of the Chinese internet economy runs on "virtual gifting," or essentially tipping content creators on social media with virtual gifts, which cost money.

Before you dismiss gift-based social networks, consider the Chinese "virtual gifting" economy reached RMB140 billion ($21.6 billion) in 2019, and is expected to grow at a 19.9% average growth rate through 2025, reaching an estimated RMB416.6 ($64.3 billion) by then. So if you know people who complain about "working for tips," in the U.S., maybe they should move to China!

Kuaishou traditionally made all of its money from commissions on virtual gifting, over 95% in 2017; however, the company has since expanded and diversified its revenue streams, adding online advertising, and then adding e-commerce to the mix in 2018, with users selling goods via Kuaishou videos. In the nine months ended in September, Kuaishou made 62.2% of its revenue from virtual gifting, 32.8% of revenue from online advertising, and 5% from e-commerce sales.

Financial results

While investors, especially those in internet tech companies, tend to prefer leaders, Kuaishou has still been posting impressive growth even as the second-place candidate in short video. After all, large investor Tencent owns 21.57% of the company, and Tencent, as the parent of WeChat, knows a thing or two about garnering large internet audiences.

It may not be surprising that despite its second-place status, Kuaishou still continues to put up impressive growth figures.

Data source: Kuaishou IPO filing. 

While the negative EBITDA margin may concern come, Kuaishou also mentions in its filing that the company made a distinct effort to ramp up investment in technology and marketing this year as Chinese citizens were stuck at home. Encouragingly, Kuaishou's gross margin has continued to grow, meaning that the company's operating investments are what took overall profits down, not a deterioration in the business.

Comparison to Bytedance

Some may wonder how Kuaishou's numbers compare with main competitor in Bytedance. Unfortunately, there isn't complete data on Bytedance, since it's still private. Still, Kuaishou's filing does contain a few metrics around DAUs and time spent that may prove helpful.

Data source: Kuaishou IPO filing. 

We don't know exactly how much Bytedance earns in revenue or its growth rate, but likely, Bytedance earns higher revenues in proportion to its higher DAUs and time spent. Still, Kuaishou's growth has been pretty impressive in its own right.

This may be because Kuaishou appears to be popular in the lower-tier cities and more rural parts of China, and seems to have an edge with regards to e-commerce, whereas Douyin appears to be more of a hit in the big trendy cities, and is geared more toward influencers and advertising. If Kuaishou can effectively segment China's enormous internet population and take a different audience than Bytedance, it could very well hold its own in China's growing short video market.

Should you buy?

At its current run rate, the company appears to be on track to make about $9 billion in revenue this year. That would only put Kuaishou at roughly a 6.5-7 price-to-sales ratio, which is not too demanding at all for such a high-growth company.

Interested investors should keep an eye out for Kuaishou, which could be another winning international stock backed by Tencent, and it will likely make its debut at the end of January or early February. However, it will trade on the Hong Kong Stock Exchange, so in order to access the stock, you will need access to Hong Kong via your broker, or you'll have to buy an American deposit receipt if they are available at launch or shortly thereafter.