The last two years have been brutal for Chinese technology companies amid a series of challenges, including crackdowns by the Chinese government, COVID-19 lockdowns, and others.
While most investors are steering clear of these companies, contrarians might see this as an opportunity to invest in top Chinese companies.
Let's compare the top-two technology companies in China, Alibaba Group (BABA 0.88%) and Tencent (TCEHY 0.85%), to find out which is a better buy.
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Alibaba vs. Tencent's business model
The China growth story has been one of the most compelling investing themes over the last two decades. Foreign investors have historically invested in the two technology giants, Alibaba and Tencent, to benefit from this tailwind.
While most overseas investors don't usually differentiate the two companies that much -- after all, they were looking for proxies to invest in -- Alibaba and Tencent have significantly different business models.
Let's start with Alibaba. It's the largest e-commerce platform in China by gross merchandise value (GMV), serving more than 900 million buyers in its fiscal 2022 year (which ended on March 31, 2022 ). Leveraging this early success in e-commerce, the giant expanded into other verticals like cloud computing, logistics, fintech, and more.
As for Tencent, it is the de facto social media networking company in China, with 1.3 billion users across its flagship WeChat and QQ services. Leveraging its leading user base position, Tencent has added other services -- such as gaming, fintech, and entertainment -- over the years to improve user engagement and retention. Such a move to introduce new services also helps Tencent enhance its user base's monetization.
While both conglomerates leverage their early success into new industries, their approaches differ. In general, Alibaba prefers to have control when it enters into new sectors. For example, it acquired Ele.me to grow its presence in the food delivery industry.
Meanwhile, Tencent was quite happy to partner with Meituan (the other leading food delivery platform) -- by offering capital investment and access to its 1.3 billion user base -- in exchange for a significant (17%) but not controlling stake. Tencent used the same approach when it partnered with Pinduoduo and JD.com in e-commerce and Waterdrop in online insurance.
In short, while both companies are conglomerates, their business models are pretty dissimilar.
Which company has better prospects?
It has been a tough time for the tech giants. After growing revenue at high double digits for most of their existence, both Alibaba and Tencent delivered disappointing performances of late.
In the first nine months of the fiscal year ending March 31, Alibaba reported a growth of just 2% amid weaker performance across e-commerce and cloud segments. Tencent did even worse, with its revenue falling by 1% in 2022 with weak performance across the board. In short, the near term doesn't look too promising for both giants.
Despite their near-term weaknesses, there are still reasons to be optimistic over the longer term.
With Alibaba, it can count on its younger businesses like Ali Cloud and Cainiao to keep growing for years. Besides, its recent decision to break down the complex company into six separate business units might bring back the entrepreneurial spirit and focus to get it back to growth mode. And let's not forget Ant Group -- Alibaba's 33% affiliate company -- which can spring back into the spotlight once it completes its restructuring.
Similarly, Tencent has plenty of levers to pull to grow shareholder value over time. Its 1.3 billion user base gives it enormous leverage on monetization, whether through increasing advertising income or paid value-adding services such as gaming and entertainment. On top of that, Tencent has the skill and flexibility in capital allocation, allowing it to invest practically anywhere in the world by acquiring stakes in public and private companies.
And above all, as the Chinese economy continues to grow, both companies are well positioned to ride the China growth wave further for years to come.
So which company should investors buy?
Overall, there is no clear winner here. To start, investors must choose the business model they find more comfortable. Alibaba is primarily an e-commerce company with younger but high-potential businesses such as cloud computing, logistics, etc.
Tencent, meanwhile, is a diversified social media networking and entertainment giant that owns equity stakes in an extensive list of companies -- and in many cases has no direct relationship with them. Think Tesla or Snap.
All said, investors should go with the company that they can understand better. Or else, they can consider buying the two in equal proportion.
