Inline 4Q25 results; increasing AI investment to solidify competitive moat

Inline 4Q25 results; increasing AI investmentto solidify competitive moat TargetPriceHK$750.00(Previous TPHK$760.00)Up/Downside36.2%Current PriceHK$550.50 Tencentannounced in-line 4Q25results:total revenue increased by 13% YoYto RMB194.4bn, and non-IFRS operating income was up by 17% YoY toRMB69.5bn, both in line with Bloomberg consensus estimates. FY25 totalrevenue/non-IFRS operating income grew by 14%/18% YoY.FY26 will be a keyinvestment year for Tencent AI, andmanagementexpectedto more than doublethe investment in new AI products in FY26 (>RMB36bn). Though the AIinvestment may drag short-term earnings growth, we expect thistostrengthenTencent’s core businesses, capture newopportunitieslike agentic AI, and easeinvestors’concern that Tencent may lag in the AI competition due tounderinvestment. Given the step-upininvestment,we lower our FY26-27Eearnings forecast by 2-3%, and fine-tuneour SOTP-derived target pricetoHK$750.0 (previous:HK$760.0). That said, we remain upbeat on the resilienceof Tencent’s core businesses and emerging AIopportunities. Maintain BUY. China Internet Saiyi HE, CFA(852) 3916 1739hesaiyi@cmbi.com.hk Wentao LU, CFAluwentao@cmbi.com.hk Ye TAO, CFA(852) 3850 5226franktao@cmbi.com.hk Core existing businesses maintainedsolid performance.Bysegment,in 4Q25: 1)Games revenue grew by 21% YoY to RMB59.3bn (31% of totalrevenue), driven by solid growth of both domestic games/internationalgamesrevenue(+15%/+32% YoY). Looking ahead, highly-anticipated titlesRoco Kingdom: WorldandHoK: Worldarelinedfor launch in 1H26, whichshall support the solid games revenue growth in FY26E, in our view. 2)Marketing servicesrevenuegrewby17% YoY to RMB41.1bn(21% of totalrevenue), mainly attributable to the AI-enhanced ad performance andpricing.Ad impressionsgrewslightly due tohigheruser engagement andad loadrate.3)Fintech and Business Services (FBS) revenueincreasedby8% YoY to RMB60.8bn(31% of total revenue).Business services revenuegrowth accelerated to +22% YoY in 4Q25 (vs. teens% growth in9M25),thanks to the strong demand for AI-related services and higher e-commercetech service fees.Tencent Cloudachieved positive adjusted operating profitof RMB5bn in FY25,due to increased AI demand and higher revenuecontribution from high-margin SaaS & PaaS products.CaptureemergingAIopportunities.We expectseveralcatalysts on the Shuyin GUO(852) 3916 3716guoshuyin@cmbi.com.hk Stock Data AI frontin FY26: 1) foundation models: HY 3.0, the first flagship foundationmodel after therestructuringof Tencent AI team,isnowunderinternaltestingandwill beavailableexternally starting fromApril; 2)WeixinAI:Tencentis building the next-gen agentic services in Weixin, which will boostecosystem activities and may generate revenue itself; 3) productivity AI: thecompany is introducinga range ofautonomous AI agents like WorkBuddyand Qclaw to its social platforms, creating new monetizationopportunities. Double investment in newAI products in FY26E.Total costs andexpenses for the new AI products were RMB18bn in FY25, andTencentexpectsto more than double this investment in FY26E (>RMB36bn, c.4% ofFY26E total revenue). That said,managementexpectedincreased profitsfrom existingbusinessesto more than offset the incremental investments.We expect non-IFRS OPM to decline by 1ppt YoY to 36% in FY26E, due toAI investment. We forecastsustainable total revenue growth of 10%/7%/5%over FY26-28E; and expectnon-IFRS OP growthtodecelerate to +6% YoYin FY26E,butthenreaccelerateto 10%/8% in FY27/28E. Source:FactSet Business forecasts updateand valuation Our SOTP-derived target price of HK$750.0 comprises, per share: 1) HK$347.4for the games business, based on24x 2026E PE, which isat a premium totheaverage PE for its global gaming peers(19x), mainly due to Tencent’s strong leadershipin China’s games industry and diversified games portfolio. 2) HK$33.2for the SNS business, including the market cap of Tencent’s stake in itssubsidiaries, the valuation of Tencent Video (based on3.5x 2026E PS, at a premium to the1.6x average PS of its peers given its content and user traffic leadership), and the valuationof other membership services (based on a 3.5x 2026E PS). 3) HK$148.5for the marketing services business, based on22x 2026E PE, which is at apremium to the industry average (20x). This reflects Tencent’s more resilient ad revenuegrowth outlook, supported by the solid performance of Weixin Video Account and MiniProgram. 4) HK$105.8for the fintech business, based on4.5x 2026E PS, at a premium to the peeraverage (1.3x). This mainly reflects Tencent’s strong leadership in China’s digital paymentmarket and its potential to capture other fintech business opportunities. 5) HK$33.4for the cloud business, based on4.5x 2026E PS, at a discount to the industryaverage (5.3x)as Tencent’s current offerings mainly involve the lower-margin IaaSbusiness. 6) HK$72.7for strategic investments, based on the current market value of Tencent’s listedinvestments and the book value o