Tencent Music

Tencent Music's second-quarter organic revenue grew about 1%, with net profit up 4%. Despite the in-line results, shares fell 12% after the company lowered second-half margin guidance due to lower profitability at recently acquired Ximalaya, which had not been disclosed at the time of acquisition.

Why it matters: Our thesis that Tencent Music retains its premium user base remains intact despite subscription revenue growth slowing from the prior quarter. Churn sits in light users, while SVIP (premium tier) subscriber count and average revenue per paying user both continued to grow. The second-half guidance points to no inflection yet in Tencent Music's organic revenue. But with new entrant Soda Music drifting lower on the iOS App Store download chart in recent months, we believe the rate of Tencent Music's subscriber loss to Soda is slowing. We believe the worst is nearly behind us and anticipate a subscriber-growth inflection in 2027, driven by tightening enforcement against artificial intelligence-cover content on Soda and deeper integration with parent Tencent's WeChat to pull in new subscribers.

The bottom line: We lower our fair value estimate for narrow-moat Tencent Music by 4% to $24. The postearnings selloff is excessive relative to the challenges that are largely transient and a subscriber trajectory that we expect to stabilize. Shares are undervalued, trading at 10 times earnings. We are not alone in viewing shares as undervalued. The company repurchased USD 400 million of stock during the quarter, or roughly 3% of shares outstanding, and is already preparing another buyback authorization once the remaining USD 600 million of the current program runs out. Continued buybacks are supported by net cash equal to a sizable 30% of post-selloff market capitalization and by solid free cash flow generation. Excluding net cash and equity investments, Tencent Music's shares are trading below 5 times earnings.

Based on our estimates, Tencent Music's organic membership revenue grew just 3% year on year, a noticeable slowdown from the 7% in the first quarter of 2026. The second-half guidance, provided on a company level without breaking out Tencent Music core versus Ximalaya, points to further slowing and potential outright decline in organic membership revenue.

The market sold off on the absence of an inflection in Tencent Music's organic subscriber growth, with ByteDance-backed Soda Music continuing to gain ground in the second quarter. Our view remains that most music subscribers will ultimately settle on the platform with the largest catalog, which is Tencent Music. Soda operates with roughly a third of Tencent Music's catalog, and we do not see it closing that gap. Doing so would require a step-up in content spending that Soda's largely freemium user base cannot fund, and several major record labels remain reluctant to license to Soda, given its endorsement of AI-cover content that infringes on original artists' copyrights. Even if Soda somehow managed to reach a comparable catalog, the higher content costs would force subscription price increases, eroding the freemium proposition that has driven its user growth to date.

Beyond defending the premium base, Tencent Music has both an industry tailwind and self-help levers. China's music streaming paying ratio sits around 20%, roughly half the global average of 40%, leaving ample runway for long-term subscriber growth even in a three-player market. Within its own control, the first lever is deeper integration with parent Tencent, using promotion through WeChat and Video Accounts to bring in more users. The second is the Ximalaya acquisition, which adds long-form audio and podcasts to the Tencent Music subscription, giving existing subscribers more reason to stay while opening a cross-sell path into Ximalaya's user base. That base skews to higher-tier Chinese cities where willingness to pay is higher, a natural fit with Tencent Music's premium tier.

Fourth-quarter earnings and the accompanying guidance are the earliest point at which we expect Tencent Music to show signs of an inflection, both on the revenue line and on costs as one-off restructuring expenses largely roll off. If the 2027 outlook still shows no inflection in growth, we would revisit our longer-term assumptions.

Our fair value estimate for Tencent Music is $24 per share. This is based on a 7.7% WACC. Our valuation also incorporates the positive value creation from the announced acquisition of Ximalaya, the online audio and podcast platform.

We forecast Tencent Music to deliver a five-year revenue CAGR of 9% and an operating profit CAGR of 11%. Our assumptions incorporate gradual margin expansion driven primarily by a favorable shift in revenue mix toward higher-margin in-house content, as well as operating leverage.

We continue to view subscription revenue from the music streaming segment as the company's central growth engine. We expect substantial subscriber growth, fueled by increased exclusive content placed behind paywalls. By 2030, we forecast subscribers will represent 35% of monthly active users, implying average annual net additions of 4 million. We also expect average revenue per paying user to rise from CNY 11.6 in 2025 to CNY 13.9 by 2030, a CAGR of 4%.

On profitability, we expect Tencent Music to enjoy better margins in the years ahead. A typical streaming-only platform might achieve a gross margin of around 30%, but Tencent Music's strategy of producing content in-house—functioning effectively as a record label—pushes margins higher. We estimate the company earns a roughly 75% gross margin on its in-house content, and expect increased traction for this content as the company leverages its extensive streaming data to identify user preferences. This drives our forecast for gross margin to expand from 44% in 2025 to 46% by 2030.

We view Tencent Music's acquisition of audiobook and podcast provider Ximalaya as value-accretive because the two platforms share similar business models and app architectures, creating a straightforward path to cost synergies. Ximalaya can fold into Tencent Music's existing infrastructure rather than maintaining its own, and distribute content through Tencent Music's 500 million user base at a fraction of its current customer acquisition cost.

Lastly, Tencent Music's equity investments—including stakes in Spotify, Warner Music Group, and Universal Music Group—contribute roughly USD 1.50 per share, or 6% of our fair value estimate.

We assign Tencent Music a Morningstar Economic Moat Rating of narrow, underpinned by intangible assets in the form of privileged distribution through the Tencent ecosystem, reinforced by network effects within the livestreaming business.

Tencent Music is deeply embedded within WeChat. Tracks shared on the platform play directly within the app rather than redirecting users to a separate application, and WeChat Video Accounts extends this integration further by allowing viewers to identify songs in short-form videos and link directly to Tencent Music. Together, these features create a low-cost user acquisition channel embedded in a product with near-universal penetration in China. This advantage is one that no competing platform can replicate without Tencent's cooperation, and one that Tencent has no incentive to offer.

Tencent Music's recommendation engine, trained on data from approximately 600 million monthly active users, drives roughly half of all streams and delivers a personalization experience that compounds with continued use. We view this as a secondary form of intangible asset, though its contribution to the moat is less than that of the distribution advantage provided by the WeChat ecosystem. Recommendation technology is well understood and widely deployed; accuracy gains tend to diminish at scale, and competitors such as NetEase Cloud Music likely possess sufficient data to produce recommendations of comparable utility.

In social entertainment, which accounts for roughly 20% of revenue, the business benefits from two-sided network effects, whereby more viewers attract more streamers, and vice versa. However, the segment's declining revenue contribution reflects the diminishing importance of this moat source to the group.

Finally, the accumulated user investment in playlists, listening history, and social connections tied to WeChat generates modest switching costs, though not enough to constitute a stand-alone moat source. No single element represents a meaningful barrier to departure in isolation, but the cumulative inconvenience of abandoning a personalized, socially integrated music experience is real, particularly among paying subscribers, who tend to be more deeply engaged and therefore harder for competitors to win over.

Compared with Spotify, Tencent Music has significant potential for subscriber growth, driven by its strategy of moving more music content behind a paywall.

Tencent Music leverages Tencent’s extensive user network of over a billion people, enabling it to retain users more effectively while attracting new ones.

Investing in independent artists and long-form audio could help Tencent Music better control content costs in the long run.

Tencent Music relies heavily on record labels, with no proprietary differentiation in its content.

User engagement on Tencent Music's apps could decline, due to the growing popularity of short-form video platforms like Douyin.

Existing livestreamers on Tencent Music's platforms are at risk of being poached by competitors offering lower take rates and more attractive sign-on bonuses.