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Joseph Diamon profile picture
Joseph Diamon


  • The growth in eSports will reward online gaming companies.
  • Tencent holdings has become a distribution behemoth with a large catalyst that has not yet seen its full potential - Honor of Kings.
  • Tencent continues to generate significant cash flow which will reward the patient investor.

Tencent Holdings Ltd ADR (OTCPK:TCEHY) will continue to dominate the global gaming market in the future and take advantage of the rise in eSports. Per Wikipedia, eSports "are a form of competition that is facilitated by electronic systems, particularly video games; the input of players and teams as well as the output of the eSports system are mediated by human-computer interfaces. Most commonly, eSports take the form of organized, multiplayer video game competitions, particularly between professional players."

The growth in eSports is something that some investors have picked up on but overall many have investors have undervalued the true growth potential here. Amazon (AMZN) has recognized this trend early and has made great acquisitions in this space. For example, the leading eSports streaming service Twitch was bought by Amazon in 2014 for just shy of one billion (US dollars). Football (soccer) clubs have even began signing Fifa stars in the virtual game knowing that this trend will be lasting. Sports arenas and even theme parks dedicated to specific games have been built. Regardless of your opinion on whether this is good or bad for society at large - the evidence is clear - eSports is here and it is growing rapidly.

The heart of gaming is in South Korea, the world leader in Internet connectivity with the fastest average Internet speeds. In this culture, young people gather at "PC bangs" which is a type of cafe to go and play video games at through the night. Companies like Tencent will continue to grow and monetize their user base through selling in-game items, virtual items, subscriptions, advertising, and through various other sources.

Revenues for TCEHY grew 48% in 2016 versus 2015. Over this same period, free cash flow grew 50%! Operating margin came in at 37%, down 2% over the prior year due to the mix in

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Joseph Diamon profile picture
My investment philosophy boils down to three very important metrics. 1) Stable or expanding operating margins above 10%, Visa for example has a 5-year average operating margin above 60%.2) A track record of high return on invested capital - is the management team able to reinvest profitably? This is also a sign of a wide moat if a company has consistently generated a strong return on invested capital. 3) Strong free cash flow generation. Typically Free Cash Flow as % of Sales 10% or more is a criteria I use to ensure that the company has sufficient cash to invest in the capital requirements of the business, support new and existing product development, make strategic acquisitions, and to buy back stock to offset the dilution of option exercises. Essentially, I try to find wide-moat and profitable businesses and buy them when the current price trades at a 30% discount to my estimate intrinsic value. I typically do a simple valuation of assigning a conservative PE and 5 year EPS growth rate to see what the business may be worth in 5 years.

Analyst’s Disclosure: I/we have no positions in any stocks mentioned, but may initiate a long position in TCEHY over the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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