JONATHAN KENNEDY-GOOD: Prescient’s tencents’ worth on Naspers

For South African investors in Naspers and Prosus, it has been a rewarding 12 months, despite recent tariff-related valuation pressure, as its core Tencent holding has handsomely outperformed US peers — albeit with a fair bit of volatility along the way. During 2024, Tencent benefited from accelerating growth in its core gaming business, driving consensus earnings and free cash flow upgrades, supporting a rerating relative to US peers, explaining part of its outperformance.

A thawing in government relations, with leading Chinese tech players receiving public support from politicians at the highest levels, also helped reduce perceived regulatory risk as the global race for AI supremacy accelerated.

To remain at the forefront of AI technology, the Magnificent 7 — high-performing and influential US stock market companies comprising Alphabet, Amazon, Apple, Meta Platforms, Microsoft, Nvidia and Tesla — made announcements leading to increases in AI-led capital investment in the years to come, ahead of Chinese peers. At the same time, news headlines were dominated by a global trade war as US policymakers used tariffs in a transactional manner, causing policy uncertainty, raising the relative cost of capital for US tech firms. The combination of higher US AI capital investment with an untested return profile and rising policy uncertainty proved a toxic combination for the Magnificent 7’s valuations and multiples relative to Chinese peers.

As we entered 2025, news that a Chinese AI start-up, DeepSeek, launched a free-to-use AI system, which was reportedly much cheaper to train relative to existing models, again pressured US tech valuations lower, given perceived overinvestment as AI operating costs decline. The relative valuation trend accelerated as we ended Q1 2025, given continued Tencent gains (+21%), while the Magnificent 7 declined (-16%)  during the first quarter of 2025.

So, the question is — where to for the sector? Perhaps the best departure point is introspection and to look at the trend in global equity analysis. In the fast-moving tech sector, sell-side equity analysts have moved to a news-flow model where their stock views are driven largely by quarterly earnings updates, new product launches, or even CEO statements delivered on social media. Buy and sell recommendations are being driven by news rather than valuation metrics and a deep understanding of sectoral trends.

Almost a year ago, Prescient’s bullish view on Tencent’s outlook — and by implication Naspers and Prosus — was based on a view that earnings and free cash flow upgrades would follow in the latter part of 2024 as higher-margin gaming revenue growth accelerated. This, together with the buyback programme and strong capital discipline, was likely to drive an absolute re-rating of Tencent’s multiples. These fundamental drivers were helped by a bottoming out in negative investor sentiment towards China, coupled with improving Chinese regulatory sentiment and innovation via DeepSeek. Similarly, rising US tech capex was an early signal that Chinese peers, like Tencent, would likely raise investment levels from multiple decade lows to remain contenders in the race for AI leadership.

Furthermore, as Tencent’s strong re-rating continued into 2025, the possibility that its upgrade cycle may decelerate, together with the risk of significantly higher future capital investment, implied a rising risk to further valuation upside, at least over the medium term. Though Tencent remains the quintessential example of a quality company, Prescient turned neutral before its results in mid-March 2025 due to rising valuation risks and potential downgrades to free cash flow generation as higher capex followed. Given management’s guidance towards significantly higher capital investment, this view has proved correct, at least in the short run. Prescient, nevertheless, remains optimistic regarding Tencent’s longer-term growth potential, which we believe is likely to result in a consolidation phase as investment tempers free cash flow growth potential.

Our engagement with Naspers and Prosus investors still suggests they view the investment thesis as attractive, despite our more cautious Tencent stance, given the dearth of quality South Africa-listed growth assets. Understandably, investors are unlikely to significantly reduce their Naspers and Prosus weightings on slowing Tencent growth, given a myriad other potential value-unlock scenarios presented by the discount Naspers and Prosus trade to their sum of the parts.

Beyond Tencent, Prosus management are actively seeking to deploy their significant cash resources (about $18bn), with acquisition targets Despegar ($1.7bn) and Just Eat Takeaway (JET) ($4.3bn). In February, Prosus announced it intends to acquire JET to cement its position as a leader in the European food delivery market. The transaction received mixed reactions from the market, given investor concern regarding the likely potential return profile in light of prior management’s chequered mergers and acquisitions (M&A) history.

Nevertheless, long-term investors appear more optimistic that CEO Fabricio Bloisi, whose food delivery track record as iFood CEO is impeccable, may lead to value creation in the battered food delivery space, particularly if Prosus can act as a European consolidator. Though the market’s initial reaction led to a widening of the discount at both Prosus and Naspers, we expect the chance of further significant M&A is lower, reducing the risk of a further widening of the discount. The ongoing sale of Prosus’s Tencent stake to fund its buyback at a significant discount is likely to provide support to current discount levels and continues to support Prosus’s NAV accretion over time. We believe both offer strong value propositions and access to global tech growth trends, which are likely to reward investors biding their time for attractive buying opportunities.

Kennedy-Good is a senior equity analyst at Prescient Securities