Analysis: Naspers and the bigger value picture

Portfolio manager of the Old Mutual Top Companies Fund says the investment case is still strong.

Naspers has long been the darling of South African investors, having delivered a total return of 36% per annum over the last ten years, which is a cumulative return of more than 2000%. However, concerns remain about whether there is further value in the share and how sustainable its growth path will be going forward.

Naspers has many detractors and critics who point to its high price: earnings (P/E) ratio, the threat of a tech bubble and concern that Tencent is a one-trick pony, but we have carried out extensive research to understand the entire business and the main drivers that will unlock value, and on this basis, we still believe that holding this share in our clients’ portfolios will lead to outperformance in the long term.

Consequently, we maintain our current overweight position and will add to this opportunistically into the future. This is driven by an understanding of the two key parts of the business that hold value, namely Tencent and the ‘rump’.

Tencent is no one-trick pony

Tencent is the main driver of the Naspers investment case. It is the dominant internet company in China and offers its one billion users an array of services. Think of it as effectively the Facebook, WhatsApp, Twitter, Instagram and YouTube of China, all rolled into one company. It is also an innovator, and has either grown or invested in the complete spectrum of internet and entertainment companies resulting in the offering as we currently know it. Its strongest asset is WeChat, which has a strong competitive advantage and network effect. WeChat provides its one billion daily users an all-in-one application with messaging, gaming and a wide range of commerce and payment services.

Overall, Tencent’s mobile users spend a combined 1.5 billion hours on its platforms per day, equivalent to 90 minutes per user per day and equal to total time spent on all other sites and platforms combined.

Paying for goods and services on your mobile is a big thing in China. In 2016, $5 trillion worth of payments were processed over mobiles, more than double that of 2015. WeChat alone processed $2 trillion of this. As you can see below, this business hardly existed a few years ago but now has the potential to be Tencent’s biggest revenue contributor in the medium term. This speaks to digital platforms, networks and scale.

Although it has shown tremendous growth over the last 15 years, the fact that it has entered new, nascent industries with huge growth potential and possesses an existing network means that we maintain a positive view on the company in the medium term given its undemanding valuation.

Evaluating the ‘rump’

Naspers is aiming to replicate the model that has been successful in the past where it achieves a dominant position in the market by building scale and then monetising the asset. These assets are currently at various stages of the business cycle.

Outside of Tencent, Naspers has invested in numerous other businesses at various stages of development, which can be grouped into the following broad categories:

· Global classifieds: OLX, Avito, Letgo
· Food delivery: Delivery Hero, Swiggy and iFood
· Online retail (eTail): Flipkart
· Video entertainment: MultiChoice, Showmax

As the majority of these assets are not yet profitable, we believe the market is missing the value that can be added via its diverse portfolio of assets, as the graphic below highlights.

Key deliverables needed to unlock value

When it comes to Tencent, ultimately it needs to maintain its position as the number one gaming offering in China. Tencent’s platforms occupy a large amount of time spent by Chinese nationals using digital platforms. As the shift from traditional to digital advertising continues, Tencent must continue to grow its share of advertising revenue in this space.

Tencent has in recent years grown its market share in the bourgeoning mobile payments space from 20% to almost 50%. This is in line with Tencent’s general business philosophy: engage the user, connect them to the network, plug them into the Tencent ecosystem, and then monetise.

Looking at the Naspers ‘rump’, the Classifieds business has grown its dominance in more geographies and started monetising the user base. OLX has just recently moved into a profitable position.

Naspers’s Letgo classifieds business has the potential to dominate the US market, either through organic growth via better execution or through the acquisition of competitor, OfferUp, to take the market outright. This will allow Letgo to gradually drop marketing expenses, monetise the asset base and make the business profitable sooner.

The last few years have not been kind to African countries due to weak macroeconomic conditions and currency depreciations. Looking at its sub-Saharan Pay TV interests, Naspers will need to tailor its offerings to make its products more commercial, which it has already begun.

As part of the process, we calculate a bull, base and bear scenario for each share that we hold. The valuation of our bear case scenario, which incorporates more conservative assumptions than our base case scenario, provides us with significant comfort around the investment case for Naspers. At current levels, our bear case for Naspers shows an almost 20% upside to the share price.

– Author: Philip Short

Philip Short is a Naspers analyst and portfolio manager of the Old Mutual Top Companies Fund.

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