Tencent Holdings Limited (OTCPK:TCEHY) Q3 2022 Earnings Conference Call November 16, 2022 7:00 AM ET
Company Participants
Wendy Huang - Investor Relations
Huateng Ma - Chairman and Chief Executive Officer
John Lo - Chief Financial Officer
Martin Lau - President
James Mitchell - Chief Strategy Officer
Conference Call Participants
William Packer - Exane BNP
Edward Leung - Bank of America
Alicia Yap - Citigroup
Gary Yu - Morgan Stanley
Robin Zhu - Bernstein
Natalie Wu - Haitong International
John Choi - Daiwa
Ronald Keung - Goldman Sachs
Charlene Liu - HSBC
Alex Yao - JPMorgan
Wendy Huang
Good day, and good evening. Thank you for standing by. Welcome to Tencent Holdings Limited 2022 Third Quarter Results Announcement Webinar. I'm Wendy Huang from Tencent IR team. At this time, all participants are in a listen-only mode. After management's presentation, there will be a question-and-answer session. [Operator Instructions] And please be advised that today's webinar is being recorded.
Before we start the presentation, we would like to remind you that it includes forward-looking statements, which are underlined by a number of risks and uncertainties and may not be realized in the future for various reasons. Information about general market conditions is coming from a variety of sources outside of Tencent.
This presentation also contains some unaudited non-IFRS financial measures that should be considered in addition to, but not as a substitute for measures of the group's financial performance prepared in accordance with IFRS. For a detailed discussion of risk factors and non-IFRS measures, please refer to our disclosure documents on the IR section of our website. Let me now introduce the management team on the webinar tonight. Our Chairman and CEO, Pony Ma, will kick off with a short overview. President, Martin Lau will discuss strategy review. Chief Strategy Officer, James Mitchell, will provide a business review. Chief Financial Officer, John Lo, will conclude with financial discussion before we open the floor for questions. I will now pass it to Pony.
Huateng Ma
Thank you, Wendy. Good evening. Thanks, everyone for joining us. During the third quarter, we streamlined our cost and activate new revenue-generating services, returning to year-on-year earnings growth. We also delivered quarter-on-quarter earnings growth with some tailwind from positive seasonality. Total revenue was RMB 140 billion, down 2% year-on-year, but up 5% quarter-on-quarter. Gross profit was RMB 62 billion, down 1% year-on-year, but up 7% quarter-on-quarter. Non-IFRS operating profit was RMB 41 billion, flat year-on-year and up 12% quarter-on-quarter. Non-IFRS net profit attributable to equity holders was RMB 32 billion, up 2% year-on-year and 15% quarter-on-quarter.
For our key services, we generally became our first place positions in activities, including social games, long-form video, news, music, literature, payment and mobile browser. Combined MAU of Weixin and WeChat was 1.3 billion. Mobile devices MAU of QQ was 574 million. I will now hand over to Martin for strategic review.
Martin Lau
Thank you, Pony, and good evening and good morning to everybody. In last quarter's strategy review, I discussed how we have positioned ourselves to improve efficiencies, develop new revenue streams and to revive our profit growth. Today, I will update you on our progress and some early stage results. In addition, I will touch on our latest steps in returning capital to shareholders. Let's start off with the progress of our efficiency initiatives.
First, we further tightened our control on marketing costs, pulled back from projects with low cost efficiency and focused on resources and core products. As a result, selling and marketing expenses decreased by 32% year-on-year and by 10% quarter-on-quarter. Second, we achieved significant margin improvement in business services. Gross profit grew both year-on-year and quarter-on-quarter, benefiting from our proactive adjustment to generate high-quality revenue. Third, we optimized bandwidth and server utilization associated with video accounts, bring down our operating costs per video view significantly. Fourth, with our rationalization in noncore and underperforming businesses, we optimized our workforce and controlled staff cost.
At the end of the third quarter, our total headcount was down as compared to the end of the first quarter. Excluding severance pay, total staff costs increased at a low single-digit growth rate year-on-year. While the macro environment is still challenging, our efficiency initiatives enabled us to achieve slightly positive year-on-year growth in profits, representing a significant improvement over the last few quarters.
Looking forward, we are making encouraging progress in developing new high-quality revenue streams in the following three key growth areas. Video accounts, in-feed ads revenue has been ramping up fast since we made additional inventory available on dipping basis in mid-August. We are on track to exceed RMB 1 billion in quarterly revenue in the fourth quarter. For international games, we launched new hit Tower of Fantasy and Goddess of Victory: Nikke, demonstrating our strong publishing capabilities. Our new strategic partnership with Ubisoft will enable us to bring more AAA franchises to mobile globally and PC titles to China.
Together with the growing pipeline of our group of studios across genres and platforms globally, our national games business is well positioned for significant expansion over time. With SaaS, we are currently prioritizing scale expansion as there are precedents in the rest of the world, which demonstrate how these services can be monetized by industry leaders.
We have recently launched a subscription bundle combining WeCom, Tencent Meeting and Tencent Docs together, which is seeing good adoption among larger enterprises. In addition, we're encouraged to see positive signals across the path of macro and regulatory normalization. For FinTech services, commercial payment volume growth recovered in the third quarter. On the regulatory front, we received approval for investment in Samsung Property and casualty insurance in China. For domestic games, we received approval for a new game publishing license and an amendment to an existing license in September. We believe more licenses will be forthcoming in the future.
For advertising, revenue grew quarter-on-quarter, even excluding new contribution from mutual accounts in-feed ads. We are on track to resume year-on-year growth in late 2022. Next, I would like to update you on our capital allocation with which we start from a position of both cash flow and asset strength. We operate a diversified portfolio of businesses spanning across social networks, games, advertising and Fintech services, each of which generates robust cash flow even under the current environment. Consequently, we generated operating cash flow of $25 billion over the past 12 months. After taking into account payments for capital expenditure, media content and lease liabilities, our free cash flow amounted to $15 billion.
On the asset side, as of the end of September 2022, we have total gross cash of $44 billion, stakes in listed companies with a fair value of $75 billion and stakes in unlisted companies with a carrying value of $48 billion. This combination of cash flow generation and liquid asset holdings enable us to simultaneously invest in our business while returning capital to shareholders.
We believe we are fully supporting organic and strategic investments, which benefit our business for organic investments, we're deploying capital into growth areas we have highlighted namely video accounts, international games and SaaS products as well as ecosystem enhancements such as nurturing and vibrant e-commerce ecosystem for Weixin and upgrading our back-end infrastructure.
For strategic investments, we continue to invest in companies that are complementary to our core business growth, such as our recent investments in partnership with Ubisoft and [indiscernible] to name a couple. At the same time, we are also returning more capital to shareholders. For the past 10 years, we paid out cash dividends, which represented a payout ratio of approximately 10% of our non-IFRS earnings. Since the beginning of the year, we have bought back $3 billion worth of shares.
In March 2022, we paid a dividend in kind through distribution of JD.com shares, which amounted to $13 billion of value to shareholders. So to date, we have returned a total of over $18 billion to our shareholders. Today, we are declaring a special interim dividend of Meituan shares worth approximately $20 billion, which will be distributed to shareholders in March 2023.
Qualifying shareholders will receive one Meituan share for every Tencent shares they hold. This distribution in kind is equivalent to about HKD 16.6 per Tencent share based on yesterday's closing price.
So with that, I'll pass to James to talk about our business review.
James Mitchell
Thank you, Martin. For the third quarter of 2022, our total revenue was down 2% year-on-year. VAS represented 52% of our total revenue, within which the social network subsegment was 21%; domestic games, 22%; and international games, 9%. Online advertising was 15%, and FinTech and Business Services was 32% of total revenue.
The value-added services segment revenue was RMB 72.7 billion, down 3% year-on-year. Social network revenue was down 2% year-on-year to RMB 29.8 billion. Revenue from music and game-related live streaming services decreased while revenue from video accounts live streaming service increased, reflecting more users, additional content and enhanced recommendation efficiency to better match users to content.
Tencent Video subscription revenue decreased slightly year-on-year as content scheduling delays resulted in subscription stripping. However, we increased ARPU as we adjusted membership pricing. Our self-commissioned drama series, Love Like The Galaxy, which we released in July, ranked #1 by video views across all online platforms in China for the quarter.
Our music subscription revenue increased year-on-year driven by more paying users. Our domestic game revenue was down 7% year-on-year to RMB 31.2 billion, as transitional challenges resulted in lower paying user accounts. Honor of Kings and Peacekeeper Elite contributed decreased revenue due to the minor protection measures, which took effect from September 2021 onwards.
New games, Wild Rift, Return to Empire and League of Legends E-sports Manager contributed incremental revenues. Our international games revenue increased 3% year-on-year or 1% in constant currency terms to RMB 11.7 billion, a robust performance through Valorant, the successful launch of Tower of Fantasy and Miniclip's acquisition of Subway Surfers and release of new games drove the growth.
Turning to social networks. We leverage the extensive reach of Weixin and the ease of use of mini programs to better assist the real economy. Mini programs surpassed 600 million daily active users, representing a year-on-year increase of more than 30%. Daily mini program activations grew even faster by over 50% year-on-year.
Additional commerce and municipal service use cases contributed to growing the number of users and the daily activations per user. We deepened the adoption of mini programs among food and beverage, our apparel and footwear brands and shopping malls and department stores. These offline merchants and brands are increasingly integrating membership programs and loyalty points into their mini programs as they build out our high channel retail.
The Health Code mini programs helped users verify their health and travel status with over 320 billion visits year-to-date facilitating continuity of business activity. On QQ, we provided more scenarios in Super QQ Show for social interaction. We collaborated with brands such as Gucci and KFC to launch virtual spaces where users can conduct immersive interactions.
For example, users can participate in online to off-line campaigns, collects branded virtual items and socialize with other fans. Moving to domestic games. With the implementation of our industry-leading minor protection program we have become fully compliant with China government regulation fostering a healthier industry environment.
Time spent from users aged under 18-years-old has decreased by 92% year-on-year and constituted 0.7% of total time spent in July 2022. On the other hand, our adult user base and user engagement increased year-on-year. For the month of September, our combined PC and mobile game adult DAU rose by a double-digit percentage year-on-year and our total adult player time spec grew by a single-digit percentage year-on-year. Time spent growth was driven by existing titles such as Honor of Kings, Peacekeeper Elite, and CrossFire on mobile and PC, as well as new titles such as Wild Rift and Arena Breakout.
We're extending the longevity of our IP franchises, taking one example, CrossFire, which is the game, we first published on PC 14 years ago. As a result of innovation in areas such as player versus environment mode and ranked mode, CrossFire PC remains the leading game in the FPS genre on PC in China and grew its grossing receipts by a high single-digit percentage year-on-year in the first nine months of this year.
In 2015, we published CrossFire Mobile developed by Time Studio Group, significantly increasing the overall number of people playing CrossFire games in China. Benefiting from localized content insights CrossFire Mobile remains one of the top 10 mobile games by time spent and grossing receipts in China today. And we continue enriching the CrossFire franchise, professional esports events and cross media collaboration such as a live-action drama series on Tencent Video.
International games are extending the success of our key internally developed franchises. Benefiting from Riot's esports experience, the VALORANT Champions tournament became the most popular esports event industry-wide for tactical shooter games, expanding VALORANT's fan base and driving record high grossing receipts to the game itself in the third quarter.
In October, Superstar released the biggest ever content update, Town Hall 15 for Clash of Clans, which boosted user engagement and in-game consumption. Clash of Clans represents a lasting franchise generally ranking as the top strategy game by annual grocery receipts worldwide since its launch, including year-to-date this year. We've also achieved breakthroughs in publishing investee studio and licensed games with the release of two major new titles leveraging our content marketing and user community management capabilities.
Tower of Fantasy, an open world MMORPG developed by Perfect World, which we released in August, became the second most popular MMORPG by daily active users internationally in the quarter and achieved notable commercial success in the most competitive markets, ranking first flight grossing receipts in Japan and second in the United States. Nikke, a sci-fi RPG shooter with anime graphics developed by our investee studio Shift Up was the highest grossing mobile game internationally in the first 10 days following its November launch. Nikke's success demonstrates how we can empower small investee studios to commercial success with our operational know-how and infrastructure scale.
For online advertising, our revenue was RMB 21.5 billion in the third quarter. The rate of year-on-year decline has narrowed from 18% in the second quarter to 5% in the third quarter, benefiting from initial monetization of Video Accounts in-feed ads, improvements in the games, e-commerce and FMCG categories and lapping of certain industry-specific headwinds from 2021.
Sequentially, our advertising revenue grew 15%, benefiting from positive seasonality, the initial monetization of the Video Accounts in-feed ads and our ongoing efforts to improve our targeting technology. The Video Accounts, we saw particularly robust demand from the FMCG and high-end brands.
Advertising in Video Accounts was complementary and incremental to our existing advertising revenue. Excluding Video Accounts, ad revenue elsewhere in was grew year-on-year, particularly from Mini Programs. Within the media subcategory, our long-form video ad revenue decreased year-on-year, primarily due to fewer releases of drama series and tough comparisons versus airing the Tokyo Olympic Games in the year ago period.
Looking at FinTech and Business Services. Segment revenue was RMB 45 billion, up 4% year-on-year and 6% quarter-on-quarter. For FinTech services, year-on-year revenue growth was higher compared to the previous quarter, mainly benefiting from a recovery in commercial payment activities, both offline and online. Our commercial payment volume achieved double-digit year-on-year growth, with notable expansion in categories such as groceries, dining services and transportation.
For Business Services, our revenue declined slightly year-on-year. However, gross profit increased significantly both year-on-year and quarter-on-quarter. Gross profit growth benefited from us exiting or scaling back certain loss-making activities such as deeply discounted contracts for content delivery network and also from us shifting the revenue mix toward internally developed products and away from projects with a high proportion of subcontracting activity. We're striving to help non-Internet industries embrace digital transformation, which is boosting our revenue from offline sectors, such as financial services, industrials and automotive, highlighting a few examples of our industry solutions.
Tencent Cloud Enterprise enables those customers such as banks and municipalities who prefer to store data on their private clouds to integrate and deploy our public cloud products within their private clouds. Tencent Cloud AI digital humans provides AI chat bots to customers in sectors such as financial services and tourism, enabling automated customer support. Tencent real-time communication is increasingly deployed in industrial use cases such as enabling remote control for mining and container trucks so that our customers can scale their operating costs and provide their drivers with a safer working environment, and public sector organizations such as hospitals and schools are increasingly using our key Software-as-a-Service tools, facilitating their efficient collaboration and online education provision.
And now I'll pass to John.
John Lo
Thank you, James. Hello, everybody. For the third quarter of 2022, total revenue was RMB 140.1 billion, down 2% year-on-year or up 5% quarter-on-quarter. Gross profit was RMB 62 billion, down 1% year-on-year or 7% quarter-on-quarter. Net other gains were RMB 20.9 billion, down 9% year-on-year or up 373% quarter-on-quarter, which were mainly in non-IFRS adjusted items such as net gains on deemed disposal and disposals of certain investments, including RMB 41.3 billion gained from deemed disposal of C, net fair value losses from revaluation of certain investments and impairment provisions against certain investment in online entertainment and FinTech verticals.
Operating profit was RMB 51.6 billion, down 3% year-on-year or up 72% Q-on-Q. Debt finance costs were RMB 2 billion, roughly year-on-year or up 8% quarter-on-quarter. The Q-on-Q change was mainly due to increased interest expense, partly offset by increased foreign exchange gains. Share of losses of associates and JVs was RMB 3.7 billion compared to RMB 5.7 billion last year. Non-IFRS share of profit was RMB 2.4 billion compared to share of losses of RMB 0.3 billion last year, reflecting improved profitability at certain domestic associates due to the cost control measures.
Interest tax -- income tax expense increased by 30% year-on-year to RMB 7.1 billion, mainly due to a provision of withholding tax during the quarter. The effective tax rate was 15.5%. IFRS net profit attributed to equity holders was RMB 39.9 billion, up 1% year-on-year and 115% quarter-on-quarter.
Diluted EPS was RMB 4.104, up 0.7% year-on-year or 114% quarter-on-quarter. On non-IFRS basis, operating profit was RMB 40.9 billion, largely stable year-on-year or up 12% quarter-on-quarter. Net profit attributable to equity holders was RMB 32.3 billion, up 2% year-on-year or 15% quarter-on-quarter. Diluted EPS was RMB 3.306, up 1% year-on-year or 14% Q-on-Q.
Moving on to gross margins. The overall gross margin was 44.2% stable year-on-year or up 1 percentage point quarter-on-quarter. Gross margin for VAS was 51.7%, down 1.3 percentage points year-on-year or up 1.1 percentage point quarter-on-quarter. The YoY margin decreases mainly due to a revenue mix shift from higher margin game services to lower margin video account live streaming service.
The Q-on-Q margin improvement reflected our cost optimization efforts within the segment. Gross margin for online advertising was 46.3% broadly stable year-on-year or up 5.7 percentage points quarter-on-quarter.
The Q-on-Q margin improvement benefited from the initial monetization of video account in feed ads as well as the efficiency measures as we implemented within the segment. Gross margin for FinTech and Business Services was 33.3%, up 4.8 percentage points year-on-year or stable quarter-on-quarter. The year-on-year margin improvement was driven by our proactive efforts to reduce loss-making cloud services activities, leading to a healthier revenue mix and reduced cost base.
On operating expenses. Selling and marketing expenses decreased to RMB 7.1 billion or 5.1% of revenues due to cost efficiency initiatives, as I mentioned earlier. R&D expenses were RMB 15.1 billion, up 10% YoY or broadly stable Q-on-Q. The year-on-year increase was driven by higher stat force. R&D expenses were 10.8% of revenues. G&A expenses, excluding R&D, were RMB 11.4 billion, up 12% year-on-year or 2% Q-on-Q. The year-on-year increase was due to higher operating lease and office expenses as well as stat force.
At quarter end, we had approximately 109,000 employees, up 1% year-on-year or down 2% quarter-on-quarter. Let's take a look at our operating and net margin ratios. Non-IFRS operating margin was 29.2%, up 0.5 percentage point year-on-year or 1.8 percentage points quarter-on-quarter. Non-IFRS net margin was 23.8%, up 1 percentage point year-on-year or 2.2 percentage points quarter-on-quarter.
Finally, I will summarize some key cash flow and balance sheet metrics. Total CapEx was RMB 2.4 billion, down 66% year-on-year or 21% quarter-on-quarter. Within total CapEx, operating CapEx was RMB 1.1 billion, down 81% year-on-year or 49% quarter-on-quarter, as we proactively reassess and tighten our spending plan for the year.
Non-operating CapEx decreased by 9% year-on-year to RMB 1.3 billion. Operating cash flow for the quarter was RMB 41 billion, stable year-on-year or up 15% quarter-on-quarter. Free cash flow for the quarter was RMB 27.6 billion, up 15% year-on-year or 23% Q-on-Q, reflecting our disciplined CapEx spending.
Net debt position was RMB 27.3 billion, compared to RMB 20.4 billion last quarter. The sequential change was due to the effect of foreign currency translation differences on our U.S. dollar-denominated tax, partly offset by a stronger free cash flow generation. Thank you.
Question-and-Answer Session
A - Wendy Huang
Thank you, John. Now we are open the floor for the questions. [Operator Instructions] Our first question will come from the William Packer from the Exane BNP.
William Packer
Hi, management. Many thanks for taking my question. Firstly, cost progress in recent quarters has been an important support for a return to profit growth, even though G&A costs continue to grow. Am I correct to think that this growth includes one-off restructuring costs associated with headcount reduction and other savings? Could you quantify those one-off costs to help us think about underlying cost growth? And then secondly, my follow-up in terms of domestic gaming, top line momentum has weakened again. How should we think about the return to top line growth for that segment? Do you need new IP from future game approvals or can the easing of the minor gaming revenue headwind comps and potentially improving macro be sufficient? Thank you.
Huateng Ma
Yes, you are right that we have included all the one-off restructuring costs in G&A ex-R&D under staff force. Total IFRS G&A ex-R&D severance payment, well, on a year-on-year basis, we have increased by very low single digits, so we can quantify just using this basis.
Martin Lau
So we're on the domestic game question, you called out the right three factors, which have been hindering the industry growth in our growth, namely minor protection measures, the lack of new game licenses, which is very important in our supply-driven industry and also the challenging macroeconomic environment.
Now in terms of what it would take for us to successfully reboost our domestic game revenue growth, then the industry, and we are lapping the minor protection measures as of September from a grossing receipts perspective, of course, there's a few months in which the grossing receipts from prior quarters get amortized into our P&L. But that effect is behind us on a cash flow basis. We believe that in order for the revenue growth to sort of notably and sustainably reaccelerate. We would likely benefit from one of the other two changes coming through. And in terms of the other two factors, then we expect more new game licenses, more commercial games to come through relatively quickly. On the other hand, we don't have any great insight into when the macroeconomic improvement will turn up.
Of course, if both of those factors turn positive, then we would see a faster rate of game revenue growth. But one of those factors turning positive alongside the lapping and mining protection measures, we think would be sufficient to answer your question positively.
Wendy Huang
Well, next question comes from Eddie Leung from the Bank of America. Eddie, your line is open.
Edward Leung
Good evening. Two questions on your pieces. Maybe the first one to follow up on the questions about games. So with fewer licenses at, are we going to change our development strategy for the upgrade of the existing games in order to maximize like lifetime style, the lifetime value. So that's about the first question. And then secondly, regarding to the video account advertising, could you provide some feedback you have heard from advertisers? Maybe your return on investment, et cetera, and any area for further improvement? Thank you.
Huateng Ma
Yes. Thank you, Eddie. So in terms of the fewer domestic game licenses and change to our game development strategy, then we have indeed changed our game development strategy, although the full effects of the change will take a few quarters to show through. So first of all, we're focusing our resources on fewer, bigger higher impact, higher production value new games. And many of those new games also have global aspirations as opposed to purely single-country aspirations.
Secondly, we are indeed spending more time and resources, upgrading and energizing our big existing games. And we talked at length about the example of cross fire in the opening remarks. And then thirdly, we actually do believe that there will be further issuance of new game licenses in the nearer future.
And so to some extent, these headwinds to the game industry will mitigate as more new games have released. Secondly, on your question around advertiser response to the in-feed ads on the video accounts. I would say that the first noteworthy point is that video accounts actually deliver quite a differentiated audience who, by and large, are not consuming other short-form video services.
And so in comparison to the rest of the industry where there's a very high overlap between users of service A and service B and service C and service D. Video accounts is a differentiated audience and advertise like that because they can reach people who they otherwise weren't able to reach on incumbent platforms. And that in turn has meant that the video accounts is particularly popular with advertisers who value that additional reach such as fast-moving consumer goods companies such as high-end brands, which in turn has meant that the eCPM that we're achieving on the video accounts is very robust.
It's at a premium to any of the incumbents, and it's also at a premium to Weixin Moments. Now in terms of areas for improvement from an advertiser feedback, the key area for improvement in their eyes is simply that we they would like to purchase more inventory, and therefore, they would like us to release more inventory, which we are periodically doing. But right now, we're in an access demand situation. Thank you.
Edward Leung
Thank you.
Wendy Huang
Our next question comes from Alicia Yap from Citigroup. Alicia, your line is open.
AliciaYap
Hi, good evening, management. Can you hear me?
Wendy Huang
Yes, we can.
AliciaYap
Okay. Yes, thank you for taking my questions. Congrats on the solid profit beat and also the Meituan dividend. I have two questions. First one on the online advertising. We observed that the ad budget as related to the event sponsorship and also the brand awareness campaign seems to be in a little bit more stable budget allocation lately as compared to the traffic ad dollars in the past few years. So given Tencent diversified media properties across, for example, Tencent Music, video accounts at the moment, will this actually position Tencent to have a stronger value proposition to gain more advertise my share with the economy gradually rebound.
My follow-up question is on the gaming. So we also noticed -- I'm not sure if we are correct. It seems like the PC games, this shows a little bit more resilient in retaining the existing gamers and also attracting some of the return gamers. So will we actually also reallocate more development resource to introduce more content update on some of the older PC games to revise the gamers' interest. Thank you.
Huateng Ma
Thank you, Alicia. So on the advertising question, then, in general, the China online advertising market is primarily or predominantly performance ads and then a minority of branded ads. And then within the performance ads, there's contractual performance advertising, where the advertiser desires performance measured by sort of traditional awareness and reach metrics as well as transactional metrics. And then there's more purely transactional performance advertising where the advertiser is very purely focused on transactional metrics, and that would be true for perhaps mobile game companies, e-commerce companies and so forth.
And I think that Tencent plays across all of those. Obviously, our historic strength is more within the branded advertising. But in recent years, as we have nurtured a very substantial gross merchandise volume flow through our mini programs, then we have created more sort of native endemic demand for performance advertising, both contractual performance and transactional performance. And then more recently, with the release of advertising inventory in video accounts and in the future, advertising inventory within our search engine, then we think we have the right inventory that is especially suitable for the transactional performance advertisers.
So historically, we were sort of most suited to the branded advertisers and the contractual performance advertisers. But increasingly, we have both the use case and the ad inventory that is suitable for transactional performance advertisers. And then on your game question around PC games, then yes. We are, as I mentioned in response to Eddie's question, investing more in our big existing games. It's also the case that we have a number of PC games in development globally.
And some of them are pretty substantial. So Riot's VALORANT is a PC first game, and that's become one of the most successful PC games across the industry, both in terms of critical reception but also in terms of becoming a $1 billion annual revenue franchise. And then many of the game studios we have acquired in the past five years outside China, our PC game for us. So if you look at Steam today, I think the #2 title behind Call of Duty is we'll have a 40000: Darktide, which is created by a studio called Fatshark in Europe, in Sweden, that is one of our subsidiaries. And that game actually hasn't launched yet, but it's the #2 or #3 game in Steam rankings.
So anyway, we -- our China studios have become somewhat mobile first. And for them, when they release PC games, it's often a situation where the game is released across both mobile and PC and interoperable, but the game sort of crafted with mobile front of mind versus many of our overseas studios like Riot and Fatshark PC first and then move the PC game to other platforms later. Thank you.
Wendy Huang
Thank you, Alicia. Our next question comes from Gary Yu of Morgan Stanley. Gary, your line is open.
Gary Yu
Hi, thank you for the opportunity and congratulations on the strong results. I have two questions. First one is a follow-up on video accounts. I think you mentioned that video accounts ad seems to be complementary to our Weixin ad platform and also kind of differentiated from other short video peers. So when this platform becomes a bigger kind of ad revenue core, how should we think about where the ad budgets are going to coming from? It's more from other short video peers, other format ads? And then by that time, should we expect inevitably some kind of cannibalization on the existing kind of ad revenue from other platform? And then a follow-up question is related to our investment portfolio.
Given that criteria is to consider divestment when subsidiary when they are sold to become more kind of financially capable in strength with industry leadership. When I look at the rest of the portfolio, it seems like there are some other sizable associates, which have reached that kind of status or definition. So how should we think about those associates which are approaching the Meituan kind of mature stage? Thank you.
Martin Lau
So in terms of video accounts right now, I think very clearly, as we have seen from the evidence that demonetization is actually incremental for us. There are a number of aspects of it. Number one is that the time that people spend on video accounts is actually purely incremental, and it's actually a very sizable amount, that's one. And two is in terms of the revenue, we saw the budget as being incremental because when we start scaling the video accounts revenue, it actually reached a significant scale. In fact, we talk about it's on track to reach RMB 1 billion per quarter. And that ramp-up is actually achieved without impacting any other of our advertising revenue or advertising budget as put in by the advertisers.
And we also view video accounts as very complementary to our ecosystem as it actually works very well with our mini programs as well as other parts of our ecosystem, including official accounts, including e-comm. The ecosystem as a whole actually helped the merchants to build a private domain for them. And in the past, the merchants can only bring traffic to the Mini programs through off-line touch points and some advertising on our Weixin ecosystem.
But now the video accounts actually allowed a considerable amount of ad inventories to be added and the traffic can be through video accounts. It can be through video accounts like streaming and that actually allows the merchants to really bring much more traffic into their mini programs, and that as a whole really complements the overall ecosystem of Weixin. And in terms of where the revenue will be coming in, right?
I think part of it is actually from existing revenue that's spent on other short video platforms. Some of the revenue will be actually coming from e-commerce, right? Because as the merchants want to build their private domain, they may actually look at the spending that they put in or other channels and try to build something which is highest value to them, which we believe private domain is. And it also involves some of our existing advertisers spending more money on our platform.
Huateng Ma
And Gary, in terms of your question around the strategic thinking around distributions and comparing the Meituan distribution with the prior JD distribution. Then if you look at the Meituan announcement on Page 7, there's a section called reasons for and benefits of the distribution in kind. It's actually distribution in, but I'm not sure how to pronounce species. We'll say it's distribution in kind. And there, we give three criteria, which are among the criteria we consider when we're deciding whether it's appropriate to distribute an investment. And one of those criteria is the financial strength of the investee, a second one is the industry positioning of the investee and the third one is our investment returns.
And so if you look at Meituan for example, through that lens, then in terms of industry positioning, it's obviously extremely strong being the clear leader in food delivery and in-store and so forth. If you look at the investment returns, then we've had very good returns on the investment of around 30% IRR. And if you look in terms of financial profile, then it is profitable. It's not as profitable on a headline basis as JD was when we distribute it, but that's because Meituan as you well know is investing in a community group buying and other new services to expand its addressable market longer term.
So anyway, those three of the criteria that help explain our thinking around distributions and specifically why we chose to distribute JD and why we now choose to distribute Meituan. Thank you.
Martin Lau
And I would add to the fact that we obviously want to distribute the shares from a point of strength, right? As we look at what James talked about in terms of strength in financial profile and industry position. And at the same time, when we look at the shareholder base, we actually see from an institution in perspective, there's actually a very big overlap of the biggest shareholders between us and Meituan which means that there will be a lot of institutional investors who want to get the Meituan shares.
And at the same time, as we look at investment like Meituan, we actually made a very big financial gain from it already. And that's why we would like to allow our shareholders to start making their own decisions about what to do with the shares. But I would say, as I talk about a lot of -- there's a lot of overlap in terms of the biggest institutional investors. And I also believe that some investors may actually want to sell the shares. But a lot of the investors would be probably like me, right, who will be holding on to the majority of the Meituan shares for a very long period of time because I'm actually very excited about the prospects of the company.
Wendy Huang
Thank you, Gary. Our next question comes from Robin Zhu of Bernstein.
Robin Zhu
Hi, thank you. Thanks management for taking my questions. I guess a couple of things. Just one, if we take a step back on returning cash to shareholders. Beyond these kind of periodic big distributions, how should we think about the sort of run rate of cash returns, you raised the run rate of buybacks a couple of weeks before the blackout for these results. Is that -- should we think of that as kind of the new sustainable level? And would management ever consider announcing a formal cash payout policy, percent of free cash flow or anything like that? So that's one.
And then two, obviously, there's been a lot of progress made on cutting costs and scaling back different bits of the business. I'd be curious to hear how you think about when to go on the front foot again to start spending more money on driving more growth and how we switch from where we are now to that. Thank you.
John Lo
In terms of capital allocation, I would say we're not a utility, right? So we are a growth-driven company. So I would say we're not going to have a return or dividend yield-driven thinking in our capital allocation. So if you look at the three sources of capital return that we talk about, one is dividend, the other one is share buyback. And then we talk about the distribution in kind, each one of them is actually of a different nature, right?
I think in terms of the dividend, it is a program and we have been distributing about 10% of our non-IFRS earnings. And over time, we may actually increase that. It depends on what -- how we look at the reinvestment opportunities. But then share buyback is actually a way for us to return the excess cash flow, and that would be calibrated against investment opportunities, investing in other people, other companies shares.
And it is true that given the industry environment right now, we have been more selective in terms of investment. So that's why we actually have more cash to conduct share buyback. And especially, and when our shares is actually very attractively valued given our strong operations, cash flow generation as well as we actually have a basket of investment portfolio, which is also share buyback actually get us more exposure to that. So that's why this year, we have actually stepped up our share buyback in a pretty significant way, but we actually managed it in a dynamic way.
In terms of the distribution in kind, that's actually more a case-by-case basis. And that the reasons and the considerations, I think James have already talked very clearly about. So those are all of different natures. Overall, we do not want to have a target yield. But at the same time, I think we're very thoughtful and we are very proactive in terms of returning capital to the shareholders as we see fit in order to maximize the shareholder return. Now in terms of the investments, I would say -- I would refer you to Page 4 of our strategy section.
I think we actually talked about the fact that we have a very strong cash flow generation capability as well as a very large holding of liquid assets and all of them will be more than enough to fund our organic growth strategic growth as well as our capital return to the shareholders. So we have more resources than we need to do all these things at the same time, and they don't actually conflict with each other. Thank you.
Wendy Huang
Thank you. Our next question comes from Natalie Wu of Haitong International.
Natalie Wu
Hi, good evening. Thanks for taking my question. I have two as well. The first one is regarding the regulation. Since that there are some easing signs from regulatory environment in China these days. So just wondering any updates on recent regulation developments that can be sensed from company side? And how should that affect your fundamentals next year?
And second one is regarding your enterprise services. Just wondering how should we think of the monetization potential for your enterprise app family, including Tencent Meeting enterprise WeChat, et cetera, will be material contribution in one to three years? Thank you.
Huateng Ma
So on the regulation side, in the last earnings call, we actually updated you that the recent regulatory direction is actually trending toward supporting healthy development of the industry to complete the ratification and also to carry out normalized regulation. So based on the recent government communications, I think it basically confirms this direction continues. More noticeably, we noticed, for example, in the Party Congress report, you mentioned that China will accelerate the development of the digital economy and further integrate it with the real economy as a measure to drive high-quality growth.
Also, after that, in the late October, NDRC report recognizes the achievement of the digital economy in the past decade. And the report also advocates a digital economy of greater strength, the quality and scale by developing digital technology and integrating that with real economy. So all in all, the direction I think we feel is still very consistent with what we said last time.
And I think what's changed is that, in particular, there are some steps and some regulatory approvals that signals a more normalized regulatory environment that confirms this regulatory direction. So this includes in the FinTech area, we have received approval for investment in Samsung property and casualty insurance company in China.
In the online gaming area, we have received approval for new BanHao and also BanHao amendment in September. And we do expect to receive more BanHao's in the coming future. And in the area of investments and also antitrust, we received SAMR's approval for a JV with China Unicom. So all these specific actions and approvals actually signifies that I think the overall regulatory environment is trending towards a more supportive environment.
John Lo
And Natalie, on your question about whether our enterprise services would bring material revenue contribution in one to three years, then the future is uncertain. But I think it's unlikely we would see a material revenue contribution relative to our total revenue within one year.
Over the longer-term, then we believe these services will lend themselves to good monetization. And if you look at the experience of Zoom and Slack and Teams and so forth, I think they speak to that longer-term opportunity.
How quickly do we get from the near-term situation where we're focused primarily on distribution to the longer-term opportunity around monetization, it is partly a function of the competitive landscape. And so that's the situation that we're in today.
As Martin mentioned, we do have a paid subscription product bundling Tencent Meeting VCom [ph] and Tencent Docs together. And that's seems good early adoption by larger enterprises. But we view this as something with a longer gestation side versus our video accounts and international game initiatives that are turning into material revenue more immediately. Thank you.
Wendy Huang
Our next question comes from John Choi of Daiwa.
John Choi
Okay. Thank you very much for taking my question. I have a question about -- I think last quarter, you guys said that your business is a lot more cyclical than before given that the nature of our core businesses are now more highly quarterly with the economy. So as we are seeing some improvements signals in the macro and also the COVID situation along with external factors improving. Are we seeing better visibility in areas like advertising and FinTech and Business Services as we go into later this year, early this year, or early next year? Does that mean we should see a better tailwind as we see for these cyclical businesses?
And a quick follow-up about your business services. I appreciate that you guys are doing a lot more on the -- you could see this quarter, we've seen gross profit increase both sequentially and also on an annual basis. But how should we think about the margins more on the mid to long-term if you compare it to our self versus our global peers? Thank you.
Huateng Ma
I think in terms of the macro, third quarter was actually quite good, because there is a recovery from the second quarter in which there were a lot of lockdowns. But then I think beginning of the fourth quarter, it was a little bit clouded again due to more sporadic lockdowns around the country. So I think the short term will probably be still quite volatile. But I think overall, right, we do believe in the medium term, the economy will definitely start to improve. And as a result, we're confident about the medium term. But for now, I think it's going to be a little bit volatile in this period of time.
John Lo
I think on the business services question, the situation in China from a margin perspective is so dissimilar to the situation in the rest of the world that it's hard to chronologies. Generally speaking, the rest of the world, the companies that provide infrastructure as a service, such as Amazon and Google are not -- don't have very substantial software-as-a-service businesses. And then there's companies like Oracle that provide software-as-a-service with less infrastructure. And of course, Microsoft does bridge the gap. But for comparison in China, there's several big companies that do infrastructure platform and software-as-a-service together, including ourselves. So that's one difference.
Another difference is the competitive behavior is dissimilar. I think in the Western world when web services were growing very quickly, margins were expanding. And now as the services revenue growth slows, there's some pressure on margins as the companies fight more intensely for market share. In China, it's -- in the other way around 20 industry was growing very quickly, then margins were very weak in some cases, declining because everyone is jumping in to try and grab their slice of the pie maximize their slice the pie versus now with the more difficult environment the industry has been in for the last year. You actually see, in some cases, including our own, that weaker revenue is accompanied by stronger margins as we refocused on the most sustainable and highest quality businesses within the business services mix. Thank you.
Wendy Huang
Thank you. Our next question comes from Ronald Keung of Goldman Sachs.
Ronald Keung
Thank you. Thank you, Poni, Martin, James, and John. First one I ask about FinTech because we read about this, you noted the double-digit growth in commercial payments. So as our business continues to have profits driven from kind of games to ads to FinTech, now how is our progress in the financial hold co restructuring? And is that on track? And what are latest strategies in kind of across these commercial payment wealth management and lending businesses in this macro environment and particularly given the change in COVID measures this year and next year? Thank you.
Martin Lau
So in terms of the financial holding company, we do believe that we would want to embrace having a financial holding company license, and we are in the process of understanding the requirements interacting very closely with the regulators and also make the requisite preparation for it. Because we do see that the regulatory oversight and potential opportunities of having a financial holding company license is beneficial and the internal organization changes that needs to happen will not really cause material impact to the business.
So we are working proactive beyond that. But at this point of time, we don't really have an update for you yet when we have an update, we'll let you know. In terms of the payment business as well as the financial services business, I would say it's actually very important for us to focus on a few things, right?
Number one is really compliance and we have spent a lot of time in making sure that all the services are actually complying with the new regulatory requirement. And all along the way, we have actually spent a lot of timing working on compliance, but the requirements have been going up as required by regulators, and we have been spending a lot of resources and effort to upgrade our compliance. And especially, this is a bit challenging, given the scale of the service that we have. But I think we have really been able to achieve that. And second is really about risk management, because given a challenging regulatory macro environment, it's actually very important for us to manage risks in a very proactively.
And third is actually leveraging our payment services, which connects with a lot of offline merchants and especially small and medium merchants so that we can actually help them to cope with the challenges on the cycle side and help them to generate more business. And we also have rebate programs so that we actually help them with these difficult periods. We actually felt that once we go through this period of sporadic lockdowns.
And from time-to-time, there's actually challenges on the offline side, we should actually return to a pretty good backdrop of organic growth. And the payment would actually help to generate business for our lending business as well as for our wealth management business. So I think over the longer -- mid to long-term, it's actually with good potential. But right now, I think it's actually very important for us to work through this relatively challenging period.
Ronald Keung
Got it. Thank you, Martin. And maybe a follow-up question on returning capital to shareholders. So after JD and Meituan, I think most of our positions, investments are now either not Hong Kong listed stocks or maybe relatively smaller in size. So I think how should we think about the future strategies for the investment portfolio particularly how do we balance the recycle of capital for ourselves and reinvesting into areas of growth? You mentioned about software companies or international games versus kind of distributing to shareholders. How do we balance these two?
James Mitchell
I think as Martin spoke to in his introductory comments, we don't necessarily need to do it because we do generate $15 billion of free cash flow a year. And so if the $15 billion of free cash flow has been fully sufficient, not only to fund our investments in our own infrastructure and our own new products, as well as investments in other companies, the complementary of us such as Ubisoft and from software, but also to fund a very heavy volume of buybacks on top and then the distribution is in kind of a separate incremental return of capital to shareholders that will be more periodic in nature rather than continue. Thank you.
Ronald Keung
Thank you, James.
Wendy Huang
Thank you. Our next question comes from the Charlene Liu of HSBC.
Charlene Liu
I have two questions. The first one is regarding our cloud business. Tencent Cloud business recently set up a JV with China Unicom. Can management discuss the rationale for this collaboration, how can benefit the company's cloud business? And also, should we expect increasing collaboration with SOEs of sort going forward? That's the first question.
For the second question, I would like to sort of point out that in the past couple of months, Tencent has stepped up share buyback to offset the sell-down to pressure from process. And we also observed that the share price has responded quite favorably to a part sensitive potentially taking over the process date, even though it was subsequently being denied. Can we seek your thoughts on what you would consider a favorable outcome for Tencent in this sort of sell that process? Could you share light on sort of do you have a preferred type of strategic shareholder, et cetera? Thank you very much.
Huateng Ma
Yes, so for the JV with China Unicom, it's actually focusing on distributing CDN and multi-edge computing products that's codeveloped by Tencent and Unicom. So it's joint force in order to leverage our development capability, resources as well as customer base in order to promote these products. And we believe the business would have good prospects going forward. But right now, the business plan is still being drawn up and the short-term financial benefits will be limited. In terms of the significance, I would say, the approval from SAM is actually more of a significant event for us on this particular JV.
And in terms of finding collaboration, partners, right? We actually work on it on a case-by-case basis, looking at the business case as well as what are the resources that each party can actually bring to the table. And I think there is no specific trend towards whether it's a private company or SOEs or any sector, right? We look at these opportunities on a case-on-case basis.
Martin Lau
On your question around whether we have stepped up share buybacks to offset the sell-down from process and what a favorable outcome to what if this would be then it is factually correct that during the last trading window, our buyback volume was similar to slightly greater than the process sell-down volume during the same trading days. But I want to emphasize that we've been a listed company for a long time, and we've very frequently bought back shares and the share price has declined sharply in our history as a listed company, irrespective of whether Naspers or anyone else was selling shares or not selling shares at the time.
So the buyback decision is primarily around where we see value and much more so than around flow issues. To put it another way, in the very short-term, if a shareholder sells X amount of shares and we buy back Y amount of shares, then of course, that superficially net neutral from a flow perspective. But from a value perspective, which is what we care about, is value accretive because the shareholder who's selling shares is not actually increasing the share count versus when we buy back shares, we do cancel the shares we buy back, and therefore, decrease the share count. And so there's value accretion for our remaining shareholders over time.
I think that in terms of favorable outcomes, that's a decision for a process, but process has stated that it views this as an exercise that's necessitated by the abnormally large discount NAV, which process was trading when it announced this exercise. And that discount NAV has narrowed somewhat and process has said that should the discount to NAV narrowed to certain levels, then there could be changes to this policy. So anyway, it's something that we're obviously very aware of, but it's not a primary consideration for us when we're looking at our capital return policy, including our buyback activity. Thank you.
Charlene Liu
Understood. Thank you.
Wendy Huang
Thank you, Charlene. We would take the last question from Alex Yao of JPMorgan.
Alex Yao
Good evening. And thank you management for taking my question. Two questions from my side. First one is on the domestic gaming monetization this quarter. The domestic gaming revenue declined by 2% on a quarter-over-quarter basis against a positive seasonality and new game launch. What caused such an abnormal seasonality in this quarter?
And then second one is on the interplay between monetization of video accounts and the content ecosystem of the video accounts. Has you guys observed the monetization of video accounts helped the content ecosystem of video accounts at all? I understand this is still an early stage of the monetization. But intuitively, I think improving monetization capability of the ecosystem should introduce more financial incentive to the content creators. So therefore, it should be positive with the content ecosystem. Thank you.
John Lo
Alex, so on your first question, I may not have understood it exactly. But the short answer is there's a different seasonality for our game cash flows versus our game reported revenue. However, in previous years, when the overall industry and we within it, we're growing quickly, and that seasonality was not apparent as it is this year when the industry has been in stagnation.
So to get more granular and specific, the game industry in China typically sees a peak in terms of cash flow generation, grossing receipts during the Chinese New Year period, and we then amortize those cash flow receipts into our P&L over a period of several months. And so the cash flow, the receipts strength in the Chinese New Year translates into reported revenue strength in Q1 to an extent, but more in Q2 and then also in Q3 before decaying toward the end of the year.
And again, in previous years that seasonality hasn't been as obvious as it is this year. So that's basically the short answer to your question that when you look at the sequential trend for game revenue from Q2 to Q3, it is somewhat influenced by the fact that in Q2, we capture more of the Chinese New Year peak spend in our reported revenue. And then as we go through the back half of the year, that fades away due to the approval cycle.
Martin Lau
So in terms of the content ecosystem and monetization, I would say at this stage, the monetization does not really have a lot of impact on the content ecosystem. But having said that, contact ecosystem has been become richer and richer and has been consistently build up for video accounts primarily because of the fact that the traffic has been increasing and our targeting technology has been improving so that we can actually allocate the traffic more specifically to the different content providers.
And the content providers, once they start to accumulate users and once they start taking traffic right now, they can actually monetize one way or the other on their own. And our in-feeds ads is actually independent from that. But over the long-term, I think there's going to be more interaction between the two, because once we start having live streaming e-commerce, then basically a lot of the content providers would actually also have live streaming and when they start doing e-commerce and when there are a lot of merchants looking for content developers who also want to do live streaming, they want to look for streamers, then they would start advertising within our video accounts and that will bring traffic to the live streamers. And as a result, they can actually generate more revenue.
So I think over the longer-term, monetization and the content ecosystem would actually have a stronger interaction and more conducive relationships.
Wendy Huang
Thank you, everyone. We are now ending the webinar. Thank you all for joining our results webinar today. If you wish to check out our press release and other financial information, please visit the IR section of our company website at www.tencent.com. A replay of this webinar will also be available soon. Thank you, and see you next quarter.