YY Inc. (YY, Financial) – China’s leading online streaming platform – reported the results of its second quarter yesterday, beating the top-line and bottom-line consensus estimates.
Revenue skyrocketed 44% year over year to reach $570.2 million, beating the Street’s consensus by approximately $34 million. Earnings grew 51.6% from to prior-year quarter to reach $2.03 a share, ahead of analysts’ consensus of $1.77. Mobile monthly active users also showed healthy growth, increasing 21.3% year over year to 80.2 million.
For the third quarter, YY is guiding for midpoint revenue of $593 million, a growth rate of 3% sequentially and ahead of the analysts’ consensus of $583 million. Although the stock gained 1.5% in after-hours trading yesterday, YY is trending lower today and lost about 8% of its market cap in pre-market trading.
What does YY do?
YY is predominately a live streaming platform that allows its users to broadcast live content, ranging from music shows and live games to online games and e-learning. The company owns two streaming platforms: YY Live, which features music, entertainment and sports streaming; and Huya Broadcasting for streaming video games. The Chinese internet company owns several domains, including YY.com, Huya.com, Zhiniu8.com, Duowan.com and 100.com.
What drove performance?
Live streaming was the primary revenue contributor during the second quarter. The segment witnessed 50% year-over-year growth, making up 94% of the company's total revenue. Other revenue, including online games, memberships and revenue from advertisements, declined 9.4% with no material impact on the overall top-line growth.
In short, YY managed to post double-digit growth during the quarter due to rising adoption of live streaming in China.
What’s the outlook?
China’s live steaming market is booming. According to Morgan Stanley, revenue from live streaming will reach approximately $15 billion by 2020, which is a growth rate of more than 25% per year. Another, rather bullish report is projecting the Asian live streaming market to grow 46.4% between 2017 and 2024. As one of the two leading providers of live streaming services, YY is set to benefit from industry growth.
What’s the thesis?
YY Inc. is simply a case of growth at a reasonable-price. Here’s why:
- The company is the leading live streaming social platform of China.
YY hosts more than 100 million active users in personal computer and mobile combined, ahead of its closest competitor Momo Inc. (MOMO, Financial). Back in March, Quest Mobile ranked YY as the leading streaming platform in China based on monthly and daily active users. According to Amazon’s (AMZN) web analytics platform, Alexa, YY.com is ranked as the 50th top website in China, with its popularity increasing exponentially over the last several months.
Alexa traffic rank
How is the YY.com site ranked relative to other sites?
Momo – the closest live streaming competitor of YY – is way behind on the client PC side; it is ranked at 4,000 in term of traffic to its website compared to YY. On the mobile side, Momo is slightly ahead. The company has around 103 million monthly active users, compared to YY's 80 million users.
YY Inc: Download rank trend
Momo: Download rank trend
The charts show the download rank of YY was around 14 over the last several months while Momo managed to hold a rank of 10, according to AppAnnie Analytics.
In summary, YY is one of the leading live streaming players in China. As the live streaming industry is set to grow going forward, YY will certainly continue to register growth.
YY is also priced cheaply compared to its counterparts.
Although Momo is ahead in terms of mobile monthly active users, YY is cheaply priced given the size of its user base.
MAUs based of Q2 filing of YY and Q1 filing of Momo
The graph shows that investors are paying an approximately 16% premium per active user for Momo’s stock compared to YY. Given that both companies are expected to witness similar growth going forward, YY appears cheaper. However, this doesn’t mean Momo isn’t cheap on absolute basis. To get some perspective, see the relative valuation charts below:
From an economic value added valuation perspective, YY is also cheap.
Assumptions for valuation
Earnings are expected to grow at 2% per annum between 2020 and 2024. Approximately 1% earnings growth is assumed in perpetuity. Analyst consensus earnings are used for 2018 and 2019. Cost of equity is expected to grow in line with earnings growth. The capital asset pricing model is used to calculate the cost of equity.
| Projections | Â | Â | 2018 | 2019 | 2020 | 2021 | 2022 | Perpetuity |
| Â | Â | Notes | Â | Â | Â | Â | Dollars in million | |
| Net Income | Â | Â | 482.02 | 593.30 | 605.76 | 618.48 | 631.47 | 644.73 |
| Â | Cost of capital | r*capital invested | 119.33 | 146.53 | 180.03 | 211.96 | 242.45 | 271.63 |
| Economic Value Added | Â | Â | 362.69 | 446.77 | 425.72 | 406.52 | 389.01 | 373.10 |
| Discount factor | Â | Â | 1.00 | 0.93 | 0.87 | 0.80 | 0.75 | 11.52 |
| Discounted EVA | Â | Â | 362.69 | 415.60 | 368.39 | 327.23 | 291.29 | 4298.11 |
| Period | Â | Â | 0 | 1 | 2 | 3 | 4 | 5 |
| Â | Â | Â | Â | Market value added | 6063 | |||
| Â | Â | Â | Â | Invested Capital | 1591 | |||
| Â | Â | Â | Â | Value of the equity | 7654 | |||
| Perpetual Growth in Residual Earnings | 0.1% | Price Target | $93.8 | |||||
The valuation reveals a price target of $92.3 for YY, translating into an upside of around 15% over Tuesday’s opening price. It is, however, important to note this valuation is based on Wall Street’s consensus of a mere 2% per year growth in earnings between 2020 and 2024, which is not realistic given the high growth prospects of the industry. Therefore, this valuation should be considered as a best-case scenario with room for more upside.
What are the risks?
Critics cite two major risks for the company; regulation and competition. The industry is prone to crackdowns and stringent regulation due to the risk of users broadcasting obscene content. This is not something, however, that can’t be controlled by technology companies using policy-based regulation on the platform.
Competition is another risk for YY. The growth of the streaming industry might tempt big players like Tencent (TCEHY, Financial), Baidu (BIDU, Financial) and Alibaba (BABA, Financial) to enter the market. YY doesn’t have the resources to compete against these big shots. However, the same argument applies to the possibility of an acquisition. Due to attractive growth, big companies can acquire YY, which is priced quite cheaply currently.
Takeaways
Double-digit growth in revenue and active users indicate consumer interest in live streaming isn’t waning just yet; industry forecasts conform to that.
As a leading provider of live streaming services in China, YY is set to benefit from industry growth.
Based on monthly active users, YY is priced at a bargain relative to its peers.
The bottom line is YY is a buy due to the double-digit growth potential of the industry, combined with the leading industry position and relatively cheap valuation of the Chinese streaming services provider.
Disclosure: I have no positions in any stocks mentioned and no plans to initiate any positions within the next 72 hours.
