Buy a stake in the Chinese internet giant behind Fortnite at a 36pc discount
It may sound like the stuff of fantasy but a stake in Tencent can be acquired at a huge discount if you buy it via another listed company
A £55BN valuation anomaly really should not exist in the modern financial markets. But exist it does – and better still Questor readers can use it to buy a stake in one of the world’s most impressive internet companies at a 36pc discount. That company is Tencent, which is based in China and listed in Hong Kong and is most famous for WeChat, its messaging, entertainment and payments app, and its
Fortnite game. WeChat is a little like WhatsApp but does far more; it has become ubiquitous in China, where it has more than a billion users, as a result. “WeChat is a fantastic play on Chinese consumer behaviour. It is the gateway into so much spending activity, such as payments, entertainment and gaming,” said Joe Bauernfreund of Asset Value Investors, which owns – indirectly, as we will explain – a stake in the company.
“Although Tencent is a play on the Chinese consumer, it also has a great portfolio of businesses around the world. It’s best to see it as a conglomerate. Alongside Alibaba, it is one of China’s two pre-eminent internet companies.”
Mr Bauernfreund owns Tencent indirectly in order to benefit from the huge discount we mentioned in the introduction. To explain how it has arisen we need to leave China and Hong Kong for a moment and travel to Holland – via South Africa.
A very substantial stake in Tencent was until last year held by a South African company called Naspers, itself a hugely successful investor in technology businesses. Naspers had in effect outgrown the relatively small Johannesburg stock market on which it is listed so last year it made itself smaller by listing a separate company, Prosus, on the Euronext exchange in Amsterdam.
Into Prosus it offloaded its international holdings, among them Tencent. But Tencent is so valuable – its market value is about £500bn – that Prosus’s 31pc stake in it dominates the Dutch-listed company. In fact Tencent accounts for about 85pc of Prosus.
As a crude approximation we could say that a Prosus share is more or less a Tencent share. With one difference: it will cost you about 36pc less. The market value of Prosus is about £116bn, which values its 31pc stake in Tencent at about £99bn. But in Hong Kong you would have to pay £154bn for a 31pc stake in the firm if you bought its shares directly – a difference of £55bn.
How on earth can such a situation arise, you may be wondering. It’s understandable for a valuation anomaly to exist in some tiny business that no analyst or fund manager ever looks at, but Tencent is one of the largest and most high-profile companies on the planet.
“A lot of people don’t know that Prosus exists,” Mr Bauernfreund said. “Markets tend to miss this kind of thing. It’s just the way investors are thinking at the moment – all their focus is on the China-America trade war and on passive investing.”
He acknowledged that Prosus was “not the most efficient way to own Tencent as it has other holdings and Prosus is a kind of friction between the investor and Tencent”. But he said that even if Prosus’s other assets were valued at zero, you would still be buying Tencent at a discount of about 20pc.
Without wishing to strain readers’ credulity further still, it’s possible to get exposure to Tencent at an even bigger discount – 54pc, said Mr Bauernfreund – by buying shares in Naspers. This is because it too trades at a discount to the value of its assets, which include a 72.5pc share of Prosus. This would of course be a less clear-cut way to own the Chinese firm.
The final element of this bizarre tale is that there is even an immediate catalyst for Prosus’s discount to narrow. On Monday its inclusion in the Euro Stoxx 50 index took effect. This means that tracker funds will have to buy its shares, which Mr Bauernfreund said should affect its share price “within a day or two”.
Tencent should be relatively unaffected even if the trade war between China and America escalates. “The vast majority of Tencent’s business is China-centric so anything president Trump did, such as banning WeChat in the US, wouldn’t make much difference,” Mr Bauernfreund said.
Questor says: Buy
Ticker: PRX: NA
Share price at close: €77.50