Tencent reported 1Q25 financial results: total revenue was up by 13% YoY to RMB180.0bn, 3% ahead of Bloomberg consensus estimate, thanks to strong growth of games/marketing revenue (+24/20% YoY). Non-IFRS net income grew by 22% YoY to RMB61.3bn, 3% ahead of consensus estimate, primarily due to solid top-line performance and better-than-expected GPM expansion (+3.2ppts YoY). In view of the sustainable GPM expansion trend on favourable revenue mix shift and improved cost efficiency, we raise FY25-27E non-IFRS earnings forecast by 3-7%, and lift our SOTP-derived target price to HK$660.0 (previous: HK$625.0). We are upbeat on Tencent’s AI development, and expect AI will continue to support the growth of its different business lines. Maintain BUY.
　　Games business maintains strong momentum. Games revenue increased by 24% YoY to RMB59.5bn in 1Q25, 8% ahead of consensus estimate. Domestic games revenue grew by 24% YoY to RMB42.9bn in 1Q25, due to the low-base effect, contribution from new games like Delta Force, and solid performance of evergreen games like HoK & CrossFire Mobile, both of which received record-high gross receipts in 1Q25. Leveraging AI, Tencent improved engagement of its evergreen games. International games revenue was up by 22% YoY to RMB16.6bn in 1Q25, driven by robust growth of Brawl Stars, Clash Royale, and PUBG Mobile.
　　AI accelerates marketing revenue growth. Marketing services revenue increased by 20% YoY to RMB31.9bn in 1Q25 (3% ahead of consensus). Tencent upgraded its ad tech with GenAI solutions such as image generation, video editing and digital human solutions, which improved the ROI for advertisers. By products: 1) marketing revenue of Video Accounts grew by over 60% YoY in 1Q25 on enhanced recommendation algorithm; 2) marketing revenue of Mini Programs increased notably YoY on strong ad demand from mini dramas and mini games; 3) revenue of Weixin Search grew rapidly YoY thanks to the increase in commercial queries and CTR.
　　FBS business delivered quality growth. Fintech and Business Services (FBS) revenue was up by 5% YoY to RMB54.9bn in 1Q25: 1) fintech’s revenue grew by low single-digit percentage YoY, mainly driven by consumer loan and wealth management services. 2) Revenue from business services grew by teens% YoY, primarily fuelled by the rapid growth of AI cloud revenue and e-commerce transaction fees. FBS GPM improved by 4.7ppts YoY and 3.1ppts QoQ to 50.3% in 1Q25, mainly due to the increased revenue contribution from high-margin consumer loan & wealth management services, and the enhanced cost efficiency.
　　GPM expansion trend continues. GPM rose by 3.2ppts YoY and 3.3ppts QoQ to 55.8% in 1Q25, better than consensus estimate of 53.9%, primarily thanks to the favourable revenue mix shift and GPM improvement of the FBS business. Looking ahead into 2Q25E, management expects GPM/OPM expansion to continue, although the AI investment may drag the pace of margin expansion. 1Q25 capex grew by 91% YoY to RMB27.5bn (vs. full-year capex guidance of c.RMB80-100bn), mainly due to GPU investment.