We maintain "Accumulate" and revise our target price upwards to HK$51.44. While maintaining our previous valuation level of 24.0x PE for 2024, the target price has been adjusted upward due to the increase in forecasted EPS, and due to share repurchases by the company.
　　TME's 3Q2024 earnings results were in line with market expectations, we expect the Company to further improve margins through increases in ARPU. TME's financial report for 3Q2024 shows total revenue of RMB7.02 bn, a YoY increase of 6.8%. Online music subscription revenue reached RMB3.84 bn, marking a 20.3% increase YoY. The number of online music paying users grew to 119 mn, up 15.5% YoY, with a sequential increase of 2.0 mn. Net profit amounted to RMB1.71 bn, reflecting 35.3% YoY growth, while net profit attributable to equity holders was RMB1.58 bn, up 35.5% YoY. Gross margin continued to grow, increasing to 42.6%, up 0.6 ppt QoQ and 6.9 ppt YoY. The Company has continued to improve operating metrics through attractive membership privileges, optimized user programs and effective promotions. We expect the Company to continue to leverage its position as the leading music-streaming platform in China to increase music subscription revenues steadily, grow average revenue per user and improve upon its net profit margin.
　　We lower our revenue forecasts for subscription and other online music services and again lower our forecasts for social entertainment revenue.
　　However, we increase our gross margin, which increases overall EPS.
　　Revenue for the online services segment for 2024/2025/2026 has been revised to RMB21.55 bn (-2.2%) / RMB25.45 bn (-0.7%) / RMB28.98 bn (-1.2%), respectively. Revenue for the social entertainment segment is lowered to RMB6,541 mn (-5.5%) / RMB5,578 mn (-18.5%) / RMB4,970 mn (-27.4%), respectively. Gross margin forecast has increased to 41.7% (+0.1 ppt) / 43.5% (+1.0 ppt) / 44.7% (+1.5 ppt), respectively. Diluted earnings per share, the most important measure for this stock, has increased to RMB2.31 (+1.7%) / RMB2.74 (+4.5%) / RMB3.08 (+4.7%), respectively. Diluted earnings per ADS, similarly, has increased to RMB4.63 (+1.7%) / RMB5.49 (+4.5%) / RMB6.16 (+4.7%), respectively. l Recently the online music distribution has increased its market share over traditional music distributors to a point where it has the bargaining power to maintain sustained price increases in music subscriptions. As evidenced by its MAU trends, the online music industry has reached the point of saturation. According to the RIAA, music revenue via digital market channels has increased to 83% of market share in the US. Although exact data does not exist in China, we assume that the distribution of revenue is similar. Within the PRC, where the majority of TME’s users are located, the music streaming market exists in a duopoly, with TME’s platforms QQ Music/Kugou/Kuwo holding 3 of the spots within the top 5 music-streaming platforms. Spotify has demonstrated in 2024 that gradual subscription price increases in saturated markets are possible with little increase in user churn. We believe TME to be in a good position to increase ARPU via subscription price increases in the near future.
　　Risks: 1） Increases in total ARPU via increasing subscription prices may lead to lower user counts due to the slightly more fragmented nature of the Chinese must streaming market. 2） International music producers may have higher bargaining power against Chinese music streaming platforms due to the smaller total size of the platforms.