Huya Stock Still Looks Good, Competition Worries Aside

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Luke Lango

Updated Wed, Aug 15, 2018, 7:21 PM

China live streaming game platform Huya (NASDAQ:HUYA) reported mixed second quarter numbers that featured an earnings meet, revenue beat, and a weak guide. The mixed quarter wasn’t enough to satisfy bullish Huya shareholders, and Huya stock dropped more than 10% in response to the numbers.

Important to note: this isn’t a Huya-specific problem. All of China tech is getting slaughtered right now. It seem like no matter what a China tech company reports this quarter, the stock is selling off.

Baozun (NASDAQ:BZUN) reported second quarter beats, but gave an in-line guide. BIDU stock dropped. Vipshop (NASDAQ:VIPS) missed across the board. VIPS stock dropped. Weibo (NASDAQ:WB) beat across the board. WB stock dropped. iQIYI (NASDAQ:IQ) delivered strong second quarter numbers. IQ stock dropped.

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In other words, this class of high-growth China tech stocks is hitting a brick wall. Huya stock just hit that brick wall. Clearly, investors are concerned about currency risks as the yuan loses strength.

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They are also concerned about the underlying health of the China economy in the event that the trade war persists. The debt crisis in Turkey certainly doesn’t help anything.

Because of this dour sentiment, investors should beware of near-term weakness in all China tech stocks, Huya included.

That being said, the long-term growth narrative for most of these stocks remains in-place. Thus, these stocks should be bought on material weakness, but investors should use the chart and only buy when these stocks get into deep oversold territory.

As for Huya, I think there is still some weakness ahead. But, once the dust settles, this could be a golden buying opportunity into a secular growth name with doubling potential.

Huya’s Second Quarter Numbers Weren’t Great

From a revenue and profit growth standpoint, Huya’s second quarter numbers were really strong. Revenues rose 125% year-over-year, versus 112% growth last quarter. That big revenue growth comprised of 125% growth in live streaming revenues and a 138% increase in advertising revenues.

Gross margins expanded by 350 basis points year-over-year, and the company swung from an operating loss last year to an operating profit this year.

All that is great news.

But, on the flip side, user growth was weak. The monthly active user base grew by just 10% year-over-year to 91.5 million. That is rather anemic, especially considering the user base grew by 19% last quarter and 30% last year. Clearly, growth is slowing.

Growth in the entire China game live streaming market isn’t slowing. If anything, it’s booming. Huya’s slower growth, likely means it is losing market share. In 2016, Huya controlled around 48% of China’s total game live streaming users. In 2017, that number fell to 46%. This year, if 10% user growth persists, Huya’s market share will be just 44%.

This is a go-forward concern. But, on the other end of things, Huya’s revenue growth is bigger than ever because it is converting more users than ever to being paying users. As such, average revenue per user is trending significantly higher, and that is more than enough to offset slowing user growth.

Overall, Huya’s second quarter numbers weren’t great. Revenue and profit growth trends look good. But, user growth trends are weakening in a worrisome fashion.

Huya Stock Still Has a Ton of Upside

At current levels, Huya doesn’t need market share expansion in order to justify a higher price tag for its stock.

The China game live streaming market is that big and growing that fast. Over the next five years, this market is expected to grow by over 14% per year to nearly 350 million monthly active users by 2022.

Let’s assume market share losses persist. Huya could be looking at just 35% market share in 2022, versus 46% last year. But, even at 35% market share, that still implies 122.5 million monthly active users, given the 350 million user market.

Average revenue per user was up nearly 80% in the first quarter of 2018, and up more than 100% in the second quarter of 2018. Thus, from 2017’s $4 base, I think ARPU can rise by roughly 30% per year to $15 in 2022 as Huya converts more and more users to paid services.

Margins should improve substantially during this time thanks to robust ARPU growth driving healthy operating expense leverage.

All together, even factoring in market share losses, I still think Huya can do about $2.50 in earnings per share in five years. A growth-average 20X forward multiple on that implies a four-year forward price target for HUYA stock of $50.

Bottom Line on Huya Stock

As with most other China tech stocks, Huya has become a “near term pain, long term gain” situation.

I think Huya stock still has a ways to fall in the near-term. I wouldn’t be surprised to see the stock hit $25 or lower. Longer-term, though, robust growth in the China game live streaming market will power Huya to $50.

As of this writing, Luke Lango was long WB and IQ, and may initiate a long position in HUYA within the next 72 hours.