The ad we’ve been seeing recently from the Motley Fool for their Rule Breakers service is all about this “technology breakthrough” inside a “black box” that a Motley Fool analyst named Rex Moore found inside his son’s apartment — and this “little black box under his TV” that his son called the “heart of his living room” is, says Rex, the key to an opportunity that’s 23X bigger than Netflix. This is one of the annoying “no transcript available’ videos, so I’ll paraphrase a bit as I go through some of the points he made int he ad… then we’ll get to our answer.
In some ways this pitch is very similar to past “cord cutting” and “all media is changing” ads we’ve seen from the Fool, which have been used to pitch all manner of different tech and media stocks (from Disney and Discover to Netflix and The Trade Desk), but let’s see what they’ve got this time around.
We’re told that his son uses this “black box” to stay in touch with friends, watch sports, watch television, even create his own content and make money, and sometimes he spends six hours on it… just like everyone else he knows.
So how do we “get our cut?” How do you invest in this “little black box?”
It’s not the actual box — the one he showed in the presentation was an Xbox, and we know for sure no one is predicting that Microsoft will make you a fortune in this “first innning.” It’s a great company, and might beat the market over the next decade, but it’s surely not going to have returns like Netflix did over the past decade.
TV has been different than other technologies — cable subscriptions “defied the internet’s gravity” partly because of the lack of competition and the unreliable nature of streaming… but when the internet catches up to your business, as it has now for cable with the explosion of low-cost streaming services, it is ruthless. Moore notes that “our analysts are confident the death clock on cable is ticking away”
What’s the “major mistake” investors are making? Netflix isn’t the company that will replace cable, it’s just the beginning of the next generation of media… and 99% of that business has yet to be defined.
The ad goes on to say that Netflix has likely only scratched the surface — the real story is what Netflix doesn’t do. The little black box can stream live TV and sports, can help you upload content, and does something else that qualifies it as “next generation.”
Rex says he took this realization to David Gardner, who has quite a history of calling disruptive tech companies early on (and making returns of 10-20,000% a couple times), so apparently we’re getting a David Gardner recommendation here… what is it?
Gardner still likes Netflix and Amazon and those other stocks, he doesn’t sell often, but what always gets people excited is the next idea.
So what other clues do we get?
This company is at the center of what the next gen is about, owning it puts you in a privileged position… it does everything Netflix does, and more. And it has one incredible advantage — a great firewall. Only one of the stocks he thinks will control next gen media well into the 2020s…
So that “next gen” is clearly pretty focused on video games, and with the emphasis on gaming and communication and a few other clues that are dropped along the way, that leading stock is clearly Tencent (TCEHY)… with the “great firewall” being the fact that they’re protected by the Chinese government from having to compete with Facebook or Alphabet or any other non-Chinese companies. (That reliance on China is, of course, their greatest risk factor in addition to their protected status being arguably their greatest asset.)
And yes, the Fool in its disclosures does confirm that they both own and recommend Tencent shares… and Rule Breakers is, of course, the likely home for such a fast-growing and richly-valued stock (David Gardner frequently cites “Wall Street thinks its too expensive” as one of his counterintuitive criteria for choosing a rule-breaking stock).
Which means that yes, they must be hinting at Tencent for this “next gen media revolution” … but no, Tencent is not going to grow more quickly over the next decade than Netflix did over the past decade — Tencent is already one of the largest companies in the world, with a market cap of nearly $400 billion even after a terrible decline, and the odds are that it won’t be able to outpace global markets as dramatically in the future, if only because of its massive size.
Of course, writing off major tech stocks as “too big to grow” has been logical but wrong over the past few years — Facebook and Amazon and, indeed, Tencent, should have been “too big” to post 50%+ revenue growth or see their stocks quickly double in recent years, but they’ve all beaten those expectations. They’re all among the largest companies in the world, and they may well continue to dominate, but they are facing the law of large numbers and they won’t be doubling and tripling over and over in the coming decade.
On the other hand, maybe Tencent should be a $10 trillion company? After all, even though they’re pretty much limited to the Chinese-speaking world, that’s still a ton of people. Who knows what will happen, or whether they’ll be able to substantially grow their business outside of China, but they will face more regulatory pressure than most because of the power that the Chinese government has over the internet and economy within its own borders.
And that, I think, is the primary reason that Tencent has been week of late — Tencent gets a lot of its revenue from video games, and China is the largest video gaming market in the world… and the government this year cracked down on new game releases because they were worried about games being too addictive, or too violent, helping Tencent to report its first dip in profit in years. The South China Morning Post reported recently that this moratorium on new game licenses could persist for another 4-6 months, which could create an existential crisis for many of the smaller gaming companies and would likely pressure Tencent’s revenue pretty substantially.
Once this licensing freeze is lifted, gaming approvals will be handled by a new regulator, the Publication Bureau of the Central Propaganda Department, and it’s expected that there will be a stronger focus both on content and on creating systems to prevent addiction and to limit use of video games by minors.
(Yes, Tencent’s shares have probably also been buffeted by trade war or macro concerns, simply because they’re a large part of the Chinese economy and investors tend to buy and sell “China” en masse when they’re panicking about tariffs or debt crises or whatever else… but whatever the cause, the stock is down by about a third since the January highs).
So yes, I suppose it’s accurate to say that Tencent “does everything Netflix does, and more”… though they really only do so in China, for the most part, which is both a blessing and a curse. Gaming is not Tencent’s only business, they also do everything from video streaming to advertising and operate the most popular messaging and social network apps in China… but it is a huge division (online games generate almost 40% of Tencent’s revenue), and it has also been counted on as a major growth engine in recent years, so the uncertainty over regulation is obviously substantial, and unlike most regulatory changes in the US or Europe the future result is not as openly negotiated or even shared — so there’s some risk of an extreme outcome that really puts the brakes on the online gaming business, but I have no way of guessing what the probabilities might be of good or bad outcomes.
What other stocks does David Gardner recommend beyond Tencent? They don’t drop any other clues in the ad, but they do say there are several other “next gen” stocks they recommend. I suppose if they’re talking China still, and using stocks that I know have been recommended by Rule Breakers in the past, they could be touting iQiyi (IQ) for streaming television or NetEase (NTES) for online gaming… but those are just guesses.
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