HUYA: A Mix Of Positives And Negatives (NYSE:HUYA)

Elevator Pitch

I assign a Hold investment rating to HUYA Inc.’s (NYSE:HUYA) shares. On the company’s investor relations website, HUYA calls itself “the No.1 game live streaming platform in China” based on metrics such as “average MAUs (Monthly Active Users), and average daily time spent.”

I see a mix of positives and negatives for HUYA, which explains my decision to rate the stock as a Hold. I have a favorable opinion of HUYA’s improved profitability and attractive valuations, but regulatory headwinds continue to be a drag on the company’s revenue.

Regulatory Risks Are In The Spotlight Again

Regulatory headwinds relating to companies with exposure to Mainland China drew investors’ attention in the past one week, and this is something that readers who are considering a potential investment in HUYA need to watch out for.

A December 29, 2022 Seeking Alpha News article noted that new rules limiting the “fees paid for tutoring services and the timeframe in which the services may be offered” in China led to a sell-down in the shares of Chinese education companies like TAL Education (TAL) and Gaotu Techedu (GOTU). Separately, Seeking Alpha News reported on December 30, 2022 that Chinese regulators accused brokers UP Fintech Holding (TIGR) and Futu Holdings (FUTU) of running “cross-border securities trading businesses” that were deemed to be contravening relevant securities regulations in China. It wasn’t a surprise that FUTU and TIGR saw their respective share prices drop substantially (in excess of -20%) on the day the news broke.

As mentioned earlier in this article, HUYA is the largest player in the Chinese game live streaming business. It is worthy of note that China’s live streaming industry is one that the country’s policy makers and regulators pay close attention to.

In March 2022, it was reported that China will restrict “consumers’ daily spending on digital tipping” as part of new live streaming regulations, as highlighted in a March 30, 2022 Seeking Alpha News article. Also, gaming research firm Niko Partners published an article in April 2022 mentioning that regulatory authorities in China issued new guidance on strengthening “game live streaming content management” and “protections for minors.”

It is very clear that regulatory headwinds for the Chinese game live streaming industry have had a negative impact on HUYA’s revenue. HUYA’s top line contracted by -23.2% YoY and -20.1% YoY for the second and third quarters of 2022, respectively in RMB terms as per S&P Capital IQ data. In contrast, the company delivered positive revenue expansion of +9.8% and +5.7% for Q2 2021 and Q3 2021, respectively on a YoY basis prior to the introduction of new regulations for the Chinese live streaming industry. At the company’s most recent Q3 2022 earnings call in mid-November, HUYA admitted that “the latest industry regulations” has affected the “monetization of our domestic live broadcast business.”

According to the sell-side’s consensus financial projections taken from S&P Capital IQ, analysts forecast that HUYA will continue to witness YoY revenue declines for the fourth quarter of 2022 and the first quarter of 2023. In other words, the market doesn’t seem to expect regulatory pressures for the Chinese live streaming industry to ease anytime soon, which is understandable considering recent regulatory developments for tutoring companies and brokerages as discussed earlier. As such, HUYA’s future top line performance will most probably stay weak as a result of these policy headwinds.

Better Profitability And Attractive Valuations Are HUYA’s Key Positives

It isn’t all doom and gloom for HUYA. Although regulatory and policy risks remain as key negatives for HUYA, the stock’s valuations are reflective of such headwinds and the company has impressed with its better-than-expected profitability.

As per data sourced from S&P Capital IQ, HUYA achieved three consecutive quarters of positive non-GAAP earnings per share or EPS for the first three quarters of 2022, after suffering a normalized net loss in the final quarter of 2021. Also, HUYA delivered positive GAAP EPS in Q3 2022, following three quarters of GAAP net losses between Q4 2021 and Q2 2022. Furthermore, HUYA’s most recent Q3 2022 gross profit margin of 14.4% beat the sell-side analysts’ consensus estimate by approximately +6.8 percentage points.

At its most recent quarterly results briefing, HUYA credited the improvement in the company’s profitability to “ROI (Return On Investment) optimization of streamers and event content.” I think there is room for HUYA to generate higher gross profit margins and narrower losses in the new year with a renewed focus on cost management and profitability. Specifically, analysts see HUYA’s gross margin expanding from 6.4% for fiscal 2022 to 9.5% for fiscal 2023 (source: S&P Capital IQ). The sell-side also expects HUYA’s non-GAAP net loss to narrow from -RMB357 million in FY 2022 to -RMB114 million for FY 2023.

Separately, it is also necessary to review HUYA’s valuations in evaluating the stock. The market currently values HUYA at a consensus forward next twelve months’ price-to-sales multiple of 0.73 times and a trailing price-to-net cash ratio of 0.61 times as per S&P Capital IQ’s valuation data.

It is reasonable to conclude that investors have very low expectations of HUYA, as evidenced by the fact that HUYA is trading below net cash and a price-to-sales metric of under 1. In other words, regulatory risks might have already been priced into HUYA’s valuations to a considerable extent.

In a nutshell, the bright spots for HUYA are the stock’s appealing valuations and the company’s profitability outlook.

Closing Thoughts

HUYA’s shares are deserving of a Hold rating. On one hand, I am worried about the regulatory headwinds for HUYA, and the company’s weak near-term revenue growth prospects. On the other hand, HUYA’s valuations are undemanding, and the company has a renewed focus on profitability as evidenced by its recent financial numbers.