China internet:One hundred flowers blooming...only a few to survive

Resuming coverage on YY with a Buy; Initiate coverage on Momo with a Hold.

    Online live broadcasting has ushered in both new forms on entertainment and a broadening array of monetization modes for Chinese netizens. While the space has seen sharp growth in 1H16, players increasingly face challenges to differentiate. We view the industry as ready for consolidation. Industry growth should decelerate significantly, from 180% in 2016 to 20% in the next 4 years. Our study reveals that YY Live enjoys the greatest preference from both viewers and performers, suggesting potential for long term market leadership. Momo is less embraced across many fronts. We resume coverage of YY with a Buy and TP at US$60 and initiate coverage on Momo with a Hold at US$22.7.

    Content and user base key to long term success.

    We believe the most important factors underpinning long term success for a live broadcasting platform will be clearly differentiated, high quality content driving user stickiness, as well as a large, ideally captive, user base with higher conversion potential. Among the 300+ existing live broadcasting platforms that we have identified, we prefer YY for its market leadership across many fronts, from content quality and variety, to time spent, to streaming quality, to large user base. Momo achieved initial success in live broadcasting since its launch in early 2016. We however believe Momo’s live broadcasting channel will be limited to existing users given its strong emphasis on social connections. Our live broadcasting survey broadly supports this view.

    DB survey reveals YY Live to be most popular amongst viewers and performers.

    We recently conducted a survey of some 1,000 internet users in Tier 1-3 cities regarding their daily habits and preferences around live broadcasting, from both a viewer and performer’s perspective. We discovered that among China’s listed companies, YY Live, the live music and entertainment broadcasting platform of YY, is ranked most highly across a majority of the metrics under analysis. Competitor Momo meanwhile uniformly ranked lower. Most other players exhibited narrow differences in terms of user time spend and ARPPU. Encouragingly, a meaningful portion of existing users are willing to increase their spend on the top platforms, while many see constrained upside from the existing virtual gifting model. Platforms need to seek broader commercial opportunities or expand their user base to realize growth.

    Top-pick YY on its solid content and user stickiness.

    Along with this report, we resume coverage on YY with Buy at TP US$60, and initiate coverage on Momo with Hold at TP US$22.7. We prefer YY in long term horizon given its leading position in content quality and variety, user scale and stickiness, and also sound user experience in streaming fluency and quality. Our valuation on YY is based on 1.0x PEG against FY17 EPS and FY17-19 CAGR, given the faster-than-industry growth of 26% of its video broadcasting arm from FY17-19, versus the broader broadcasting industry at 17%. The implied 2017E P/E of 13.8x is in-line with the median of its historical forward P/E, and represents a sizeable 40% discount to our blended China internet universe P/E. Our valuation on Momo is based on 0.8x PEG against FY17 EPS and FY17-19 CAGR, a 20% discount to YY, given its moderate ranking amongst peers across major metrics. Sector risks: user growth, monetization solution, competition intensity, regulatory changes, investments.

    This note marks coverage transfer of YY from Hanjoon Kim to Eileen Deng and Alan Hellawell.