Welcome to the Tencent Holdings Limited 2011 Third Quarter Results Announcement Conference Call. At this time, all participants are in a listen-only mode. There will be a presentation followed by a question and answer session. If you wish to ask a question, you will need to press * one on your telephone to join the questions queue. Your name will be announced when it is your turn to ask a question. If you wish to cancel your request, please press the pound or hash key. I must advise you that this conference is being recorded today. I would now like to hand the conference over to your host today, Ms. Catherine Chan from Tencent. Thank you. Please go ahead.
Thank you, operator. Good evening, ladies and gentlemen. I'm Catherine Chan from the IR team of Tencent. As you know, before we start the presentation, we'll mention and remind you that in this forward-looking statement, the turn of the line by a number of factors, a number of risks and uncertainties that may not be realized for the future for various reasons. Besides, information about general market conditions is coming from a variety of sources outside of Tencent. For a detailed discussion of the risk factors that may affect our businesses and operations, please refer to our exclusion documents downloadable on www.tencent.com/ir. I would like to introduce the management team to you on the call today. They are our Chairman and CEO, Mr. Pony Ma, our President, Mr. Martin Lau, our new Chief Strategy Officer, James Mitchell, and our WCRO, John Lo.
I would like to pass the call on to Pony now. Thank you.
Thank you, Catherine. Hello, everyone. Good evening. Thank you for joining us. For the third quarter of 2011, we achieved another period of strong operational and financial performance, and I want to call out three specific positive developments. First, we capitalized on the spread of smartphones and the mobile internet by providing some of the most popular mobile apps in China, including Wireless QQ, Mobile Qzone, and our new VSim products. Second, our online game business sustained its leadership with broad bases, growth in both users and revenue across all of our major titles, and with a very successful new release in the quarter. Third, our media business achieved some of the quickest growth rates in the online advertising industry, boosted by contributions from our emerging search and video services. As you may know, we are currently investing in several strategic initiatives.
During this quarter, we continued those investments and also stepped up our marketing spending in order to accelerate the growth of our new game, m icroblog, and new mobile products. Some of these new services will generate returns immediately and others over time, but all of them should improve our user experience and long-term business performance. Translating this trend into our headline numbers for the quarter, total revenue was RMB 7.5 billion, up 43% year-on-year or 11% quarter-on-quarter. IVAS revenue was RMB 6 billion, an increase of 45% year-on-year or 11% quarter-on-quarter. MVAS revenue was RMB 845 million, an increase of 22% year-on-year or 6% quarter-on-quarter. Online advertising revenue was RMB 601 million, an increase of 57% year-on-year or 17% quarter-on-quarter. Non-GAAP operating profit was RMB 3.4 billion, up 20% year-on-year or 6% quarter-on-quarter. Non-GAAP net profit attributable to shareholders was RMB 2.8 billion, up 21% year-on-year or 3% quarter-on-quarter.
Non-GAAP operating margins declined 2 percentage points quarter-on-quarter due to the additional marketing spending and declined 9 percentage points year-on-year due to R&D spending, marketing expenses, and new strategic initiatives. We have executed several major initiatives in our history, such as expanding into social networking and online games. We conclude from our experience that successful ventures showed first-end user growth, net revenue growth, and ultimately profit growth. We are therefore encouraged by the user growth and platform signatures brought by many of our new ventures. As we also exercise discipline on our spending and investment, we look forward to further growing our existing businesses and to successfully executing our new ventures, which will enhance our franchise revenue and profit for years to come. I have finished the highlight section, and will hand over to Martin to briefly touch on the status of our review.
Thank you, Pony, and good evening and good morning. Let me first update you on the operating metrics on our key platforms. On our core IM platform, active user accounts grew 12% year-on-year or 1% quarter-on-quarter to 712 million. PCU increased 22% year-on-year or 6% quarter-on-quarter to 145 million. We believe that mobile phone proliferation is enhancing the value of our IM service. Our users are increasingly accessing our IM service via mobile clients, and mobile already accounts for a very substantial proportion of our total IM traffic. For our social networking services, active user accounts of Qzone grew 12% year-on-year or 1% quarter-on-quarter to 537 million, as Qzone remains the most popular social network in China. Active users at Pengyou grew 176% year-on-year or 16% quarter-on-quarter to 149 million. Pengyou increased its market share among students and white-collar workers.
Operating multiple social networks enables us to experiment more freely at Pengyou than we could at Qzone. We're now transferring many of the learnings from Pengyou back to Qzone, accelerating our pace of innovation and open platform implementation. Our portal, QQ.com, continues to report growth in both PV and UV, as we deepened key verticals such as auto and finance, and as we increase our integration with our Tencent Microblog. The PCU of our QQ Game portal increased 25% year-on-year or 7% quarter-on-quarter to 8 million. Our wireless portal is ranked number one in China and sees continued growth in traffic and user engagement. Mobile is actually a very important aspect of the internet industry, and China is already the world's second-largest smartphone and mobile application market. Chinese consumers are embracing smartphones and using smartphones to enhance their social and entertainment activities.
That's why I would like to share a little bit about our mobile internet developments. In order to capture these secular opportunities, we are expanding our social leadership from computer to smartphones. Mobile versions of our PC-based social and entertainment services are becoming increasingly popular and material to our overall traffic. I want to highlight three mobile applications in particular. Firstly, Wireless QQ was released in iOS App Store in 2008 and in Android markets in 2010, leveraging off the popularity of our IM service and a large user base from PC Internet. It currently ranks as the most popular social app in China's iOS App Store, as well as Android market application stores. Secondly, Mobile Qzone, which was released in iOS in 2010, has established itself as the top five most downloaded social app in China.
A significant portion of our overall Qzone monthly active users is now coming from Mobile Qzone users. Thirdly, Weixin, a next-generation social communication service that we launched in January this year, has generated a highly positive consumer response and now ranked number two most popular social app across iOS as well as Android markets. Users who have installed Weixin are growing their contact list and increasing their usage at a very rapid rate. In short, Weixin has become a social phenomenon in China and is also gaining popularity in selected national markets. We attribute Weixin's vital user growth to its innovative feature set and ease of use. Weixin users can send each other text messages, voice messages, picture, and video messages in one-on-one or group chat environments. They can find friends using their phone books, QQ contact lists, location, or just by shaking their hands there.
Weixin is a strategically important platform for Tencent because it helps sustain and evolve our social leadership from PC to new mobile devices. Importantly, Weixin is particularly popular with people who may not be heavy QQ users now, and it deepens our reach to high-end users in first-tier cities. We're now focusing on refining and enriching the service of Weixin and have no immediate plans for monetization for now. This concludes my section, and I would like to pass it to James Mitchell.
Good evening. Good morning. Starting with the Internet VAS business, we've made up 80% of our total revenue in the third quarter. Segment revenue was RMB 6 billion, up 11% sequentially and 45% year-on-year. Community value-added services contributed 31% of segment revenue, rising 6% sequentially and 18% year-on-year. Online games contributed 69% of Internet VAS revenue, climbing 14% sequentially and 62% year-on-year. Our move toward open platforms has a financial impact on our IVAS category reporting because we book only the net, not the gross revenue from users spending on third-party apps, and also because we're allocating very substantial resources towards supporting the open platform and our business partners. However, over time, we expect open platforms to help us. First, by enhancing our user experience with a broader range of products and services.
Second, by benefiting outside developers who can tap into our large user base and the proven willingness of our users to spend money on virtual items. Third, by allowing us to better target and focus our own research and development spending more efficiently and effectively. On this topic, we believe outside developers should also benefit from our strategic investments in Kaixin001, since our app platform would extend to cover Kaixin users. Digging further into our community value-added services, for our Qzone social network, the maturation of the QQ Farm and QQ Ranch game, which are totally embedded into Qzone, has partially offset organic user growth trends because users who previously activated multiple accounts to play QQ Farm may now be consolidating back down to one account. As a result, our active user accounts grew at a fairly modest pace sequentially and 12% year-on-year.
However, we believe underlying engagement growth on Qzone is healthier. As one proxy for this, our users are now uploading over 150 million photos per day to Qzone, positioning it as a very clear photo sharing market leader in China. Mobile visits to Qzone are increasing very rapidly. Pengyou solidified its position as China's first number one real-name-only social network, growing active user accounts 16% sequentially and 176% year-on-year to 149 million. Our Tencent Microblog service increases registered user accounts by over 30% sequentially to more than 300 million, and daily active users grew at a comparable pace to over 50 million, with increased participation by popular celebrities and other opinion leaders. Our QQ Membership subscriptions continue to grow at a robust pace as we added functionality and privileges for activities such as online games and e-commerce onto the membership package.
Our avatar business, QQ Show, remains the leader in its niche as we enhance the service, especially for users who want to customize their own photographs as well as cartoon avatars. Music, a free and paid music streaming service that we incubated a few years ago, is steadily increasing in adoption and success. Moving on to online games, most of our major titles experienced active user and revenue growth during the quarter, thanks to our execution, our strategy of providing a breadth of categories, and summer holiday seasonality. Many casual games combined peak and average concurrent users' roles during the quarter, helped by marketing and introduction of web games and social games onto our open platform. We now operate 109 mini casual games. Advanced casual games combined peak and average concurrent users increased meaningfully to 9 million and 2.8 million respectively, compared to 7.5 million and 2.1 million last quarter.
QQ Speed and QQ Dancer are self-developed racing and dancing games, and CrossFire, our licensed first-person shooting game, achieved significant growth in both peak and average users. League of Legends pioneered a new category, multiplayer battle arena games, for us and enjoyed strong user traction into and following the September launch of its open beta test in China. We now operate seven advanced casual games in China. Massively multiplayer games combined PCUs dipped slightly sequentially, but ACUs increased strongly to 1.6 million from 1.3 million last quarter. Dungeon and Fighter enjoyed very robust user trends, suggesting we're effectively responding to the ongoing threat from automated characters or bots. We now operate 10 massively multiplayer games. Increasingly sophisticated internet browsers are enabling increasingly sophisticated browser games, often referred to as web games. We're a leader in this field, which we see primarily as a new format for existing game categories.
For example, our Roco Kingdom title remains the most popular web game for children, achieving over 550,000 peak users this quarter. Moving on to mobile, consumer behavior on mobile devices is evolving very rapidly, causing us to retitle our mobile mass categories. The mobile voice value-added services revenue has dwindled to less than 0.1% of our total revenue this quarter. As a result, we're now grouping mobile voice with SMS into the category QP services. The mobile internet activities, which we previously buried inside (2.5P services), have grown in maturity in the last two years, and it's now more accurate to retitle that category as (2.5P and 3P services). In aggregate, our mobile segment revenue is RMB 845 million and increased 6% sequentially and 22% year-on-year.
By platform, our QQ revenue increased 4% sequentially and 10% year-on-year as we managed through mobile carriers' policy initiatives such as the double confirmation plus reminder rule. (2.5G and 3P) revenue rose 12% sequentially or 52% year-on-year, boosted by mobile games and mobile books. We now offer over 750 mini games on our mobile games open platform. While we expect our mobile value-added services revenue to remain volatile in the near term due to regulatory changes, we believe we're very well placed for mobile internet expansion over time, given first, the leverage we enjoy off our desktop internet user base. Second, the product development and operational expertise we've accumulated in the mobile value-added services business over the past 10 years. Third, the popularity of our free platform products such as Wireless QQ and Weixin. On our advertising business, we grew revenue 17% quarter-on-quarter and 57% year-on-year to RMB 601 million.
We believe we achieved some of the fastest year-on-year growth rates in the online advertising industry this quarter in both renminbi and percentage terms, which we attribute to our traffic leadership, extending our advertiser base, and broadening our product contributions. Our top five advertiser categories this quarter were online services, food and beverage, automobiles, apparel, and this quarter we also saw consumer electronics joining the top five. We'll continue investing in content and marketing to add more advertisers, especially in the FMCG, finance, and automobile segments. By media type, our IM client advertising revenue increased 5% quarter-on-quarter and 57% year-on-year. Our search revenue rose 39% quarter-on-quarter and 219% year-on-year off a small base as we built traffic and added numerous search affiliates. During the quarter, we improved our community search functions and beta-launched our mobile search ad platform.
Finally, our portal and other advertising revenue jumped 25% quarter-on-quarter and 44% year-on-year. Advertising revenue around our online video services almost doubled sequentially and contributed materially to the quarter-on-quarter growth in this category. Our video platform was ranked fourth in the industry by combined monthly unique visitors in September, according to our research. This concludes this review, and I'll hand over to John to discuss the financials.
Thank you, James. Hello, everyone. For the third quarter of 2011, total revenue was around RMB 7.5 billion, up 43% over the same period last year, or 11% quarter-on-quarter. Operating profit was RMB 2.99 billion, up 12% year-on-year, or 7% quarter-on-quarter. Income tax expense increased 25% quarter-on-quarter to RMB 507 million, primarily reflecting the increase in profit before tax and deferred tax liabilities recognized in relation to withholding taxes, as well as non-recurrence of income tax expense reversal that was spoken last quarter. Profit attributable to shareholders was RMB 2.45 billion, up 14% year-on-year or 4% quarter-on-quarter. Basic earnings per share for the quarter was RMB 1.34. Diluted earnings per share was RMB 1.314. On a non-GAAP basis, operating profit was RMB 3.38 billion, an increase of 20% year-on-year or 6% quarter-on-quarter. Operating margin decreased 2 percentage points to 45% from last quarter.
Net profit attributable to shareholders was RMB 2.77 billion, an increase of 21% year-on-year or 3% quarter-on-quarter. Non-GAAP basic earnings per share was RMB 1.517, and non-GAAP diluted earnings per share was RMB 1.487. Looking at the revenue breakdown, IVAS contributed 80% of total revenue in the third quarter. mVAS accounted for 11% and online advertising 8% of total revenue. Total cost was RMB 2.66 billion for the third quarter, an increase of 59% year-on-year or 14% quarter-on-quarter. As a percentage of revenues, total cost increased 1 percentage point to 36%. By revenue segment, IVAS gross margin decreased 1 percentage point to 66% this quarter. MVAS gross margin was stable at 59%, and gross margin for online advertising decreased 1 percentage point to 66% this quarter. Moving on to operating expenses for the third quarter, selling and marketing expenses were RMB 507 million, an increase of 37% quarter-on-quarter.
This mainly reflected an increase of promotional and advertising expenses driven by new game launch and promotions, as well as marketing for our mobile products. Selling and marketing expenses represented 7% of quarterly revenue. G&A expenses were RMB 1.47 billion, an increase of 8% quarter-on-quarter. This primarily reflected increasing R&D expenses and staff costs to support the growth of our businesses, offset by the absence of one-time transaction costs related to Riot Games acquisition last quarter. G&A represented 20% of quarterly revenue. R&D expenses were RMB 737 million, an increase of 10% quarter-on-quarter. It represented 50% of G&A or 10% of total revenue. At that quarter, we had about 16,000 permanent staff. Let's move on to margin ratios for Q3. Gross margin decreased 4.9 percentage points to 64.5%. Operating margin decreased 1.4 percentage points to 39.9%, and net margin decreased 2.2 percentage points to 32.6%.
On a non-GAAP basis, operating margin decreased 2.4 percentage points to 45.1%, and net margin decreased 2.9 percentage points to 37.1%. Now, I will forward a few key financial figures for your reference. CapEx was RMB 1.13 billion for the quarter, an increase of 20% quarter-on-quarter by nature. Operating CapEx was RMB 958 million in comparison to RMB 823 million last quarter. Non-operating CapEx was RMB 176 million in comparison to RMB 120 million last quarter. We repurchased about 5.3 million shares at a total consideration of approximately HKD 908 million during the quarter at an average price of HKD 171 per share. As a quarter add, the total number of shares in issue was 1.836 billion. Our net cash position was RMB 15.5 billion, having invested significantly in CapEx, share buyback, and two strategic acquisitions in the area of online security and entertainment content business during the quarter. This concludes our presentation.
Thank you, John. Operator, shall we take the first question, please?
We will now begin the question and answer session. If you wish to ask a question, please press * one on your telephone and we'll gladly integrate them. If you wish to cancel your request, please press the pound or hash key. The first question comes from the line of Alex Yao from Deutsche Bank. Please ask your question now.
Good morning, everyone, and thank you very much for taking my question. My question is, what do you think is the next big revenue opportunity in China's Internet space, and how would Tencent position itself to capture the opportunity? Thank you.
Yeah, I'll take the question. I think if you look at the internet around the world, right, broadly speaking, there are three ways through which people generate revenue. The first one is user paid, which is something that Chinese Internet companies actually sort of pioneered, but now it's actually spreading over to developed markets like the States and Europe. Secondly, is obviously advertising, which was the other way. It was pioneered by the developed markets and now sort of increasingly robust in China, growing fast in China. The third one is sort of around e-commerce. It's somewhat tied to advertising, but within e-commerce, you can actually sort of get revenue in relation to transactions. I think these three broad drivers of internet revenue sort of are all developing in China.
As the internet becomes a more and more entrenched part of people's life, there will be more ways through which users would enjoy the benefit of the internet and from an internet service provider to obtain certain revenue from the users through one of the three ways that I talked about. Of course, I think from China's perspective and from sort of Tencent's perspective, we already have got a pretty sizable base of revenue from the user paid side. We believe that has a runway to continue to grow. At the same time, I think it's also important for us to develop services that could generate revenue around advertising and around e-commerce transactions. That's why we have been investing strategically into areas such as our portal, our microblog, around the media business. We have been investing in our search business. We have been investing in our video business.
That's sort of all targeted toward generating more revenue from the advertising side. Given our large traffic on the social network as well, we believe that there's also opportunities that we can generate, not only just from open platform and applications, but also from advertising. At the same time, we are also investing into our payment platform as well as our e-commerce platform so that we can actually sort of generate revenue over the longer run from e-commerce.
Thank you very much. A very quick follow-up question is, among these initiatives and activities, how would you prioritize for 2012? Thank you.
I think each one of them actually sort of have got different initiatives, right? They're not necessarily mutually exclusive with each other. I think for the user paid side, we continue to grow our social network. We continue to grow our games. We continue to develop better products for our subscription product. For advertising, I think being able to grow our display business, being able to grow our search business, as well as we are having a nascent but fast-growing video advertising business that do not actually sort of interfere with each other. In fact, I think the media business and the video business have got a lot of synergies between the two. I think for e-commerce, it's a longer-term scenario. I think we, first of all, need to continue to sort of grow our traffic, which has been growing quite rapidly in terms of GMV and the payment volume.
I think we are going to be more patient around the e-commerce opportunity in terms of generating revenue.
Got it. Thank you very much.
Thank you. Next question, please.
Next question comes from the line of Vic Wei from JPMorgan . Please ask your question.
Hi. Thanks for taking my question. My first question is on the open platform. Can you discuss, after the open platform launch, what are the dynamics for the Qzone user and Qzone revenue model? Meaning that, do you see any of the Qzone user actually really stop paying for a monthly subscription package because they are now spending more time on third-party games? Or are you actually seeing users actually paying the bills because they actually find, like, good coverage on Qzone monthly subscription? How should we expect the numbers of the Qzone subscription going forward and how this segment of the revenue is going to be looking like?
Yeah, I think we're still in the very early days in terms of the open platform development. I think it actually sort of takes a long time for similar platforms such as Facebook to build up their open platform. I think we just started an open platform strategy in terms of full execution early this year. The early effort has sort of been interacting with the third-party developers and getting them to be familiarized with our open platform and getting them to sign up for our open platform and getting them into the door of our open platform. That actually requires a lot of technological and operational work. I think we by now have actually signed up a large number of third-party developers.
From this point on, the more important initiative is actually for us to build the kind of infrastructure for us to deliver more and more traffic to the third-party developers and at the same time allowing the users to discover and establish a relationship with these applications in a more convenient way. Also, sort of getting the viral infrastructure built out so that friends can actually recommend applications to other friends in a more convenient way. A lot of these infrastructure building efforts are now underway. We believe that over time, right, in the very beginning, we do actually try to inject quite a bit of liquidity into the open platform so that our third-party developers can actually sort of get revenue immediately and establish their confidence with our open platform initiative.
Over time, I think a lot of these initiatives will become synergistic with each other in the sense that as we get more developers and as we build the infrastructure for generating installations for them, they can actually generate revenue. At the same time, they can also add value to our overall platform activities, which then induce the users to spend more time on our platform and have propensity to spend. I think we're in early days of establishing this virtual cycle of ecosystem. I think we are moving forward in a solid way.
Thanks, Martin. Can I have the second question on e-commerce? Basically, we see that a lot of e-commerce companies are having control over the logistics and, you know, on the digital front as well. I guess, how does Tencent think about investing into the logistics? Or is Tencent mainly going to focus on being like a social commerce platform and generating revenue mainly through advertising and, yes, lead generation, et cetera.
I think at this point in time, our focus continues to be sort of online, the online component, which is the infrastructure that helps us to generate leads for users, for merchants, and at the same time, generate traffic for merchants and also allowing the users to actually find the right deals for them. I think we do recognize that it's actually very important to make sure that the entire user experience is actually well covered, being that you can discover the products. You can sort of find the products at the right price. You can make sure that the quality is good, and you have very good delivery and after-sale service. That's why we have spent a lot of time and energy in making sure that the merchants actually have got the right expertise to deal with it.
At the same time, we have been working with third-party logistics companies and try to make sure that they can deliver the right service. At the same time, we have a good information system that connects ourselves, users with these logistics companies so that the users can actually find out information about their logistics in a very convenient way. I think the approach that we take right now is making sure that the online experience is great and relying on high-quality third parties to provide the offline service.
Great. Thanks, Martin.
Thank you for your questions. Your next question comes from the line of Eddie Leung from Merrill Lynch. Please ask your question now.
Hi. Good evening. Thank you for taking my questions. Could you share with us how the company is thinking about the slowdown in subscribers as well as QQ accounts growth? Should we expect kind of like a temporary slowdown, or should we expect the company changing strategies to perhaps more about the so-called the Apple or the derived demand from the existing user base? Thanks.
I think, in terms of QQ user growth, it's really in line with the overall internet market growth in China. Given the large coverage and very high penetration of QQ among the internet users, it's pretty natural. The key opportunity of the internet does not really come from just the increase in the number of users, but really how much relationship you have with the users, how deep the relationship, and how useful your services are to the users, right? If you look at the U.S. market, the overall internet user base had not really grown for a long time, but the value that's generated by the internet industry continued to grow.
If you look at the kind of initiative that we have been doing, we have been exactly trying to provide services that are useful to the users and at the same time that increase the activeness of the users. That comes in the form of various services that are useful to them, as well as an extension of our platform onto the mobile platform so that there's more time that people can spend on our services. If you look at our total key concurrent user number, it actually grows at roughly double the rate as the number of QQ registered active accounts. On average, people are spending more and more time on our services as well. The initiative for us is really to be able to increase our depth and our breadth of relationship with the users. I think we are executing in a very solid way toward that goal.
In terms of revenue and subscriber growth, again, as the number of user growth slows down, the subscriber number also will follow. The more important for us is actually to be able to deepen our relationship with the users. At the same time, as you look at the users, they spend more time with our services, we can not only just get them to sign up to one subscription, but also we can get them to spend on games, which result in higher output. At the same time, I think we can also allow them to contribute value by clicking on ads as well as conducting transactions. I think those are the goals of us to try to be more relevant to the users and at the same time to be able to be compensated for such value.
That's very clear. Can I also have the output of different types of games? Thank you very much.
Yeah, for MMOG, the quarterly output is from RMB 90,000 - RMB 130,000. For advanced casual games, it's RMB 50,000 - RMB 85,000 per quarter.
Thank you, John.
Yes, thank you. Next question, please.
Next question comes from the line of Wendy W ang from R BS. Please ask your qu estion now.
Thanks for taking my questions. I have two questions. First of all, obviously, you are making a lot of strategic investments at the moment. How will you control the ML risk? Also, do you have any ROI target or particular criteria when it comes to considering any big acquisitions? For example, recently, you acquired a movie and a TV production company. For such kind of acquisition, how can you retain those TV or movie directors to retain the core assets from those acquisitions?
Yeah, Wendy, thanks for your question. I think, you know, we didn't really acquire any company in the entertainment industry. What we did was actually we invested in a number of these companies. I think what's the most important thing for us is to be able to establish a relationship with these entertainment companies and to present our internet platform as a way for them to generate traffic, generate awareness, and also generate and establish a more in-depth relationship with their users. I think that's what we try to do. At the same time, I think we try to help our partners to generate more value for the great content that they're producing. That's why we do not take over entertainment companies.
Exactly as you said, we don't want to burden ourselves with all the issues of how to retain talent and how do we make sure that the production risk is actually well managed. We rely on our partners who are very capable entrepreneurs to do that job. What we try to do is have an equity relationship with them and present our platform to them to help them.
Do you have any return target on any of these investments?
I think a lot of the return cannot really be stated in just monetary terms. I think when we look at an investment, we look at, obviously, what are the strategic value that can be generated for us as well as for them. At the same time, we also look at whether the investment itself is a good investment, right? Whether the company is a high-quality company, whether sort of the financial performance of the company would actually continue to go up in the future years. We do evaluate all these factors. I think it's sort of a complicated evaluation. It's very hard for us to just crystallize into one single number, as in the financial rate of return. We believe sort of we're going to be able to generate a good return both from the strategic side and over time also on the financial side if they are successful.
Okay. My second question is, I noticed that you guys plan to build several big IDC centers in Chongqing, Tianjin, and Shanghai. You also plan to build a big R&D and media center in Wuhan. How should we evaluate this investment impact on the P&L? Thank you.
Yeah, I think these are mostly infrastructural projects, right? All these buildings effectively, you know, one are built upon land which are heavily subsidized by the government, and two is, you know, in terms of the structure, right, you know, it will be subject to a very long-term depreciation once they are built.
Okay, will there be any immediate impact on margins?
No, not at this point in time.
Okay, thank you very much.
Thank you, Wendy. Next question, please.
Next question comes from the line of Jin Yoon from Nomura. Please ask your question now.
Hey, good morning, everyone. Thanks for taking my question. I looked at your cost structure and looked at sales and marketing expense for the quarter. It looks like it dropped about 37% on a quarter-over-quarter basis. For the fourth quarter, how much of that is recurring? What should we expect for on the G&A side on an absolute basis as well? Is much of the R&D hiring behind us for the year, or should we see some acceleration in R&D spending as well in the fourth quarter? Finally, can you just remind us again how we should account for Riot Games and when it should come off the books for demonetization? Thanks.
Yeah, in terms of sales and marketing, I think most of sales and marketing are actually non-recurring on a long-term basis. These are spendings that we put in to promote our products on a discretionary basis. At the same time, if clearly we see a great opportunity ahead of us, if we clearly see spending marketing dollars today will accelerate the growth of our platforms, then we're more than willing to put in the dollars so that in the future, you can generate a much higher return and can also accelerate the growth of our platforms. I think historically, we have been actually quite measured in terms of spending on the sales and marketing. We primarily have relied on leveraging our internal networks for promoting our products.
I think that kind of synergistic approach will continue, and that will provide a solid basis for us to manage our market sales and marketing expenses. At the same time, I think today, as we look into the future, we believe that it's actually a great time to build our platforms and build our presence because the opportunity might not be there in two years' time. That's why I think we will continue to spend a certain amount of money in sales and marketing. Of course, I think as we look into later times such as next year, we will evaluate the market conditions, and we'll evaluate the intensity of competition, for example, in the market. We will adjust our sales and marketing expenses accordingly.
Now, in terms of our R&D, I think there's a very large batch of entrants of staff during the August and September timeframe for new fresh grads. In the fourth quarter, especially toward year-end, the pace of entry slowed down on a comparative basis.
Yeah, in relation to the accounting for Riot Games, actually, because it is one of our subsidiaries, it will be consolidated. However, as we acquire the subsidiaries, as you can see in some of the non-GAAP adjustments, there are a few entries that we need to make. The first one is the gain on disposal that we have made in quarter one. On top of that, we also have amortization for identifiable intangible assets totaling about $100 million that will be spread over a year. On top of that, there will be some costs associated with put options to some of the stakeholders.
Great. Hey, thanks for clearing that up. Thank you very much. Thanks, guys.
Thank you. Operator, next question, please.
Next question comes from the line of Catherine Leung from Goldman Sachs . Please ask your question now.
Hi. Good evening. My first question is a follow-up to some of the prior questions on the investment areas and whether it would be possible to rank your investments by the magnitude going into next year, given that you think you'd be able to leverage some of your existing resources for some areas and others might require pretty significant external costs. Secondly, I think the company has previously discussed international growth opportunities. Should we still think about this as on your list of key investment areas? Thank you.
Yeah, I think we did well, one, too early, and it's a little bit sort of sensitive for us to talk about each one of these investment areas and ranking them in terms of the magnitude. I think quite a bit of it's confidential. I would say, in relation to international expansion, we would do it in a measured way in the sense that we would only expand if we find the right opportunity. In the past, as you can see, our expansion has been around areas that we have expertise in, which is primarily games, and which are in the markets where we can find great partners. As such, we have really invested in Southeast Asia. We have invested in Russia with a great company. We have also invested in the States with Riot Games. I think, going forward, we'll continue to exercise that kind of discipline or code.
It's not just for the sake of international expansion that we're expanding that, but really in the areas of expertise and, you know, one more time.
Absolutely.
As a follow-up to that, as part of your open platform strategy, is it part of that strategy to help some of your third-party developers to explore international revenue opportunities?
I think that may be in the cards over the long run. At this point in time, we are much more focused on saying, "Okay, open platform, we're delivering traffic, delivering users to them in the China market." Over time, there may be some opportunity internationally, but not at this point in time.
Thank you.
Thank you. Operator, next question, please.
Next question comes from the line of Richard T. from Morgan Stanley. Please ask your question.
Hi, Tony, Martin, James, and John. Thanks for taking my call. Let me start with your comment on, in terms of the competition against Sina, especially in the area of microblogging as well as instant messaging service, particularly given that Sina has implemented its instant messaging application into its Weibo platform. Should we expect any cannibalization going forward?
Okay, Richard, let me just clarify. I did not specifically mention a particular company, peer company as a competitor. I think in terms of the microblog market, we actually have been growing our microblog platform very rapidly in the past quarter. By now, we have more than 50 million daily active users, and we have more than 310 million registered users. Actually, it's not by now, it's by the end of September. By now, we have more numbers than that. It has been going very fast, and we have been signing up more and more celebrities. We have established our specific franchise amongst a certain content area. We have been seeing all of our users are now converting onto this platform. There are actually synergies that we can generate across our various platforms, including our Qzone platform, including our Pengyou platform, including our portal platform, and including our video platform.
I think on microblog, it's actually a very encouraging development for us. Clearly, we can see there are areas of integration among different platforms. I think other companies would also approach the platform from a different angle. If you look at microblog, we continue to believe that microblog is a great social media platform, which has primary integration with the media side and adding certain social elements to the media information. As a result, we believe that's the key attraction for the users. Yes, there can be a number of extensions in the area of social activities, in the area of applications, and in the areas of communication. I think by and large, as we observe, most of the users came onto the microblog platform to get access to media and express their opinion on the media information. I think that's the key.
I think there's still a very clear differentiation between what's a social media and what's a social network and what is a communication platform.
Thank you, Martin. Given your investment in Kaixin001, should we expect further integration between your own real name social network service like Pengyou and with Kaixin001? In particular, going forward, should we see more traction for the social media advertising, especially given social media advertising has been a bigger revenue driver for the overseas peers like Facebook?
In terms of Kaixin001, I think the key area of integration or synergy is really sort of around the open platform. We're going to provide an open platform of games to Kaixin001 so that our developers and partners can actually have access to a bigger user base. At the same time, Kaixin001's users can get access to a larger number of applications. I think in terms of integrating two platforms, we don't have the plan right now. Kaixin001 will run as an independent company, and they will continue to put their user interest as the first and foremost target for them. At the same time, we would explore different ways for which we can actually bring benefits to the users of both sides. In terms of social advertising, I think it is an area that we focus on.
We have just got started in putting in an advertising platform for our Qzone platform, and we'll continue to develop that over time.
Thank you. That's helpful.
Thank you, Richard. Next question.
Next question comes from the line of Paul Wuh from Samsung Securities. Please ask your question now.
Hi, it's Paul Wuh from Samsung Securities. Thank you. I'm also curious about your overall operating margins. Obviously, you've been moving into a lot of new areas. Your operating income margins have fallen around the 40% range. Do you think that this will continue into the fourth quarter? When do we start seeing into 2012 we might see margins improving a bit?
We don't manage the business for margins. You know, we care about the user experience. We care about the revenue, and we care about the profit dollars. The margin is a byproduct of those inputs. What I would say is that during the last period, there's been two discrete areas of activity. One is we're investing aggressively against specific initiatives. Some of those initiatives are inherently cost-heavy activities. Others, like the open platform, cost a great deal of money to establish in terms of data center support and so forth. Once the open platform is up and running fully and doing what it's supposed to be doing, that'll actually mean less spending on Tencent's part because we'll be able to rely on our partners for some of the innovation that we would otherwise have to find ourselves. That's the more kind of R&D and CapEx aspect of the margin issue.
In the more recent past, as you mentioned in the introductory remarks, we've launched a large number of new products in the past few months. Some of those new products have been outstandingly successful. The League of Legends game, we think, is the most successful new game to be released in China this year, according to the metrics we've seen. Some of our mobile products, our mobile browser, have been outstandingly successful. When we see products, which we think are phenomenal products, and we want to educate our users about them, then we will invest in marketing to do so. That's what characterizes, to some extent, the costs in the most recent quarter. Again, we don't manage to margins. We manage to user experience, revenue, and profits.
Great. A follow-up question is, since you did talk about the open platform, could you let us know how many applications you have on the platform today and perhaps a key to how much of the Qzone revenues are coming from this platform?
I think that in terms of the number of products, I'm a little wary of giving that number just because I've noticed that different companies have different standards in terms of what they've found as a discrete application. Some companies, if there's 1,000 videos that can be viewed on their open platform, each of those is treated as a discrete app. I'm happy to discuss it offline when we can go through all the minutia, but it's probably not the best use of time on this call for us to compare categorizations of different applications across different companies. In terms of the user spending on Qzone, we've seen continued rapid growth in terms of our user propensity to pay for third-party apps, and that growth continues month by month.
Is there a way to say what percentage of Qzone revenues come from third-party apps?
We don't provide that breakdown at this point in time.
All right. Thank you.
Thank you, Paul. Operator, next question, please.
Next question comes from the line of Wallace Cheung from Credit Suisse. Please ask your question.
Hi, thanks for taking my questions. One is on the headcount increase. It seems a very substantial jump, like hiring around 4,000 staff. Which particular area actually are you really allocating staff into the area? Are we going to see further sort of hiring in some of these areas in the next couple of quarters' time as well? The other question is also on the cost control side. We're going to see some of the potential products or businesses of Tencent likely getting to be a more moderate growth stage. How will management execute some kind of cost-research-advantage strategies as such we can at the same time enjoy the growth but also maintain the profit? Thank you.
In terms of headcount, we have them groomed by 4,000, but instead, it's about 3,000, out of which, you know, about 40% of those headcounts are attributable to fresh graduates. For the rest, you know, the growth is basically across the board in different areas.
Yeah. In terms of the growth of headcount, I think we did have a pretty period of sort of rapid product category expansion. That's why there has been a pretty fast growth in terms of staff count. I think while we are continuously very hungry for top talents, in the next, I think it's fair to say in the next few quarters, the growth in terms of pure headcount would probably slow down a bit. The second question was around cost. Is that right?
Yeah. In terms of cost control metrics, thank you.
Yeah, I think we have been pretty disciplined in terms of cost control, right? That's why, as I said in the past, we have relied primarily on our internal networks for marketing, which we do have a pretty specific advantage. I think a lot of the spending, if you look at the spending right now, is around sales and marketing, which I think I've discussed, the philosophy and sort of how do we manage it, both in the past and right now and in the future in quite a good manner. Now, in terms of the staff cost, right, I think we do believe that, because of the hiring, we actually sort of have a pretty large number of good talents.
We would spend time in making sure that these talents will be fully integrated into our company and sort of can deliver the kind of outputs that we expect them to do. I think that would, to some extent, allow us to manage the staff cost. I think on the IDC side, which is sort of another big area of costs, what we have done is we have actually invested quite heavily in terms of building out a strong cloud service platform, right, so that we can actually use the distributed IDCs and the distributed servers in a more effective way. Over time, I think the effect of these initial investments would actually sort of come into play.
Okay, thank you so much.
Thank you, Mr. Lo. Thank you again. In the interest of time, we will now be taking the last three questions. The next question. On the line, Gary Ng from UBS. Please ask your question now.
Thank you very much for taking my question. I just want to ask you on the social media advertising front. I want to ask you, historically, you haven't really put in much advertising on Qzone. As you have mentioned, you have started putting some advertising there. I just want to ask, historically, what is the reason for not putting advertising? Now, do we have a technology which is available to put those target advertisements? Also, what targets, what advertisers are you mainly targeting? Are they big brand advertisers, or is it long-tail advertisers? What's your timing, that you think this advertising platform can fully ramp up?
I think, historically, we have been quite light in terms of advertising because there's always a priority in terms of development, right? When we are building out the platform, when we are really trying to do the application, then we are at the initial phase of building out the open platform. A lot of development resources are actually put into those areas rather than building an advertising platform for monetization. Now, as we actually build out some of the platforms on our advertising side, on our portal side, we can actually use some of those expertise to build out a targeted advertising platform on Qzone. That's why gradually we are starting to experiment with targeted advertising on Qzone.
In terms of who are going to be the advertisers, we actually will monitor and select the advertisers quite stringently because we want to make sure that the user experience of Qzone is actually well maintained. That's why we would open it up to some of our larger customers first. Over time, we bring in more advertisers, maybe e-commerce-related advertisers, and also some lifestyle type of advertisers to our Qzone platform.
I just want to ask you on the timing of the advertising platform ramp up. What do you think about that? Another question also related to Qzone is that you mentioned we are now recognizing net revenues from third party. Is that the first quarter that we implement this kind of accounting treatment, or has that been always the case?
Would you be able to share what would have been the revenues if we are recognizing on a broad basis? Thanks.
I think the ramp up is really a continuous effort, right? We have the platform. We have some of the advertisers who will continue to be on the platform. We'll improve the algorithm. We'll bring in more advertisers. I think that it's a continuous process for development and the refinement of the overall advertising platform.
Yeah, in terms of the Qzone revenue recognition from third party, we started using the net revenue ages from the beginning because we do believe that it is a more reasonable method to account for those revenues due to the fact that this is where they are utilizing our platform, rather than we are operating those gain downsides. I would like to reiterate that we started that basically when we started to ramp up those third party connections in the beginning of the year.
Thank you very much.
Next question.
Thank you.
Questions from the line of Jenny Wu from Citi . Please ask your question.
Thank you for taking my question. My question is about your investment. Would you please update us how much you have spent on investment year to date and approximately on how many projects? Relatedly, how much money you still have for your Tencent Collaboration Fund? Thank you.
I think, you know, we don't give specific numbers on how many projects, how many deals, and how much money we have spent. I have to say, you know, we have spent quite a bit of money on these, a fairly large number of projects. You know, we currently still have money in the collaboration fund, but at the same time, we're ready to extend it if we need to.
Okay. Sure. I noticed there are about RMB 2.3 million in your long-term payables on your balance sheet. Is that related to your investment?
Yeah, talking about long-term payables, right?
Right.
This is basically the minimum guarantee that we give out to our licensor. Basically, it's just an entry that is the asset side and credit the liability side.
Okay. Sure. Finally, at this stage, would you please update us if there are any changes on your investment strategy going forward since you have already spent so much? Thank you.
I think, broadly speaking, the overall investment principle has not really changed, which is, we look for companies that have great management, that have either great technology or have a unique franchise. They have a business that actually can be synergistic to our overall business, and the investment could generate both strategic value and potentially financial return over time. In terms of particular in-industry segments that we look at, in terms of particular companies that we look at, and in terms of the theme, that would change as the industry environment changes, as the industry dynamics change. I think the overall principles are rather fairly consistent. We focus on different trends, or we adjust our actual M&A target list dynamically according to what we see in the market.
Okay, thank you.
Thank you. Your last question now comes from the line of Cynthia Meng from Jefferies . Please ask your question.
Thank you for answering my, for giving me the chance for the question. It's on the video strategy. Can management give some more details on how you want to compete in the video space? In terms of content acquisition strategy, we hear from other companies that this content acquisition cost is still uncontrollable. We want to hear what Tencent is planning to do. Thank you.
Yeah, you thanked us for answering your question, which may have been premature, since I'm not sure how much we are going to answer your question. I'll give it a stab anyway. I think that, in terms of our video business, there's probably three points that I'd like to make. One is that we've operated our own QQ Live service for many years, amassed substantial traffic on it, as you might expect, and not monetized it. We're actually extremely grateful to some of our peers in the online video industry for showing us just how monetizable video traffic can be. We started putting those learnings to good use. I mentioned earlier that our online video revenue have approximately doubled, quarter on quarter, so it contributed materially to the fact that our overall online advertising revenue growth is so strong in absolute terms and relative to peers.
Naturally, as the revenue grows, that kind of emboldens us a little bit in terms of thinking around content. The second point I'd want to make is that when we secure attractive content, our history shows when we look at the data that we can actually bring on busy viewers very quickly. There's platforms that are very capable of bringing on viewers, and there's platforms that are even more capable of bringing on viewers with the same content. Because of our traffic advantages, we believe that we're in the latter category where we can actually convert popular content into a very large number of video views very effectively, and thus into a large amount of advertising revenue.
The next point I'd make is that when we acquire exclusive content, that then gives us the ability to barter with some of our colleagues in the industry for their content, and it broadens our library out quite nicely. The final point I want to make is that we're a company that is active in the online video business. We're also active in a whole range of other activities that seek synergy benefits from online videos. You can probably think about some of those yourself, but clearly, a social, microblog, there's a whole range of areas where association with really high-quality content, association with the celebrities around that high-quality content, is attractive for us as a platform above and beyond the immediate benefit to our specific online video service. Once again, I'm not sure that answers your question, but we've tried our best.
Thank you. Thank you for a very comprehensive answer. The other aspect I would like to know a little bit more is the social networking side. Martin mentioned some time ago that management will revisit the trial result of Pengyou and see if it makes sense to do more real name and social network on Qzone. Now, Tencent made the investment in Kaixin001. Just wonder, whether in addition to opening up the games platform on Kaixin001, is there ever a coherent strategy to integrate the three platforms down the road? Thank you.
Cynthia, I think, you know, as we said earlier, right, they will actually sort of be operated independently. You know, we are going to cooperate with them, firstly on open platform. Over time, we may explore more synergistic integrations. I don't think it's going to be sort of a collapse of the entire social networks, sort of two into one type of integration. Let's put them aside for now. In terms of our overall social infrastructure, I think, as we explained before, the entire infrastructure actually includes communication, which has got QQ, which has got email, which now sort of has got Weixin. On the social networking side, it has Qzone and Pengyou . On the social media side, there's m icroblog. I would say our social infrastructure is stronger than ever today because of the strong embracement of mobile internet by both our Wireless QQ and both by Weixin.
Particularly, I think Weixin helped us to address users which we have not been able to reach with just our QQ Service. Our social networking service, including Qzone and Pengyou , has been sort of growing synergistically. I think Qzone continues to be the most popular social network in terms of people sharing very intimate content, user-generated content such as photos, as well as people who engage in social applications, social games with their friends. At the same time, if you look at Pengyou 's growth rates in terms of active user base and in terms of user engagement, you can see it has continued to grow in a very, very rapid way. Lastly, on our Tencent Microblog, the growth in terms of registered users, in terms of monthly active users, in terms of daily active users, and in terms of engagement has also been very, very encouraging.
Great. Thank you.
Thank you.
Thank you very much for all your questions. Thank you, operator. We're going to run this conference call now. If you wish to check out press release and other financial information, please visit our IR website under www.tencent.com/ir. We'll also post a replay of this webcast on the site shortly. Thank you and see you next quarter.
That has gone through our conference call today. Thank you for participating. Tencent Holdings Limited, 2011. Headquartered in (Shenzhen). This conference call is a holding connect app.