Thursday, December 17, 2009

China Hot Stock: Shanda Interactive Entertainment Ltd. (NASDAQ: SNDA)

. Thursday, December 17, 2009

By Stock Wizard

Shanda Interactive Entertainment Limited is a leading interactive entertainment media company in China. It offers a portfolio of diversified entertainment content including some of the most popular massively multi-player online role-playing games (MMORPGs) and advanced casual online games in China, as well as online chess and board games, e-sports game platform and a variety of cartoons, literary works and music. Shanda's interactive entertainment platform attracts a large and loyal user base, of which more and more is coming from home.

Shanda Interactive was ranked seventh in the 2009 list of 100 fastest-growing companies and second in the list of fastest-growing entertainment companies by Fortune Magazine. At the 2009 game summit, which was held in the Great Hall of People in Beijing on December 1, 2009, Shanda Online was awarded as the best online game service provider in 2009. Shanda's top two games, Legend of Mir II and The World of Legend, are immensely popular in China. However, heavy regulations from the Chinese government is a bit of concern for internet companies like Shanda.

Online gaming in China represents one of the largest and fastest growing internet business sectors in the country. With over 18% of total global Internet users, China had the largest online audience with 215.5 million internet users as of August 2009, according to a ComScore report. With over 50 million players, China's online game industry is forecast to grow by as much as 50 per cent this year, generating potential revenues of $4 billion.A technology report by Analysys International on China reported that the country only has an Internet penetration rate of around 27 percent. By 2012, China's online game sector will have 230 million online gamers compared with 69 million currently, and rake in revenues of 73.1 billion yuan, according to Beijing-based research firm Analysys International.

Compared to their American counterparts, Chinese gaming companies are less vulnerable to economic recession, primarily due to their unique monetisation model. Most Chinese game operators have adopted the microtransaction business model, whereby players get the game free but pay small fees for in-game virtual items.

Early in December, the Shanghai, China-based company reported that third quarter results that beat expectations. Net income jumped 29% to RMB 435.3 million or US$63.7 million, from RMB 337.1 million in the third quarter of 2008. Earnings per ADS was RMB 6.18 or US$0.90, compared with RMB 4.62 in the year-ago quarter. Total net revenues for the third quarter increased by 48% to RMB 1.38 billion or US $202.5 million from RMB 936.5 million in the year-earlier quarter. Analysts, on average, expected the company to report earnings of US$0.88 per ADS on revenue of US$197.69 million for the quarter. Total gross profit was $144.0 million in the third quarter, up 9% quarter over quarter and 44% year over year. Gross margin was 71.1 % in the third quarter, compared with 72.7% in the second quarter of 2009 and 73% in the same period a year ago.

On segment basis, Shanda Games contributed revenues of RMB 1.27 billion or US$186.3 million, up 45% from RMB 878.3 million in the prior-year quarter. Revenues from Shanda online rose to RMB 283.3 million or US$41.5 million from RMB 204.5 million in the prior-year quarter.

Gaming unit Shanda Games, on September 25, 2009 was spun-off from Shanda Interactive with an initial public offering or of 83.5 million American Depositary Shares. Following the offering, Shanda Interactive holds 71% of the outstanding equity and 96% of voting rights. The latest move will enable it to focus on growing the parent company into a full-fledged media entertainment firm.
Shanda Interactive still retains 71% of Shanda Games' stock.

Shanda has been stepping up its diversification efforts in the last few years as it seeks to expand its reach beyond the online gaming market. The company has been quite active on the acquisition front. It recently acquired video website Ku6.com, a Chinese version of Youtube, in order to expand its market share in the interactive entertainment segment. Early this year, Shanda acquired controlling stakes in music distribution company Hurray Holding Company (NASDAQ: HRAY). During a recent conference call with analysts, the company's management told investors that it is interested in acquiring more game content developers and other digital entertainment content players.

Furthermore, the Chinese media and entertainment company entered the film and television business by setting up a 600-million-yuan ($87.8 million) joint venture with Hunan Broadcasting and Television Group in early November. Hunan TV is China's top provincial broadcaster; known for producing the successful reality TV singing contest Super Girl. Shanda Interactive has roped in famous television director Long Danni of the Super Girl TV program to head the new joint venture. "We are going to try different businesses, including online and offline, publishing, games, television and movies," Chen Tianqiao, founder and CEO of Shanda said in a statement. By shifting to more diversified entertainment platforms, the company aims to better integrate its content resources, offer customers more choice and expand revenue streams, said Cao.

Meanwhile, Shanda Literature too has continued to grow at an impressive pace. At the end of the third quarter of 2009, Shanda Literature's three literary portals had a combined average daily page views of over 400 million and a combined average of 56 million updated Chinese per day. The number of accumulated registered subscribers has more than 35 million. It has established a long-term strategic partnerships with several publishers to explore offline publishing. By the end of the third quarter, Shanda Literature had offered 132 titles for offline publication.The company runs three popular literary web sites of user generated fiction: Qidian (www.qidian.com) is targeted at young men and features kung-fu stories, science fiction, military and general history, while Jinjiang (www.jjwxc.net) and Hongxiu (www.hongxiu.com) publish romance and is read primarily by young female readers.

Turning to its balance sheet, the chinese company is sitting on a $1.4 billion cash pile, which gives SNDA a high leverage when negotiating for possible takeovers of smaller online game developers, further enhancing its game pipeline and portfolio. Shares of the company currently trade at 14 and a PEG ratio of 0.82. Shanda shares took a hit last month as investors reacted to a lacklusture IPO of its subsidiary, Shanda Games. However, the stock recovered after the company reported exceptionally strong earnings. Given the huge growth potential in China's gaming sector and company's strong brand, the stock appears to be reasonably priced at current levels.

Disclosure: Author does not own any of the stocks discussed here.





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