1. April 5, 2011
Industry Report
Think Entertainment: Gaming Reason for Report:
China Gaming: Server Checks Suggest Continued Industry Update
Atul Bagga
Industry Momentum
415-249-6362, abagga@thinkequity.com
THINK SUMMARY:
We believe that server checks could directionally give a good sense to
investors about the games performance in any given period; in our analysis we
found 70% correlation to server count and APA for the four publically listed
gaming companies. Our server checks suggest that Q1 was likely a strong
quarter for most of the games companies in China. Given continued
momentum in the gaming industry, coupled with some of the strong games
launches scheduled for 2011, leads us to believe that the overall Chinese
gaming industry could see a rebound in 2011, which we believe could allay
some investors' concern around an industry slowdown and help drive multiple
expansion for Chinese gaming shares.
KEY POINTS:
• While we acknowledge that server data alone cannot accurately predict the
game performance; our analysis finds approximately 70% correlation of
server count with the usage (APA), and we believe that server data could be
a good directional indicator of the health of games.
• Our server checks suggest that a few of Perfect World's games have made a
healthy comeback in 1Q11 after declining usage in 2H10. Similarly, Shanda's
Legend of Mir 2 and World of Legend seem to have stabilized in 1Q11 after
steep decline in 1H10. ChangYou's TLBB and Giant's ZT series games seem
to have seen stable server growth in 1Q11.
• Valuation multiple on Chinese game shares seem to bake in a lot of
negativity around a potential slowdown in the space and potential
government regulations changes. We like investment in CYOU shares ahead
of the DMD release and in NTES shares driven by, in our view, a strong
pipeline of games.
Please see analyst certification (Reg. AC) and other important disclosures on pages 11-12 of this report.
2. April 5, 2011
Industry Report
While we acknowledge that server count alone may not accurately predict the game usage in a given period, we believe
that server data gives a good sense directionally about the game usage during a given period. Based on our server count
data and the companies’ reported data around APA, we found 70% correlation between the two.
Exhibit 1: Correlation Between APA And Server Count
Q/Q Growth 3Q10 Q/Q Growth 3Q10
GAME PWRD GA CYOU GAME PWRD GA CYOU
APA Growth -5% -11% 4% -6% 2% 10% 13% 3%
Server Count Growth 2% -7% 6% 5% 3% 11% 6% 14%
R2: 47%;
Correlation: 69%
Source: Company reports, ThinkEquity LLC Proprietary Server Checks
We conduct server counts in China every couple of weeks. During 1Q11, the game usages seemed to have improved
across all games. Our checks suggest that a few of Perfect World’s games had what we viewed as a nice rebound in 1Q
after declining usage in 2H10. Likewise, Shanda’s Legend of Mir series and World of Legend usage seem to be stabilizing
as well after a steep decline in 2010. ChangYou’s TLBB and Giant’s ZT Series games seem to have remained stable in
1Q11.
Page 2
5. April 5, 2011
Industry Report
Exhibit 3: Server Count Of Key Games – ChangYou
600
500
400
TLBB
300 Blade Online
ZHYX
200
100
0
Nov-10
Jun-10
Jul-10
Jan-11
Mar-10
Apr-10
May-10
Aug-10
Sep-10
Oct-10
Dec-10
Feb-11
Mar-11
Source: ThinkEquity LLC Proprietary Checks
Exhibit 4: Server Count Of Key Games – Giant Interactive
80
70
60
ZT Online
50 ZT Classic
40 ZT Green
30 ZT2
ZT Green Tencent
20
10
0
Nov-10
Jun-10
Jul-10
Jan-11
Mar-10
Apr-10
May-10
Aug-10
Sep-10
Oct-10
Dec-10
Feb-11
Mar-11
Source: ThinkEquity LLC Proprietary Checks
Page 5
6. April 5, 2011
Industry Report
Exhibit 5: Server Count Of Key Games – NetEase
500
450
400 FWJ
350 WWJ3
300 WWJ2
250 TX2
200 WoW
150 Fly for Fun
100 WWJ Genesis
50
0
Nov-10
Jun-10
Jul-10
Jan-11
Mar-10
Apr-10
May-10
Aug-10
Sep-10
Oct-10
Dec-10
Feb-11
Mar-11
Source: ThinkEquity LLC Proprietary Checks
Exhibit 6: Server Count Of Key Games – Perfect World
140
LOMA
120
Zhu Xian
100 PW2
80 Chi Bi
Foresaken World
60 Fantasy Zhu Xian
40 World of Immortals
Dragon Excalibur
20
Battle of Immortals
0
Nov-10
Jun-10
Jul-10
Jan-11
Mar-10
Apr-10
May-10
Aug-10
Sep-10
Oct-10
Dec-10
Feb-11
Mar-11
Source: ThinkEquity LLC Proprietary Checks
Page 6
7. April 5, 2011
Industry Report
Exhibit 7: Server Count Of Key Games – Shanda Games
300
250
200 Legend of Mir 2
AION
150
Maple Story
100 Dragon Nest
50
0
Nov-10
Jun-10
Jul-10
Jan-11
Mar-10
Apr-10
May-10
Aug-10
Sep-10
Oct-10
Dec-10
Feb-11
Mar-11
Source: ThinkEquity LLC Proprietary Checks
VALUATION
Given what we view as strong server data, we believe that the gaming industry has maintained momentum in 1Q11.
Additionally, we expect industry growth to pick up with the launch of a few highly anticipated games, including DMD, World
of Warcraft Cataclysm, Swordsman Online, among others. On the other hand, Chinese gaming shares trade at a
significant discount to the U.S. gaming and Chinese internet media multiples—Chinese gaming shares trade at an
average 11x PE on 2011E EPS with 37% expected revenue growth in 2011 (7.7x for the shares that trade on U.S.
exchanges, per FactSet data); versus U.S. gaming companies’ shares trading at 12x with a flat revenue growth projection
in 2011; versus Chinese Internet companies’ shares trading at a 35x PE with a 40% revenue growth projection in 2011,
which we believe reflects the negative sentiment toward the gaming shares (see Exhibit 8). We believe that an industry
growth rebound in 2011 could allay some of the investors’ concerns around the growth potential and drive multiple
expansions for the Chinese gaming shares.
Page 7
9. April 5, 2011
Industry Report
VALUATION
Valuation for CYOU Shares
We maintain our Buy rating on CYOU shares, with a $40 price target, based on a 9.1x PE (net of cash) on our 2011E EPS
versus 7.7x average for shares of the peer group. We believe that a premium multiple is appropriate given our view of the
company's strong positioning (strong development capability and strong platform from its association with SOHU).
Valuation for NTES Shares
We maintain our Buy rating on NTES shares with a $55 price target, based on a 14x PE (net of cash) on our 2011 EPS
estimate (versus 7.7x average for the shares of the Chinese gaming peer group, 19x for the diversified Chinese gaming
and Internet group shares, and 35x for the broader Chinese internet and media group shares), which we believe is
appropriate, given what we view as the company's strong pipeline and strong publishing platform.
Valuation for GAME Shares
We are incrementally positive on stabilizing Mir 2 performance and a healthy pipeline, and we reiterate our Buy rating on
GAME shares with a price target of $8, which is based on an approximate 8x PE (net of cash) on our 2011 EPS estimate.
We believe that an 8x multiple (roughly in line with an average multiple of 7.7x for shares of the peer group multiple) is
appropriate given slightly higher risks with existing franchises.
Valuation for GA Shares
We are positive on an investment in GA shares given our view of a stabilizing ZT franchise and maintain our Hold rating
with a price target to $8, which is predicated at a 13x PE on our 2011E EPS of $0.62 (6x PE net of cash) versus 14x for
the peer group (7.7x net of cash). We believe that a small discount to the peer group shares is appropriate given the
company’s dependence on a major franchise.
Valuation for PWRD Shares
We are optimistic about the company's international strategy and the longer-term prospect, given what we believe is a
strong pipeline for 2011/2012—Swordsman Online, Sword Heaven Dragon Saber, Empire of Immortals, Torchlight,
Meteor Online, and a couple unnamed games. We reiterate are Hold rating on PWRD shares with a price target of $24
predicated on a P/E multiple of approximately 8x our 2011E EPS (net of cash), roughly in line with an average 7.7x PE
multiple for shares of companies in the Chinese gaming group, which we believe is appropriate given higher risks related
to disruption in the company's existing franchises.
Valuation for NCTY Shares
Trading below cash (cash in hand at $9.15 per share), NCTY shares may look inexpensive. However, given our view of
the company's relatively weaker positioning in China (no track record of a successful game over the last 12 months and a
relatively weaker pipeline) and potential for more distraction stemming from its global strategy and given our expectation
of cash burn, we base our price target of $4.50 per share on about 50% of the cash in hand.
Page 9
10. April 5, 2011
Industry Report
RISKS TO PRICE TARGETS
• Gaming continues to be a hit-or-miss-driven business, and predicting successful titles versus
unsuccessful titles is extremely difficult. The risk is especially high for the new and unproven IPs, and a
company's reliance on the new IPs and the titles in the established franchises to reach the revenue target opens it
to risk of a revenue miss.
• Macro headwinds and popularity of the used games and free-to-play online games. Given the current macro
headwinds, used games and free-to-play online games create higher substitute competition for video games.
• The industry is dependent on the console cycle; unexpected start of the new console cycle will likely
constrain the revenue growth and affect profitability of gaming vendors.
• Foreign currency exchange risk. These companies generate revenue from international operations, which
exposes the companies to foreign currency exchange risk
Page 10
11. April 5, 2011
Industry Report
COMPANIES MENTIONED IN THIS REPORT:
Company Exchange Symbol Price Rating
Activision Blizzard, Inc. NASDAQ ATVI $11.01 Buy
Amazon.com, Inc. NASDAQ AMZN $182.94 Buy
Apple Inc. NASDAQ AAPL $341.19 Buy
Baidu, Inc. NASDAQ BIDU $143.11 Buy
Changyou.com Limited NASDAQ CYOU $33.42 Buy
Ctrip.com International, Ltd. NASDAQ CTRP $42.84 Buy
Electronic Arts Inc. NASDAQ ERTS $19.69 Buy
Expedia, Inc. NASDAQ EXPE $22.43 Hold
Giant Interactive Group, Inc. NYSE GA $7.38 Hold
Google, Inc. NASDAQ GOOG $587.68 Buy
NetEase.com, Inc. NASDAQ NTES $51.71 Buy
Netflix, Inc. NASDAQ NFLX $244.72 Buy
OpenTable, Inc. NASDAQ OPEN $108.87 Hold
Orbitz Worldwide, Inc. NYSE OWW $3.55 Hold
Perfect World Co., Ltd. NASDAQ PWRD $22.36 Hold
priceline.com Incorporated NASDAQ PCLN $518.59 Buy
Shanda Games NASDAQ GAME $6.32 Buy
Shanda Interactive Entertainment Limited NASDAQ SNDA $43.83 Hold
Shutterfly, Inc. NASDAQ SFLY $50.09 Hold
SINA Corporation NASDAQ SINA $116.56 Hold
Take-Two Interactive Software NASDAQ TTWO $15.10 Buy
The9 Limited NASDAQ NCTY $6.62 Sell
THQ, Inc. NASDAQ THQI $4.48 Hold
Travelzoo Inc. NASDAQ TZOO $76.29 Buy
VistaPrint Ltd. NASDAQ VPRT $52.90 Buy
Yahoo! NASDAQ YHOO $16.87 Buy
Zoo Entertainment, Inc. NASDAQ ZOOG $4.44 Buy
Important Research Disclosures
Analyst Certification
I, Atul Bagga, hereby certify that all of the views expressed in this research report accurately reflect my personal views about the subject
securities and issuers. I also certify that no part of my compensation was, is, or will be directly or indirectly related to the specific
recommendations or views expressed in this research report.
The analyst(s) responsible for preparing this report has/have received compensation based on various factors, including the firm's total
revenues, a portion of which is generated by investment banking activities.
ThinkEquity LLC and/or an affiliate managed or co-managed a public offering of securities for Zoo Entertainment, Inc. in the past 12
months.
ThinkEquity LLC makes a market in Activision Blizzard, Inc., Changyou.com Limited, Electronic Arts Inc., Giant Interactive Group, Inc.,
Shanda Games, The9 Limited, NetEase.com, Inc., Perfect World Co., Ltd., Shanda Interactive Entertainment Limited, THQ, Inc.,
Take-Two Interactive Software, Zoo Entertainment, Inc., Google, Inc., Apple Inc., Baidu, Inc., Ctrip.com International, Ltd., SINA
Corporation, Amazon.com, Inc., Expedia, Inc., OpenTable, Inc., Netflix, Inc., Orbitz Worldwide, Inc., priceline.com Incorporated, Shutterfly,
Inc., Travelzoo Inc., VistaPrint Ltd., and Yahoo! securities; and/or associated persons may sell to or buy from customers on a principal
basis.
ThinkEquity LLC has made affirmative disclosures concerning each of the covered securities mentioned in this report, including analyst
holdings (if any), rating definitions and overall ratings distributions. These disclosures can be found in the most recent complete research
report for each of the respective companies. Reports are available upon request.
Rating Definitions
Page 11
12. April 5, 2011
Industry Report
Effective October 7, 2009, ThinkEquity LLC moved from a four-tier Buy/Accumulate/Source of Funds/Sell rating system to a three-tier
Buy/Hold/Sell system. The new ratings appear in our Distribution of Ratings, Firmwide chart. To request historical information, including
previously published reports or statistical information, please call: 866-288-8206, or write to: Director of Research, ThinkEquity LLC, 600
Montgomery Street, San Francisco, California, 94111.
Buy: ThinkEquity expects the stock to generate positive risk-adjusted returns of more than 10% over the next 12 months. ThinkEquity
recommends initiating or increasing exposure to the stock.
Hold: ThinkEquity expects the stock to generate risk-adjusted returns of +/-10% over the next 12 months. ThinkEquity believes the stock
is fairly valued.
Sell: ThinkEquity expects the stock to generate negative risk-adjusted returns of more than 10% during the next 12 months. ThinkEquity
recommends decreasing exposure to the stock.
Distribution of Ratings, Firmwide
ThinkEquity LLC
IB Serv./Past 12 Mos.
Rating Count Percent Count Percent
BUY [B] 149 66.80 24 16.11
HOLD [H] 72 32.30 0 0.00
SELL [S] 2 0.90 0 0.00
This report does not purport to be a complete statement of all material facts related to any company, industry, or security mentioned. The
information provided, while not guaranteed as to accuracy or completeness, has been obtained from sources believed to be reliable. The
opinions expressed reflect our judgment at this time and are subject to change without notice and may or may not be updated. Past
performance should not be taken as an indication or guarantee of future performance, and no representation or warranty, express or
implied, is made regarding future performance. This notice shall not constitute an offer to sell or the solicitation of an offer to buy, nor shall
there be any sale of these securities in any state in which said offer, solicitation, or sale would be unlawful prior to registration or
qualification under the securities laws of any such state. This research report was originally prepared and distributed to institutional clients
of ThinkEquity LLC. Recipients who are not market professionals or institutional clients of ThinkEquity LLC should seek the advice of their
personal financial advisors before making any investment decisions based on this report. Additional information on the securities
referenced is available upon request. In the event that this is a compendium report (covers more than six ThinkEquity LLC-covered
subject companies), ThinkEquity LLC may choose to provide specific disclosures for the subject companies by reference. To request
more information regarding these disclosures, please call: 866-288-8206, or write to: Director of Research, ThinkEquity LLC, 600
Montgomery Street, San Francisco, California, 94111. Stocks mentioned in this report are not covered by ThinkEquity LLC unless
otherwise mentioned. Member of FINRA and SIPC. Copyright 2011 ThinkEquity LLC, A Panmure Gordon Company
Page 12