Top Two Picks for Online Gaming in China

NetEase.com (NTES) and Perfect World (PWRD) are two online gaming companies that remain undervalued even in China’s hot economy. Online gaming has been a growing industry in China, but recent regulations may put a damper on growth, while several high-profile new releases could create a lot of competition between the industry’s major players.


Easy Profits for NetEase?

Despite posting a 54.7% increase in its net income during the first quarter, NetEase.com’s stock trades at just over 20x earnings. Meanwhile, the company remains well-capitalized with more than CNY6 billion in cash and short-term investments and no long-term debt, with several promising prospects in terms of game development down the road.

NetEase.com plans to start open beta testing of its in-house 3D MMORPG (massively multiplayer role playing game) Tian Xia Er (TX2) on September 20th, according to the game’s official site. Meanwhile, the company also submitted a revised version of its licensed 3D MMORPG World of Warcraft, which is extremely popular in the United States.

A Perfect Opportunity

Perfect World trades at slightly lower discount of around 20x earnings with net income growth of 36% in the first quarter. Meanwhile, the company also remains well-capitalized with over CNY1 billion in cash and short-term investments and no long-term debt, with several new projects under development that could prove to be successes down the road.

Perfect World expects to start closed beta testing of its 2D turn-based cartoon MMORPG (massively multiplayer role playing game) Fantasy Zhu Xian after about a month from the start of its alpha testing on August 6th. The company also plans to release one or two 2D real-time strategy games in late 2009 or early 2010, according to President Zhu Qi.

Troubles in the Sector

China’s Ministry of Culture has begun to crackdown on online games with themes that promote gang cultures, saying that they “undermine morality and Chinese traditional culture.” As a result, several leading web sites have already been removed or blocked, including two popular ones known as “Godfather” and “Gangster,” according to the agency.

Then earlier this week, Citigroup downgraded the Chinese online gaming sector to Neutral from Positive as it believes most of the good news on the sector has already been priced into shares and that new regulatory issues will be overhangs on the stocks. However, the firm’s top picks in the space also remain NetEase.com and Perfect World, given their cheap valuations.

Conclusions

Online gaming companies operating in China may see an increased risk of government regulation in the form of a crackdown on violence. However, the lure of an estimated 200 million players of online games could mean big profits for companies that play by the rules. Perfect World and NetEase.com remain two of the cheapest online gaming companies operating in China with great prospects going forward.

Source: http://sumfolio.com/