Warcraft on the Cheap

Chinese online game purveyor The9 Limited (Nasdaq: NCTY  ) hit the big time with the June 6, 2005, launch of World of Warcraft. The massively multiplayer online role-playing game (MMORPG) is an unqualified hit, and it accounted for a full 99.6% of The9's net revenue in its most recent fiscal quarter.

On Wednesday night, the company reported that fourth-quarter 2005 revenue increased 15% sequentially and net income soared 81%. Those results exceeded analyst estimates. Yet all of this success has barely benefited shareholders. In May 2005, longtime Fool contributor Rick Munarriz wrote about the buzz surrounding the free beta release of WoW in China by The9 and Korean game licensor Webzen (Nasdaq: WZEN  ) . The market capitalization for The9 at that time was $480 million. It is up to only $510 million today. Is this cause for concern? Probably not, but more on The9's value in a moment.

WoW's Chinese launch was highly anticipated. Coca-Cola's (NYSE: KO  ) Chinese subsidiary partnered with game developer Vivendi Universal's (NYSE: V  ) Blizzard Entertainment to create a special TV commercial and a WoW website. The game was already a hit in North America, Europe, and Korea -- and it became an instant success in China.

The company believes the life span for WoW is four to five years, assuming there are the expected continuous upgrades from Blizzard Entertainment. That's about double the life span for a less successful game. So, for the intermediate term, The9 looks to have a cash cow in its portfolio.

What's more, by the end of 2006, the company plans to be testing the recently licensed MMORPG Soul of the Ultimate Nation. This game is said to be the first MMORPG with console-style game mechanics -- fancy words for more player control over the game and "fluid movement and extravagant effects." The game, now being beta tested in Korea, is set for a March 30 release, so there will be plenty of time to see how the game plays in other parts of the world before it opens in China.

Analysts expect The9 to earn $1.35 a share in 2006 -- the first year with 12 full months of WoW income. That prices the stock at 15.6 times 2006 projected earnings -- a very reasonable price, even given China's regulatory environment, and considering that this is a company that analysts expect will grow earnings by 80% per year for the next five years. (That number is a bit misleading, however, since The9 is growing from the microscopic revenue and earnings base it had before WoW.) For comparison, Motley Fool Rule Breakers recommendations Shanda International (Nasdaq: SNDA  ) and NetEase (Nasdaq: NTES  ) trade for 15.1 and 19.6 times forward earnings, respectively, but carry much lower growth expectations.

That robust outlook makes you wonder why The9 is trading 28.7% below its 52-week high. If you were to ask me, I'd say that even though WoW is great, it has plenty of gaming competition in China, and Soul of the Ultimate Nation has yet to rise on a critical, but future, revenue stream. That uncertainty, for now, keeps the stock in comparative value territory.

Fool contributor W.D. Crotty does not own any shares in the companies mentioned. Clickhereto see The Motley Fool's disclosure policy.


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