After a hard day of work, there's nothing quite as relaxing as booting up your computer and losing yourself in an hour or two of online adventuring, courtesy of such massively multiplayer online role-playing games (MMORPGs) as EverQuest II, World of Warcraft, or Dark Age of Camelot. At least, that certainly seems to be the case in China, home of the world's second-largest Internet population. According to the China Internet Network Information Center, nearly 32% of the nation's 132 million Internet users played games online in 2006, while iResearch estimates that China's online gaming market will reach close to $1 billion in 2007. That's some serious money, and there's nothing virtual about it.
Now, there are a number of ways to play this developing industry, including Motley Fool Rule Breakers picks Shanda Interactive (NASDAQ:SNDA) and NetEase.com (NASDAQ:NTES). But my personal favorite is The9 (NASDAQ:NCTY), which owns the rights to operate Blizzard Entertainment's wildly popular World of Warcraft game in China.
In Foolish terms, I like The9 because it's the purest play in the sector; it derived more than 98% of its revenue in the most recent quarter from gaming services, compared with an average 85% for Shanda and NetEase. While there are those who say that The9's dependence on gaming in general (and World of Warcraft in particular) makes the company a riskier play than Shanda and NetEase, with their more diversified business models, I believe that's like arguing about what is wetter: the ocean or a lake? Simply put, investing in Chinese equities is a risky proposition. Investing in Chinese Internet companies is an even riskier bet, and I figure that if you believe in the future prospects of the Internet companies in China, you go with the purest plays in each sector: Motley Fool Rule Breaker Baidu (NASDAQ:BIDU) in search, Ctrip.com (NASDAQ:CTRP) (a Motley Fool Hidden Gems selection) in online travel, and The9 in gaming.
Let's take a look, shall we?
At the present time, The9 derives virtually all its revenue from operating World of Warcraft, a game that was launched in China on June 7, 2005, and now has roughly 5.9 million users paying for the privilege of becoming a spell-hurling wizard, a buff fighter, or a sneaky rogue. For the third quarter ended Sept. 30, the adventuring activities of these die-hard gamers enabled The9 to post sales of $29.5 million, a 26% increase over last year's period, while net income totaled $8.1 million, up 71% from the third quarter in 2005.
I would hasten to point out that both these numbers would have been substantially higher if the company hadn't engaged in some necessary operational revamping during the quarter, which included issuing a content update patch, installing a new server site, and taking down existing servers to upgrade their hardware to better streamline operations in the future. Indeed, right after the new servers were installed, peak concurrent users spiked to a new record of roughly 670,000 at the beginning of the fourth quarter, up from the previous record of 595,000 in the third quarter.
This upsurge in users bodes well for the company's results in the near term. And its plans to launch four new major games for which it has obtained exclusive licensing rights in China -- Granado Espada, Soul of the Ultimate Nation, Guild Wars, and Hellgate: London -- over the next 12 months will add significantly to both the company's top- and bottom-line results. In addition, The9 is also working on developing its own 3-D fantasy MMORPG game, titled Fantasy Melody Online.
Pretty interesting stuff, eh?
It also doesn't hurt that shares of The9 are attractively valued. At a recent price of $32, shares of The9 trade at roughly 18 times forward earnings estimates.
Don't get me wrong ... the stock is risky, but so are all Chinese Internet plays. If you're a believer in the growth potential of the Chinese Internet gaming market, The9 is a stock that you should consider taking a look at.
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Fool contributor Will Frankenhoff is enjoying his time writing for The Fool more than reading The Financial Times, rooting for the Jints, or taking a nap. He welcomes your feedback. He does not own shares in any of the companies mentioned above. The Fool has a disclosure policy.
