The9 Limited — FY 2013 Form 20-F
Reporting period: Fiscal year ended December 31, 2013. This is an annual report, not a standalone Q4 filing. Financial statements are prepared under U.S. GAAP; amounts below are in RMB unless stated otherwise. The9 develops and operates online, mobile, web, social and TV games, primarily in China.
Financial performance and position
| Metric | FY 2013 | FY 2012 | Change / context |
|---|---|---|---|
| Revenue | RMB106.6m (US$17.6m) | RMB163.6m | Down 34.8% |
| Net revenue | RMB104.8m | RMB154.4m | After sales taxes |
| Gross profit (loss) | (RMB3.0m) | RMB85.0m | Gross margin approximately -2.9%, versus 55.1% |
| Operating loss | RMB530.2m | RMB592.4m | Operating margin approximately -506% |
| Net loss attributable to ordinary shareholders | RMB526.3m (US$86.9m) | RMB514.0m | Loss per share: RMB22.71, versus RMB20.98 |
| Cash used in operating activities | RMB357.6m (US$59.1m) | RMB489.2m | Continued substantial operating cash outflow |
| Cash and cash equivalents at year-end | RMB157.0m (US$25.9m) | RMB554.3m | Down 71.7% |
| Total assets / total liabilities | RMB546.7m / RMB356.5m | RMB1,112.3m / RMB363.1m | Assets fell sharply; equity declined to RMB190.1m from RMB749.2m |
| Current assets / current liabilities | RMB218.1m / RMB330.1m | RMB664.6m / RMB317.7m | Net current liabilities of RMB112.0m; current ratio approximately 0.66 |
Online game services generated RMB95.1m, down 39.6%; other revenue rose 85.7% to RMB11.5m, mainly from mobile advertising and training. Cost of services rose 55.3% to RMB107.8m, exceeding net revenue. The filing reports no debt securities; current and long-term accounts payable were RMB69.4m and RMB21.1m, respectively. Operating lease commitments totaled RMB12.0m.
Material changes and operating developments
- PC online-game revenue declined from RMB131.0m to RMB67.1m. Average quarterly paying users fell to 90,955 from 102,293, while average quarterly revenue per paying user fell to RMB228 from RMB299. Management attributed weakness largely to aging games.
- TV-game revenue increased to RMB21.6m from RMB18.5m, helped by more paying users, although revenue per paying user declined. Planetside 2 launched commercially in China in June 2013; Firefall remained in limited beta testing.
- Operating expenses decreased 22.2% to RMB527.3m as product development and sales and marketing spending fell. However, impairment charges rose to RMB35.5m, and investment impairment was RMB41.7m. Available-for-sale investment impairment added RMB6.3m.
- Total assets fell by roughly half, reflecting cash use, losses and write-downs. The company repurchased 1.67m ADSs during 2013 for approximately US$4.6m.
Outlook, liquidity, risks and unusual items
- Outlook: Management expected a commercial Firefall launch and several web and mobile game launches in 2014, and said these were expected to improve operating results and cash flows. No quantified revenue, earnings or cash-flow guidance was provided. The company warned mature-game revenue could continue to decline and that profitability was uncertain.
- Liquidity measures: Management said it believed resources were sufficient for the following 12 months, while disclosing recurring losses, negative operating cash flow and net current liabilities. A March 2014 Bank of Shanghai facility provided RMB150m of borrowing capacity, secured by buildings and land-use rights; none had been drawn as of the report date. A proposed Red 5 investment of approximately US$23m had not closed by March 27, 2014. The company also disclosed a March 2014 sale of 75% of its Tandem Fund interest for US$1.5m.
- Legacy WoW obligation: A RMB170.0m (US$28.1m) liability for activated but unconsumed World of Warcraft points remained at year-end. The company expected legal release from the obligation in 2029 under its interpretation of PRC law. A separate RMB25.7m advance receivable from the refund agent was being recovered in installments.
- Legal and regulatory exposure: The company appealed a 2013 judgment requiring RMB3m compensation to Diego Maradona for use of his name and image; the appeal decision was pending. The filing also notes uncertainty around China’s online-game rules and the enforceability of contractual VIE arrangements used to access required licenses. Certain mobile, TV-game and other activities had not completed specified filings or held all potentially required licenses.
- Other risks: Revenue concentration in a small, hit-driven game portfolio; competition and licensing dependence; possible further investment and asset impairments; foreign-exchange and China cash-remittance restrictions; and the risk that financing may not be available on acceptable terms. The company believed it was a PFIC for U.S. tax purposes in 2013.
- Controls and audit: Management and Deloitte reported effective internal control over financial reporting at year-end, and Deloitte gave unqualified opinions on the financial statements and controls. The filing nevertheless cautions that the PCAOB could not inspect the company’s China-based auditor at that time and discusses SEC proceedings involving PRC-based audit firms.
Most important facts for investors to verify
- Whether the 2014 game launches, particularly Firefall, achieved commercial scale and generated cash, rather than merely reaching launch or beta milestones.
- Whether cash burn and current liabilities were reduced, and whether the RMB150m facility or other financing was drawn or completed.
- Whether the RMB170.0m WoW refund obligation and RMB25.7m refund-agent receivable changed, and the basis for the expected 2029 release date.
- Whether game-related impairments, especially prepaid royalties, investments and supplier prepayments, resulted in further write-downs or recoveries.
- Whether the VIE structure and required PRC licenses and filings remained effective, and whether the Maradona appeal produced additional payment or other consequences.