Business Context and Reporting Period
The9 Limited (NASDAQ: NCTY), a Chinese online game operator and developer, reported unaudited financial results for the third quarter ended September 30, 2009. The filing was submitted on November 24, 2009. The company's business is primarily focused on operating licensed MMORPGs and developing proprietary games in mainland China.
Key Financial Metrics
| Metric | Q3 2009 (RMB) | Q3 2009 (US$) | Q2 2009 (RMB) | Q3 2008 (RMB) |
|---|---|---|---|---|
| Net Revenues | 25.5 million | 3.7 million | 287.9 million | 408.4 million |
| Gross Profit (Loss) | (8.1 million) | (1.2 million) | 64.3 million | 163.0 million |
| Operating Expenses | 109.2 million | 16.0 million | 152.5 million | 103.0 million |
| Net Loss Attributable to Shareholders | (73.6 million) | (10.8 million) | (79.2 million) | 80.5 million (Income) |
| Diluted Loss Per Share | (2.93) | (0.43) | (3.15) | 2.91 (Earnings) |
| Cash and Cash Equivalents | 1,770.6 million | 259.4 million | N/A | 2,152.6 million (Dec 31, 2008) |
Non-GAAP Adjusted Net Loss: RMB29.6 million (US$4.3 million) for Q3 2009, compared to a non-GAAP net income of RMB3.1 million in Q2 2009.
Material Changes Versus Prior Periods
- Revenue Collapse: Net revenues decreased 91% quarter-over-quarter (QoQ) and 94% year-over-year (YoY). This was primarily due to the expiration of the license agreement to operate World of Warcraft (WoW) in China on June 7, 2009, resulting in zero revenue from WoW in Q3.
- Non-WoW Growth: Despite the WoW loss, net revenues from non-WoW games increased 55% QoQ, driven by new content in Soul of The Ultimate Nation (SUN) and full-quarter contributions from FIFA Online 2, Atlantica, and Jiu Zhou Zhan Ji.
- Profitability Shift: The company swung from a gross profit of RMB64.3 million in Q2 to a gross loss of RMB8.1 million in Q3, as revenue scales were insufficient to cover fixed costs (server depreciation, license amortization, payroll).
- One-Time Income: Other income increased significantly to RMB56.0 million due to a one-off government subsidy of RMB54.2 million.
- Impairment: The company recognized an impairment loss on investment of RMB12.2 million related to an equity investment in a Singapore online game operator.
Guidance, Outlook, and Risks
Management Commentary: Chairman Jun Zhu noted that while revenue loss from WoW cannot be recovered quickly, R&D capabilities are strengthening. President Xiaowei Chen highlighted the 55% sequential growth in non-WoW revenue as evidence of successful portfolio diversification and ongoing turnaround efforts.
Stock Repurchase: The company's $50 million stock repurchase program ended on September 12, 2009. The9 spent approximately $32.7 million to repurchase 2.5 million ADSs, funded by existing cash reserves.
Risks and Contingencies:
- Reliance on a limited portfolio of games following the loss of the WoW license.
- Regulatory risks regarding Chinese government policies on the online game industry and Internet cafes.
- Ability to retain players and successfully launch proprietary games.
- Forward-looking statements regarding future performance are subject to inherent uncertainties.
Investor Verification Checklist
- WoW License Status: Verify the current status of negotiations for a new World of Warcraft license in China, as this remains the primary revenue driver historically.
- Non-WoW Sustainability: Assess the retention rates and revenue trends of Soul of The Ultimate Nation and Jiu Zhou Zhan Ji to determine if the 55% growth is sustainable without WoW.
- Cash Burn Rate: Monitor cash reserves (RMB1.77 billion as of Sept 30, 2009) against the current operating loss and R&D spending to evaluate runway.
- Government Subsidies: Confirm the nature of the RMB54.2 million subsidy and whether it is a recurring or one-time event.
- Impairment Details: Review the specific valuation methodology used for the RMB12.2 million impairment on the Singapore investment.