Perfect World's Stock Surges On Improved Outlook

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    Quick Take

  • Perfect World's revenue declined by 13% annually and 8% sequentially to $100.6 million in Q1 2013.
  • The operating margin saw sequential improvement in Q1 2013, on account of lower sales and marketing as well as R&D expenses. A lack of new major game launches and the capitalization of R&D expenses contributed to this improvement in operating margin.
  • Perfect World forecasts revenue to rise by 5%-10% in sequential terms in Q2 2013. This revenue outlook is encouraging considering the company has seen its revenue decline during the last few quarters.
  • In line with the recent turnaround in outlook, Perfect World's stock has appreciated by more than 20%.
  • We expect profitability to be under pressure in Q2 2013, due to higher sales and marketing expenses associated with launch of new games.

Perfect World ( PWRD ), a Chinese online gaming company, posted revenue of $100.6 million in Q1 2013, which represented 8% sequential and 13% annual decline respectively. A slowdown of in-gaming monetization activities and lack of new major game launches contributed to the decline in revenues during the quarter. However, the revenue came in ahead of the initial guidance provided by the company.

Gross margin was recorded at 76.5% in Q1 2013, as compared to 76.9% in Q4 2012 and 82.3% in Q1 2012. The operating margin saw sequential improvement from 1.8% in Q4 2012 to 21.3% in Q1 2013. However, on an annual basis it declined as the operating margin was 32.7% in Q1 2012. The sequential rise in operating profit was contributed by decrease in sales and marketing expenses, R&D expenses, goodwill impairment and general and administrative expenses. R&D expenses decreased as the company capitalized expenses associated with certain new games and due to decline in bonuses. Sales and marketing expenses fell as the company did not launch any new major games in Q1 2013.

While Perfect World has seen its revenue decline in the past few quarters, the revenue growth is expected to accelerate in the future, driven by launch of new games such as Saint Seiya Online and Neverwinter . A number of new games such as Swordsman Online and Dota-2 are also forecast to be released in the near future. In line with this turnaround in outlook, Perfect World's stock price has appreciated by more than 20% since the latest quarterly results were announced.

Though the revenue outlook is encouraging, we think profitability could remain a concern in the future. The margins are expected to weaken in Q2 on account of significant rise in sales and marketing expenses, due to launch of new games. We believe the R&D expenses could also rise as the company is actively investing in mobile gaming.

Check out our complete analysis of Perfect World

Recent Launch Of New Games And Expansion Packs

Perfect World recently released a number of new MMORPG (massively multiplayer online role playing) games, as well as mobile and web games. In addition, it also introduced expansion packs for its existing games to strengthen their life cycle.

  • On May 16, open beta testing for Saint Seiya Online (a 3D MMORGP game) was launched.
  • At the end of April, Neverwinter (a MMORGP game developed by Perfect World's subsidiary Cryptic Studios) was launched for open beta testing in the U.S. and Europe.
  • Web games such as Adventure in a Free Kingdom, Touch, Legend of Chu and Han  and Gourmet Adventure were launched in Q1 and Q2 2013.
  • Mobile games including Legend of Chu and Han and Return of the Condor Heroes were recently released.
  • Expansion packs such as Return of the Crouching Dragon (for Chi Bi), Mountain Might (for Return of the Condor Heroes) and World Conquest (for Zhu Xian) were also launched recently.

Highly anticipated games such as Saint Seiya Online and Neverwinter have received good initial traction with customers. We expect these new game launches to contribute in acceleration of revenue growth in Q2 and beyond.

Future Growth Drivers

Strong Pipeline Of Upcoming Games

Perfect World aims to deliver a spate of new games in the near future, including:

  • Swordsman Online, a MMORPG game, is in its final stage of development and is expected to be released very soon.
  • Dota 2, a world-famous title with a unique mix of action, RTS and RPG gameplay, is in closed beta testing currently and will be launched in China in the near future.
  • A new MMORPG game Holy King is also in the pipeline.
  • Mobile games and web games are a key strategic area for the company and a number of such games are also under development.

The new games will further boost Perfect World's revenue growth in 2013.

International Expansion

Perfect World continues to focus on international expansion by leveraging its overseas operating network and global R&D capabilities. A number of games were recently released in international markets including - Battle of the Immortals, Blacklight Retribution, Forsaken World and Torchlight 2.

In line with these efforts, we expect Perfect World's international revenues to grow over forecast horizon.

Guidance For Q2 2013

- Revenue is projected in the range of RMB 656 - 687 million ($105.9 - 110.9 million), representing an increase of 5%-10% on a q-o-q basis.

We are in the process of revising our price estimate for Perfect World's stock.

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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of The NASDAQ OMX Group, Inc.



This article appears in: Investing , Investing Ideas , Stocks , US Markets

Referenced Stocks: ATVI , EA , PWRD , SOHU

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