YY Feeds Online Hunger In China With Social Platform

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Young people in China are like young people anywhere. They like to listen to music, play games, chat with each other and complain about their parents.

YY ( YY ) lets them do all of those things in a single place.

The company operates an online social platform that lets users engage in group activities through voice, text and video. Users can play games, watch shows and concerts, screech out karaoke songs and chat with other users with real-time audio and video.

YY's platform serves the mainland and consists of YY Client, the and Web portals, Mobile YY and Web-based YY. It offers free services as well as paid memberships.

Most of its revenue comes from online games and music, though it also gets revenue from online advertising and other sources.

YY went public in November at an opening price of $10.50 per share. Its stock price has more than doubled since then and currently trades near 28.

The company's annual revenue has grown more than sevenfold over the last two years alone. For that, it can thank its unique operating model as well as a rabid hunger for all things online in China.

Technology Culture

"Partly due to a fragmented and highly regulated offline media environment, combined with a highly developed consumer technology culture, the Internet takes a structurally larger share of total media consumption time in China vs. global peers," Citigroup analyst Ravi Sarathy noted in a report initiating coverage on YY.

He says the Internet's share of media consumption is 47% in China. That compares with around 25% in the U.S.

YY has been an early innovator in recognizing the potential of that market and designing its products in a way that taps into the interests of China's tech-savvy young people.

The company began in 2005 as an online games content site and a group voice and text real-time chat application designed for massively multiplayer online (MMO) gamers.

YY has since deepened and evolved its games presence via its Web games platform, games portal and other applications, Sarathy says. But it has also developed "significantly beyond" its initial gaming focus.

"Based on evolving user demands and interests, as well as YY's continuous innovation of the platform, the company has capitalized on underlying market demand to evolve its platform beyond a focus primarily on gamers' needs towards first karaoke and now broader grass-roots musical talent cultivation," Sarathy noted.

YY has focused much of its recent attention on expanding its online education offerings, including a move to broaden the platform's functionality to include interest-based "how to" content.

YY's emphasis on expanding into new areas should help the company continue its rapid financial growth.

"Despite volatile operating metrics over the past few quarters, YY has managed to gradually improve overall monetization while management proves its strong execution skills," Deutsche Bank analyst Alan Hellawell noted in a report upgrading YY to buy from hold.

"We believe ample room exists for YY to grow revenue as it expands monetization to new verticals, e.g. online education, etc., over the next few years," Hellawell added.

According to a report from Macquarie Equities Research, YY should get an additional lift from its focus on mobile devices. Growth here will be driven by a combination of China's embrace of smartphones and the recent addition of video functionality for YY's mobile users.

Meanwhile, YY continues to expand its footprint in entertainment. Last month, it announced a partnership with Hunan Satellite Television and EE Media to bring the 2013 season of China's popular "Happy Boy Show" singing talent competition to YY's interactive Internet platform.

In late June, YY began broadcasting contestants' training and rehearsal sessions live across PC and mobile platforms.

During the final rounds of competition this month, YY will establish a designated channel on YY Music for each finalist, documenting their real-life stories and offering live, behind-the-scenes viewer interaction.

"The dynamic combination of bringing together the interactivity of YY Music with massively popular TV content will further drive additional user traffic and stickiness with our end-users and advertisers," YY Chief Executive David Xueling Li said in a statement.

Good Start

Financially, YY is off to a good start as a publicly traded company. During its first quarter it logged sales of $50.7 million, up from $21.7 million the previous year. Earnings came in at 23 cents per American depositary receipt.

Gross profit margin for the quarter was 53.7%, up from 49.5% a year earlier. Operating margin rose to 20.5% from only 3.1% the prior year. The company said margin expansion is mainly the result of improved cost efficiencies due to greater scale, as well as YY's ability to control bandwidth costs. The number of paying users on the YY platform grew by more than 35% to over 1 million during the quarter.

"We will continue to diversify and strengthen the content on the YY platform by expanding into new verticals and introducing new products across PC and mobile devices to address the increasing entertainment and real-time social demands in China," CEO Li said on a conference call with analysts.

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

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

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