The9 3Q'06 Earnings Preview

The9 Limited (NCTY), the Chinese gaming company that operates World of Warcraft [WOW] in China, is set to report earnings on November 15. Since The9 relies on WOW for 99.9% of its revenues, an assessment of the WOW's usage trend is essential for estimating the company's revenues.

To track WOW utilization, we have developed software to periodically acquire the user load levels for all individual Chinese WOW server groups. Each server group hosts a virtual mini-world and at the end of the third quarter, The9 was operating 273 such WOW worlds. We analyzed the data using our internally developed methodology which allows us to obtain a time-evolving picture of the game usage and important metrics such as the daily average concurrent user [ACU] and the peak concurrent user [PCU] numbers. We constantly improve our models by taking advantage of the ACU and PCU numbers reported by The9 each quarter.

World of Warcraft artwork- click to enlarge

WOW Trends for Q3
Our analysis leads us to believe that WOW will post significantly lower stats during Q3. We expect The9 to post revenues of $29 Million, about 10% lower than in the previous quarter. A number of factors have contributed to this decline: lack of new content during Q3, prolonged server down time due to the server consolidation in the first 5 server areas and competition from soccer World Cup and other games.

Our ACU estimate, obtained directly from the analysis of the server load data is 294,000, an 11% decrease over the ACU posted in the previous quarter. Our peak PCU estimate is 598,000, or 5% lower than the PCU recorded in Q2. The highest PCU was likely recorded on August 1st.

Notably, the data shows a return of the gamers to WOW with the launch of the 7th server area on September 23. In the last week of the quarter the ACU and the PCU have posted significant gains. The highest daily ACU for the quarter was in fact recorded on the last day, September 30th (see the ACU and PCU charts below).

Despite the lower revenues likely to be announced on November 15th, we believe that The9 will have a strong fourth quarter. We continue to acquire WOW server usage data, and we intend to publish the stats periodically.

Focus on the New Game Pipeline
The9 plans to launch not less than six new high profile games in 2007: Guild Wars [GW], Soul of the Ultimate Nation [SUN], WOW Burning Crusade, Granado Espada, Hellgate: London and FM Online (jointly developed by The9 and Winking). All six games have been voted among the Top 20 most anticipated games in China, with SUN positioned second and Guild Wars fourth.

In addition to these games, we believe The9 is likely to collaborate with Webzen in operating Kingdom of Warriors, another highly anticipated future game in China.

The success of WOW and the new game wins have positioned The9 as the Chinese partner of choice for foreign game developers. The9 stands to benefit from this image and we believe the company will continue to win the operating rights of future high profile games.

Short term, investors will be interested in hearing about Burning Crusade, GW, and SUN. We expect SUN and GW to be commercially launched in early 2007 with SUN likely launched as a free for play, pay for items game.

Recent news: GW closed beta account registration started today. According to The9, 86,000 gamers applied for an account in the first hour.

World of Warcraft Q3 Estimates:

- Average Concurrent Users: 294,000 (11% decrease q/q)

- Peak Concurrent Users: 598,000 (5% decrease q/q)

- Q3 PCU registered on August 1, 2006

- WOW Q3 Revenue Estimates: $28.7 M

The Casual Analyst NCTY Q3-2006 Estimates:

- Net Revenues: $29.0 M (10% decrease q/q)

- Net Income: $7.8 M. Includes a financial subsidy of $1.5 M (reimbursement for previous paid taxes)

- EPS $0.32 (25% decrease q/q) or $0.26 without the subsidy.

click charts to enlarge

Disclosure: The author owns NCTY stock.

Comments

[Bill Bull]

Good analysis. Can you please also post your server data since end of Sept.?

Appreciate it.

my email is [e-mail]