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Executives

Jay Chang – CFO

Leilei Wang – Chairman and CEO

Analysts

Adam Krejcik – ROTH Capital Partners

KongZhong Corporation (KONG) Q4 2011 Earnings Call February 21, 2012 7:30 PM ET

Operator

Ladies and gentlemen, thank you for standing by, and welcome to the Q4 2011 KongZhong Corporation Earnings Webcast.

At this time, all participants are in a listen-only mode. There will be a presentation followed by a Q&A session, at which time, if you wish to ask a question, you will need to press star 1 on your telephone. I must advise you that this conference is being recorded today, 22 February, 2012.

I would now like to hand the call over to your speaker today, CFO, Mr. Jay Chang. Please go ahead.

Jay Chang

Thank you operator. This conference call may contain forward-looking statements. Although such statements are based on our own information and information from other sources we believe to be reliable, you should not place undue reliance upon that. For additional discussions of risks and uncertainties relating to the forward-looking statements and other factors, please see the documents we file from time to time with the Securities and Exchange Commission. We assume no obligation to update any forward-looking statements which apply only as of the date of this conference call.

Thank you for your continued interest in KongZhong. I will first review our fourth quarter results before handing over the call to our CEO, Mr. Wang Leilei.

Total revenues, for the fourth quarter of 2011 was $39.3 million, a 1% increase from 3Q and a 9% increase from the same period last year. As we continue to transition our business to become a cross-platform visual entertainment company, Mobile Games made up 90% of total revenues and Internet Games contributed 34%, with gaming revenues now making up 53% of total revenues.

Total gross profit was $16.7 million compared to $14 million in 3Q, while gross margins improved to 42% compared to 36% in 3Q. Total fourth quarter OpEx was $12.3 million.

GAAP net profit was $5.7 million and comparing to $0.14 per ADS while non-GAAP net profit was $7.5 million and compared to $0.18 per ADS exceeding the company’s guidance range of $5 million to $6 million.

At the end of 2011, the company had $154.5 million in cash and cash equivalents including short-term instruments or $3.8 per ADS in cash and cash equivalents, compared to $143.7 million at the end of the 3Q. However, cash and cash equivalents as well as other short-term estimates exclude the $22.3 million loans with third party. It’s including the value of this renminbi/dollar loan, which was made solely for the purposes of treasury management, total cash and third-party loans amounted to $176.6 million at the end of 2011 or equivalent to $4.3 per ADS.

In addition, the company also began to repurchase our ADSs and open market as of September 30, 2011. As of the end of January 31, 2012 we’ve purchased over $800,000 ADS and the average price of roughly $4.43 per ADS.

Also recently we announced our Acquisition of Noumena for a total of $15 million in cash, which is payable over three years from closing of the transaction as well as $1 million ADS which are all subject to about roughly three year lock-up period. The board of directors helped the company has approved this transaction and we expect this – we expect to close this transaction sometime during the end of the first quarter.

Now I would like to turn to each business unit’s financial performance, namely, Internet Games, Mobile Games and WVAS.

Net Game revenues were $13.2 million in the fourth quarter, a 50% increase from 3Q and 123% increase compared to the same period last year. Net Game revenues were driven by the continued strong performance of World of Tanks.

Domestic Internet Game revenues were $12.3 million, a 58% increase from 3Q and a 240% increase from the same period last year.

Overseas Internet Game revenues were $0.94 million, a 10% increase from the third quarter. Total overseas revenues as a percentage of total Internet revenues in 4Q were 7%.

For the fourth quarter, domestic Mainland Chinese Online Game operations achieved average concurrent users or ACUs of 194,000, aggregate paying accounts of 570,000, with a quarterly average ARPU of roughly renminbi 137.

Internet Games gross profit in the fourth quarter was $6.85 million, a 61% increase from 3Q and a 43% increase from the same period last year. Internet Game gross margins in the fourth were 52%.

Now, turning to our Mobile Games. Total Mobile Game revenues in the fourth quarter were $7.6 million, a 24% decrease from 3Q and a 40% decrease from the same period last year. However, with the recently announced Acquisition of Noumena, the company will begin new efforts to develop our mobile game business, our new, mobile operator kind of, smartphone mobile game platforms and those closing we plan to break out feature phone and smartphone mobile games revenues separately in a mobile game business.

Mobile Game gross profit in the fourth quarter was $2.92 million, a 19% decrease from 3Q and a 34% decrease compared to the same period last year. As policies from China Mobile and our Mobile Game monthly subscription business achieved really the higher term and lower profitability. Mobile Games gross margins in the fourth quarter were 38% compared to 36% in the third quarter.

Now turning to WVAS, WVAS revenues in the fourth quarter were $18.44 million, a 9% decrease from 3Q for the 6.5% increase from the same period of 2010. WVAS revenues were relatively stable compared to prior periods although the WVAS operating environment continues to remain difficult.

WVAS gross profit in the fourth quarter was $6.89 million, a 12% increase from 3Q and a 3% increase compared to the same period last year. While WVAS fourth quarter gross margins were 37%.

Total OpEx in the fourth quarter was $12.3 million, of that product development expenses were $3.9 million sales and marketing in the fourth quarter were $5.64 million compared to $5 million in third quarter and $4.13 million in the same period last year. The increase in sales and marketing was driven by activities related to the marketing of World of Tanks and we expect to see increases in our marketing activities for World of Tanks and our other new internet games including Kung Fu Hero in the coming quarters.

G&A expenses in the fourth were $2.74 million compared to $2.94 million in 3Q. We expect G&A expenses to be maintained at roughly second half 2011 levels in the coming periods.

Now, turning to first quarter 2012 guidance, we expect total revenues for the first quarter of 2012 to be within the range of $41.5 million to $42.5. The revenues at the mid-point expected to roughly consist of WVAS revenues, $19 million, Mobile Game revenues of $4.5 million and Internet Game revenues of $18.5 million.

We expect total gross profit to be within the range of $17 million to $18 million, total operating profit to be roughly $4.5 million to $5.5 million, net profit also $4.5 million to $5.5 million and we expect non-GAAP net profit to be between $6.5 million to $7.5 million.

Now I would like to turn the call over to our CEO, Mr. Wang Leilei, to discuss our fourth quarter business highlights and recent business developments.

Leilei Wang

Good evening, everyone. Thank you for your continued interest and support of KongZhong Corporation. Import for 2011, the company achieved cash net profit since we are as a companywide with global strong performance driven by over domestication into international case.

During the quarter, World of Tanks continued to conduct internet games basically and we expect World of Tanks strong momentum to carry into this year as well as over the top ten based market player all on games in main alternative markets.

We plugged to (inaudible) games Kung Fu Hero, opened up in March and in fact Kung Fu Hero to be a significant contributor to our internet game business in the second quarter of this year and future. To further diversify KongZhong’s business, we recently announced Acquisition of Noumena and (inaudible) platform to accelerate the development of KongZhong’s mobile game business in both the China and the global smartphone mobile game market.

I’m pleased with overall fourth quarter performance on the KongZhong’s strong momentum which we’ll carryout throughout fourth quarter performance into 2012.

Now I’d like to open the call for questions. Operator.

Question-and-Answer Session

Operator

(Operator Instructions). Our first question comes from the line of Adam Krejcik with ROTH Capital Partners.

Adam Krejcik – ROTH Capital Partners

Hi, good morning Jay and Leilei, couple of questions for you. First, for the internet game business, saw some good growth here in Q4. I’m just wondering how much of that – does that all been driven by World of Tanks or are there any other games that are helping contribute to the domestic growth for that business?

Jay Chang

Hi Adam, the fourth quarter performance is driven primarily by World of Tanks and implied in our first quarter guidance for 2012, that’s still primarily World of Tanks with some minor contributions from Kung Fu Hero given that we’re not launching the game until March.

Adam Krejcik – ROTH Capital Partners

And then, the gross margin for this business I think it’s 52% this quarter than around mid-40s. What caused the increase in for the gross margin expansion?

Jay Chang

That’s just scaling over bandwidth and some of the fixed expenditures given that in addition to that the overseas revenues in the fourth quarter were lower than previous quarter, for something on games for markets like Taiwan, Korea and Japan. That’s on the revenue much higher margins than obviously are third party licensed games.

Adam Krejcik – ROTH Capital Partners

So, got it. So, the domestic revenue from is higher you said than overseas?

Jay Chang

The margins from our overseas business which is just licensing our own IP as 90% plus gross margin standalone and that was lower in 4Q compared to prior periods.

Adam Krejcik – ROTH Capital Partners

Okay, okay, got it. And then, for your game pipeline, the Kung Fu Hero 2, can you talk about other new releases, timing, which ones to keep an eye out on?

Jay Chang

We have two or three kind of projects under development right now. I think right now given and how the market is, we’d rather wait until the products are clear kind of on table when we can launch and talk about that publicly. But we do have other projects being self developed, excluding Kung Fu Hero. And additionally we also are talking to various other potential opportunities licensing for the China market but those will obviously come later in this – we’re able to go public terms.

Adam Krejcik – ROTH Capital Partners

Got it. And it sounds like World of Tanks, still you know, is quite strong and where do you see this game in its lifecycle, I know it’s kind of difficult that question to answer. But, you know, are you seeing still, you know, very healthy user growth or how has that kind of tweaked in users and now you’re going to start monetizing it, I’m just trying to get a sense on how to figure this game, you know, throughout 2012, not just this first quarter?

Jay Chang

I think we’re still relatively early. The game and minus stand the game in Russia around, the number one game in Russia by double or triple the next competitor. Obviously China is a different market. But the War gaming team is now starting to improve Achilles game. So, we’ll get another 7.2 update I believe in March. And that were to launch Clan Wars, which is their kind of webpage risk interface to World of Tanks TBT gameplay sometime in April. And when that was released to Russia, that took another – the game up to another level because it really gave more for the (inaudible) in the Russian market.

On top of that there is – they have 300-person game development team. And they view this game as a 10 year of franchise and obviously they’re not stopping just by World of Tanks, they are looking to develop other kind of mechanized based warfare assets including later announced war gaming and (inaudible) for the timing of those products. And their home market is still up in the air.

Adam Krejcik – ROTH Capital Partners

Okay. And then, moving on, for this Acquisition of Noumena, is it the – you sort of expected closing the first quarter, what’s kind of the cash outlay, I think you said three payments for $15 million. And then, when you know, will we see any type of revenues from this new kind of emerging, you know, premium smartphone model and will it be from China or overseas for us or above?

Jay Chang

Yeah, so the terms of the dealer, we have 9.33, so at closing there is a $9 million stock payment and then $3 million over subsequent two or three years getting on from operational metrics. The reason why went with operational metrics versus financial is our goal is really to take this engine and have our featured phone for existing MMO feature phone team, developed game onto the engine. So, we want them to incentivize to be part of and lead the KongZhong team which now, the smartphone team wants this acquisitions closed over the next month or so, we’ll be closed you know, 100 to 150 out dollar folks.

And then, in terms of the financial contribution, we do expect financial contribution, I think we’ll wait until we close and before we talk about that. But we would see maybe some neutral slight solutions in the second quarter. And then, accretive going after that based on our kind of internal budget. And the central has to be very material as to the second half of this year to the 2013 period.

Adam Krejcik – ROTH Capital Partners

Well then, material you said?

Jay Chang

Potential to be, I mean, obviously if we are, if we need to execute we need to have that integrate our team first. And then, that’s why I think the first few months is going to be from transition period of getting our existing engine mammoth team as well as sim line teams and – to port over to us to this engine.

And the reason why we really like this engine is you basically have the right ones, and it can basically port to IOS, Android, HTC Mobile, Windows, without any additional porting cost given safety job plus based mobile game engine. And given our kind of development costs and our knowledge of MMOs especially in the mobile market as well as now we’re starting to start developing the Chinese Android smartphone channels with our WVAS team, we think there is a lot of potential here, but it will take little bit of time you know, through the second quarter to integrate that engine and that team.

Adam Krejcik – ROTH Capital Partners

And then, it sounds these are primarily mainland China or are you also talking about overseas?

Jay Chang

No, you can go on the App Store in the US App store today and search on Noumena as well as KongZhong and you start to see some of the beginnings of what we’re doing together. But you know, what you’ll really see us develop stiflingly more volume of kind of premiums, mid-tier high quality days in the second quarter third quarter period of this year.

Adam Krejcik – ROTH Capital Partners

Okay. And then for, moving to the balance sheet, these, loans to third parties, when do those get repaid to you guys is it within the year or?

Jay Chang

It’s in the current year period, yeah.

Adam Krejcik – ROTH Capital Partners

I’m sorry.

Jay Chang

Yes, within the 2012 period, in the first half of this year.

Adam Krejcik – ROTH Capital Partners

Okay, got it. And then, final question but, you know, I mean these look like good results and guidance. But I mean, anything else that you guys are your board has identified that you think can help in terms of you know, the stock price here it’s been you know, weak for some time. I mean, you have the buyback but I mean, are there any other things that you guys are planning to do over the course of this year to maybe drum up more investor interest or just kind of how you’re approaching you know the share price?

Jay Chang

Well, I mean, you probably know this better than I do Adam, you know, the market environment has a lot of challenges, dramatically. Our focus as a team is to develop the business. Hopefully our results and our guidance show that we are focused on that. And we want to deliver and grow from you know, our 4Q results that we’ve established.

The opportunities we see is we believe we have a very good 3D self development team, Kung Fu Hero hopefully will continue to prove that. We also believe that we have a very strong execution team to partner with overseas content in the online game market like World of Tanks. And we believe we’ve shown that over the past two years or so besides where the tanks really, League of Legend, this content that’s been successful in this marketplace, we use these content. And we believe that’s you know, merit to our team’s quality. And we hope we can translate that to other partnerships as well.

Based, on that in itself, we believe we have opportunity to move up the ranks of the online games industry here. So basically from a player who only entered the market two years ago, to now we believe we’ve taken to top 10 player. And in terms of online game operations, if you look at solely World of Tanks this year, given kind of our guidance and we’re top five in terms of Chinese operators of overseas content.

And then, on top of that, over kind of a more medium term and long term period we do believe our knowledge as well as relationships in the kind of WVAS mobile game space including handsets to vendors, mobile operators, payment channels and so forth, we can integrate Noumena properly and we believe there is significant opportunity in – especially the android smartphone carrier where there is not one app store, there is many, many different channels where we think there is a lack of content, not a lack of platform.

And the reason why we’re going to top, we believe that’s the opportunity over the next two to three years to get it right and where we acquired Noumena to address that opportunity. And we feel we can deliver on our results and hopefully you know, we’ll have more conversations with investors and analysts like yourself. And we’ll just let the results speak, you know, for our actions.

Adam Krejcik – ROTH Capital Partners

Sounds good. Well, I appreciate for your in-depth answer and congrats on a great quarter.

Jay Chang

Okay, thank you Adam.

Operator

(Operator Instructions). And we seem to have no further questions at this time.

Jay Chang

Okay. So, thank you for your continued interest in KongZhong. I look forward to speaking to you in the coming weeks and months. And we hope you to come to Beijing. We hope to see you in Beijing. Thank you very much.

Operator

Ladies and gentlemen, this concludes today’s conference call. Thank you for your participation. You may all disconnect.

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