Shanda Interactive Entertainment Q3 2007 Earnings Call Transcript

Nov.29.07 | About: Shanda Interactive (SNDA)

Shanda Interactive Entertainment Ltd. (NASDAQ:SNDA)

Q3 2007 Earnings Call

November 27, 2007, 8:00 PM ET

Executives

Maggie Yun Zhou - IR Manager

Jun Tang - President

Grace Wu - CFO

Tianqiao Chen - Chairman and CEO

Analysts

Dick Wei - J.P Morgan

Tian Hou - Pali Capital

Jenny Wu - Morgan Stanley

Paul Keung - CIBC World Markets

Wallace Cheung - CSFB

Operator

Good evening, everyone, and welcome to Shanda Interactive Entertainment Third Quarter 2007 Earnings Conference Call. The conference call will be recorded and available for replay in its entirety. A copy of Shanda’s third quarter 2007 results announcement can be found and downloaded from its corporate website at www.snda.com. At this time, all lines have been placed on listen-only mode and the floor will be open for questions following today's presentation.

I would now like to turn the call over to your host, Ms Maggie Zhou, Shanda's IR Manager. Please proceed, ma’am.

Maggie Yun Zhou - Investor Relations Manager

Thank you, operator. On behalf of Shanda I would like to welcome everyone to our third quarter 2007 results conference call. Here with us today are Mr. Tianqiao Chen, our Chairman and CEO; Mr. Jun Tang, our President; and Ms. Grace Wu, our newly appointed CFO.

Before we begin, I would also like to remind you that management comments during the call will contain forward-looking statements, that are based on our current expectations, and are intended to qualify for the Safe Harbor from liabilities for such statements established in the U.S. Private Securities Litigation Reform Act of 1995. All statements other than statements of historical facts during the conference call are forward-looking statements, which are subject to certain risks and uncertainties. Actual results may differ materially from those statements contained in the forward-looking statements. So, please do take a minute to read the safe harbor statements in the press release.

Now with that, I would like to turn the call over to our President, Mr. Jun Tang.

Jun Tang - President

Thank you, Maggie. Shanda delivered another excellent quarter in Q3 with record revenues and operating income. We posted a strong organic growth in all our online gaming business lines. Almost all our existing titles exhibited robust performance, while we are also delighted to see some initial revenues generated from Feng Yun Online, which we acquired in connection with our acquisition of Aurora Technology.

In Q3 2007, our consolidated net revenues rose 16.3% quarter-over-quarter and the 50.3% year-over-year to a record $87.4 million increasing [ph] on our earlier guidance of 8% to 11% sequential growth. Net revenues from our online gaming business also reached at historic high of $84. 4 million, up 16 points or 6% quarter-over-quarter and 54.9% year-over-year.

Not only did we see remarkable growth in our MMORPGs but also in all casual games. Net revenues from our MMORPGs increased 6.6% from the second quarter to $73.4 million with strong contribution from the various titles such as Mir II, Woool and LaTale, and an initial revenue contribution from the Feng Yun Online. We also released new expansion packs in third quarter for our main MMORPG including Woool, LaTale, Actoz [ph] Age, Feng Yun Online and Mir II.

During the summer holidays, we launched a series of in-game events and marketing campaigns for Shanda’s recent titles and upcoming new games. Shanda also made a strong presence at ChinaJoy, China’s most important nationwide event in online games and digital entertainment.

As a result, our MMORPG active paying accounts reached to 3.08 million, a 13.2% increase from the second quarter contributed by a higher conversion from players to paying customers for existing titles as well as new users from Feng Yun Online. We had the largest fee of our MMORPGs, ARPU rose 3.0% quarter-over-quarter to RMB59.7, considering our larger number of active paying accounts.

Turning to the casual games. All our casual games experienced a strong growth in this quarter. Casual game revenues in Q3 rose 16.2% quarter-over-quarter and a 6.9% year-over-year to $10.9 million supported by the seasonal strength and newly released expansion packs for Crazy Kart, Maple Story, Get Amped and Tales Runner during this quarter.

In July, we commercialized the Tales Runner, China’s first 3D running game which is the first of special sales of sports-themed game designed for the 2008 Beijing Olympics. Consequently, APA for casual games rose 8.4% quarter-over-quarter to 1.82 million, and the ARPU for casual games increased 7.2% sequentially to RMB10.0 in the third quarter.

Looking beyond on the third quarter we expect to see new expansion packs and value added service to support continued growth in our existing MMORPG titles, expansion packs for largest sports launch in Q4, including the renowned general for near two running passes [ph] for our winter expansions for LaTale where we will begin impacting of the highly anticipated Feng Yun Online, which we expect to be commercialized in early part of 2008. We also expect to launch World Hegemony, our first to web based game, developed by Shanda’s in-house R&D team. New casual games to be in world [ph] in Q4 including Pop King, Disney Magicboard Online, Superstar and a table tennis game, X-Up developed by Actoz. We are actively reviewing all pipelines for MMORPGs for 2008 and beyond. We are currently co-developing THQ Company’s Heroes and TECMO’s Dead or Alive, both of which we expect to launch in 2008.

We are also working with two content developers to introduce Gui Chui Deng Online and Creation of Gods. We expect both of these pilots to begin beta casting in 2008. We also recently licensed the highly anticipated AION: The Tower of Eternity from Korean developer, NCsoft, and it will be launched in later half of 2008.

On the casual games side we plan to commercialize several additional sports-themed casual games in advance of the summer Olympic games, including in-house developed and licensed games such as the free running game, the FreeJack from Wise On.

In summary, this has been a remarkable quarter for our online games business. Both our MMORPGs and casual games posted double digit growth. We are also saw an improvement of ARPU and active paying account number for MMORPGs and casual games. We believe our content portfolio and future pipeline will allow us to continue delivering rich content and fun and exciting games experience to our users.

Now I would like to turn the call to Grace Wu, our newly appointed CFO.

Grace Wu - Chief Financial Officer

Thank you, Jun. Good morning and good evening to all participants. This is Grace Wu. I will first start with highlights of our third quarter results followed by the outlook for the fourth quarter. In July 2007, Shanda successfully completed its acquisition of Chengdu Aurora Technology, a leading MMORPG developer and operator in China and increased its stake in Actoz Soft, a leading online game developer in South Korea to over 50%. As a result, Shanda’s financials beginning from third quarter 2007 onwards were exactly consolidated results of both Actoz and Aurora.

Now allow me to turn your attention to our results for Q3 ’07. In the third quarter first online revenues and operating income achieved historical highs to reach RMB656 million and RMB258 million respectively. I would like to point out that organic growth of our existing business was the main contributor behind this remarkable performance, as revenues for our newly acquired business represented less than 5% of our consolidated revenue for Q3.

Gross profit for the third quarter was RMB458 million or $61.0 million; that compared to RMB380 million in the previous quarter and RMB246 million in Q3 2006.

Gross margin was 69.8% in this quarter, compared to 67.2% for the preceding quarter and 56.2% for the third quarter 2006. This sequential improvement in gross margin was primarily due to the consolidation of Actoz, particularly savings on the company's licensing fees relating to Mir II. They are partially offset by the increased amortization expenses associated with IP amortization of Aurora and Actoz.

Income from operations for Q3 ‘07 was RMB258 million compared to RMB244 million in Q2 and RMB 130 million in Q3 2006. Operating expenses amounted to RNB200 million in Q3, ’07 that compared to RMB135 million in Q2, ’07 and RMB133 million in Q3. ’06. Increasing operating expenses were primarily driven by increased spending in sales and marketing related to a series of heightened campaign during summer holidays and China Joy.

Payroll adjustment effective as of June, which impacted the third quarter and the increased R&D and G&A expenses from the consolidation of Actoz and Aurora. As a result operating margin was 39.3% in Q3 compared to our earlier guidance of no less then 35%. Operating margin was 43.3% in Q2 ’07, and 25.8% in Q3 ’06.

Excluding the impact of our newly consolidated entities our gross margin and operating margin in Q3, ’07 will be 65.9% and 40.4% respectively.

Share based compensation remained flat quarter-over-quarter of $2 million in the third quarter of 2007. Our net non-operating income in third quarter will amount to RMB29 million which compared to RMB210 million in Q2 ’07. The main difference is the one-time gain of our RMB178 million from the sale of SINA shares which occurred in Q2 ’07 and the change in minority interest as a result of the Actoz consolidation. Non-operating income from government financial incentives in Q3 was RMB14.9 million. That compared to RMB14 million in the previous quarter and RMB29.1 million in the third quarter of 2006.

Net income for the third quarter of 2007 totaling RMB239 million remained relatively consistent to RMB238 million excluding the one-time gain from the sale of SINA shares in Q2. Compared to Q3 ’06, the net income rose 66.4%.

For the third quarter ’07 basic and [ph] diluted earnings per ADS were $0.44 and $0.44 respectively. This compares to adjusted EPS of $0.44 and $0.42 in Q2 ’07 and $0.26 and $0.26 in Q3 ’06. Effective tax rate was 16.4% in Q3 ’07, that compared with adjusted effective tax rate of 13.8% excluding the onetime capital gain impact from SINA shares sale, which is non-taxable. This increase of tax rate also included the impact of consolidation of the actuals. Excluding actuals impact, the effective tax rate would have been 16% in Q3 ’07.

For the first nine months ended September 30, 2007 consolidated net revenues totaled RMB1.75 billion, operating income amounted to RMB727 million while net income was RMB1.1 billion. U.S. GAAP and adjusted EPS per diluted ADS for the first nine months of ’07 was $2.02 and $1.24 respectively.

On the balance sheet side we would like to highlight a few items. As of September 30, our cash and cash equivalents balance of approximately RMB3.7 billion and RMB4.6 billion is including multiple securities and short-term investments. As a result of consolidation of actuals, investment in affiliate companies decreased to RMB3.7 million from RMB382 million as of Q2 ‘07. Deferred revenue as of September 30, increased 65.8% quarter-over-quarter to RMB417 million which is attributable to the high volume of prepaid card sales in anticipation of China’s national holiday in early October. On November 15, 2007 Shanda will redeem all of the remaining outstanding convertible notes which was approximately $275 million.

Before I turn to Q4 ’07 guidance we’d like to caution that we cannot predict the future exchange rate of RMB against the U.S. dollar, and therefore cannot actually, and with any degree of certainty estimate the effect of any change in exchange rates in our financial results. Accordingly, given our financial targets we assume no change in exchange rates in the fourth quarter of ’07, and have adopted the same exchange rate as of September 28, 2007, which in U.S. dollars is equal to RMB7.5108. Our actual results could differ however from our current expectations as a result of fluctuation in exchange rates.

Now, based on our business outlook, we expect our consolidated net revenues for the fourth quarter to increase 47% quarter-over-quarter, reflecting a relatively slower quarter tan Q3. In terms of margins, we expect our operating margin for the fourth quarter to remain at the similar level in the third quarter of 2007.

That concludes my presentation today. I would now like to turn the call to our CEO, Mr. Tianqiao Chen for his remarks to be followed by Q&A session. Thank you.

Tianqiao Chen – Chief Executive Officer

Thank you, Grace. In the third quarter of 2007, we have delivered strong financial results with the record revenue and operating income, which also marked the seventh consecutive quarter of strong revenue growth since we launched our new domestic model in late 2005.

We also achieved operationally [inaudible] our core competence by delivering intangible results on our specific initiatives to the extent of the three Cs: Content, Community and Commerce. Going forward, Shanda will continue to focus on the three Cs strategy.

First, on the countries, we will continue to execute our open, balanced and diversified strategy to enrich our game portfolio through licensing, in-house cost development, strategic investments and core development. On licensing of the games, Shanda will continue to look for partnership with global content leaders. Following our success in planning Latale and Shengqu in the half of 2007, Shanda has signed an exclusive license in early November to operate NCsoft’s highly anticipated 3D MMORPG, AION in China.

In addition, we are pleased to report Shanda’s potential strategic investment in NCsoft's Chinese subsidiary, NCsoft China on encourage overall collaboration between Shanda and NCsoft.

For in-house development, in addition to providing incentives to our talented in-house developers, we have increased our investment in Actoz to over 50% and consolidate as a key R&D center in Korea. After we have already delivered strong results through the successful development and the launch of the Latale, we expect Actoz to be one of cornerstones of Shanda’s development in the future.

For the investments, we unveiled a strong plan [ph] in 18 projects, which was investing in mature and start-up online game companies in China. And we have fully incorporated our major acquisition, Aurora Technology under the Feng Yun project. So that continues to leverage Shanda’s leadership position to devote more resources to content acquisition in a responsible manner.

In-house development [ph] our corporation will continue to promote and [inaudible] and will continue to be optimistic to team up with top tier game companies. In summary, we have accumulated 17 games with our [inaudible] and target audience through research and self development, licensing and core development. We will continue to enrich our product pipeline and provide a diverse range of content to our users through multiple channels.

On community, we will continue to improve our platforming to enhance the Shanda online communities. Currently, we operate 20 games on our unified platform which encompass [ph] account authorization to links, discussion [ph] and customer service and technical support. The scalability of our unified platform has been a critical factor for our operating margin improvement. In addition, the unified platform allows you to interact within their own games as well as between different games. We believe this will gradually cultivate a sticky user community and in turn a loyal user base.

On commerce, we will continue to increase our active paying accounts or APA and raising conversion rates, which currently is only 6% of our actual accounts, as well ARPU. We have recently added a talented student team to further bolster our in-game advertising, which is built around a proprietary [ph] IGA technology. We have also devoted considerable efforts to introduce sports experience to capture and building marketing opportunities provided by 2008 Beijing Olympic Games.

In conclusion, I would like to emphasize content, community and commerce will remain the foundation of Shanda’s strategy over the next few years. We are confident in the tremendous potential of China’s online gaming market and our ability to maintain our leadership.

That concludes my formal comments. Thank you very much. Thanks for joining us today. And now I would like to turn the call back to Maggie.

Maggie Yun Zhou - Investor Relations Manager

Thank you, Tianqiao. We are now ready for questions. Operator, we can begin the Q&A session now?

Question and Answer

Operator

Thank you. The floor is now open for questions. [Operator instructions].

Thank you. Our first question comes from Dick Wei from J.P Morgan.

Dick Wei - J.P Morgan

Hi, good morning. Congrats on a very strong quarter. A three-part [ph] question. First one is that in terms of marketing expense for the third quarter, just up slightly, wonder is that mainly due to some holiday activities or was that more related to the acquisition of Actoz.

And second question is, in terms of the income tax rate if we can get some guidance, that would be very helpful as well.

And lastly, just try to get an update on in-game advertising. I wonder when should we expect to see some revenue taxation from that [ph]? Thanks.

Grace Wu - Chief Financial Officer

Hi, Keith, this is Grace Wu. Sorry, you were breaking up, so I didn’t really capture your second question. But allow me to answer your first question. In terms of marketing expenses taking place in third quarter, it is our special marketing efforts in response to summer holiday season and also China Joy. So your observation is correct.

And I guess I can’t get to your second question. If I could trouble you to repeat that again.

Dick Wei - J.P Morgan

Yes, sure it is on the tax rate going forward, what kind of income tax rate should we expect?

Grace Wu - Chief Financial Officer

Right. For income tax rate we probably expect relatively [ph] it will remain in the range of 5 points up or down. But we don’t expect any significant change in our income tax rate looking forward.

Jun Tang - President

Let me just get back to you on the question on IGA side, and as we have announced, we have formed an IGA team and a team is ready there in terms of technology, marketing strategy, pricing strategy is in place and the actually the team is in operation, and we should be able to see some of the meaningful results in early next year and the meaningful revenue contribution in the whole year.

Dick Wei - J.P Morgan

That’s great. Thanks a lot. Again congrats on a good quarter.

Jun Tang - President

Thank you.

Operator

Thank you. Our next question comes from Alicia Yath [ph] from Citigroup.

Unidentified Analyst - Citigroup

Good morning. Congratulations to a great quarter. And welcome aboard, Grace, and congratulation to your new role. My first question is regarding your growth and shrank in your games especially your MMO games. Can you actually break down for us or like how much of the growth came from your old games Mir II, Woool, and how much of it actually come from LaTale? And can you give us some color on specific actions that you have taken to allow you to grow the old games? And please help us feel more comfortable that whether the growth of old games will continue in the future? And I have a couple of follow-ups. Thank you.

Jun Tang - President

A quick comment on the earlier question, next quarter we will focus, 4% to 7% of the organic growth, and I think the majority of the growth will come from all existing titles, which are mainly on organic growth and as you know Mir II War, Archlord, Latale primarily contributed to our existing revenue contribution. So if you look at in the next quarter I think it was different from the organic growth. Certainly in this quarter we are having some of the new games in beta testing and some of the games would be launched in this quarter as well.

Unidentified Analyst - Citigroup

But in terms of your 3Q this quarter, how much of it actually come from, for example, LaTale because that one just launched April this year. We just want to understand…

Jun Tang - President

In terms of the total pie, the revenue pie, it’s too big. Latale was a great game and it contributed meaningful revenue to all our total pie, but still not as significant as all our existing titles.

Unidentified Analyst - Citigroup

Okay, good. And my second question is, looking forward into 2008 can you actually give us the rate of development regarding your in-game advertising? And also since you have enormous community in your come-stay-pay strategy, if your in-game advertising that you seem to be able to monetize on your play, user, the play components, do you plan to actually monetize through like other advertising apart from in-game advertising. In other words, do you think that you are able to monetize the stay component? Or how do you plan to monetize your traffic?

Jun Tang - President

In terms of IGA, this is a brand new business and also the model is brand new as well. So we are really working on our strategy, especially on our pricing strategy and how we can capture the traffic and how we can continue to position the IGA in the whole platform. And we believe that IGA will have some contribution to our total revenue pie. But in the first year we do not expect a huge contribution to our total revenue pie. But with the acceptance of the advertisers for the IGA type of the concept, I think the IGA definitely will take off some time later on.

Unidentified Analyst - Citigroup

And do you think you are able to monetize, other than the IGA, for example, other advertising?

Jun Tang - President

I think…

Unidentified Analyst - Citigroup

Great community?

Jun Tang - President

Yes, I think… you know the user base is huge and that’s a great resource for the advertisers. But again we really need to educate the market because people still are very new to this type of concept at this point. And I think that’s something that really depends on the team, how they can educate the market, how they can really leverage the huge resource of the user base today. But if you look at the path, we haven’t found that yet. But I think that will be the challenge and also a great opportunity as well.

Unidentified Analyst - Citigroup

I see, good and can I just have one last question and I will go back to the queue.

Jun Tang - President

Sure.

Unidentified Analyst - Citigroup

Regarding your ARPU, for your ARPU on MMO, you are slightly sequentially. However it is still almost at the same level that we are seeing in Q1. When we compare to other leading players in the industry, your ARPU actually appear to have significant room to improve. Can you help us understand some of your strategic plans that will help you to boost up your ARPU in the future? Thank you.

Jun Tang - President

Yes. Actually our strategy is to grow the total active paying accounts more than ARPU. If you look at the total percentage of our active paying accounts, it’s only 6%. That means we still have like 94% of the upside there. If you look it on the ARPU side, our ARPU is about like RMB60 and if you look at our other players, they are over like RMB100. But we really do not want to squeeze the money out of our existing Active Paying Accounts. We would rather grow the pie of the active paying accounts.

Unidentified Analyst - Citigroup

Okay, great. Thank you so much.

Jun Tang - President

Thank you.

Operator

Thank you. Our next question comes from Eddie Long [ph] from Merrill Lynch.

Unidentified Analyst

Good morning, guys and welcome on board, Grace. I have two questions, the first question is, I would like you guys to comment on the customer mix from a geographical point of view, in particular related to the growth in competition in the lower tier cities.

And my second question is, can you just comment on the badnesses [ph] you have seen from incorporating Feng Yun into the Shanda platform versus its standalone status in previous Aurora’s operations. Thanks.

Jun Tang - President

Yes, if you look at our portfolio of our gamers and majority are coming from the tier II, tier III cities and it also is our strength, and also we have penetrated into the tier II, tier III cities and also we are continuing to penetrate these tier III, even tier IV areas, that’s our strength. And we think, we do have a lot of room in the tier III, tier IV kind of areas because the lack of entertainment and the PC penetration and it all then has been growth dramatically in this area. So that’s a growth area as well.

And in terms of the volume, the Aurora slot we have acquired, and I think the [inaudible] but after the acquisition of the Aurora Technology, we are converting them into our platform. If you look at the results, if you compare the revenues and their user base and after the acquisition, the number has grown dramatically and we are very happy about the performance of the platform. And it’s again proved that our platform works very, very well and it’s in line with our long-term strategy.

Operator

Thank you. Our next question comes from Tian Hou from Pali Capital.

Tian Hou - Pali Capital

Congratulations on a great quarter. I just have a couple some minor questions. And the one is, what’s the tax rate, Grace and I really didn’t capture what you said. Going forward, what do you expect tax rate will be?

Grace Wu - Chief Financial Officer

We didn’t expect that there’s going to be a change in tax rate. We said we expected it to be [inaudible] in the range of 5% from time to time, depending of course on income level and many other various factors.

Tian Hou - Pali Capital

And next year, there is a tax unification regulation, so what do you expect next year rate to be?

Grace Wu - Chief Financial Officer

It’s hard to make a tax projection right now, but as Shengqu belong to the… belongs to include that with the incentives on government we do not expect to see much change in our tax rate next year.

Jun Tang - President

If you look at our practice and experience, we negotiated with government and you only can see a couple of points of the increase or decrease, but it’s nothing to affect Shanda as a whole. And also Shanda is not the only company that need to negotiate with government, and every single company in China, certainly if they’re listed companies, have the same exact structure. We do the same thing. So, but we do not expect tax rate to change to affect our overall performance.

Tian Hou - Pali Capital

Okay. Second question in terms of licensed fee as a percentage of total revenue, I know you benefit from the Actoz 51% of ownership. So going forward, and let’s say, in ’08 how should we model it? You’re going to have Feng Yun to be commercialized. So should we accept the percentage of… licensed fees as a percentage of revenue to go up for certain level, let’s say 16 or 17% level or the current level?

Grace Wu - Chief Financial Officer

With regard to fees, nothing changes as a percentage of licensed fees to revenues. So I guess you call into your model, a similar level, going forward.

Tian Hou - Pali Capital

Thank you.

Operator

Thank you. Our next question comes from Jenny Wu from Morgan Stanley.

Jenny Wu - Morgan Stanley

Hi, congratulations on good quarter. I have two questions. First one is regarding the Feng Yun Online. What is the revenue contribution and user volume from this game and what’s the change after acquisition? Thank you.

Jun Tang - President

Yes. Feng Yun Online was acquired by us and it started to contribute revenue from Q3. And if you look at our total performance, and the… I cannot give the exact detail of the numbers, but one thing I can assure that after this acquisition the number has increased pretty nicely. And I think we’ll continue to see that kind of growth performance over the quarter. So I think that, that’s a great integration into our platform.

Jenny Wu - Morgan Stanley

Okay. Second question is regarding the marketing expenses and the way we saw it increase a lot this quarter and is it mainly due to the promotion for the Feng Yun Online and as a percentage of revenues, what is the plan going forward?

Grace Wu - Chief Financial Officer

All right. For marketing expenses during the third quarter, it’s actually increased by our current marketing campaign for all our existing titles, it’s not related to one specific game. And we also have some special campaign designed for China Joy, that’s pretty much the factors impacting the increasing marketing expenses from the third quarter. It is our strategy that you increase our marketing expense during a high season while taking a relatively conservative approach during a slower quarter. So I think in terms of percentage of marketing expenses you probably see either flat or slightly lower for the fourth quarter.

Jenny Wu - Morgan Stanley

Okay. Thank you.

Operator

Thank you. Our next question comes from Paul Keung from CIBC.

Paul Keung - CIBC World Markets

Hi, good morning. My question relates to your strategy of trying to increase the percentage of active paying accounts, from, I think you mentioned 6% today. Looking at my data, I think one or two of your more established games have a percent of low to mid teens. How do you think you can drive that percentage in ’08 on an organic basis? That means without any new games.

Jun Tang - President

Okay. If you look at our total pay accounts percentage, it is about like 6% and we have been increasing that percentage from 0% to 6% over the last seven quarters. And the way we have done that is we do a lot of in-game kind of marketing type of free games. For example, we threw up kind of free money to those who never paid and give them a one time experience. So once they get kind of that experience then we probably will have converted them from the non paying users to the paying users and that’s couple of things. And also we’ve tried to increase more and more kind items into the game. And also by adding new titles into our portfolio, that’s also one thing to include that kind… paying numbers.

Paul Keung - CIBC World Markets

So, is something around 10% to 12% a doable number?

Jun Tang - President

I think if you look at our Korea number, Korea is probably three years ahead of us in adopting this kind of a model, their number is around 15% to 18%. So, I think by the time of like, let’s say, two to three years, we should be able to… at least, we expect we can have that kind of a goal of the 15%. Again, that’s just a goal.

Paul Keung - CIBC World Markets

Right, right. And then I was looking at some of the numbers for the Aurora [inaudible], I was wondering, the ARPU numbers, they have been somewhat, I guess, those numbers are wrong, stable. Can those numbers go higher if you chose to drive them higher over time?

Jun Tang - President

You mean in the ARPU number?

Paul Keung - CIBC World Markets

Yes, ARPU for the…

Jun Tang - President

Yes, actually if you look at the ARPU number, we continue to see kind of moderate growth. And as I mentioned earlier, we don’t want to grow too fast on the ARPUs, we would rather grow the active paying accounts faster than ARPU. And if you look at the Q3 numbers, it was a pretty decent number in terms of balance.

Paul Keung - CIBC World Markets

All right. If you look at the giants… if you look at for instance, Zhengtu, the ARPU there is about $25 a month. So how high can you drive your number? You are about two-thirds that right now. Is that number very doable for your title games?

Jun Tang - President

Yes. I think it’s definitely doable. Actually, the ARPU number is kind of the ability to pay for users. And we are in the same market. And I think if the gamers for the Zhengtu can bring up to 100 today, I think there is no reason for our gamers cannot pay up to that similar level [ph]. But again our strategy is not to exclude the gamers today, and we try to grow slowly and nicely instead of growth dramatically.

Paul Keung - CIBC World Markets

That’s great. Thank you very much.

Jun Tang - President

Thank you.

Operator

Thank you. Our next question comes from Wallace Cheung of CSFB.

Wallace Cheung - CSFB

Hi. ‘Morning. Two question. Just want to clarify on the guidance on the operating margins. As Grace mentioned, the trend is actually going to be flat. But referring to other question, I think the sales and marketing expenses is likely to be flat or down. So does that mean that the G&A expenses and product development expenses are going to go up in the fourth quarter?

Grace Wu - Chief Financial Officer

As I guided earlier, we expect our operating margins to be relatively similar to that of our Q3 ’07. Of course we will continue our commitment to R&D development and also to provide the best environment for our employees. But at same time we are also adjusting our marking expenses depending on the seasonal change. So again, well, as we look into Q4, we expect operating margins to be in a similar range.

Wallace Cheung - CSFB

Okay. My second question will be on the license fee payment. So obviously in third quarter it was down by around RMB15 million. I am assuming, majority of the reason of decline is actually coming from the reduction of the payment to the Actoz after consolidation. So assuming that you are paying say around 22% or 25% to Actoz previously, so I worked on the numbers, [inaudible] revenue could be around RMB82 million. Is that a good estimation or not?

Grace Wu - Chief Financial Officer

I am sorry, we cannot discuss the actual numbers of the license fee related to Actoz. So we expect our revenue growth to perhaps be in the range of 47%. I guess you are probably [inaudible] working on that number.

Wallace Cheung - CSFB

Sorry, 47% from what?

Grace Wu - Chief Financial Officer

Revenue growth, quarter-over-quarter. And we expect the margin to be lower to flat range. And again, there is some of financing [ph] [inaudible] of different assumptions.

Wallace Cheung - CSFB

Okay. I’m sorry, may I have the final estimate on, just simply on the effective tax rate again? Just wanted to get a sense like this year should we have the effective tax rate similar to ‘07 level or the third quarter ‘07 level?

Grace Wu - Chief Financial Officer

All right. It fluctuates a lot from time-to-time. For example, in Q2 ’07, if we [inaudible] the impact, our effective tax rate will be 15.9%. However the tax rate of our increasing assets in Aurora are slightly higher. That’s why we have a small impact on that 16.4% tax rate for Q3. But if you look at our operating subsidiary, our primary operating subsidiary Shengqu and other non-operating services, we have recognized the technology piece of that enterprise. So we have some taxing [inaudible] by the government. That’s why we do not [inaudible] effective tax rate going forward and we also provide a range of 5%, up or down for your reference.

Wallace Cheung - CSFB

Okay, thank you.

Grace Wu - Chief Financial Officer

Thank you.

Operator

Thank you. Our next question comes from Ming Lu [ph] from Eider [ph] Research.

Unidentified Analyst

‘Morning. I have two questions. First, since Shanda redeemed convertible notes, cash balance may be reduced to about $200 million. Will there be any impact on your operation?

And second, operating expense increased by 50% or $9 million quarter-over-quarter. How much was from the Seleroid [ph] promotion? Thank you.

Grace Wu - Chief Financial Officer

Right. Regarding the first question, if we redeemed our convertible bonds, if we can, we believe that first we have healthy cash flow from operations. We have sufficient cash in hand and we will also see cash flow in a healthy manner going forward. That’s why we made a redemption decision. And in the post redemption we have actually pretty healthy cash flow from operations that, just to give you an idea, well we are at least $300 million ahead right now. And excluding marketable securities which, that actually is pretty strong, our cash position. So we are not really worried about that, it would not effect operations. And your second question regarding the marketing expenses?

Unidentified Analyst

Yes, no operating expense. How much was it from the Seleroid [ph] promotion?

Grace Wu - Chief Financial Officer

Well, if you see the breakdown of operating expenses for the third quarter we actually have a break down providing the financial statements: R&D related 7.6% of revenue and 5.3 % of sales and marketing and then 13.6% on G&A . We discussed earlier that changing each every item [ph], the R&D expense increased and also G&A expense increased primarily related to the consolidation of Actoz and Aurora. Actoz is actually an R&D venture for us, and therefore the R&D expenses will be higher. And also we have a payroll adjustment in June this year that had an effective 20% compensation increase. And that also had an impact on the third quarter G&A expenses. All right. That added to the additional G&A expenses incurred by Actoz and Aurora.

Unidentified Analyst

I mean, there is a difference of about $9 million. And how much… how is the proportion from salary raise, say in, July.

Grace Wu - Chief Financial Officer

The salary impact is probably about one-third of the G&A expenses related… sorry, operating expenses related. The other two-thirds are on the R&D side. And I’m sorry, I didn’t really get your question on $9 million increase? Are you talking about our total increase?

Unidentified Analyst

Yes, total increase. Total operating expense increase.

Grace Wu - Chief Financial Officer

You see the change in our three major items in operating expenses, R&D, sales and marketing and also G&A and there are different factors that contributed to the increase quarter-over-quarter for the three items.

Unidentified Analyst

Okay.

Operator

Thank you. We have a follow up question coming from Alicia Yath.

Unidentified Analyst

Yes. Thank you. My follow up question is on NCsoft strategic investment. Does that investment actually give you right to any future gains from NCsoft or will you get future license gain in a more preferable term that you would otherwise not able to negotiate. Thank you.

Jun Tang - President

Actually we have signed a strategic alliance agreement with NCsoft. And the first step is we can issue license to look at anticipated gain with the payout [ph], and as probably most of you know, how it improved the gain for us. And also we have invest in an amount of equity in NCsoft China. The reason we do that, we try to work with NCsoft to position, develop more games for the Chinese market. And while we didn’t specify that every single thing we have into license from the NCsoft, I think it gives you the kind of strategic alliance Shanda has a great opportunity to work more closely with the NCsoft and I would think that this kind of strategic alliance is very, very important to us over the long-term.

Unidentified Analyst

Okay. Good. Thank you.

Jun Tang - President

Thank you.

Operator

Thank you. We have a follow up question from Tian Hou from Pali Capital.

Tian Hou - Pali Capital

How many expansion packs do you expect launch in Q4?

Grace Wu - Chief Financial Officer

Sorry, Tian, I couldn’t hear you. Could you raise your voice a little bit?

Tian Hou - Pali Capital

Yeah. How many expansion packs do you expect launch in Q4?

Jun Tang - President

Okay. As our practice in the last seven quarters, we are releasing expansion pack in almost every single MMORPG game, and that’s the way how we keep our games continue to grow. And if you ask, every single game MMORPG will have its own expansion pack.

Tian Hou - Pali Capital

Okay. That sounds great. And also the other question is regarding what Tianqiao said, in the community and the now one gamer can communicate with other games within one game and this gamer can also communicate with gamers in other Shanda games, is that correct. Did I listen correctly?

Jun Tang - President

Yes. If you look at our overall strategy, yes, actually we are working on that kind of a thing from technology side and we should… we are expecting to have some of kind of announcement on this strategy in this quarter.

Tian Hou - Pali Capital

Okay. Sounds great. Thank you.

Jun Tang - President

Thank you.

Operator

[Operator Instructions].

We have no further questions from the phone lines at this time.

Maggie Yun Zhou - Investor Relations Manager

Okay. Thank you to everyone for joining us today. If you have any additional questions, please feel free to contact us. Thank you. That concludes our conference call today.

Jun Tang - President

Thank you very much.

Tianqiao Chen - Chairman and Chief Executive Officer

Thank you.

Operator

Thank you, everyone. This does conclude today's teleconference. You may disconnect your lines at this time, and have a wonderful day.

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