Looking at Kong Zhong Through Warren Buffett's Lens

Jan.13.08 | About: KongZhong Corporation (KZ)

Kong Zhong (KONG) will release its 4th quarter report soon. It will probably be a 'tipping point' quarter for Kong Zhong, the company that suffered from China Mobile regulations along with all the VAS industry in China. The company estimates that 4th quarter revenue will be just above $17 M compared to about $34 M two years ago. The company's stock price is just about $6 compared to $14 two years ago.

The main goal of this article is to try to predict what is expected of Kong Zhong in the long run, and to check if the company internal value is attractive. The methodology that I used is Warren Buffett's tried-and-true value approach.

Kong Zhong has 3 major advantages:

1. Management persistence – Nick Yang is an old veteran in the Chinese internet market since he first created Chinaren.com and successfully sold it to Sohu.com for 37M USD. He demonstrated that he has the persistence to fight in bad times and overcome major obstacles (i.e. The 2000 internet bubble). It looks like Kong Zhong has reached the bottom and from here there is a good chance it will go up.

2. Dominant position in the VAS WAP market – Kong Zhong is the leader provider of WAP services in China. This can be translated easily to dominance in the 3G space that will be easier to convert to future revenues. Based on my experience in the mobile space, 3G can easily increase mobile internet revenues at least 5 fold.

3. Reduced risk due to large cash balance (120M USD), which means that the company is traded for about $80M above the cash position. Two years ago the company's annual profit was about $32M and now it is about $6M, mainly because of new regulations. If the company will manage to start growing again and reach profitability levels that it reached before, then this probably be the lowest forward P/E ratio (2.5) possible out there in China's Internet and Mobile market.

Now I want to balance this article and to state two reasons why Warren Buffet would probably not Buy Kong Zhong:

1. The company is not operating in a sector that Warren Buffet focuses on.

2. The company history is relatively short (less than 5 years).

I nevertheless highly recommended value investors check Kong Zhong for the long run. It looks like the upside is more promising than the risk, which is limited due to the high cash position.

Disclosure: Author is long KONG