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Linktone Ltd. (NASDAQ:LTON)

Q4 2007 Earnings Call

March 27, 2008 8:00 pm ET

Executives

Edward Liu - Director, Investor Relations

Michael Li - Chief Executive Officer

Tiem Foo Him - Acting Chief Financial Officer

Analysts

Patrick Lin - Primarius Capital

Operator

Ladies and gentlemen, thank you for standing by and welcome to the Linktone fourth quarter and year-end 2007 results conference call. (Operator Instructions) I would now like to turn the conference over to Edward Liu, Director of Investor Relations. Please go ahead, sir.

Edward Liu

Thank you and welcome to Linktone's quarterly conference call. With me today are Mr. Michael Li, Chief Executive Officer, and Ms. Him Tiem Foo, Acting Chief Financial Officer. And I am Mr. Edward Liu, Director of Investor Relations.

Earlier today, we announced our financial results for the fourth quarter and year ended December 31, 2007. Michael will begin today’s call with a review of the quarter and year-end results and a discussion of Linktone's strategy for 2008. Him Tiem will then review our income statement and balance sheet for the fourth quarter and provide our business outlook for the first quarter of 2008. After that, we will open the call up for questions.

Before we begin, I’d like to remind you that during the call, we will make forward-looking statements which are subject to risks and uncertainties. We do not undertake any obligation to update this forward-looking information except as required under applicable laws.

Now I’d like to introduce Michael Li, Linktone's Chief Executive Officer, for a summary of Linktone's business and operational results for the fourth quarter and year ended December 31, 2007 and our 2008 strategy. Michael.

Michael Li

Thank you, Edward and thanks to everyone on the call for joining us today. Before I review our results, I would like to take a few minutes and address the environment we’ve been facing during the most recent fiscal year and how it has impacted our results and overall thinking.

It’s been no secret to anyone of the challenges we’ve encountered relating to our wireless business. Like most wireless provides in China, we have seen a difficult regulatory environment which has made an impact on our results. Service providers industry wide have face higher operating costs and narrowing margins. We do however believe the market will begin to stabilize itself this year and in light of this industry environment, we took some of these definitive steps earlier in the year to help better position the company for longer term growth.

I would also like to take a few moments and update you on the pending transaction with Media Nusantara Citra, MNC. As you know, MNC will be purchasing a controlling interest in Linktone and we are very excited about this strategic investment, which is something we believe will clearly benefit Linktone, its employees, and shareholders.

As you know, MNC will purchase no less than 51% of Linktone's outstanding shares, using a combination of tender offer for existing shares and a subscription for newly issued shares. The tender offer commenced on February 6, 2008, and will be up to $6 million in American Depository Shares, or approximately 25% of the total outstanding shares at a price of $3.80 per ADS in cash and ended on March 26, 2008.

We expect this transaction to close in early April 2008. MNC will be subscribing to a minimum of 180 million newly issued ordinary shares of Linktone at a purchase price of $0.38 per ordinary share.

We believe there are tremendous overall synergies that will mutually benefit both side. MNC is one of the largest and the only integrated media company in Indonesia. They see the obvious potential in developing a successful media business in China by leveraging Linktone's existing WVAS and exclusive advertising rights. And with the increased cash infusion from the MNC investment, we will be able to aggressively execute and implement our cross-media strategy in China, which will become our core platform.

Turning back to the fourth quarter results, our diversification over the past few quarters into advertising services to include traditional media channels has begun to pay off. Advertising revenue grew by more than 300% in the fourth quarter of 2007 when compared to the prior year’s fourth quarter and was driven primarily by an increase in advertising service revenue.

Furthermore, advertising revenues accounted for 10% of our total revenue in 2007. We expect this to increase to more than 30% of our total revenue in 2008.

Now let me summarize the results of our various product areas.

SMS revenue was $4.5 million for the fourth quarter, representing 28% of total revenue, compared with $3.5 million in the previous quarter and 26% of total revenue.

Revenue from our 2.5G product, MMS, wireless application protocol, or WAP, and Java totaled $1.4 million compared to $1.2 million in the previous quarter.

Audio related revenue, IVR and CRBT, were $8.3 million compared to $5.9 million in the third quarter. The sequential increase in our WVAS revenues was mainly due to an improved operating environment.

In just a moment, I will turn the call over to Ms. Him Tiem Foo, our Acting CFO, for a more in-depth review of Linktone's financial results and some insight into our expectations for 2008.

Before doing so, I just wanted to publicly and personally thank Colin Sung for his hard work and his dedication to the company. His assistance during the transition period was instrumental in aiding the company with the strategic investment by Media Nusantara Citra.

With that said, I will turn the call over to Him Tiem. Go ahead, please.

Tiem Foo Him

Thanks, Michael and thank you to everyone on today’s call. Linktone's fourth quarter gross revenue was $16 million compared to $13.3 million for the for the third quarter of 2007 and $14 million in the fourth quarter of 2006.

Revenues for the fourth quarter related to services offered to China Netcom and China Telecom, China Unicom and China Mobile customers represent 16%, 4%, and 70% of total revenue respectively, compared to 23%, 4%, and 53% respectively for the third quarter of 2007.

Given the weakness in the wireless market this year, it obviously makes sense to take some serious initiatives to diversify ourselves. Looking ahead, we believe that a significant investment in the wireless media market will allow Linktone to be a long-term leader and will set the stage for the anticipated launch of 3G and eventually mobile television and fresh products.

We plan to invest approximately $10 million in content, coverage, distribution, and programming initiatives in 2008 to bolster the company’s cross-media strategy.

Linktone gross margin for the fourth quarter was 37% of net revenue, or gross revenue minus business tax, compared with 40% for the third quarter and 63% for the fourth quarter of 2006.

Operating loss was 46% of net revenue, compared with operating loss of 22% for the third quarter of 2007 and 1% in the fourth quarter of 2006.

Operating expenses totaled $12.9 million compared to $7.9 million in the third quarter of 2007 and $8.5 million for the fourth quarter of 2006.

Selling and marketing expenses were $3.7 million compared with $3.2 million for the third quarter of 2007 and $4.7 million for the fourth quarter of 2006. The sequential increase was due to additional marketing and promotion initiatives implemented during the quarter to promote our WVAS products. That is in line with the increase in our WVAS revenue.

Product development expenses were $1.1 million, compared to $1.4 million for the third quarter of 2007 and $1.5 million for the fourth quarter of 2006. The decrease was due to further streamlining of our technology workforce into one location in Beijing, compared with two teams, one in Beijing and one in Shanghai prior to the fourth quarter of 2007.

Other general and administrative expenses were $2.9 million, compared with $3.3 million for the third quarter of 2007 and $2.3 million for the fourth quarter of 2006. These expenses were higher in the third quarter due to certain costs in connection with our office move in Shanghai and professional costs.

GAAP net loss was $7 million for the fourth quarter, compared with a net loss of $2.8 million for the third quarter of 2007 and net income of $0.4 million for the fourth quarter of 2006. GAAP net loss per fully diluted American Depository Shares, ADS, was $0.29. This compared to a net loss per fully diluted ADS of $0.12 for the third quarter of 2007 and compared to net income per fully diluted ADS of $0.02 for the fourth quarter of 2006.

The net loss for the fourth quarter includes a total $5.1 million in provisions for impairment. Excluding these provisions, the net loss for the fourth quarter would have been $1.9 million. The sequential decrease in net loss excluding these provisions was mainly because of better net results from our WVAS business as the operating environment in that sector improved during the quarter. Please refer to our press release for a more detailed explanation of these provisions.

Non-GAAP net loss was $1.6 million for the fourth quarter, compared with non-GAAP net loss of $2.5 million in the third quarter of 2007 and net income of $0.8 million in the fourth quarter of 2006. Non-GAAP net loss per fully diluted ADS was $0.07, compared with a non-GAAP net loss of $0.10 in the third quarter of 2007 and a net income of $0.03 in the fourth quarter of 2006.

You will find a reconciliation of GAAP financial measures to non-GAAP financial measures in our press release and fourth quarter and fiscal 2007 financial statements, which are posted on Linktone's corporate website at www.english.linktone.com.

Taking a look at the results for the entire fiscal year, the company’s gross revenue decreased 31% for fiscal year 2007 to $55.1 million, compared to the $79.8 million reported for 2006. Revenue declined following the implementation of new mobile operator policies beginning in July of 2006, partially offset by a new stream of revenue from advertising services.

Gross profit margin for fiscal year 2007 decreased to 40% compared to 62% in 2006. The decline was caused primarily by a decrease in WVAS gross profit margin to 58% in 2007 from 62% in 2006, and a gross loss of 127% for our advertising services.

Full year net loss under GAAP was $16.4 million, or $0.68 per fully diluted ADS, compared with a net income of $6.8 million, or $0.26 per fully diluted ADS for fiscal year 2006. Excluding the effect of non-cash stock-based compensation and the provisions for impairment, non-GAAP net loss for 2007 was $9.9 million, or $0.41 per fully diluted ADS, compared with a net income of $8.3 million, or $0.32 per fully diluted ADS for 2006. The decline in net income was mainly due to a decrease in WVAS revenue and gross profit, which was impacted by operator policies, the company's investments in its advertising business, and provisions for impairment as explained in more detail in our press release.

Now I would like to review a few balance sheet related items. We had cash and cash equivalents and short-term investments held to maturity totaling $41.6 million, at December 31, 2007, compared to $47 million at September 30, 2007. As of December 31, 2007, the number of weighted average ADS outstanding was 24 million, up slightly from 23.9 million at September 30, 2007.

Day sales outstanding were 77 days at December 31, 2007, compared with 91 days at September 30, 2007. The decrease in day sales outstanding was mainly caused by better collection during the quarter.

Finally, our outlook for the next quarter -- Linktone expects gross revenue to be approximately $18.5 million to $19.5 million, with WVAS and game revenue to be between $15 million and $15.5 million and advertising revenue to be between $3.5 million and $4 million.

With that, I will turn the call back to Michael for some closing remarks.

Michael Li

Thank you, Him. While we believe that the traditional wireless business will continue to be a solid foundation for Linktone, our new focus will be an aggressive rollout of wireless services with our new satellite TV partners. This will provide us with unique content and distribution channels that offer strong revenue potential in the areas of content distribution and advertising. Making these significant investments to be a long-term leader in wireless media markets is necessary.

Our focus in 2008 will be to expand our distribution assets and strategic partners in both traditional and new media and to extend Linktone's leadership by capitalizing on the growing opportunity in the interactive programming, advertising, and mobile television market.

Our leadership position in converging wireless and television programming has provided us with access to unique content and distribution channels. We anticipate that these and other strategies will position us for long-term value and growth for our shareholders in 2008 and beyond.

At this point, we would be happy to answer any questions you may have. Operator.

Question-and-Answer Session

Operator

(Operator Instructions) Our first question comes from Patrick Lin with Primarius Capital. Please go ahead.

Patrick Lin - Primarius Capital

Congratulations on the improved performance. Can you give us a little bit more color on the rapid growth in the advertising area? Specifically, what amounted for this kind of growth and what does the growth rate look like going forward in terms of your visibility? And then two, what doe the profitability or gross margin look like on this business, please?

Tiem Foo Him

We guided that for Q1, our advertising revenue will be increased to $3.5 million to $4 million. The main growth in the area is because of the new change in TV project that we have taken on since January 2008.

As for the profitability -- okay, because of the investment that we mentioned in the press release as well as in our script just now, currently we are still at the investment stage. We are planning to spend at least $10 million to invest in our coverage, in our distribution, in our content. So the media business sector alone is expected to be operating at a loss position for the next couple of quarters.

Patrick Lin - Primarius Capital

Okay, and what about the visibility in terms of this business? Is it flattish, is it linear? Is there a seasonality to this? I mean, how does it look for the rest of this year, or is it all program driven in terms of timing?

Edward Liu

There’s also other potential deals in the pipeline that we can’t really discuss right now, but we’d be more than happy to talk to you guys about that offline.

Michael Li

The advertising market here in China is still growing at double-digits in the past few years and it will keep that pace in the next few years. And this year because of the Olympics, it will grow more than 20% for the whole advertising market and Linktone [is positioned] to take advantage of that opportunity.

Patrick Lin - Primarius Capital

Great. Thanks.

Operator

(Operator Instructions) Our next question is a follow-up from the line of Patrick Lin. Please go ahead.

Patrick Lin - Primarius Capital

Just a quick follow-up; I know you still have a lot of investors here in the U.S., given that’s where the stock trades but I’m curious what other conferences or road shows that you guys might be on over the next three months in terms of meeting with investors, either in Asia or in the U.S.

Michael Li

After we close the deal with MNC, we will prepare a road show to the U.S. and also to other countries. I think that we will let you know after we finalize the deal in April.

Patrick Lin - Primarius Capital

So it will be some time in April is what --

Michael Li

-- plan in April. I think more likely some time in the second quarter.

Patrick Lin - Primarius Capital

Got it. Okay, terrific. Thank you.

Operator

Thank you. I am showing that there are no further questions. I’ll turn it back to you for closing comments.

Edward Liu

Thank you everyone for joining us today. This concludes today’s teleconference for both our fourth quarter and 2007 financial results. Please contact us should you have any additional questions. Thanks again for joining us today.

Operator

Thank you. Ladies and gentlemen, we do thank you again for your participation and at this time, you may disconnect.

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