Shanda Interactive Entertainment Ltd. Q4 2005 Earnings Conference Call Transcript (SNDA)

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 |  About: Shanda Interactive Entertainment Limited (SNDA), CDCAQ
by: SA Transcripts

February 27, 2006

9 p.m. EST

Executives

Donglei Zhou - Director of Business Development & IR

Tianqiao Chen - CEO

Jun Tang - President

Shujun Li - CFO

Analysts

Nate Schindler - Piper Jaffray

Wallace Cheung - Credit Suisse First Boston

James Mitchell - Goldman Sachs

Dick Wei - JP Morgan

Frank Ji - CLSA

Operator

Good evening, everyone. Welcome to today's Shanda Interactive Entertainment fourth quarter 2005 earnings conference call. (Operator instructions) It is now my pleasure to turn the floor over to your host Donglei Zhou, Shanda's Director of Business Development and Investor Relations. Donglei, you may begin.

Donglei Zhou

Thank you, operator and welcome everyone to Shanda's fourth quarter 2005 conference call. I would also like to give a special thanks to our friends in the U.S. who joined this call at a later hour. As always, we appreciate your participation. With us today on the call are Tianqiao Chen, our CEO; Jun Tang, our President; and Shujun Li, our CFO.

After the close of the U.S. market today, Shanda issued its fourth quarter earnings release. Copies of the release have been sent to you for your information and reference during this call. A copy of the release is also available on Shanda's corporate website at www.snda.com.

The purpose of this call is to provide investors with some further details regarding our financial results and to provide a general update on the Company. Following our formal remarks, we'll be happy to take any questions you might have.

Before we begin, I would also like to remind you that during today's call we will make certain forward-looking statements that are intended to qualify for the Safe Harbor from liability for such statements established in the U.S. Private Securities Litigation Reform Act of 1995. All statements during the conference call, other than statements of historical fact, are forward-looking statements.

Although we believe that our expectations expressed in our forward-looking statements are reasonable, we cannot assure you that our expectations will be correct. Risks and uncertainties could cause our actual results to be materially different from our expectations, including the risks set forth in our filings in the U.S. Security and Exchange Commission. Now with that, I would like to turn the call over to our CEO, Tianqiao Chen.

Tianqiao Chen

Thank you, Donglei. Welcome, everyone. The fourth quarter of 2005 was the crucial period for Shanda's strategy and future, as we are undergoing a key transition in our core business, as well as the transition to new business initiatives. These changes are consistent with our vision of becoming China's leading interactive entertainment media company. At the same time, they have cemented a solid foundation for Shanda's future growth.

As we stated previously, our vision is to become a leading interactive entertainment media company. Entertainment content is our core business. We position ourselves as a content and service provider. We also believe a successful media company should diversify their revenue model beyond subscription-based to include e-commerce and advertisement. The key is interactive -- that means our content is based on the Internet and it can be displayed on screens of PC, TV or handheld equipment. In short, we are an Internet-based content and service provider.

Let's start with the change in our core online business model. As you know, during the fourth quarter, Shanda introduced a free to play and a pay for in game value-added service and revenue model for three of our leading MMORPGs. As we watched the online game market in China evolve over the past four-and-a-half years, we noticed that users are becoming more sophisticated and their consumption patterns are changing, leading to market segmentation. As we thought about the future for MMORPGs in China, we decided to adopt a new revenue model that we believe will best address the needs of our customers.

Under the new premier features in the service-based revenue models, users can choose the kind of experience they want and pay the corresponding price. Essentially, the revenue is rather e-commerce-based, instead of conventional subscription fees. In a more mature market, this model works better than a flat fee. We already see the trends taking place in Korea. Out of the top 30 commercially-launched MMORPGs, 21 of them have adopted this revenue model.

This new model not only adapts to the changing demand of our users, but also expands our user base and diversifies our revenue stream, better positioning us for an expansion of the new revenue models such as advertising.

Following the adoption of the new revenue model in late November of 2005, we were pleased to see our MMORPGs average concurrent users (NYSEMKT:ACU) went up 33.6% in December, compared with the ACU in October and November. At the same time, revenues from MMORPGs remained generally stable in December, accounting for approximately 30% of the total MMORPG revenues in Q4.

Although the new revenue model has naturally impacted our revenues in the fourth quarter, we believe it has achieved a successful start in such a short period. Jun Tang will talk more specifically about the new revenue models in his remarks.

In conclusion, we have successfully diversified our revenue models from subscription-based models to include e-commerce and advertising, a step forward to achieving our vision.

Now turning the discussion to the transitioning on our content and platform. I am excited to see how EZ products start to contribute to the revenue in Q4. Starting two years ago, we have been committed to carry out our home strategy in order to broaden our content platform and user base. We have always positioned ourselves as a content and service provider. During the last two years, we adopted the following three steps:

  1. We have integrated our operation platform into a unified [hub to air] platform called EZ Center. Currently, we have finished modifying EZ Center to support Windows and Linux operation systems, as well as mobile device platforms.
  2. We have aggregate content from over 100 different Internet content providers. These SPs and CPs will utilize the same payment systems and share the same user base.
  3. We have reformatted the content from PC to TV screen display.

In short, we want to be an Internet-based content aggregator and provider, to be accessed primarily using a remote control through a TV format user interface.

The new revenue stream we started to generate from the sale of EZ Pod in the fourth quarter signified an important step forward for the execution of our home strategy. EZ Pod is an integral part of this strategy, that includes EZ Center software and a remote control, which are proprietary products that are designed and developed by Shanda and Phillips. We are also responsible for the manufacturing and distribution of EZ Pod, as well as sales and marketing.

We distribute EZ Pod to end users through our own distribution channels, as well as through partnerships with leading PC manufacturers, who will pre-install EZ Center software on their entertainment PCs and home PCs. Since its recent launch in December of 2005, the initial response to EZ Pod from regional distributors and PC manufacturers has been encouraging.

In addition, to approximately 179,000 sets of EZ Pod that have been pre-ordered from our own distribution channels, five of China's leading PC manufacturers together have placed their pre-orders for approximately 650,000 sets. We believe the continuous sales momentums that the EZ Pod has generated signified a strong start to the roll out of our EZ products. Once these EZ Pods reach the end users, the users will have direct access to Shanda's rich content at their home. Of course, they will have to pay a monthly subscription fee for ongoing services.

As part of our effort to further expand the penetration of our content platform among Chinese consumers, Shanda commissioned third party manufacturers to design EZ Station and EZ Mini, hardware application tailored for different customers needs, to access the EZ content platform. For these products, our strategy is to license an entire package of hardware and a software solution to consumer electronics manufacturers, which will be responsible for production, inventory management and the sales and distribution of the products. Shanda will focus on providing content and operation of the service platform.

I would like to emphasis again that Shanda has no intention to become a hardware company, and we are not getting to the manufacturing and inventory risks of the station or any form of a box. Shanda's core competence is in operating a platform that provides Internet content and services through a TV format interface and remote controlled process. As we indicated on our last conference call, we set aside a budget of approximately $220 million to kick off the roll out and marketing effort of our EZ products.

Looking forward, I believe Shanda is heading in the right strategic direction, and I am optimistic about our future. While keeping a leadership position in China's online game industry, we will focus on generating strong growth from the roll out of EZ products, and further diversify our revenue stream in order to reduce the volatility associated with dependence on one or two game products with a limited life cycle.

Although we have faced some challenges in the second half of last year, Shanda's revenue from online games in 2005 and the total user number still tops all of the other players in China. We have a strong product line in 2006, including exciting titles like D&D and Arch Lord, that we believe will solidify Shanda's position as an online game leader in the 3D space; and a slate of fun, casual games that we developed in-house, together with our robust operation platform, we expect to regain our momentum in 2006.

Our new EZ initiative is shaping up nicely. Both the solution package and the content platform are ready. The next step is to strengthen our efforts and execution ability in sales, marketing and [digiclusion]. Although this will add pressures to our operating margin in the short term, it is necessary and beneficial for China's future growth and a long-term return. We will also continue to work with various partners along the value chain, leveraging all available resources so that our investment is used most efficiently.

So in summary, the fourth quarter is the first step as our business model begins to move to a new level. The transition is not easy. The move to free-to-play was not an easy decision, but it is the right one and it is consistent with our strategy. The early results of EZ Pods are encouraging, but we still have a lot of work ahead of us.

I will now turn the call over to Jun Tang, our President.

Jun Tang

Thank you, Tianqiao. I will now discuss our online game business in more detail. The fourth quarter witnessed a transition for our game portfolio, and Shanda took the initiative to adopt a free to play and a pay for add-ins revenue model for Mir II, War and [Mad Clan]. The key to our new model is to allow you to start playing the game for free, and encourage the users to pay for value-added service once they become familiar with the game. We believe that users find our games more appealing after spending some time exploring the in-game environment, and gaining meaningful experience. We believe that users will in turn be more willing to pay for value-added service for the premier items.

The free model is an evolution of the MMOR market, not a defensive strategy. You have seen this evolution in South Korea, where most of the top-ranked MMORs are operating under the free model. Considering the Korean market is several years ahead of the Chinese market, we believe the swifter transition to the free model is a natural move for MMOR in our own market.

Total game revenues in the fourth quarter decreased 28.8% quarter-over-quarter to $38.7 million, while total ACU dropped 10% quarter-over-quarter to 1.3 million. However, total peak concurrent users for the fourth quarter reached 2.68 million, representing a 5% growth over the prior quarter.

On the MMORPG market side, revenues in the fourth quarter decreased 30.4% quarter over quarter to $28.6 million. The decrease was mainly due to the continuous revenue decline in Mir II, as well as the adoption of the free model for all major MMORPGs. Total peak concurrent users for MMORPGs in the fourth quarter declined 1.4% to 1 million, compared with the third quarter where the total ACU decreased 12.9% sequentially to 548,000.

It is important to note that up until the adoption of the free to play model in late November 2005, ACU of all MMO games increased 33.6% in December over ACU in October and November, where peak concurrent users of MMO games increased 10.7% in December over the previous two months. Although it is still too early to draw out any conclusions on the free model, the early results do confirm our expectations in a general sense.

Turning to the casual games, revenue for the fourth quarter, including revenue from Bianfeng, [How Fun] and the newly acquired Gametea decreased 23.7% quarter over quarter, to $10.1 million. This is a sequential decrease, primarily due to the decline in revenues from our leading casual game, B&B. In addition to some fourth quarter seasonality effect, peak concurrent users for casual games increased 9.2% quarter over quarter, to 1.66 million, while the ACU decreased 7.7% to $745,000. The increase in ACU was primarily due to the inclusion of the peak concurrent users numbers from [Game Peak] which we acquired in December, 2005.

Looking ahead, we remain confident in our game pipeline and our prospects for the future. We plan to commercialize two new casual games -- including the [one South Korean new game, DJ Max], and one in-house developed car racing game, Crazy Cars -- through the remainder of the quarter.

In the second quarter, we are looking forward to launching the beta test of the highly anticipated Dungeons and Dragons from [Turbine]; NHN's ArchLord, which enjoys a strong user reputation in South Korea; as well as the South Korean casual game, KongKong, developed by Omega Enterprises. We also have two [access] games waiting to be launched in China during the second half of the year, and more than six in-house developed casual games to be released in the next three quarters.

All of this will help us remain the leading position in the market, and to further broaden our game portfolio content. With that, I will turn the call over to Shujun.

Shujun Li

Thank you, Jun and welcome, everyone. Q4 total net revenues was $44.7 million, representing a 16.3% decrease year-over-year, and a 27.8% decrease quarter over quarter. For the full year 2005, total revenues increased 46% year-over-year, to $235 million. Our core online game business delivered revenue of $38.7 million in Q4, down 20.1% year-over-year, and 28.8% from the previous quarter.

For the full year 2005, online game revenues totaled $205.5 million, up 37.1% from 2004. Revenues from MMORPGs in Q4 decreased 23.2% year-over-year, and 30.4% quarter over quarter to $28.6 million. ACU for MMORPGs was 548,000 in Q4 compared to 630,000 in Q3, mainly due to the weakening user base of Mir II. However, upon the adoption of the free to play business model in late November 2005, ACU of our MMORPGs increased 33.6% in December, compared to the figures in October and November.

In December, revenues from MMORPGs was $8.5 million, accounting for 29.8% of our total MMORPGs in Q4. ARPU hour for MMORPGs, which is based on net revenues, was RMB0.19 in Q4 compared with RMB0.24 in Q3. The decline is due primarily to the adoption of the free to play model for three of our MMORPGs.

Moving forward, we will use the average revenue per active paying account per month to calculate for our free to play MMORPG games. In the free to play model is similar to our [can] game model, and we can use similar parameters to evaluate MMORPG performance.

Our casual game revenue decreased 9.6% year-over-year, and 23.7% quarter over quarter to $10.1 million. ARPU for casual games declined 18% quarter over quarter to $2.7 million, while average monthly revenue per paying account declined 7% quarter over quarter to RMB0.10.

Other revenues for Q4 were $6 million, an increase of 19.4% year-over-year and a decrease of 21.1% quarter over quarter. The sequential revenue decline was mainly caused by the revenue decline in Mibao, Shanda's secure ID product, and online advertising. Mibao is specially tailored for our games, and has been on the market for the last half quarter. Due to the one-time nature of this product, the user demand has been slowing down. The revenue decline in online advertising is due to non-renewable, several large, short-term advertising contracts, as well as a significant decrease from several other large clients.

Revenues contributed by the EZ Pod was RMB22.5 million, which was generated by the sales of approximately 83,700 sets of EZ Pods, which Shanda launched on December 1st, 2005. The gross margin for EZ Pods was 47.7% in Q4. Other revenues accounted for 13.5% of our total net revenue in the quarter. For the full year 2005, other revenues was $29.5 million, compared to $10.8 million for the full year 2004.

Our gross margin was 59.9$ of net revenues this quarter, down from 67.1% in the fourth quarter of 2004, and from 68.9% in the third quarter of 2005. For the full year 2005, the gross margin was 67.6%, up from 63.7% in the full year 2004.

As we discussed previously, in Q4 we continued to advance in areas that would contribute to future growth. This investment demand is decreasing net revenues, resulting in a Q4 loss from operations of $3.4 million compared to income from operations of $22.6 million in Q4; and $18.8 million in Q3 2005. The increase in operating expenses was attributable to an increase of product development expenses, sales and marketing expenses and a provision for doubtful debts. Product development expenses increased 10.6% sequentially, mainly due to the increased product development head count and hardware development expenses related to the new game, [Pro Ban] and EZ initiatives.

Sales and marketing expenses increased 17.6% quarter over quarter. The increase is mainly due to continued investment in marketing expenses related to the upcoming launch of EZ series and new games. In the fourth quarter of 2005, the Company recorded doubtful debt in the amount of RMB48 million, which was mainly due to overdue receivables from online advertising and Mibao sales. As I mentioned previously, the user demands for Mibao has been slowing down as the market started to saturate, affecting customer's ability to maintain sales and make payments for their previously ordered products.

The provision for online advertising's doubtful debts was [inaudible] for the non-renewable contracts with players that have overdue accounts, and the deteriorating financial conditions of the client. For Q4, we had net loss of $16.8 million, compared to net income of $28 million in the fourth quarter of 2004 and $32.3 million in the third quarter of 2005.

The fourth quarter net loss includes a non-cash impairment charge of $64.6 million to reflect the fair value of Shanda's 38% stake in Actoz, our South Korea online game partner. The write-down is in accordance with US GAAP to reflect the fair value of our stake in Actoz. It is important to understand that Actoz is a valuable and strategic asset to Shanda. The effective tax rate for the fourth quarter was 19.6%. The effective tax rate was determined by the weighted average tax rate of all our operating companies, which were taxed at different rates.

In the third quarter of 2005, one of our operating companies was intended to have full income tax exemption. Because of the changing revenue model, a smaller proportion of our taxable income was considered -- that operating company that has income tax exemption, resulting in a higher tax rate for Q4.

The number of weighted average ADS equivalent outstanding for the fourth quarter was $71.2 million, compared to 74.3 million a year earlier and 32.5 million for the previous quarter. For the full year 2005, Shanda's net income was $20.5 million, representing a 72.9% decrease compared to a net income of $73.6 million for the full year 2004. Diluted earnings per ADS was $0.28 for the full year 2005, compared to a diluted earnings per ADS of $0.98 for the full year 2004.

That concludes my formal comments. Thank you everyone for joining us today. I would now like to turn the call back to Donglei.

Donglei Zhou

Thank you, Shujun. We will now open the floor to questions.

Question-and-Answer Session

Operator

Thank you. (Operator instructions) Your first question is from Safa Rashtchy - Piper Jaffray.

Nate Schindler - Piper Jaffray

Hello, this is Nate Schindler calling in for Safa Rashtchy. Good morning. I wanted to get a couple questions regarding EZ Pod first, and a little bit more about sustainable ARPU for your free to play.

You mentioned $2.8 million in EZ Pod sales. How much of that is actually going to an end user?

Donglei Zhou

[Translated question]

Tianqiao Chen

[Response in Mandarin]

Donglei Zhou

I think, December 1st we launch our EZ Pod product. We have two channels to sell this product. One is through our distribution channel, the other is through partnerships with EPC manufacturers. With the EPC manufacturers, that will be the sales directly to the end user when they buy an EPC. Through the distribution channel, then the distributors would pre-order from us, and moving through their distribution channel to the end user.

Because we just launched our product December 1st, it is really too early to give any detailed numbers. The initial orders indicated that the market is welcoming this particular product.

Nate Schindler - Piper Jaffray

Okay. When do you expect to see monthly revenue from the subscription to the EZ Pod, or EZ Center, and how much are you going to be charging on a monthly basis at this point?

Donglei Zhou

[Translated question]

Tianqiao Chen

[Response in Mandarin]

Donglei Zhou

Just like the online game operation, we typically have an open testing period. Right now, the EZ Center platform is in an open testing period. Once that commercial operation has been formalized, we expect to charge a monthly subscription fee of about RMB68.

Tianqiao Chen

[Response in Mandarin]

Donglei Zhou

We have also done a series of surveys recently of the consumer habits as well as other factors indicated that a price somewhere between RMB60 to RMB80 is acceptable.

Tianqiao Chen

[Response in Mandarin]

Donglei Zhou

For example, Shanghai IP TV users have to pay a minimum of RMB80 per month for about 30 TV channels and more fee will be required for each additional channel.

Tianqiao Chen

[Response in Mandarin]

Donglei Zhou

Of course, besides the monthly subscription fee, we also encourage the users to try out the content on an a la carte, pay for play kind of subscription model so that they can tailor the content package to their particular need. This is of course also based on more than five years experience of operating games and allowing people to decide the kind of experience that they want.

Nate Schindler - Piper Jaffray

Okay, thank you. One final question on ARPU. Where do you believe your sustainable ARPU is going to be for your new free to play games, and is it too early to tell? Also, the new games coming out, ArchLord, Dungeons and Dragons, both licensed games -- if free for play is a direction the market is evolving to, will publishers of the games such as Turbine, allow you to do that for future licensed games, such as Dungeons and Dragons?

Donglei Zhou

[Translated question]

Shujun Li

[Response in Mandarin]

Donglei Zhou

I think generally the ARPU that we started to see in December is a general trend, however it is still too early to tell. Second is that with the new games, we do believe that the item-based revenue is a general trend, however premium titles like Dungeons and Dragons initially, we will probably still have the subscription based charge as well.

Tianqiao Chen

[Response in Mandarin]

Donglei Zhou

I would just like to echo Shujun Li's comment. The trend is generally going towards more item-based revenue model, whereas I think when it comes to particular games then it is a case-by-case scenario where we would have to work with the licensor to work out the revenue model that works for both parties.

For example, I can tell you now that ArchLord will be launched based on the free to play and item-based revenue model. It will be the first large scale, 3D game that is going through that revenue model in China; whereas D&D, based on its certain characteristics, we will start with the monthly fee.

Nate Schindler - Piper Jaffray

Thank you.

Operator

Thank you. The next question comes from Wallace Cheung - Credit Suisse.

Wallace Cheung

Good morning. I was wondering if you could give me an update on the EZ Port PCU and ACU recently? Can you also give us some highlights on the other two EZ products, EZ Station and EZ Miniplan? When are they going to launch?

Donglei Zhou

[Translated question]

Tianqiao Chen

[Response in Mandarin]

Donglei Zhou

Although it is too early to really discuss those numbers, I am glad to see that analysts have started to ask about PCUs and ACUs for the EZ Center platform. That means people have already recognized the fact that this is still a content and service-based platform, and those are the numbers we should look at.

Jun Tang

[Response in Mandarin]

Donglei Zhou

For the EZ Station product, we are very happy that we have the total package solution for both the hardware and software, and we will be licensing that to third party consumer electronics manufacturers, so that they will be responsible for the production, inventory management, as well as the sales and marketing of the product.

Tianqiao Chen

[Response in Mandarin]

Donglei Zhou

Our frameset of this approach, will be that the EZ Center content platform will be bundled inside of the EZ Station that those consumer electronics manufacturers will be selling in the market. This is very similar to Intel's effort to have design solutions particularly for their OEM partners so that they can better push the Intel chipset solution.

Jun Tang

[Response in Mandarin]

Donglei Zhou

So the question as to when the EZ Station will be launched and how it will be launched is rather a decision of our consumer electronics manufacturers partners. We will be working with them to finalize that.

Wallace Cheung

Fine, thank you. Just one additional question is, what is the [percentage] from say Mir II and War? As a percent of, let's say, total [MMORPG] to the revenue in fourth quarter? And also, in particular in December, how does that percentage change?

Donglei Zhou

[Translated question]

Shujun Li

[Response in Mandarin]

Donglei Zhou

On the change side, because of Mir II's continued ageing, it is still declining and War was affected mainly by the change in terms of the revenue model. The trend is fairly stable.

Operator

Thank you. The next question comes from James Mitchell - Goldman Sachs.

James Mitchell - Goldman Sachs

Hi, thank you for taking the questions. Could you talk about what percentage of the players of the multi-player games are still choosing to pay for virtual MMI and what percentage are not generating any revenue?

Donglei Zhou

[Translated question]

Jun Tang

[Response in Mandarin]

Donglei Zhou

Because we just started this revenue model, it is too early for us to collect all of the data. I think probably in first quarter we should have that kind of data.

James Mitchell - Goldman Sachs

Okay. And then in terms of -- I saw there is a deferred revenue decline, quarter on quarter. I guess people already had prepaid cards and they don't need to buy new ones as quickly. Could you talk about whether people are buying new prepaid cards as they use up the old prepaid cards on virtual items? Or again, is it too early to say until you get the first quarter results?

Donglei Zhou

[Translated question]

Shujun Li

[Response in Mandarin]

Donglei Zhou

We saw the deferred revenue figure at the end of the year decrease from the end of third quarter, mainly because of the change in our revenue model and the fact that the distributor is in the wait and see mode. However, we have already seen that, very confident, has regained as the sales momentum stabilized. I think that going forward the deferred revenue should gradually stabilize at a certain percentage of the total revenue.

James Mitchell - Goldman Sachs

Okay, great. And maybe just a final follow-on, if you don't mind. When I looked at what you were saying about revenue for the different months, it sounds like this shift from pay to play in October and November to free to play in December, that resulted in a mid-teens revenue decline? Month on month? Would that be broadly correct?

Donglei Zhou

[Translated question]

Tianqiao Chen

[Response in Mandarin]

Donglei Zhou

First is that besides the fact that we changed the revenue model for MMORPG, Mir II also continues to face the ageing life cycle issue.

Tianqiao Chen

[Response in Mandarin]

Donglei Zhou

Another factor is that starting in October and November, we already gradually have about one-third of the server sites testing the new business model, so that we can see how the users are adopting to this.

Tianqiao Chen

[Response in Mandarin]

Donglei Zhou

Starting from December 1st we announced that essentially all of the servers for Mir II will get the new model, so that the effect of the free to play model has already taken place in October and November, whereas it has taken full effect in December.

Tianqiao Chen

[Response in Mandarin]

Donglei Zhou

We are happy to see that since December 1st, this new model is shaping up nicely. The revenue contributed by the month of December is about 30% of the full quarter's revenue, whereas the ACU number actually increased by 33.6% compared to October and November.

I think given that the users are actually growing again, and also the revenue numbers are stabilizing, I believe this is a successful start.

James Mitchell - Goldman Sachs

Great, thank you.

Operator

Thank you. The next question comes from Dick Wei - JP Morgan.

Dick Wei - JP Morgan

Hi, good morning. I have two questions. My first question is that will the high marketing expenses be incurred in the first quarter? Because I believe you have done some EZ marketing. I want to ask if you can share some of the active users numbers for the subscription, EZ Center software?

The second question is, in terms of the EZ Pods pre-order with the computer makers, are those binding contracts? If they do not [inaudible] would they still be obligated to pay Shanda?

Donglei Zhou

[Translated question]

Shujun Li

[Response in Mandarin]

Donglei Zhou

As we also stated in our last conference call, we had budgeted about $20 million aside to kick start the EZ Pod product. The sales and marketing activities are going according to plan.

Tianqiao Chen

[Response in Mandarin]

Donglei Zhou

As for the active user number, because it has only been two months since we launched the product, and also the content and the testing, it will be too early to disclose those numbers.

Shujun Li

[Response in Mandarin]

Donglei Zhou

The contract we have with the PC manufacturers are legally binding contracts, so they are not just an MOU. As to the detailed terms of those contracts, they are case by case and we shouldn't disclose them at this particular moment.

Dick Wei - JP Morgan

I have just one final question. I wonder if you have any initiatives in terms of cost cutting? Because I saw that in the fourth quarter the G&A expense is up quite a lot. I wonder if there are any initiatives to try to minimize expenses and try to have the operating profit turn positive going forward? Thanks.

Donglei Zhou

[Translated question]

Shujun Li

[Response in Mandarin]

Donglei Zhou

As a matter of fact, in Q1 we have adopted various cost-controlling methods to reduce our expenses.

Shujun Li

[Response in Mandarin]

Donglei Zhou

For example, we have reduced or relocated [some of the] services to make them run in a more efficient and economical way.

Shujun Li

[Response in Mandarin]

Donglei Zhou

And also, based on last year's employee performance evaluation results, we have taken certain adjustments as well as certain small-scale restructuring.

Shujun Li

[Response in Mandarin]

Donglei Zhou

These are all normal cost control measures. At the same time, Shanda as a whole company is very stable and we continue to invest and spend in areas where there will be business development.

Dick Wei - JP Morgan

Thank you. Thanks for taking my question.

Operator

Our next question comes from Frank Ji from CLSA. Please go ahead.

Frank Ji - CLSA

Good morning. I have three questions.

[Question asked in Mandarin]

Basically my question was, the number of items sold in December, the ACU number for [inaudible] in December and also the operating cash flow for the quarter. Thank you.

Shujun Li

[Response in Mandarin]

Donglei Zhou

I think to understand the item-based revenue model, it is easier to look at, for example, Disneyland. There will be a lot of product for sale in Disneyland just like there will be a lot of different features. There are bigger items, small items available within the game as well. It is hard to quantify how many items that have been sold, whereas it would probably make more sense to look at average spending per paying account for the figure.

Jun Tang

[Response in Mandarin]

Donglei Zhou

First of all, in December ACU number as Tianqiao mentioned earlier, the average concurrent user number in December compared to October and November grew by more than 33% to 658,000. Going forward, I think as the new model materializes as well as the new games get launched, we should be able to see stable growth in our ACU number for MMORPG.

On the operating cash flow number, it is still healthy, operating cash flow in general. In the fourth quarter the decline in our cash position was related to a few CapEx investments, but the operational cash flow is very healthy.

Frank Ji - CLSA

Thank you.

Tianqiao Chen

[Comment in Mandarin]

Donglei Zhou

I think we are running out of time, but I just want to add two more points.

Tianqiao Chen

[Response in Mandarin]

Donglei Zhou

Although as I mentioned earlier in the conference call script, although there are some short-term challenges, we are more confident than ever that we are moving along in the right direction.

Tianqiao Chen

[Response in Mandarin]

Donglei Zhou

The online game business, we continue to hold a leading position in 2005 based both in terms of users as well as total online game revenue number. Going forward, we have a very strong pipeline of the MMORPGs; we have leading titles such as Dungeons and Dragons and ArchLord. On the casual game side, we have a slate of casual games that we have developed in-house as well as licensed, for example, Crazy Cars and others.

In terms of the new business model, we believe it is adapting quite well. Looking ahead to 2006, we think we will be very strong in both subscription-based revenue as well as the item-based e-commerce revenue.

Tianqiao Chen

[Response in Mandarin]

Donglei Zhou

On the new EZ product, I am especially happy to see that analysts have started to recognize Shanda's position as a content and service provider already, even though since last July, the CS event, I have made the declaration that Shanda will only license solutions to hardware manufacturers, we will not get into the hardware business ourselves. There are still a lot of misunderstandings in the market, so I am very happy that now people are starting to have a more clear understanding of our business.

Tianqiao Chen

[Response in Mandarin]

Donglei Zhou

Because of this positioning, the new costs related to the EZ products are very clear. It will be namely staff costs, R&D costs, as well as sales and marketing costs. We have already set aside $20 million that will be more than sufficient to cover this initiative. So in terms of cash flow, I am very confident that we can still have a very strong, healthy cash flow.

Tianqiao Chen

[Response in Mandarin]

Donglei Zhou

In terms of the EZ product itself, the initial response from the PC manufacturers as well as chip companies such as Intel, the partnership that they have entered into with Shanda is a strong indication that the entire value chain has already recognized the value of the EZ Center product, and are in this together with Shanda.

Tianqiao Chen

[Response in Mandarin]

Donglei Zhou

Our positioning as a content and service provider, especially our leadership on the online gaming side, and also our [inaudible] into the interactive entertainment media content will ensure that Shanda's business will become more stable, our revenue stream will become more diversified and our growth will be more sustainable in the future. So thank you again for your support and understanding.

Tianqiao Chen

Thank you.

Donglei Zhou

This concludes our conference call for 2005 Q4 earnings release. Thank you.

Tianqiao Chen

Thank you.

Jun Tang

Thank you.

Shujun Li

Thank you.

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