Shanda Still Stands a Chance to Be on the Front Lines (SNDA)

Mar. 2.06 | About: Shanda Interactive (SNDA)

Okay, so I've been probably too patient with Shanda Interactive Entertainment (NASDAQ:SNDA). Clearly, the market was hoping for something a bit more optimistic when they released their earnings this week, and so was I. That 20% decline in the stock should tell us something about how well their earnings went.

And now the question is, do I sell my shares, or part of my shares? Or do I look at the value proposition and the possible turnaround the Shanda is now embarked on and decide that it's worth sticking with it? I re-read the conference call transcript and the earnings releases and I was struck by a few things:

First, of their two new games expected to be in release fairly soon, one will use their free-play system and one will require a subscription payment. That's the downside of working with licensed games instead of coming up with your own, you don't get to decide how to distribute them. Still, both games have the potential to be successful so it might be a useful test to see which model is more effective in China. Already most of the big games in Korea, which is a more mature market, are free to play with avatar add-ons bringing in the money, and Chen Tiangtiao is clearly betting that the Chinese market will follow the Korean lead.

Second, although their major game franchises have matured their two new games should be strong contenders by the end of this year, with the possibility that the free play system will help to launch Archlord, at least, with some fanfare.

Third, they remain a huge presence in the fastest growing gaming and Internet market in the world ... even as their biggest games cycle down from their peaks and competitors take market share. If you add in their 20% stake in SINA that they may eventually be able to use to build some synergies, there is great potential for Shanda to continue to reach more and more people ... which would have an impact as soon as they can figure out how to get those people monetized through advertising or direct purchases.

And fourth, this EZ system is starting to make me fairly nervous. I'm still not sure I really understand the concept, but they have the various hardware devices that include portable set-top boxes, portable PSP clones, and a remote that runs a home network of some kind. Shanda is aiming to license the software and sell a subscription package of content.

I guess the real things to remember here are that the game boxes that otherwise dominate world markets aren't widely available in China (piracy concerns), and that there isn't a strongly entrenched Cable TV infrastructure that will compete with Shanda to deliver IPTV content, so they do have some opportunity here. I can't say with any certainty that I understand the scope of their opportunity, but I do believe that those of us in the West are a bit handicapped by not really clearly understanding the Chinese marketplace and I'm willing to give some benefit of the doubt to Shanda's management.

Jim Sun is saying the he doesn't expect any impact from EZ until 2007, but I don't mind if it grows slowly as long as it actually develops into a real service -- it still seems more like an idea than a product, which is the heart of the reason for my unease with EZ.

But what it really comes down to is whether or not we trust CEO Chen Tiangtiao and believe that his massive turning of the good ship Shanda is going to get them pointed in the right direction, at the right time. He continues to maintain that Shanda is aiming to become "China’s leading interactive entertainment media company" ... can they do it?

I may well be making a mistake, but I think I've talked myself into it. I'll offload some shares to harvest a bit of a loss on some holdings I have that were on a bit of margin and in a taxable account, but hold on to the remainder of my shares to see how the story develops. I was surprised that the downside was as strong as it was with the relatively tepid news, but if internet and game advertising builds into a significant business in China -- as I believe it will -- I think Shanda has a good chance to again be on the front lines ... eventually.

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