Shanda Q1 2008 Earnings Call Transcript

May.28.08 | About: Shanda Interactive (SNDA)

Shanda Interactive Entertainment Ltd (NASDAQ:SNDA)

Q1 2008 Earnings Call

May 28, 2008 8:00 am ET

Executives

Maggie Yun Zhou - Investor Relations Manager

Tianqiao Chen - Chairman of the Board, Chief Executive Officer

Alan Qunzhao Tan - President and Chief Technology Officer

Grace Wu - Chief Financial Officer

Analysts

Alicia Yap - Citigroup

Tian X. Hou - Pali Capital

C. Ming Zhao - Susquehanna Financial Group

Eddie Leung - Merrill Lynch

Jenny Wu - Morgan Stanley

Wallace Cheung - Credit Suisse

Paul Keung - Oppenheimer

Operator

Good day, ladies and gentlemen, and welcome to the Shanda Interactive Entertainment 2008 first quarter earnings conference call. (Operator Instructions) I would now like to turn the call over to Ms. Maggie Zhou, Shanda's IR manager. Please proceed, Madam.

Maggie Yun Zhou

Thank you. Good morning and good evening to all participants. On behalf of Shanda, I would like to welcome everyone to our first quarter 2008 results conference call. Here with us today are Mr. Tianqiao Chen, our Chairman and CEO; Mr. Qunzhao Tan, our President and Chief Technology Officer; and Ms. Grace Wu, our Chief Financial Officer.

Before we begin, I would also like to remind you that management’s 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 liability 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 contained in the forward-looking statements, so please do take a minute to read the Safe Harbor statement in the press release.

Now with that, I would like to turn the call over to our Chairman and CEO, Mr. Tianqiao Chen.

Tianqiao Chen

Thank you, Maggie. Before I begin my formal comments, I would like to take this opportunity to express on the company’s behalf our heartfelt and deepest condolences to the victims of the earthquake in China’s southwestern Sichuan Province on May 12, 2008.

Turning to our business, during the first quarter of 2008, the company continued to make significant progress towards the company’s development as a global entertainment media company. In April, the company announced several key executive appointments within the senior management team and for Shanda Online and the Shanda Games to support and focus on the next stage of the company’s growth.

Joining me today, our new President, Alan Qunzhao Tan, who most recently served as President of Shanda Games, which operates the company’s online game business, and our new Chief Operating Officer, Danian Chen, who most recently served as the President of Shanda Online, which operates the company’s integral e-commerce systems and the virtual community platform.

Alan and Danian have been integral in guiding the company’s operating strategy over the past few years and we believe they will continue to make significant contributions to Shanda in their new positions.

Diana Li has been appointed as the CEO of Shanda Games and Judy Wang has been appointed as the CEO of Shanda Online. Shanda Games and Shanda Online operate two separate and distinct businesses and each plays a different strategy, strategic and competitive opportunities. The appointment of Diana and Judy will help the respective business units explore these and other opportunities and to support the continued expansion and execution of the company’s three C strategy -- content, community, and commerce.

With respect to our business performance, Shanda opened the first quarter of 2008 with another strong performance based upon the successful implementation of our three C strategy. During the first quarter of 2008, Shanda reached another milestone with quarterly revenue exceeding $100 million for the first time. This ninth consecutive quarter of growth since initiating our CSP model in late 2005, with compound growth rate of 10.9%, demonstrates the long-term scalability and sustainability of our three C strategy and the stability of our balanced portfolio business strategy.

I would like to take the opportunity to reiterate our three C strategy to become a leading global entertainment company. First on content, Shanda's primary content offering remains online games. Shanda currently operates the highest number of games simultaneously in China. Our online game strategy is a balanced portfolio approach of acquiring or developing in-house a diverse offering of games targeting each sectors of our diverse user base.

During the first quarter and second quarter, we have added six new titles into our current portfolio and currently are operating 14 MMORPGs, nine casual games, and a free game platform, with 11 MMORPGs and six casual games in the pipeline scheduled to be released in the next 12 to 18 months.

The content portfolio and pipeline includes 3D and 2D MMORPG, casual games, web games, martial arts games, and sports games sourced from multiple channels, including in-house development, licensing, co-development and investment. We believe our track record in the past nine quarters of operating a diverse portfolio of games targeting a diverse user base helps validate our strategy. At the same time, we will continue to develop other content offerings, such as our online literature business.

In addition to our subsidiary Qidian, the number one literature website in China, we also have made strategic investments into the two most popular female literature websites in China, [inaudible] Literature City and [inaudible].

These three websites, which together form Shanda's literature business, currently represent a small portion of our overall revenues. However, they have combined to capture a dominant position of the online literature market, with nearly 300 million daily page views with 11 billion words being published and 13 million words updated daily.

In addition to the subscription business model, they also start to sell the copyright for production into other forms of media, such as games and movies. We expect that our online literature offering will enrich the content offerings of our platform for our users and continue to attract a loyal and stickier user base.

Second on community and commerce, in addition to content, community and commerce are also integral parts in our developing strategy. Content attracts users. Community and commerce help to retain users and monetize on the user base and in turn, attract more users. Shanda's operating platform will integrate online communities, whether online game communities or online literature communities. We are confident that the more content we introduce, a stronger community will be built. Shanda has been working relentlessly over the past five years and has established an integrated platform to facilitate this goal. We believe Shanda's community will have all of the advantage of a web 2.0 community while allowing us to generate revenues and remain profitable.

On the commerce side, Shanda's independent e-commerce system is built on the success of our online games. Our e-commerce system is unique in that we offer our user interactive entertainment through the Internet, therefore eliminating the logistic issues of delivery and inventory. At the same time, our e-commerce system is able to monitor the complete course of transactions, distribution, consumption, and user behaviors. Currently, Shanda's e-commerce systems provides product introduction, platform interface, and distribution channel management and services through our unified platform, with unified account authorization, technical support, sales and distribution, payments and customer service.

Our direct payment transaction already accounts for 30% to 40% of our total revenues in addition to physical and virtual prepaid cards, and we have built up an expansive distribution network covering nearly 100,000 Internet cafés through our subsidiaries systems technologies.

In addition, our announced in-game advertising initiative is part of the effort to complement our commerce strategy. We expect meaningful contribution from this initiative in 2009. Furthermore, we look forward to further strengthening by Shanda Online of our community and commerce by providing services for not only Shanda Games but also for other entertainment content.

In summary, content, community, and commerce are the three pillars for the next stage of Shanda's growth. More content increases the stickiness of the community and reinforces the e-commerce systems, which in terms attracts more content.

Shanda will continue to focus on acquiring online games and other high quality content to strengthen our community and e-commerce systems.

Now I will turn the call over to Alan, our President and Chief Technology Officer.

Alan Qunzhao Tan

Thanks, Tianqiao and welcome, everybody. Our online game business has continued to achieve strong and steady growth in the first quarter of 2008, with revenues increasing 50% year over year and 10% quarter over quarter to reach $107.9 million. The strong performance was a result of our continuous accumulation of diversified games for our portfolio strategy, as reflected in the growth of the revenues from both MMORPGs and casual games.

During the first quarter, we released a total of 38 expansion packs for all of our games in operation and organized various in-game promotions targeted towards winter holiday vacations and two online carnivals to celebrate the new year and the Chinese New Year holiday.

We also organized the various online and offline [inaudible] to enhance our user stickiness. These efforts were well-received by our users and evident by the double-digit sequential growth in active paying accounts for both MMORPGs and casual games.

Net revenues for our MMORPG games in the first quarter rose 54.8% year over year and 6.3% quarter over quarter to $91.3 million. And the successful implementation of our portfolio strategy, four of our MMORPGs saw growth during the first quarter, and active paying accounts for MMORPG games grew 18.3% from $3.47 million in the first quarter of 2007 to a record $4.11 million in the first quarter of 2008.

New pay accounts technically have lower levels of spending initially and as a result, the high growth in the number of new users diluted the monthly ARPU for MMORPG games by 10.1% quarter over quarter in Q1 2008 to RMB52.

Turning to casual games, the first quarter is typically a period of particular strength. Revenues, including revenues from [inaudible], [inaudible], and [inaudible], increased to 28.1% year over year and 36% quarter over quarter, to $16.6 million. We saw the strong revenue growth across the board for our casual games during the first quarter.

Active paying accounts for casual games increased 21.3% quarter over quarter to $1.92 million, and due to the seasonal strengths related primarily to Chinese New Year, ARPU increased to 41% quarter over quarter to RMB20.3.

We will continue adding titles to our online game platform through our multi-pronged [sorting] strategy. This strategy includes investments through our Project 18 investment fund for early stage game developments, and an in-house development, co-development, and a third-party licensing, all of these strategies have proven to be very fruitful.

During the second quarter, our Project 18 investment fund and our in-house development have contributed a total of six new titles, [inaudible], The Conqueror, and [inaudible] Hero, have commenced commercial operations while [inaudible], [inaudible], and [inaudible] are expected to be commercialized in the second half of 2008.

We have originally scheduled to commence open beta testing for Tianxia Online in late June. However, in consideration of the recent tragedy in Sichuan, we have decided to postpone wide-scale promotional activities and as a result, Tianxia’s open beta testing will be delayed until the third quarter of 2008.

In all, we currently have in commercial operation 14 MMORPGs, nine casual games, two [inaudible] game platforms, and one network PC game platform. And we have 11 MMORPGs and six casual games scheduled to be released in the next 12 to 18 months. In addition, our initiative to [inaudible] oversea business has been encouraging signs. In the second quarter, we launched [inaudible] with India’s top online game operator, Zapak, to introduced Crazy Kart into the Indian market. We also have successfully licensed Crazy Kart, Superstar, and Feng Yun Online to countries and regions such as India, Hong Kong, Taiwan, Vietnam, and the Philippines.

In summary, our multi-pronged sourcing strategy, diversified portfolio strategy, and expertise in game operations, combined with our powerful, unified platform and community positions Shanda for long-term sustainable and scaleable growth.

Now I will turn the call over to our Chief Financial Officer, Grace.

Grace Wu

Thank you, Alan and welcome, everyone, to our conference call today. I will now provide an overview of our first quarter 2008 financial results. Please note for discussion purposes, all numbers were translated into U.S. dollars based on an exchange rate of RMB7.019 per U.S. dollar.

As Tianqiao and Alan mentioned, both our net revenues and operating income in Q108 achieved historical highs to reach $111 million and $44.5 million respectively. Other revenues in Q108 were $3.2 million during this and a decrease by $0.48 million only from the Q407, reflecting seasonal weakness of some of our subsidiaries.

Gross profit was $77.2 million in the first quarter, compared to $68.3 million in the preceding quarter and $49.4 million for the same period in 2007. Gross margin for the first quarter of 2008 was 69.5% compared to 67.1% in Q407 and 65.2% a year ago. Income from operations was $44.5 million, up 39% year over year and 11.9% quarter over quarter. Operating margin was 40% in Q108 compared with 39.1% in Q407 and 42.2% in Q107.

Product development expenses increased 17.5% quarter over quarter to $9.2 million, mainly due to development costs related to new titles and R&D related compensation expenses.

Sales and marketing expenses increased 15.2% sequentially to $8.4 million, mainly from an increase in advertising and marketing promotion expenses during a winter vacation and Chinese New Year, as well as staff related compensation costs during this period.

G&A expenses increased 12.9% quarter over quarter to $15.1 million, primarily attributed to high staff related expenses and increased business tax charges from a profit transfer between our [VIEs] and [inaudible] which corresponded to the company’s operating income growth.

Share-based compensation was $2.1 million in the first quarter of 2008, compared with $2.4 million in Q407 and $1.6 million a year ago.

Net non-operating income for the first quarter was $0.8 million, compared with $5.4 million in Q407 and $35.4 million a year ago. The year-over-year decline is mainly due to a one-time gain of $34.9 million recorded in Q107 resulting from the sale of some of our shares.

Non-operating income from government subsidies during 1Q08 was $0.3 million compared with $20 million in the fourth quarter of 2007 and $2 million in the first quarter of 2007. Our receipt of government financial incentives is subject to time lags and the government administrative practice. However, we expect we will continue to receive government subsidies in 2008.

Income tax expenses for the first quarter was $4.1 million. That compared to $3.4 million in Q407 and $3.4 million in Q107. Effective January 1, 2008, the Chinese Government adopted a new income tax law which unified the enterprise income tax payable by domestic and foreign invested enterprises at 25%. Prior to the adoption of the new law, a number of the group subsidiaries and [VIEs] were entitled to various preferential tax treatments. While the Chinese tax authorities established the process for companies to enjoy preferential tax treatment as a high technology enterprise is still ongoing, the company has reported income tax provision at the new statutory income tax rate of 25% for Q108, except for certain of the group’s subsidiaries, which are still subject to a tax holiday.

As a result, the company recognized in Q1 an incremental future tax benefit of approximately RMB20 million relating to deductible temporary differences brought forward from Q407, which was offset in part by the increased income tax expenses from assumed high tax rate. In future quarters when subsidiaries or [VIEs] of the group are deemed to be qualified high and new technology enterprises preferential tax status, the tax charge will be reversed and deferred tax assets might be reduced.

Net income in the first quarter of 2008 was $41.2 million compared to $41.7 million in the previous quarter and $63.9 million in Q107. Diluted earnings per ADS were $0.56 in Q108. That compared to $0.56 in Q407 and $0.88 in Q107.

Non-GAAP net income, which excludes share-based compensation and the impact of [inaudible] or SINA shares, was $43.3 million in Q108 compared with $44.1 million in the previous quarter and $30.7 million in Q107.

Non-GAAP diluted earnings per ADS were $0.60 in Q108 compared with $0.60 in Q407 and $0.42 in Q107. The effective tax rate was 9% in Q108 for the group, compared to 7.5% in Q407 and an adjusted effective tax rate of 9.8% in Q107, which excludes the one-time capital gain from the sale of SINA shares for that period.

Turning to our balance sheet, cash and cash equivalents as of March 31, 2008 totaled $318.6 million and amounted to $464.2 million including short-term investments and marketable securities. Deferred revenues remain relatively flat quarter over quarter to $57.7 million in the first quarter of 2008.

Before I turn to the guidance for the second quarter, we’d like to caution you that we cannot predict the future exchange rate of RMB against the U.S. dollar and therefore cannot accurately 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 Q208 and have adopted the same exchange rate as of March 31, 2008, which is RMB7.019 per U.S. dollar. Our actual results could differ, however, from our financial targets. Please refer to the Safe Harbor notice in our press release.

Now, based on the company’s current operations, which that our consolidated net revenues for the second quarter of 2008 to increase in the range of 0% to 5% quarter over quarter and our operating margin for the second quarter might be under a little bit of pressure due to the suspension of game service during the national mourning period and will be expected to be in the range of 37% to 40%.

That concludes my financial discussion today. I will now turn the call back to Maggie. Thank you.

Maggie Yun Zhou

Operator, we are now ready for questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of Alicia Yap with Citigroup. Please proceed.

Alicia Yap - Citigroup

Good evening. I have a few questions. My first question is that can you actually tell us what is the percentage of your MMO gamers from Sichuan Province? And can you tell us if there is any impact on your Chengdu based studio as well?

Maggie Yun Zhou

Alicia, thanks for your question. Revenue are not counted based on the user base, and under the company disclosure policy, we do not disclose the user base breakdown. But we have already given you guidance which is based on our current operation of our business and also unfortunately studio performance doesn’t [inaudible].

Alicia Yap - Citigroup

Thank you. And my second question is can you give us the update on [Tianxia] Online business model and is that going to use the hybrid model with a combination of subscription base and item sales? And I have a follow-up on that.

Maggie Yun Zhou

You know that Shanda has always listened very closely to the user demands and feedback, so as for the revenue model side, we will adopt a model that is best for the games while at the same time [welcome the other users].

Alicia Yap - Citigroup

So can I ask actually, have you decided on the business model yet as of now?

Maggie Yun Zhou

Currently based on the game’s features and also our operation advertising, we have already said the revenue model and later on as we look forward to [inaudible].

Alicia Yap - Citigroup

Okay --

Maggie Yun Zhou

But currently we [inaudible] disclosure on that.

Alicia Yap - Citigroup

Hello?

Maggie Yun Zhou

Hello? Can you hear me?

Alicia Yap - Citigroup

Yes, can you repeat that, actually? You are breaking up a little bit.

Maggie Yun Zhou

Currently based on the user feedback and also on operation advertising, we have already decided a revenue model but at the current stage, there is no further disclosure on that. But we ensure that the revenue model will best for our users and also very suitable for the games.

Alicia Yap - Citigroup

Okay, and then my next question is regarding your MMO ARPU and APA. Can you actually give us some color on what are the key new games that actually contribute to the growth of the APA and the lower ARPU? Should we expect the trend to continue say if you continue to launch new games in the coming quarters? So according to your experience and the internal tracking, how long does it usually take for a typical gamer to ramp up his or her spending in the new game?

Maggie Yun Zhou

For the first quarter performance particularly, we find that all the MMORPG titles contribute to the active paying accounts growth. And this is because of the continual stickiness of our platform and promotions adopted during the Chinese New Year holiday period and during the winter holiday, and also the expansion packs and new content upgrades.

We believe that the fast growth of the active paying accounts is a reflection of the platform strategy and also the portfolio strategy. And going -- for the second question, the decrease of the active paying accounts is because this quarter our active -- the decrease of ARPU is because this quarter our active paying accounts increased a lot. Those new active paying accounts always are paying at a lower level, so that’s why it diluted the total ARPU.

While going forward, we look forward at new active paying accounts, we will continue to increase our [inaudible] in the game, while at the same time we will see more active paying accounts driven by the new content.

Alicia Yap - Citigroup

Okay, and my last question, can you actually disclose the percentage of your paying customers to your total active accounts this quarter?

Maggie Yun Zhou

Currently the conversion rate of active paying accounts is around 8%.

Alicia Yap - Citigroup

Okay, great. Thank you.

Operator

Your next question comes from the line of Tian Hou with Pali Capital. Please proceed.

Tian X. Hou - Pali Capital

The question is about the sales and marketing and the operating expense. It seems like in terms of the total expense, it went up a lot. So what’s the trend in the second quarter?

Grace Wu

Right. As we mentioned in the earlier financial discussion, basically the increase in operating expense during the first quarter is mainly driven by an increase in product development costs. That’s related to the development of new titles, which some of them already added to the operations during the first half of this year and some of them are [announced] into the pipeline.

The second part is related to the sales and marketing activities, particularly the [zone] marketing campaign and promotion activities we organized for our users during the students winter holiday as well as the Chinese New Year. As you know, first quarter and third quarter are usually a higher season for casual games and also with the holiday, we usually try a more larger scale of marketing campaigns for our users and which usually [have a] lasting effect into the following quarter. Therefore, sales and marketing expenses during first and third quarter are usually a high in terms of percentage of revenue, which is pretty consistent as what we see back to the third quarter of 2007. Back then, our sales and marketing expense as a percentage of revenue are actually higher, amounted to 9.3% while in first quarter 2008, it was 7.6% of revenue. That compared to 7.2% in Q407, which I guess demonstrates our capability to execute our marketing activities in a very effective manner.

Tian X. Hou - Pali Capital

I understand what you said, Grace and I understand the Q1, Q3 are the relatively heavier spending quarters, but Q2 you give an operating margin guidance 37 to 40. If you say there’s a lasting effect and spillover into second quarter, we should logically assume second quarter operating margin should be higher instead of lower. So what’s the trend?

Grace Wu

Right. I think in terms of marketing expenses, we don’t really expect the sales and marketing related expense in Q2 to be higher in terms of percentage of revenue compared to Q1. However, bear in mind that in Q2, we suspended our game-related service for three days in observation of the national mourning for the earthquake. Therefore, during the three days, there is no revenue generated to offset operating expenses and therefore to estimate that there potentially will be some impact on operating margin for the second quarter.

Tian X. Hou - Pali Capital

Okay, so the last question is regarding Shanda has a new strategy which is -- has two separate operating entities; one is Shanda Games, another one is Shanda Online, or Shanda game operations. So what is the logic behind those strategies? Can either Tianqiao or Qunzhao give me an answer on that?

Maggie Yun Zhou

Actually, Tianqiao has already mentioned about the logic behind the strategy and SDO. Actually, three years ago we had worked out the idea of SDO and SDG units, based on the strategy of content, community, and commerce, which is later on summarized as the three C strategy. We believe the appointment for the senior management teams for SDG and SDO divisions will further solidify the core competitiveness of [inaudible] and also for the long-term growth for these two [titles] and we are very confident that the newly appointed management will make a great contribution in the positions.

Tian X. Hou - Pali Capital

Okay. Thank you.

Operator

Your next question comes from the line of Ming Zhao with SIG.

C. Ming Zhao - Susquehanna Financial Group

Thank you. Good evening. Thank you for taking my questions. First question is you said that you have launched the six new titles in the first quarter, and then when we look at the revenue increase, you added about RMB38 million in the MMO game revenue and the RMB31 million in the casual game revenue. So can I ask, of the RMB69 million increase in revenue from the games, what’s the percentage actually came from the new titles?

Maggie Yun Zhou

Actually, the company’s disclosure policy, we do not give the breakdown of the single title. But I can say that the growth during the first quarter is mainly attributed to the implementation of our portfolio strategy, which [without hurting] the overall growth MMORPG titles in the first quarter, including old titles and new titles.

C. Ming Zhao - Susquehanna Financial Group

Okay. Maybe I’ll ask of that incremental revenue, is old games contribution bigger than the new games or new games bigger than the old games?

Maggie Yun Zhou

Would you please repeat your question?

C. Ming Zhao - Susquehanna Financial Group

My question is of the RMB69 million, the increase in revenue of games, the old games contributed more or the new games contributed more of the increase?

Grace Wu

Ming, if I can clarify further on your earlier question, we did launch a couple of new titles up to now but most of them actually launched close to the end of the first quarter and also during the second quarter, so incremental revenue growth during the first quarter is not really resulting from the new titles. It is mostly from existing titles.

Maggie Yun Zhou

Also, I would like to remind you that during the first quarter, we have launched expansion packs for all of our games and we consider the expansion packs as also another reflection of the new titles -- as important as new titles.

C. Ming Zhao - Susquehanna Financial Group

Okay, that’s very helpful. Maybe I’ll ask a final question on the strategy of the company to do the so-called platform strategy. How can you ensure each game, each new title that will be profitable, given it’s a small title, not a blockbuster title? Can you give us more color on the strategy?

Maggie Yun Zhou

Actually, that’s a very good question, Ming. I think currently in addition to those individual project teams for individual titles, we also have a very sophisticated testing center for all of our games. These testing centers will monitor the game performance before the launch as well as after launches and we will -- which can make us swiftly discover the user feedbacks and also change the content according to the user needs. And if those content are not -- if we find those contents not good, we may easily to [inaudible] of some of the portfolio. So we think we have a very good monitoring system for all of the titles in our platform.

C. Ming Zhao - Susquehanna Financial Group

Okay, just following that, maybe I’ll ask on average, how many operational staff you assign to each new title?

Maggie Yun Zhou

Actually, in terms of the absolute numbers we allocated to each game titles, probably have been not very -- they are not very large amounts but because we have a very strong platform and community to support them, we believe that we can gain more support from our platform.

C. Ming Zhao - Susquehanna Financial Group

Okay, great. Thank you.

Operator

Your next question comes from the line of Eddie Leung with Merrill Lynch.

Eddie Leung - Merrill Lynch

Good evening. I have a couple of questions. The first one is could you help us to understand more about your pipeline? In particular, what could be the games that will be launched in the coming quarters?

Maggie Yun Zhou

Eddie, actually we have already introduced our pipeline during the script.

Eddie Leung - Merrill Lynch

Right, but more about the launch schedule because I know that you have 11 MMORPGs and six casual games in the pipeline, but which games will be launched at least, for example, in the third quarter?

Maggie Yun Zhou

As mentioned earlier, we actually have added several titles into the portfolio and pipeline and particularly during the second quarter, we launched Tales of Dragons, The Conqueror, [inaudible] Hero, [inaudible], [Famine], and 1003. So together during the third quarter and -- during the second quarter and third quarter, it will be around six titles being launched.

Eddie Leung - Merrill Lynch

The second question is regarding your CapEx. Could you give us an update on the CapEx for the first quarter and how should we assume for the year?

Grace Wu

The capital related are usually related to the acquirement of the service and usually because we have very strong integrated platforms, so the incremental capital required for each quarter are relatively limited.

Eddie Leung - Merrill Lynch

Okay. That’s good. No more questions. Thank you.

Operator

Your next question comes from the line of Jenny Wu with Morgan Stanley. Please proceed.

Jenny Wu - Morgan Stanley

I have several questions. The first one is regarding your in-game advertising. Would you please update us on the progress of this business and when do you expect its revenue contribution will become materialized? Thank you.

Maggie Yun Zhou

Currently our [in-game] business is progressing very well and we expect it will contribute meaningful revenues next year.

Jenny Wu - Morgan Stanley

Okay, thank you. And the second question is regarding your online literature website, and obviously Shanda has captured a lot of market share on this front and I just want to know, have you monetized it or if not, when you expect to do that?

Maggie Yun Zhou

Actually, our literature website has already monetized several years ago. Compared with the total revenue base of Shanda, it’s really very, very small at this moment. And currently the major business model is a subscription-based business model.

And in addition to the subscription-based model, we are also trying other revenue models. For example, we could license the copyright of several of our books to the movies, online games, things like that.

Jenny Wu - Morgan Stanley

Okay, thank you. And my last question is regarding casual games, and obviously your casual games have achieved a very solid performance in recent quarters. Just wondering, do you expect this trend will be sustainable or not? Thank you.

Maggie Yun Zhou

The first quarter’s strong performance, one reason for the first quarter’s strong performance for the casual games is the seasonal strength related to Chinese New Year and the winter holidays. And as part of the portfolio strategy, we are very optimistic on the [official] performance of our casual games.

Jenny Wu - Morgan Stanley

Thank you very much.

Operator

Your next question comes from the line of Wallace Cheung with Credit Suisse. Please proceed.

Wallace Cheung - Credit Suisse

Just two questions related to the financial perspective -- one is regarding the other income. Sure, we understand you have less government financial incentive this quarter but can you still break it down into more details like [inaudible] loss or other items? Why do we have quite a huge other expenses in this quarter and what about the trend in the second quarter as well?

And my second question would be --

Grace Wu

Sorry, Wallace, you were breaking up, so I have to ask you to repeat your question again.

Wallace Cheung - Credit Suisse

Sorry about that. Again, my question is can you break down the other expense item?

Grace Wu

In which section?

Wallace Cheung - Credit Suisse

Well, in the P&L just before the income before minority interest, and the tax rate, the other expense, you’ve recognized $15.3 million other expenses.

Grace Wu

Right. Because we put our financials on a consolidated basis, so the other expenses actually included a different, various expenses recorded from different subsidiaries as a whole.

Wallace Cheung - Credit Suisse

Right. Have you recognized any for-ex loss in this item?

Grace Wu

For-ex loss is very limited during the first quarter ’08.

Wallace Cheung - Credit Suisse

Okay. Should we assume that the other expenses will keep going on in the next few quarters time?

Grace Wu

Well, on a quarterly trend, I think they will be relatively similar. However, the main reason why the net non-operating expenses were net non-operating income is smaller compared to previous quarters, mainly because the government subsidy usually will receive -- you know, there’s no like a schedule when we can receive the government subsidy -- significantly less in 1Q08 compared to fourth quarter. That’s how relatively the net non-operating income appears smaller in 1Q08.

Maggie Yun Zhou

Operator, we’ll take the last question.

Wallace Cheung - Credit Suisse

Sorry, I have one more question, sorry, very quickly -- hello?

Maggie Yun Zhou

Yes.

Wallace Cheung - Credit Suisse

On the tax rate, I understand that you have $20 million deferred tax credit here but if you simply even [at that] the effective tax rate is going to be as high as -- as low as only 9%, but I think during the previous quarter, you had given the guidance saying that should be around 18% effective tax rate. Can you still reiterate the full year effective tax rate guidance in ’08? Thank you.

Grace Wu

Right. Last quarter we guided that we expect the longer term effective tax rate would be within the range of 18% to 25%. That’s given the new tax rule effective in January 1, 2008, required -- [all the corporate] report their tax rate at 25% and before the government actually has a clear guidance on how we can apply for the tax preferential treatment, we would like to take a prudent approach to stick to that range. However, having said that some of the subsidiaries still enjoy a tax holiday. That helped to have the effect -- blended effective rate lower as shown in our first quarter results. So I guess although we take a prudent approach, we are still quite optimistic that we should be able to apply certain tax preferential treatment going forward once the detailed rules are available.

Wallace Cheung - Credit Suisse

So the full year will be quite close to the first quarter level?

Grace Wu

I would still like to take a prudent approach to guiding in the range of 18% to 25% over the longer term. However, we are still optimistic that we should be able to apply for preferential treatment for some of our subsidiaries.

Wallace Cheung - Credit Suisse

Thank you very much, Grace. Thank you.

Operator

And your last question comes from the line of Paul Keung with Oppenheimer. Please proceed.

Paul Keung - Oppenheimer

Good evening. I have a question on I think your Project 18 games. How many games have you licensed as part of Project 18? And when do you expect those games to seriously contribute to revenue? And also for Project 18 games, what does the licensing contract look like? Does it have a lower royalty rate than normal?

Maggie Yun Zhou

As I mentioned earlier, during the second quarter we have added a total of six titles into our portfolio pipeline. Among the six titles, only one title is in-house developed, where the rest of the five titles are being issued Project 18.

And looking forward for the long-term, we believe that as the launch of more games through the Project 18, we expect them to contribute more revenues going forward in the long run.

Paul Keung - Oppenheimer

Okay, and the royalty rate on those games, are they lower than normal or are they the same as the industry standard?

Maggie Yun Zhou

Actually, for all of the games for Project 18, we control the IP and there’s no concern about the royalty about the titles.

Paul Keung - Oppenheimer

Okay, and I have another question on browser games -- how many browser games do you expect to have by the end of 2008, and do you expect the browser games to compete more against casual games or against MMORPGs?

Maggie Yun Zhou

Actually, we view that web games are a very promising niche market in online games and currently we have already operated three web games in total and in the long run, we believe that we will introduce more web games. Also, the browser games are defined based on the technology side -- it was a game carried out through the browser. We think that for some of them, it can, like MMORPG games, they are also -- some of the [titles] will be more like casual games, so there’s no distinction between that.

Paul Keung - Oppenheimer

Okay, great. Thank you very much.

Maggie Yun Zhou

Okay, that’s all for today’s conference call. Thank you, everyone for joining the conference.

Operator

Ladies and gentlemen, thank you for your participation in today’s conference. This concludes the presentation. You may now disconnect. Have a great day.

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