KongZhong on the WVAS market, competition and near-term strategy (KONG 2Q05 conf call)

KongZhong (ticker: KONG) reported Q2 2005 earnings results yesterday. Key points from management's earnings results conference call:

Q3 Guidance

• Revenue of $19.0 - $19.5 million.
• Expect WAP revenue to decline slightly from Q2.
• SMS revenue growth to slow as KONG cuts back on SMS promotions.
• Expect flat IVR growth.
• Expect other 2.5G and 2G service revenue to grow.

Future Guidance

• 2.5G and 2G revenue will likely generate 70% and 30% of revenue respectively.
• Effective tax rate by the end of year to be no higher than 5%.
• China Mobile's (ticker: CHL) new WAP policies will continue to negatively affect WAP revenue in Q3 and Q4.
• Expect net margin to decline 1% for the next couple of quarters.
• Net margin to stabilize in mid-30s.

WVAS Market

• Seeing increasing stabilization in WVAS sector.
• After stabilization will see growth.

Strategy

• Heavily investing in product development.
• Acquiring and developing new content.
• Recently acquired Mammoth, a top game developer in China.
• Focusing on growth of Java games. KONG is enthusiastic about Java growth but not sure if Q2 Java game revenue growth can be sustained.
• More handsets are being approved by China Mobile to run Java games.
  Market dominated by downloadable games (that you play against the
  computer). 3G will provide a faster network to support mobile online
  games that consumers can play against the masses.
• Believe that mobile games have mass market appeal that PC games do not.
  "Mazhong" game with cooperation from Disney (ticker: DIS) is attracting
  many female users.
• Will continue to partner with handset providers which while expensive
  provides benefits to KONG from co-branding and acquisition of new
  customers to new distribution channels.
• Trying to diversify away from China Mobile (ticker: CHL) -- 98% of KONG's revenue from CHL. Difficulty is that CHL dominates the WVAS market.

Competition

• KONG is the leader in 2.5G -- but lags in 2G.
• Big players doing well. Smaller players suffering due to gov't policy changes, and various increasing costs including distribution costs in local markets.
• Expect there to be 3 - 4 major WVAS players in the future.

Opportunity

• There are 3X the number of wireless users as Internet users in China.
• KONG believes Chinese consumers will use mobile device to access info, games, entertainment more than PCs in the future.
• Advertising, commerce, auctions, portal, and search revenue opportunities will present themselves for mobile devices.

Recent Developments

• China Mobile recently began allowing its pre-paid user base to access 2.5G services.
• Many rural provinces are rolling out 2.5G services - but currently giving them away for free.
• Expect to generate revenue in the future.

Institutional Selling

• China Assets is 100% owner of Global Lead Technology. Global Lead Technology owns shares of KONG. China Assets is seeking approval from its shareholders (China Assets is a publicly-traded company on the Hong Kong Stock Exchange trading under the symbol 0170.HK) to sell what amounts to 9.1% of KONG's outstanding shares. The circular was released in February. No word yet on any outcome.

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