This Catalyst Could Make Perfect World's Price Soar
Ken is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
Piper Jaffray & Co. recently cut its target price on the Chinese gaming company Perfect World (NASDAQ: PWRD) a whopping 25% after citing a weak outlook for the company’s second quarter. A drastic price cut like this usually makes investors take a deep breath while their shares make a sickening sucking sound during their plunge. Luckily for Perfect World investors, Piper’s target is still over 250% higher than recent prices. A massive disconnect between an estimate and the stock’s price tag should make investors sit up and take notice.
IS THIS A VALUE TRAP?
Perfect world is not priced with a price-to-earnings ratio below 4 without cause. The company’s earnings reports are lumpy, management does a poor job of guiding future earnings, and the number of gamers in Perfect World’s universe seems to be stalling. The recent quarter did little to boost investor confidence that users are not bristling at the company’s strategy of monetizing users with in-game fees.
Average Concurrent Users in Mainland China
|
|
Q1 |
Q2 |
Q3 |
Q4 |
12 mo. Average |
|
2012 |
804,000 |
N/A |
N/A |
N/A |
N/A |
|
2011 |
905,000 |
890,000 |
828,000 |
873,000 |
874,000 |
|
2010 |
993,000 |
886,000 |
733,000 |
999,000 |
902,750 |
|
2009 |
615,000 |
716,000 |
713,000 |
1,157,000 |
800,250 |
Perfect World also competes in a highly competitive marketplace. Activision (NASDAQ: ATVI) is the king of the Massively Multiplayer Online (MMO) marketplace with over 10 Million subscribers for its epic game, The World of Warcraft. Despite a recent slip in the number of subscribers, Electronic Arts (NASDAQ: EA) still has over 1 Million subscribers for it Star Wars MMO. Recent IPO Zynga (NASDAQ: ZNGA) also offers popular free-to-play MMO games for casual users.
In addition to user additions seemingly staling out, Perfect World became the target of an anonymous blog post claiming that the company’s financial records are fraudulent. Even though the company responded with an independent auditor, I suspect the foul air of suspicion lingers.
THREE REASONS TO CONSIDER BUYING
Despite Perfect World’s problems, I think it deserves consideration for a place in a well diversified portfolio for three reasons.
First, the company recently announced and paid a $2/ADS special dividend. Fellow fool blogger Chad Henage read into the company’s press release and noted that the company intends to pay dividends annually in the future. Reading through the company’s Q1 2012 conference call transcript, I heard the same commitment. Henage believes Perfect World can afford to likely afford to pay another $2.00/ADS dividend next year which represents an incredible 20%-plus yield. In addition to enjoying the cash flow from Perfect World’s dividend, investors should also enjoy the fact that money flowing into their brokerage account cannot be faked by accounting fraud. Perfect World’s dividend should help to restore some faith in the company’s accounting.
Second, Perfect World’s shares are priced incredibly low relative to earnings. With a price-to-earnings ratio below 4, the company only needs to show modest growth to warrant an expansion of the multiple. Piper Jaffray’s $27 price target is not outlandish. Perfect World’s eps for the trailing twelve months is $2.93 per ADS. Piper’s target is a meager 9.2 times that number.
Third, Perfect World is about to launch a new game that licenses Hasbro’s (NASDAQ: HAS) popular Dungeons & Dragons intellectual property. Dungeons & Dragons stirs nostoglic memories in gaming geeks and still carries a sizable following. The reviews I’ve read about the game, entitled Neverwinter, have been mostly positive. With Perfect World’s modest price tag, even a small boost in ACU from Neverwinter players could be the catalyst investor’s have been waiting for.
I’ve been buying-and-holding Perfect World shares for a couple of years, convinced that this seemingly undervalued small-cap company will get its day in the sun. Despite being massively wrong on my Motley Fool CapsCall for nearly three years, I’m keeping my outperform rating because I believe Perfect World has the fundamentals and catalyst to help the stock outperform over the long run.
What do you think? Can Neverwinter turn around Perfect World’s fortunes? Be sure to comment below and make your call public over in CAPS .
BoiseKen owns shares of Activision Blizzard, Hasbro, and Perfect World. The Motley Fool owns shares of Activision Blizzard and Hasbro. Motley Fool newsletter services recommend Activision Blizzard and Hasbro. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.
