Why This Online Gaming Stock Looks Good

usha is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

In the global video game industry, the United States dominates in terms of sales. The video game industry generated approximately $50 billion worldwide in 2012, and $18 billion of that came from the United States. The US dominance, however, won’t last forever, as more and more countries begin to spend more time and money on video games.

China is growing at an exponential pace. The entire Chinese gaming industry generated nearly $10 billion in 2012. This year, it is estimated that the Chinese online game market will be about $8 billion, and the global market for online games is about $15 billion, so China its roughly half of the online games market. One of the leaders of China’s booming online industry is NetEase.com (NASDAQ: NTES)

A China-based provider of online game and web advertising services, Netease reported  a profit for the fourth quarter that increased from last year, as well as revenue growth and lower foreign exchange losses. From CEO William Ding:(source: www.nasdaq.com)

"We finished the year with a solid fourth quarter, growing our total revenues by 8.3% year-over-year and 13.8% quarter-over-quarter, as well as year-over-year and quarter-over-quarter growth in revenue from our online games business."

NetEase, which makes most of its revenue from online games, has posted quarterly profit increases for most of the past two years, though its recent earnings have been pressured by promotional activities. The company operates the popular World of Warcraft, or WoW, role-playing game in China under a license with Activision Blizzard (NASDAQ: ATVI). But its self-developed games, like Tianxia and Heroes of Tang Dynasty, have driven most of the revenue growth in recent quarters.

WoW generates considerable revenue for Activision. Activision’s user base spikes after it releases a new expansion pack for the game, and this helps NetEase. Hence, the release of Mists of Pandaria in late October was one of the reasons behind an 11.2% jump in online gaming revenue from last year, as the game added 2.7 million subscribers in its first week.

However, as the December quarter progressed, Activision finished the quarter with 4% less subscribers for WoW, due to decline in NetEase’s home turf. It is expected that NetEase will once again find a new WoW expansion pack to attract customers with the aim of pushing up its revenue in the near future.

NetEase and its competitors

NetEase has had an EPS as high as $4.42, which is the highest amongst its competitors, including Sina.com (NASDAQ: SINA), and Sohu.com. Even though the PE ratio is the weakest amongst all, a PEG as low as 0.92 as compared to its Sina’s 24.49, indicates a good investment. While Sina has a P/S ratio of 6.67 and Sohu of 1.63, NetEase, with 5.10 is better off as compared to Sina. The lower the P/S ratio, more attractive the investment is.

The plans ahead

NetEase plans to “invest heavily in mobile Web services," said a senior company official (source: www.chinadaily.com), as companies are rushing to secure a position in the rising sector.  The company has offered a number of services for mobile  devices for some time, including a dictionary, news, and a note-taking application, as an increasing number of people turn to mobile devices to access the Web. Last year, the company spent 718.3 million Yuan ($115.2 million) on research and development, an increase of 54.3% year over year. William Ding, NetEase’s chief executive and director, said the first half of the year will see the launch of a full portfolio of mobile Internet services.

Going forward with the plans of launching mobile internet services, the company has also lined up a number of games and expansion packs for 2013. It would provide another breath of life to some of its best performing games, such as Westward Journey Online IIKung Fu Master and many more in the coming quarters. It also plans to release titles such as Heroes of Three Kingdoms, a real-time 3D action strategy game, Dragon Sword and Legend of Tibet in the second half of 2013. These efforts show that it has been trying to diversify its revenue.

Conclusion

The company's strengths can be seen in multiple areas, such as its revenue growth, a largely solid financial position, attractive valuation levels, expanding profit margins and its efforts to diversify its revenue sources. I feel these strengths indicate a good investment in this stock.

Are you ready to play with this gaming stock?


usha10 has no position in any stocks mentioned. The Motley Fool recommends Activision Blizzard, NetEase.com, and SINA . The Motley Fool owns shares of Activision Blizzard. 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. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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