Perfect World Needs New Games & Expansion Packs To Revive Revenue Growth

One of the early entrants in the Chinese online gaming market, Perfect World (NASDAQ:PWRD) announced its Q2 2012 results on Monday, August 27. Posting $106.5 million in revenues, the company registered a 6% sequential and a 13% yearly decline in the same. Owing to increased R&D expenses and higher sales, general and administrative costs this quarter, Perfect World’s operating profit dropped to $24.4 million, registering a 34% decline compared to the last quarter.

Though Perfect World has been posting continuous increases in its revenue stream and gross profits, the growth rate has slowed down over the years. With the entry of heavyweights such as NetEase, Tencent, Shanda Interactive and Giant Interactive, among others; and the rise of casual gaming in the Chinese as well as the overseas markets, Perfect World has been facing intense competition in the online gaming space.

The company’s stock has tumbled in the last year from a high of $22 to as low as $8. Perfect World does not foresee significant revenue contribution from its upcoming games in the ongoing quarter, and thus estimates a flat to slightly down Q3 2o12. The company’s stock fell just under 10% to $9.60 in after hours trading post the results.

We believe that as Perfect World continues to focus on its upcoming product launches later this year and concentrates on further enhancing the content of its portfolio in order to lengthen the life cycles of existing games, the company could start registering significant revenue gains fourth quarter onwards.

Check out our complete analysis of Perfect World

New Games To Help Expand In The International Markets

Perfect World’s international gaming revenue has nearly doubled in 2011, according to our estimates. The company has been focusing on expanding its presence in international markets such as Europe, America and Japan through its subsidiaries as well as by licensing its games to other game publishers in countries such as Indonesia and Brazil. This quarter, Perfect World further expanded its international coverage to Turkey and Azerbaijan.

Perfect World recently launched Blacklight: Retribution and Forsaken World in multiple internationals markets, and we expect it to continue to attract additional international gamers with new games and expansion packs, resulting in steady revenue growth. In the coming months, the company plans to launch two new martial arts MMORPGs — Heaven Sword and Dragon Saber, and the Return of the Condor Heroes — which could significantly boost revenue growth if they turn out to be hits. Additionally, post its acquisition of US-based Cryptic Studios, Perfect World is working towards developing the much-anticipated game Neverwinter and certain other projects up for launch in 2013.

Expansion Packs Can Increase Revenue Per User

We estimate the Chinese online games market to contribute over 28% to Perfect World’s valuation. While the market for online games in China has been continuously expanding, Perfect World’s Chinese user base has shrunk over the last couple of year, from 1.7 million in 2009 to 1.31 million in 2011, as some of its new games failed to achieve the level of popularity that its previous games did, amid increasing competition.

However, the online gaming market in China is large compared to most other countries. Online gaming revenue in the country is estimated to be around $5 billion in 2011 and is expected to reach nearly $6 billion by 2013. Perfect World was one of the initial players to come out with MMORPG and has a relatively loyal user base. Thus, we believe that as the company continues to introduce expansion packs for its exiting popular games, apart from working on adding new games to its portfolio, it will be able to maintain a long-term sustainable growth. We estimate Perfect World to register a marginal increase in revenue per user by the end of our forecast period.

Our price estimate of $20 for Perfect World is at a premium of close to 90% to the current market price. (Read Our Article: Perfect World Shares Are Still Dirt Cheap) We are in the process of updating our estimates to incorporate the Q2 2012 results.

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