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10 Nov, 2020 (Tuesday)

            
UNI MEDICAL(2666)
Analysis¡G
In the third quarter of 2020, Genetrtec Universal Medical Group (2666) orderly advanced its business and the overall performance recovered to stability. For the nine months ended 30 September 2020, the revenue of the Group increased by approximately 29% as compared with the corresponding period of 2019, and the profit for the period attributable to shareholders increased by approximately 6%. In respect of finance and advisory business, the Group actively strengthened the progress of business development. Net interest margin and net interest spread of the Group showed a steady rise as compared to those of the first half of 2020, and assets quality remained in a good condition. In respect of hospital group business, all member medical institutions have recovered to normal operation since the third quarter of 2020. (I do not hold the above stock)
Strategy¡G
Buy-in Price: $5.50, Target Price: $6.00, Cut Loss Price: $5.25


WEIMOB INC(2013)
Analysis¡G
WEIMOB INC. acquired and subscribed for a 51% stake in Shanghai Heading Information Engineering Co., Ltd. on November 6, for a total consideration of approximately RMB 510 million. Heading Information is principally engaged in providing information and digital upgrading solutions for retail enterprises. After the acquisition, the company enter the retail fields of commercial real estate, supermarket chains, and convenience stores, which will help the company further develop the smart retail sector. It is expected that the company can expand the relationship with retail customers in the future, and at the same time improve the company`s targeted marketing business, to realize high customer stickiness and economic benefits.
Strategy¡G
Buy-in Price: $11.30, Target Price: $12.50, Cut Loss Price: $10.70



Perfect World (002624.SZ) - Leading R&D capabilities, entered the cloud gaming sector well in advance

Investment Summary

Perfect world is a global leading comprehensive entertainment group

The parent company of Perfect World Co., Ltd. (002624) is Perfect World Holding Group, a global leading comprehensive entertainment group, whose businesses include games, Pictures (Film and Television), education, animation, literature, e-sports, and media etc. The Perfect World game business was established in 2004 and was listed on NASDAQ in 2007. In 2008, the film and television business of Perfect World was established, and in 2015, it was listed in A shares market through reverse takeover and renamed Perfect World Pictures Co.,Ltd. In 2016, the game business was delisted from Nasdaq and merge into Perfect World Pictures, Perfect World Pictures was renamed to Perfect World after the merger. After that, Perfect World continued to acquire and invest in related assets of the cinema business. Subsequently, in 2018, the company divested its cinema business from the main body of the listed company. Currently, the major business of Perfect World are games (including e-sports) as well as film and television (production, distribution, etc.).

The company's rich reserve in IPs

The company's IP reserves are very rich, mainly divided into original and authorized IP. The company's main original IPs have achieved great success in the PC game era, such as the Perfect World IP. The immense influence and fan base of the IP has sufficient reduce the cost of the ¡§PC to mobile transformation¡¨, which enable the company to enter the mobile game market at low cost. On the other hand, the company has also obtained many famous IP game licenses, such as Zhuxian, Jin Yong's novels. The popularity of these authorized IP has become a major inherent advantage for the game.

The company has laid a solid foundation in the cloud gaming sector

The popularity of 5G has greatly promoted the development of cloud games. According to the Gamma Data "Cloud Game Industry Survey Report 2020", the market size of China's cloud games in 2019 is about RMB 540 million, and the CAGR in the next two years will exceed 100%. The company has proactively deployed its cloud game business since 2017, and launched its first cloud game in the same year. Later, in 2019, it cooperated with the Tianyi Cloud game platform under China Telecom and published a few cloud games, including Fantasy New Zhuxian (¹Ú¤Û·s¸Ý¥P). New Zhuxian (¹Ú¤Û·s¸Ý¥P) also won the "Excellent Case of Cloud Game in 2020" by ICT China. The company stated that in the future, it will deepen its strategic cooperation with China Telecom Tianyi cloud gaming platform and other overseas-related technical teams to fully assist the sustainable development of the cloud gaming industry ecosystem. At present, the company has three studios that are focusing on the preparation and development of cloud games, including the highly anticipated Zhuxian 2 (¸Ý¥P2). The company's forward-looking deployment of cloud gaming business has enabled it to occupy the market share of this high-growth segment in advance.

Valuation

We forecast the EPS of the company in 2020-2022 to be RMB 1.33/1.47/1.77. We have adopted SOTP valuation method to value the company, and has split the expenses base on the revenue of two sectors (Games and Pictures), expect for R&D expenses, where we have allocated all R&D expense to the Game business. We value the company at RMB 68.7 billion, with target price at RMB 35.44, which implies 2020/2021 PE of 26.7x/24.0x/20.0x. We initiate with a ¡§BUY¡¨ rating.

Industry Review and Forecast

The market for PRC Mobile Games Overseas

In recent years, many mobile game companies have been focusing on their overseas market business, mainly because the mobile game markets in many overseas regions (especially Southeast Asia) are still in the early stage of development and has great growth potential. In contrast, the Chinese mobile game market is already in the mature stage and its growth has significantly slowed down. Secondly, the Chinese game market is indeed hugely affected by policies. Relevant national departments issued a number of game supervision measures (including tightening supervision on underage gamers and restricted their game time) in 2018-2019, and suspended the pre-approval for games in 2018. Although the current pre-approval procedure has resumed, nonetheless there are still significant policy risks in China's mobile game market. On the contrary, games in majority of overseas markets are only supervised through the "game classification system", where games are classified by the age of suitable players. It can be seen that the regulatory intensity of the overseas game market is obviously lower than that of the Chinese market. As a result, expanding overseas markets will help Chinese mobile game industry participants to reduce this policy risk. According to Frost & Sullivan, the China's overseas mobile game market recorded a significant growth at a CAGR of 57.5% from 2014 to 2018, and is expected to grow at a CAGR of 20.0% from 2018 to 2023. The Chinese mobile games have already achieved good results in overseas market. According to the statistics of the Overseas Research Institute (®ü¥~¬ã¨s°|), in the US Google Play Store Top 100 free list and Top 100 best-selling list, apps from China have occupied 15 and 20 places respectively. Further, there are 30 Chinese mobile games in the Top 100 best-selling Korean mobile games in 2019. Further, according App Annie data, the market share of Chinese mobile games in overseas markets was up by 2.9ppt yoy in 1H20, and reached 21.2%, which is only slightly behind Japan with 21.5%.

The Chinese game advertisement market

In recent years, the growth of users in the Chinese game market has gradually been slow. According to Frost & Sullivan, the CAGR of Chinese gamers/mobile game players from 2019 to 2024 is expected to be 2.4%/2.7%. In 1H20, even under the impact of COVID and quarantine, the growth of users remained slow. According to the ¡§China Game Industry Report for January-June 2020¡¨ ¡m2020¦~«×1-6¤ë¤¤°ê¹CÀ¸²£·~³ø§i¡n, the number of gamers in China in 1H20 was 557 million, a yoy increase of only 1.97%. As the growth of number of Chinese gamers begins to slow down, the difficulty of acquiring customers for game companies has increased. On the other hand, according to Reyun data, the total amount of creatives of the Chinese TOP 50 highest creatives mobile games have accounted for roughly 41%/40% of the total amount of creatives of the Chinese TOP 500 highest creatives mobile game in 20Q1/20Q2, up by 5ppt/4ppt comparing to the 36% in 19Q4. The increase in this proportion means that the Chinese game advertisement market is gradually dominated by the market leaders. According to DataEye-ADX, the Game ¡m¶Ã¥@¤ýªÌ¡nby Tencent ranked 13th on the ranking of highest creatives Chinese game. This is relatively surprising, since the games developed by Tencent don`t usually appear in the Chinese game advertisement markets, as they are usually promoted and advertised through the diversified advertisement channels of Tencent. This served as a clear evidence that the market leaders have begun to enter the Chinese game advertisement market. The combination of the increasing customer acquisition difficulties as well as the fact that the market leaders begin to enter the Chinese game advertisement market have driven the cost of game advertisement upward significantly.

Developing exquisite games by enhancing R&D capabilities is the general trend in the sector

Game development capabilities and game quality have become particularly important especially in the background of high game advertisement cost. The increase in game advertisement cost will squeeze the living space of non-exquisite games on the one hand, and on the other hand, it has shifted the attention of mobile game developers onto the quality of games in order to acquire customers and retain them, rather than spending significant amount on advertisement. In addition, as players consume more and more rationally, whether mobile game companies can tap the value of its existing users by providing high-quality games will become the key. Further, pre-approval of games by Chinese Government are more stringent than ever. This has further pushed game companies to refine their games in order to increase the games` life cycle to cope with the increasingly stringent pre-approvals. The above reasons have promoted high quality and refinement of the mobile game industry and we believe that that increasing their R&D capabilities will be the only way for mobile game companies to survive. Take 37 Interactive Entertainment (A-shares) and XD Inc (HK-listed) as example, the R&D expense of 37 interactive and XD in 1H20 were RMB 645/218 million, up by 99%/68%. The corresponding R&D expense ratio were also up by 2.7ppt/5.5ppt.

Company Overview and its Competitive Advantages

Perfect world is a global leading comprehensive entertainment group

The parent company of Perfect World Co., Ltd. (002624) is Perfect World Holding Group, a global leading comprehensive entertainment group, whose businesses include games, pictures (Film and Television), education, animation, literature, e-sports, and media etc. The group's products are distributed in more than 100 countries and regions around the world such as the United States, Europe and Asia. It has domestic offices in Beijing, Hong Kong, Shanghai, Chongqing, Chengdu, Hainan and other places, as well as overseas offices in countries like the United States, the Netherlands, France, South Korea, Japan and etc. The Perfect World's game business was established in 2004 and was listed on NASDAQ in 2007. In 2008, the picture business of Perfect World was established, and in 2015, it was listed in A shares market through reverse takeover and named as Perfect World Pictures Co.,Ltd. In 2016, the game business was delisted from Nasdaq and merged into Perfect World Pictures, Perfect World Pictures was renamed to Perfect World after the merger. Since then, Perfect World continued to acquire and invest in related assets of the cinema business. Subsequently, in 2018, the company divested its cinema business from the main body of the listed company. Currently, the major businesses of Perfect World are games (including e-sports) as well as pictures (production, distribution of TV series).

Perfect World Games

The company is an industry-leading game company with many years of experience in the development of PC games, web games, console games and mobile games

The company started with the development and operation of PC games. In 2006, it launched the first multiplayer online 3D network PC game, named Perfect World (§¹¬ü¥@¬É), and launched Perfect World International (§¹¬ü¥@¬É°ê»Úª©) in July of the same year. The international version was the first Chinese online game to enter the Japan market. In 2012, the company and Valve signed an exclusive agency agreement for Dota 2 in China, and in the same year, the company also launched web games such as Ice and Fire (¦B¤õ¯}Ãa¯«). In 2013, the Chinese mobile game market was booming, and the company has entered the mobile game field in the same year and launched the mobile game Divine Condor, Errant Knight (¯«ÀJ«L«Q). In 2014, the company has begun to develop console games, and in the same year launched console game Neverwinter Online (µL¥VOnline) in cooperation with Microsoft. In 2016, the company and Valve signed a domestic agency agreement for "CS: GO". In 2019, the company launched mobile game Perfect World (§¹¬ü¥@¬É¤â¾÷ª©), which was a huge success, with the first month's gross billing exceeding the billion mark. At present, the company has more than 40 mobile games and console games in operation. The core games include PC games ZhuXian 3 (¸Ý¥P3), Swordsman Online (¯º¶Æ¦¿´òOnline), Perfect World (§¹¬ü¥@¬É), CS: Go, Dota 2 and Mobile games Perfect World Mobile Game (§¹¬ü¥@¬É¤â¾÷ª©), Forsaken World (·s¯«Å]¤j³°), Xin Zhuxian Mobile Game (·s¸Ý¥P¤â¹C), New Swordsman (·s¯º¶Æ¦¿´ò) and etc.

Perfect World Mobile Game (§¹¬ü¥@¬É¤â¹C)

The Perfect World mobile game (§¹¬ü¥@¬É¤â¹C) is a MMORPG mobile game, which was launched on March 6, 2019 on all platforms. The game was developed by Perfect World and distributed by Tencent. The Perfect World mobile game was created by the team who had previously developed multiple hit games such as Zhuxian (¸Ý¥P) and My Own Swordsman (ªZªL¥~¶Ç). The game not only inherited the elements of the Perfect World PC game that was launched 14 years ago (such as the classic seamless big world map and characters), the R&D team also made corresponding amendments to the game according to the characteristics of the mobile terminal. In order to create momentum for the game's public beta, Tencent and the company adopted a series of marketing activities on multiple social platforms. The game was ranked first on the IOS free list on the day it was launched, and also ranked first on the IOS best-selling list two days after it was launched, and has been on top of the best-selling list for 17 consecutive days. According to Sensor Tower data, as of March 22, 2019 (22 days after the game was launched), the revenue of the game has exceeded the $100 million mark in just the App Store China alone. According to App Annie data, the game ranked second in the IOS global game revenue list in March 2019, and its revenue performance was only slightly lower than that of Glory of the King (¤ýªÌºaÄ£). According to Sensor Tower data, the game also ranked fourth in the 2019 China IOS mobile game revenue list.

Forsaken World (·s¯«Å]¤j³°)

Forsaken World (·s¯«Å]¤j³°) is a large-scale MMORPG mobile game developed based on the Unity engine. The main highlight of the game is that it brought the ultra-high-definition picture quality we see on PC games to mobile terminals, which gives players the most realistic combat experience and visual effects. The game also adopts a unique "chronological" narrative method. Hence, every important decision made by players in the game will affect the future development of the game's plot. As a result, compared to other similar MMORPG games, Forsaken World (·s¯«Å]¤j³°) is more immersive. The game was launched on July 2, 2020, while it has undergone 3 tests before published, and the company has made nearly 3,000 adjustments after each test. Hence, the final version is fully in line with the preferences and habits of its users. According to Qimai's data, the game was ranked first on the IOS free list within one hour after it was launched, and continued to occupy the top spot on the list, with its estimated turnover in the first 5 days has exceeded the RMB 100 million mark. This extremely eye catching performance is mainly attributed the company's huge and diversified advertising strategy for the game. First of all, the company has invited a well-known Chinese band ¡§NZBZ¡¨ to compose the theme song for the game. Secondly, the company also invited a group of celebrity endorser, including Yang Mi (·¨¾­), Ren Dahua (¥ô¹FµØ) and Chen Xiaochun (³¯¤p¬K), to promote the game. Yang Mi, being one of the most influencing female celebrity in China, has a huge fan base and the top level of exposure in China. Thirdly, the company has spent a lot on promoting the game through many different channels. According to App Growing data, the game ranked 1st among all mobile game in July 2020 in China, in terms of number of advertisements made. According to Sensor Tower data, Forsaken World (·s¯«Å]¤j³°) ranked 7th in China's App Store mobile game revenue rankings in July 2020. Due to the outstanding performance of the game during the month, the company's revenue in the same month rose by 93% (according to Sensor Tower), and ranked 7th among all other Chinese game publishers, in terms of revenue generated globally, in July 2020. Up until now, the game is still staying on China IOS best-selling game ranking Top 30 and has never been dropped out of the Top 30. The reason why the game has become one of the hit game in China this year was not only attributed to the company's huge investment on advertisement for the game, but also due to the company's years of experience in MMORPG game development and operation.

In addition, Forsaken World (·s¯«Å]¤j³°) is the company's first flagship product in cloud gaming. It was launched on China Telecom's Tianyi Cloud game platform. With the support of Feiyun platform, this masterpiece brings game players a high-definition and smooth cross-terminal ultimate experience. With the powerful performance of the cloud GPU processor of the Tianyi cloud platform, players can realize and enjoy the features of cloud games such as download-free, installation-free, click-to-play, high image quality and cross-platform. Forsaken World (·s¯«Å]¤j³°) won the "Excellent Case of Cloud Game 2020" (2020¦~«×¶³¹CÀ¸Àu¨q®×¨Ò) by ICT China on October 15.

The company's game reserve

The company currently has dozens of games in reserve with a wide range of game genres and types, including MMORPG, RPG, ARPG, JRPG and etc. In addition, the games themes of the reserve games are also very diverse including female orientation, animate, open world, puzzle solving, etc. The variety of game genres and themes will help the company to expand its user group.

Fantasy New Zhuxian (¹Ú¤Û·s¸Ý¥P)

Fantasy New Zhuxian (¹Ú¤Û·s¸Ý¥P) is the company's flagship turn based RPG mobile game, adapted from the company's famous PC game Fantasy Zhu Xian (¹Ú¤Û¸Ý¥P)¡A and has adopted an open world theme. As compared with the companies previous ¡§Zhuxian¡¨ series MMORPG games, the game has obvious upgrade on graphics, sound effects and gameplay. Hence, the game is likely to bring a brand new gaming experience to the Zhuxian fans. In addition, the game is a brand new project produced by the company's star game studio Tianzhiyou studio, which has sufficient experience in developing turn based RPG games. The game has obtained the pre-approval in April 2020. On the other hand, the game is the company's first ever game that is built using the UE4 engine, which has significant differences comparing to the game built using the unity engines. Hence the gross billing of the game is highly anticipated. The current TapTap score on the game is 8.5, with reservation number over 75k.

The company is a market leader in the MMORPG game genre

The company focuses on game development, especially in the MMORPG game genre segment. The R&D capabilities of the company in MMORPG is highly recognized by the market and it has continuously developed MMORPG hit games, from PC games Perfect World (§¹¬ü¥@¬É) and Zhuxian 3 (¸Ý¥P3) to mobile game Perfect world mobile (§¹¬ü¥@¬É¤â¹Cª©) and Forsaken World (·s¯«Å]¤j³°). According to Frost and Sullivan, the company is the 3rd largest Chinese mobile game developer in China in terms of total gross billings from self-developed games in mainland China in 2019, with market share of 3.8%. However, in terms of the total gross billings from self-developed MMORPGs in mainland China in 2019, the company actually ranks 2nd in the country, with market share of 5.6%. It is only slightly behind Netease's 33.0% market share and is higher than Tencent's market share of 4.0%. According to Frost and Sullivan, MMORPG games has the highest market share in China among all other game genres and also has the highest growth potential in the future. The expected CAGR from 2019-2024 is 19.7%, way higher than the 11.7% CAGR of the average in the mobile game industry in the same period. Further, MMORPG games also has higher-than-average life cycles, highest ARPU and highest Pay user conversion rate comparing to other mobile game genres. The company is expected to become the main beneficiaries of the high future growth in MMORPG mobile game sector because of the company's forward looking and deep cultivation in the field of MMORPG games.

The company's R&D expenses rank first among peers other than Tencent and Netease, with R&D expense in 2018/2019 being RMB 1.41/1.50 billion. In addition, its R&D expense ratio also ranks high among its peers, with R&D expense ratio being 17.6%/18.7% in 2018/2019 respectively, which is higher than the industry average of 12.3%/14.3%. At the same time, the company's R&D personnel as a percentage of total employees has been on the rise in the past, from 47% in 2016 to 66% in 2019. The company's strong R&D capabilities and huge R&D investment have created a strong moat for it, allowing it to survive and grow in the gradually refined mobile game industry.

The revenue proportion from mobile game has been rising in recent years, the company has successfully finished its ¡§PC to mobile¡¨ transformation

Compared with the console game, PC game and web game market, the mobile game market will see greater growth in the future. According to Frost & Sullivan, the 2016-2019 CAGR of the mobile game/Console game/PC game/web game market were 23.2% /11.4%/1.8%/-15.9%, and the CAGR for 2019-2024 is 11.7%/7.3%/2.4%/-6.7% respectively. The company has seized the opportunity of high growth in the mobile game market. Since 2013, it has deployed the mobile game field. After obtaining the right to adapt the IP mobile game, it has successively launched many popular mobile games, such as New Zhuxian (·s¸Ý¥P) and Perfect World mobile games (§¹¬ü¥@¬É¤â¹Cª©). In addition, the company's revenue from mobile game as a percentage of total game revenue has also been increasing yoy for the past few years, from 46% in 2016 to 57% in 2019, this indicates that the company has successfully completed its transformation of ¡§PC to mobile¡¨. The successful transformation is mainly attributed to the company's strong mobile game research and development capabilities, the influence of mobile game IP, and the company's excellent operating capabilities on the mobile game.

The company's rich reserve in IPs

According to Analysys, the revenue generated from IP mobile games accounted for 67% of total revenue of the mobile games. Further, one of the major advantages of IP games is that the fans of its own IP can easily be converted into game players, so the marketing and promotion costs of the IP based games are lower than those of non-IP games. Secondly, this group of fans usually have higher loyalty and stickiness, hence, the average life cycle of IP game is longer than non-IP games. According to Analysys, the average life cycle of mobile games is 6-12 months, while the life cycle of CMGE's IP based games are ranging from 1-4 years. Based on the above reasons, compared with non-IP game companies, IP game companies have the characteristics of more stable revenue and higher liquidity.

The company's IP reserves are very rich, mainly divided into original and authorized IP. The company's main original IPs have achieved great success in the PC game era, such as the Perfect World IP. The immense influence and fan base of the IP has sufficient reduce the cost of the ¡§PC to mobile transformation¡¨, which enable the company to enter the mobile game market at a very low cost. On the other hand, the company has also obtained many famous IP game licenses, such as Zhuxian, Jin Yong's novels. The popularity of these authorized IP has become a major inherent advantage for the game during its launch.

The company has laid a solid foundation in the cloud gaming sector

The popularity of 5G has greatly promoted the development of cloud games. According to the Gamma Data "Cloud Game Industry Survey Report 2020", the market size of China's cloud games in 2019 is about RMB 540 million, and the CAGR in the next two years will exceed 100%. The company has proactively deployed its cloud game business since 2017, and launched its first cloud game in the same year. Later, in 2019, it cooperated with the Tianyi Cloud game platform under China Telecom and published a few cloud games, including Fantasy New Zhuxian (¹Ú¤Û·s¸Ý¥P). New Zhuxian (¹Ú¤Û·s¸Ý¥P) also won the "Excellent Case of Cloud Game in 2020" by ICT China. The company stated that in the future, it will deepen its strategic cooperation with China Telecom Tianyi cloud gaming platform and other overseas-related technical teams to fully assist the sustainable development of the cloud gaming industry ecosystem. At present, the company has three studios that are focusing on the preparation and development of cloud games such as the highly anticipated Zhuxian 2 (¸Ý¥P2). The company's forward-looking deployment of cloud gaming business has enabled it to occupy the market share of this high-growth segment well in advance.

The company is one of the icon in Chinese e-sports

The company acquired the domestic agency rights of Valve's "Dota 2" and "CS: Go" in 2012 and 2016, and began to deploy its e-sports business. Ever since that, it has successively held several large-scale "Dota 2" and "CS: Go" E-sports professional league in China. The company also assisted Valve to hold the "Dota 2" 2019 International Invitational Tournament (TI 9) in Shanghai in 2019, which was not only the first TI series held in China, but also set the record for the highest prize money of any single e-sports competition at that time. It can be seen that the company, as a major leader in the domestic e-sports industry, has the ability to successfully introduce top international e-sports events into China. According to iResearch, China's e-sports industry has exceeded RMB 100 billion in 2019 and is expected to reach RMB 165.1 billion in 2021. In addition, the current domestic e-sports industry is supported by government policies. Provinces and cities such as Beijing, Shanghai, Guangzhou, and Chengdu have issued policies with the aim to support the growth of Chinese e-sport sector. Among them, Shanghai even has the title of "Global E-sports Capital". We believe that the high attention of the e-sports industry itself coupled with the strong support of local policies will promote the continued high growth of the industry in the future, and the company, as a major representative of the Chinese e-sports industry, is expected to benefit from this in the future.

Perfect World Pictures

Perfect World Pictures mainly focuses on TV drama business

In January 2018, the company sold its cinema business to its parent company, Perfect World Holdings Group Co., Ltd. for approximately RMB 1.7 billion. After that, the company focused on TV drama business, which also accounted for the majority of the company's pictures revenue. In recent years, the number of TV series that have obtained the "Domestic TV Drama Distribution License" has shown a significant downward trend. In 2019, the number of TV series that have obtained the "Domestic TV Drama Distribution License" was only 254, a 36% drop from 394 in 2015. In addition, according to data from the Qianzhan Industry Research Institute, the total investment in China's TV drama industry in 2019 was RMB 16.8 billion, a yoy decrease of 27.6% and the first negative growth recorded in 5 years. The main reason for the decline in investment scale was that the industry's increasing regulatory intensity and restrictions on content topics have made TV dramas more difficult to be financed. Coupled with the exposure of scandals such as "duplicate contracts" (two contracts for apparently the same job, meant to help stars avoid regulatory rules and taxes), the domestic film and television industry has entered a cold winter in 2019. In the downturn of the general environment, the TV drama market has become more competitive, and TV dramas are crowded, which has caused a lot of pressure on the company's TV drama inventory. In 2019, the company had RMB 360 million in inventory impairment, which led to a net loss recorded for Perfect World Pictures. However, the quarantine in 20H1 has driven up the popularity and demand of TV drama in China, and the company has already recognized revenue for 11 TV dramas in 2020Q1-Q3, which is higher than the number of TV drama recognized in the whole 2019 combined. Hence, it can be seen that the inventory problem has been quickly digested in 1H20. We expect Perfect World Pictures to be profitable in 2020.

The company's past TV dramas and Variety Show have received good reputation

The company's past TV dramas have all been recognized by the market, such as ¡§Skate into Love¡¨, ¡§Ashes of Love¡¨, ¡§Soul Mate¡¨, ¡§The Legendary Tavern¡¨. The above TV dramas have all received Douban score higher than 7/10. Regarding the variety shows, ¡§go fighting! Season 4¡¨ and ¡§Back to Field Season 2¡¨ have both won good market reviews and reputation, with Douban scores of 7.6 and 8.1 points respectively.

Well-known content production team

The company has multiple content creation teams, including Xinbaoyuan (øÊÄ_·½), Huamei Time (µØ¬ü®É¥ú), Perfect Pengrui (§¹¬ü½´·ç), Perfect Jianxin (§¹¬ü«Ø«H), Jianghe Studio (¦¿ªe¤u§@«Ç), Liu Ning Studio (¼B¹ç¤u§@«Ç), etc. The team members include well-known directors and producers such as Zhao Baogang (»¯Ä_­è), Teng Huatao (¼ðµØÀÜ), Liu Jiang (¼B¦¿), He Jing (¦óÀR), etc. The company's production team has provided it with a wealth of film and television project reserves. According to the company's annual report, the company has a total of 34 film and television project investment plans in 2020, some of which have been launched in the first three quarters of 2020, including "Heroes Fearless" (¤j«LÀN¤¸¥Ò), "Trident" (¤T¤e´u) etc.

Financial Analysis and Forecast

Revenue

The company's past revenue had a steady upward trend, from RMB 6.17 billion in 2016 to RMB 8.04 billion in 2019, with a CAGR of 9.2% during the period. The company's revenue growth rate in 2019 was only 0.1%, mainly because the company divested its theater line business from the main body of the listed company in 2018. If the theater line business income is excluded, the company's revenue in 2019 will record a growth of 6.8%. The company's revenue can be mainly divided into two major sectors: games and pictures, of which the game business accounts for the majority. In 2019, game revenue was RMB 6.82 billion, accounting for 85% of total revenue. The company's game business mainly consists of four categories, mobile games, PC games, console games and other game revenue. Among the four major game categories, the rapid growth of mobile game revenue is the main driving force of the company's game business growth, and its share of total game revenue has also increased yoy. The company's mobile game revenue in 2019 was RMB 3.88 billion, represented an increase of 43% yoy, and its share of total game revenue was 57%, which also increased by about 7 pcts yoy.

Looking forward, we believe that the company's mobile game revenue will record high growth in 2020-2022, and the growth momentum mainly drives from the company's new online mobile games such as Perfect World mobile game(§¹¬ü¥@¬É¤â¹Cª©), Forsaken World (·s¯«Å]¤j³°), New Swordsman (·s¯º¶Æ¦¿´ò) and etc, as well as the upcoming Fantasy New Zhuxian (¹Ú¤Û·s¸Ý¥P). Further, since the company will deploy more self-publishing in the future, which revenue is recognized as the gross basis of the gross billing of games, hence the revenue increase will be relatively higher in the future. We expect the company's mobile game revenue growth in 2020 to be 60%, and this growth is expected to normalized to about 25% as the ¡§stay-at-home economy¡¨ fades. Based on the above reasons, we predict that the company's mobile game revenue in 2020/2021/2022 will be RMB 6.21/7.76/9.70 billion, respectively. On the other hand, the company's revenue from PC and console games in 2020 is also expected to benefit from the ¡§stay-at-home economy¡¨ but the growth will be slower than that of the mobile games, mainly because the supplies of new products are less than that of the mobile games. We expect the 2020/2021/2022 revenue for PC and console games to be RMB 2.73/2.98/3.25 billion and RMB 470/490/510 million, up by 13%/9%/9% and 4%/3%/3% yoy, respectively.

As for the Perfect World Pictures (TV series and others), we believe that the company's TV drama business will record positive growth in the next three years. In 2020, with the rise of China's ¡§stay-at-home economy¡¨, people's demand for TV dramas and online dramas has greatly increased. In the first three quarters of the year, the company recognized 11 TV drama as income, speeding up the pace of inventory clearance. Therefore, we expect the company's TV drama business revenue will record a relatively high growth in 2020, about 25%. However, with the overall industry downturn (including the tightening of version numbers, increased content supervision, and fiercer competition), the revenue growth rate is expected to normalize to about 10% in 2021 and 2022. Based on the above reasons, we expect the company's TV drama business revenue for 2020/2021/2022 will be RMB 1.33/1.46/1.60 billion respectively.

GPM and expenses ratio

The company's gross profit margin has been on an upward trend since 2017, mainly due to the increase in gross profit margin of the game business and the increase in the proportion of revenue from the game business (game business has higher GPM then pictures). The increase in the gross profit margin of the game business was mainly due to the increase in the revenue proportion of the company's higher gross profit margin sector, mobile game sector, yoy. As for the TV drama business, the gross profit margin fell from 53.1% in 2017 to 32.2% in 2019 due to the downturn in the industry. However, the company's overall gross profit margin in the past can still maintain an upward trend. We believe that the future gross profit margin of the company's mobile game business will decline with the company's increasing number of self-publishing, where revenue is recorded at gross basis of the gross billing (hence lower GPM). The gross profit margin of mobile games for 2020/2021/2022 is expected to be 70.3%/67.1%/66.3% respectively. On the other hand, we expect the company's gross profit margin for PC and console games to remain stable. The gross profit margin of the TV drama business will also increase with the increase in the controllability of the actors` pay and will remain at about 35%.

The company's S&M expense ratio in 2019 was relatively high, about 3.2 pcts higher than in 2018. We expect that the company's S&M expense ratio in the next three years will remain at a relatively high level, about 13-14%, mainly due to 1) the increase in the cost of game advertisement 2) the company's recent self-publish strategy of high advertisement (refer to Forsaken World (·s¯«Å]¤j³°) launch in Mainland China, the company's Q3 S&M expense ratio was 21.6%. Nonetheless, since advertisement expenses tend to be higher in the quarter when the game is launched and we can clearly see a huge drop in advertisement for Forsaken World (·s¯«Å]¤j³°) after August, hence we believe the S&M expense ratio in Q4/2020E to be lower than that in Q3.) 3) The company's advertisement investment will increase with the company's future increase in self-publishing ratio. As for the R&D expense ratio, we believe it will remain stable at a level of about 17%-18% in the future. Finally, the company's admin expense ratio is expected to gradually decrease in the future with the company's scale efficiency.

Valuation

We forecast the EPS of the company in 2020-2022 to be RMB 1.33/1.47/1.77. We have adopted SOTP valuation method to value the company, and has split the expenses base on the revenue of two sectors (Games and Pictures), expect for R&D expenses, where we have allocated all R&D expense to the Game business.

1) As of 5th of Nov, the average PE of A-share listed game companies is 19.9x. Considered that the company's strong R&D capabilities and its market leading position, we will apply a premium to the company. We forecast the Perfect World Games` Net income attributable to parent to be RMB 2.32/2.58/3.13 billion. We value it at RMB 64.6 billion, with respective 2020/2021 PE at 27.9x/25.0x/20.6x.

2) We expect Perfect World Pictures` 2020/2021/2022 net income attributable to parent to be RMB 261/276/303 million. We value Perfect World Pictures at RMB 4.1 billion, based on 15x 2021 PE (average of similar peers).

We value the company at RMB 68.7 billion, with target price at RMB 35.44, which implies 2020/2021 PE of 26.7x/24.0x/20.0x. We initiate with a ¡§BUY¡¨ rating. (Market closing price as of 5th Nov)

Risk

1) The tightening on Game regulations 2) The Games underperform comparing to expectation 3) Games launching are delayed due to unexpected reasons

Financial Statements

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Recommendation on 10-11-2020
RecommendationBuy
Price on Recommendation Date$ 28.480
Suggested purchase priceN/A
Target Price$ 35.440
Writer Info
Kevin Chiu
(Research Analyst)
Tel: +852 2277 6514
Email:
kevinchiu@phillip.com.hk

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