Sohu Begins Open Beta - Analyst Blog

A leading online brand and Internet portal in China, Sohu.com Inc. (SOHU) announced that its subsidiary Changyou.com Ltd (CYOU) has begun open-beta testing of San Jie Qi Yuan, Changyou's second 2D turn-based cartoon-style, a massively multi-player online role-playing game (MMORPG) on December 3, 2010.

San Jie Qi Yuan was licensed from a game studio in China and is operated by Changyou's wholly-owned subsidiary, I.C.E. Entertainment, the company said.

The game enables gamers to experience fast-paced martial arts battle in entertaining 2D graphics amid a backdrop of mythical fantasy world in ancient China. Players can also enhance their virtual experiences by engaging in other fun activities such as gardening, home building or sharing stories with friends through the built-in chat function, the company highlighted.

The company reported an increase of 33.5% in gaming operation revenues from China and 7.8% hike in overseas licensing gaming revenues in 2009 versus 2008 despite the weak macro economic conditions worldwide.

According to China Internet Network Information Center (CNNIC), Analysys and IDC, 82% players prefer MMORPG game in China. MMORPG has grown at a rapid pace and revenues have witnessed a CAGR of 100% over the last five years. This represents a tremendous growth opportunity for Sohu.

Though cost-cutting by small game developers and delay in launch of new games could pose a challenge, we believe Sohu's existing games along with the development of new games will boost growth beyond 2010.

Sohu is currently moving forward with its pipeline of new games for China, Japan, North America and other geographical regions.

IDC forecasts that China's online gaming market will post a CAGR of 14.7% in the next five years and account for subscription revenues of RMB 50.8 billion ($7.5 billion) by 2014.

We remain encouraged by Sohu's accelerating online game revenue growth, which escalated to $267.6 million in fiscal 2009 from $201.8 million in fiscal 2008, $42.1 million in fiscal 2007 and $8.5 million in fiscal 2006.

Additionally, Sohu's focus on online games will position it well to compete with the larger players such as Shanda Interactive (SNDA) and SINA Corp. (SINA).

Sohu reported strong third quarter 2010 results with both revenues and earnings beating the Zacks Consensus Estimates, primarily driven by a growth in brand advertising, search ad business and online gaming.

Sohu provided an upbeat fourth quarter guidance that was above expectation. As a result, we have raised our 2010 and 2011 EPS estimates. The company is expected to benefit from its strength in online games, online video growth, promising games portfolio and China's growing online advertising industry.

The company expects increased advertising spending in 2010. Although results improved, the company's operating expenses have been steadily going up, which we fear could limit the earnings growth. Moreover, recent delays in game launch and intense competition could further pressure performance.

We believe Sohu is a 2011 growth story and advise investors to wait for a more favorable entry point. We maintain our long-term Neutral rating on the stock.

 
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