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Giant Interactive Misses on Earnings, Revs

Zacks Equity Research

One of China’s leading online game developers, Giant Interactive Group Inc. (GA) reported first quarter fiscal 2014 adjusted earnings of 22 cents (on a local currency basis). Earnings were almost flat year over year owing to weak sales. Earnings, however, lagged the Zacks Consensus Estimate of 25 cents by 12%.

Net revenue of $92.5 million was slightly up by 0.4% (on a local currency basis). Sales, however, lagged the Zacks Consensus Estimate of $102 million due to weak seasonality and lack of new game launches. Also, in-game spending declined sequentially as people traveled more during the Chinese New Year holiday.

The company witnessed a 5.6% increase in active paying accounts (APA) for online games mainly due to the contribution from the ZT Online franchise, while average revenue per user (:ARPU) for online games declined 3.4% during the quarter.

Gross profit increased 3.9% year over year to $81.9 million due to a 20.1% decrease in cost of services, which was mainly due to lower costs accrued for the company's licensed games in first quarter 2014.

Though the company did not launch any new game in the quarter, the existing games performed well. The company began the official closed beta testing of Jianghu on May 16, 2014. Jianghu is a 2D martial arts massively multiplayer online role playing game (:MMORPG), the new flagship title following the success of ZT Online 2.

The company has been focusing on its mobile game strategy and is keen on expanding the mobile game market in China. The company is set to roll out its first self-developed mobile games in 2014. In addition, it has 10 mobile game projects currently under development.

The company is optimistic about expanding its portfolio in 2014 and hopes to launch several new mobile games. The company has a prudent expense management system and continues to explore other cost effective distribution channels to enhance profitability.

Buyout Offer

On Mar 17, 2014, the company confirmed its merger agreement with Giant Investment Limited and Giant Merger Limited, a wholly-owned subsidiary of Giant Investment. Giant Investment will acquire Giant Interactive for $12 per share and $12 per American Depositary Share (ADS), totaling $3 billion. Following the merger, which is expected to close in the second half of 2014, Giant Interactive will become a privately held company and no longer trade on Nasdaq.

In Nov 2013, the company received a proposal from its chairman Yuzhu Shi, who already owns 49.3% of the company, to purchase the rest with cash and proceeds from debt financing for $2.82 billion in cash. The company announced the formation of a special committee of three members to evaluate the preliminary buyout offer.

The consortium proposed the acquisition of all of the company’s shares, including ADS for $11.75 per share/ADS. Each ADS represents one ordinary share of the company. The committee assessed the offer and negotiated terms to provide maximum value to its shareholders.

Giant Interactive is a leading online game developer and operator in China in terms of market share and focuses on MMORPGs. Giant Interactive holds a Zacks Rank #4 (Sell).

Other better-ranked Internet retailers include Brightcove, Inc. (BCOV), China Distance Education Holdings Ltd. (DL) and Perfect World Co., Ltd. (PWRD), all of them holding a Zacks Rank #2 (Buy).

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