Perfect World Going Private: A Perfect Ending?

First published by WestEnd111 on Seeking Alpha, a crowd sourced content service for financial markets.  Thankyou to @virusdancer for the clean copy. 

Perfect World Going Private: A Perfect Ending

Jan. 3, 2015 5:13 PM ET | about: Perfect World Co., Ltd. (PWRD), Includes: MSFT
Summary

PWRD received a $20/ADR offer from founder Chi that values the company at 9.3x FY15E P/E.

Given that PC games face declining concurrent users, and mobile still accounts for a smaller portion of the revenue, the stock is unlikely to see any meaningful catalyst in 2015.
Advise investors to tender the offer.

Event

Perfect World (NASDAQ:PWRD) received a $20/ADR, or $4/ordinary share, privation offer from the founder Michael Yufeng Chi. The offering price implies a +27% upside from Wednesday’s close and values the company at 9.3x FY15E earnings. Chi plans to finance the transaction with a combination of both debt and equity, and has submitted to the board for consideration.

At the offering price, PWRD’s takeout offer is reasonable given the lack of multiple expansion over the past year despite the company making good effort in transitioning into mobile games and partnering with Microsoft (NASDAQ:MSFT) to launch its titles via Xbox. However, it is worth pointing out that mobile remains a relatively small revenue contributor and that the partnership with Xbox has yet to become meaningful. PC titles remain PWRD’s bread and butter, and this segment has been experiencing declining concurrent users. Without an even stronger ramp of mobile revenue and a stabilization of PC games, the stock lacks a catalyst and I do not expect the investment community to become bullish on the stock. As such, I recommend investors to tender the offer.
The price is right

The offering price values PWRD at 9.3x FY15E consensus earnings compared with the 16x sector average. While some may argue that PWRD deserves a higher multiple, it is important to note that the company’s PC games faces the risk of concurrent user loss and its mobile games remain a small portion of the overall revenue. Finally, opex spending is likely to increase due to mobile expansion, so a higher multiple is not justified given the near-term headwind. That said, I believe the bid multiple to accurately reflect PWRD’s near-term growth prospect.

PWRD did not have a good 2014 with the stock down -11% vs. the +14% gain made by NASDAQ. However, the company certainly delivered in terms of fundamentals with its push into mobile gaming. The MMORPG Forsaken World and CrossGate both saw strong adoption that that drove the mobile contribution to account for close to 20% of PWRD’s total revenue this year. Additionally, Forsaken World and Return of Condor Heroes both remain top grossing mobile games in China, which bolsters my view that PWRD’s mobile games could become the next blockbuster title.

Despite the solid mobile performance, PC titles such as Swordsman Online and DOTA 2 continue to experience decline in concurrent users and this has largely been responsible for the negative sentiment towards the stock and have been capping the valuation multiple for the past year. Although the weakness in PC and the shift towards mobile gaming should be expected by the investment community, PC still accounts for 80% of PWRD’s revenue and the fund managers are not willing to bet on PWRD’s mobile growth despite the encouraging signs at this stage of development. That said, PWRD’s stock could face limited catalyst due to 1) stagnating/weak PC user growth, 2) still small mobile revenue contribution and 3) higher opex spending that could pressure profitability.
Conclusion

The $20/ADR offer price is favorable to the shareholders given limited catalyst for 2015. I advise the shareholders to tender the offer.

Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.

Disclosure: Lootcritter’s principle authors do have a position in the stock, although to be honest this was somewhat of a surprise to us.

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