RISKY BUSINESS: China's Internet Companies- Hope Or Hype?
03 Feb 07:30
By Maxwell Murphy
A Dow Jones Newswires Column
(This report was originally published late Friday.)
NEW YORK (Dow Jones)--If the phrase, "Fool me once, shame on you; fool me
twice, shame on me," rings true, investors will have no one to blame but
themselves if Wall Street's renewed fascination with Chinese Internet companies
begets the same woe it did three years ago.
Then again, if Sohu.com Inc. (SOHU), Sina.com (SINA), and NetEase.com Inc.
(NTES) - all getting a second look these days - can attain anywhere near the
presence in China that Yahoo Inc. (YHOO) has in the U.S., now may be the best
time to grab a stake in these concerns. At least that's the thought behind
their recent meteoric ascent.
Unlike summer 2000, when the three made their trading debuts to high hopes
and rich valuations, they all now have newfound profitability and improving,
debt-free balance sheets to support an investor following. By fall 2000, big
losses and weak outlooks had driven the stocks to lows near or below $1 apiece,
and Wall Street didn't let them climb out of the trenches until late last year.
In April 2002, a Nielsen/NetRatings survey proclaimed China the No. 2 at-home
Internet population in the world with 56.6 million people living in households
with Web access, about 5% of homes in the country. The U.S. is No. 1, with a
Net population of 166 million, the survey said.
"Consider the market potential when Internet household penetration rates in
China start to more closely resemble those in other markets such as the U.S.,
South Korea, Singapore and Hong Kong, where penetration currently sits above 50
per cent," Hugh Bloch, managing director of its North Asia business, said in
the release.
"A 25 per cent penetration rate in China would amount to a potential 257
million people over the age of 2 in China with access to the Internet at home,"
he went on, noting the country's Ministry of Information says new Internet
subscriptions are growing 5% to 6% a month, putting 25% penetration "only three
or four years off."
Experts all say the Net is a bigger part of its users' lives in China than it
is here, as are cellphones, because of the ease and speed of communications and
the quality of entertainment, in stark contrast to a dearth of good television
programming on the handful of government-owned stations. In the U.S., they say,
Americans are typically more enthralled by their hundreds of possible TV
channels than by the Internet.
Speaking of cellphones, there are 200 million subscribers in China, offering
another lucrative revenue stream not really available to U.S Net concerns. All
three say their rapid revenue growth, and expected future growth, is due mainly
to services linking wireless phones and Web portals, text messaging and e-mail
for example.
In the U.S., most text-messaging fees go to wireless-services providers, but
deals Chinese Web providers' have with government-controlled cellular providers
- China Mobile Ltd. (CHL) and China Unicom Ltd. (CHU) - enable the three to
pocket a chunk of the fees.
Relying On China Playing Its Role
Online role-playing fantasy video games are sweeping Asia, and China is
getting on board. NetEase has two such games, and gaming was 10% to 20% of
revenue during the September quarter, with that number expected to grow, says
acting Chief Executive Ted Sun. Sina recently began beta testing a Chinese
version of Lineage, already hugely popular elsewhere in Asia, and Sina says it
expects "hundreds of thousands" of users of this free version, hopefully
meaning big money when it begins charging users in late March or early April.
Derek Palaschuk, Sohu's chief financial officer, says games aren't part of its
revenue now, but it will launch one game next quarter, on a "low profile" until
Sohu can determine it's success.
Even advertising revenues in China are growing, contrary to most of the rest
of the world. However, Sohu, Sina and NetEase have all said that sequential ad
revenue growth will be roughly flat in the first quarter, due to the ongoing
Chinese New Year celebration, but all agree that ad revenues for the year will
grow. In fact, all are saying they expect growth from all areas this year.
Prospective investors will need to decide if the market capitalizations of
the Chinese Web concerns, currently between $325 million to $450 million, are
overblown, given their small revenue and earnings, or does the robust growth
and prospects mean it's only a matter of time until one or all of them merit
the nearly $11 billion market cap bestowed upon Yahoo?
Yahoo's market cap is about 25 times the average of the three, and it expects
over $1.1 billion in revenue, about 25 times what Sohu, Sina or NetEase should
see, in 2003. On the other hand, Yahoo's 2003 net earnings are likely to be
well under 10 times any in the trio.
On the right path though they may be, the Chinese Web companies have a ways
to go to be another Yahoo. Whereas Yahoo posted net income of $46.2 million for
the fourth quarter, on $285.8 million in revenue, Sina - as good a
representative of the three very similar companies as any - earned just $1.5
million on $12.9 million in revenue.
Short Sellers Not Sold On Story
There's a growing throng of investors - perhaps once-burned, twice-shy -
selling the stock short. From mid December through mid January, Sohu's short
interest rose 350% to 181,916 shares; Sina's short interest rose 180% to
866,687; and NetEase posted a 75% increase to nearly 2.2 million of its
American depository receipts - each representing 100 common shares - being sold
short, according to the Nasdaq Web site. Though big jumps, short interest only
accounts for about 1.5% of Sohu's float of roughly 12 million shares available
for public trading, and only 3% of Sina's 28-million-share float, but it is
nearly 25% of the 9 million tradable NetEase ADRs.
Short sellers sell borrowed shares of a stock they think will suffer, hoping
to buy back later on the cheap, return the stake to the lender and pocket the
difference.
Dan Peirce, emerging markets strategist for State Street Global Advisors,
says China has a "compelling story," but notes trading in the three, especially
Sina, has been bad since Jan. 27 - a session before Sina posted results for the
December quarter - and continuing on Jan. 28 following the release. Sina is
down almost 25% in a week, and Peirce says it's "very, very clear that the
uptrend since October has been broken on strong volume."
On a strictly technical basis, Peirce says the Sina looks the most risky now,
while Sohu, and to a lesser extent, NetEase, have been more stable in holding
onto some of their recent gains. Neither Peirce nor his family owns shares of
Sohu, Sina or NetEase, and he knows of no relationships State Street has with
any of them.
Another way to view risk is by expected trading volatility, so let's turn to
risk tracker Barra Inc. Risk, as a function of volatility, can be either good
or bad, but this much is true: Our three subjects are among the riskiest stocks
out there. Sohu is ranked riskier than 95% of the market, NetEase is riskier
than 93% of all equities, and Sina is expected to be more volatile than 92% of
the 5,985 stocks in Barra's broad market.
It's hard to say what caused the sell off in Sina and weakness in the others;
Sina didn't respond to several interview requests. Of note, the hefty
share-price appreciation has put a lot of stock options in the money, and
investors may be discounting the companies based on a couple of million extra
diluted shares outstanding popping up on the books of the three.
Also, it was no secret that Sina would be profitable, so investors may have
hoped for more than $1.5 million in earnings and the promise of merely flat
per-share net for this quarter. Sohu, too, only promised investors flat EPSfor
the March quarter, with both citing higher investment in building their
businesses. NetEase expects to report fourth-quarter results in late February
or early March.
By Maxwell Murphy; Dow Jones Newswires; 201-938-5173;
maxwell.murphy@dowjones.com
(END) Dow Jones Newswires
02-03-03 0730ET |
