NetEase Inc:Monetization kicks off

Event

    In the battle of survival shooter mobile game (link), the clout is modestlyflowing to the side of NetEase with the clock ticking (the later Tencent’s twoPUBG mobile games can be launched, the less threat it can bring). With themonetization of Terminator 2 kicking off from late last week, we try to estimatethe grossing of Wilderness and Terminator 2 for 2018 (RMB750m andRMB420m respectively for monthly average) based on the DAU. We lift our2018-19 EPS by 1-2% and raise TP to US$395.

    Impact

    Quantifying Wilderness (aka Knives Out). Terminator 2 kicked offmonetization from its latest version updated on 13 December. From this initialmonetization, players can top up and purchase costumes for their owncharacters. We also see signs of monetization upcoming for Wilderness,which already offers costumes and placement marketing etc from versionupdated on 16 Dec, though so far can just purchase via virtual currencyearned internally. We expect more ways of monetization to come. In terms ofgrossing, we expect this genre to feature low ARPU (but high user base) asMOBA genre. With the 13m and 5m DAU of Wilderness/ Terminator 2 forChina (Quest Mobile data; compared to 47m DAU of HoK), we model averagemonthly grossing of around RMB750m for Wilderness and RMB420m forTerminator 2 for 2018 (compared to HoK’s RMB2-3bn).

    Blue-sky scenario suggests fair value of US$570, which is based on thescenario that NetEase’ Wilderness becomes on par with HoK in terms of userbase and sustainability and fulfilment of these games’ overseas performance(Terminator 2 had topped No1 download rank in seven countries includingUS). We model monthly average grossing of RMB2bn and RMB1bn forWilderness and Terminator 2 respectively (Fig 17). Bear-case, whichsuggests Tencent launches the two PUBG mobile games soon and gainstraction swiftly, implies fair value of US$270 (with RMB400m for these twogames in total).

    Game event: gives more freedom to players. From the game event held inShanghai on 17 December, we feel that the sandbox concept is the coretheme for NetEase’s upcoming pipelines (Fig 19). The company unveiledAlive, another competitive sandbox mobile game (resembles survival shootergenre) that tested on iOS from 15 Dec, and highlighted the high freedomgameplay for Chu Liuxiang, the MMORPG to start testing from Feb 2018. Forexisting titles, the MOBA game based on Onmyoji IP will be launched soon.

    Earnings and target price revision

    Trim 17E EPS by 2% while lifting 18-19E EPS by 1-2%. SOTP-based TPraised to US$395 (from US$335) as we increase 18E target PER for itsgaming business to 18x (from 17x prior) given higher visibilityPrice catalyst

    12-month price target: US$395.00 based on a Sum of Parts methodology.

    Catalyst: Game performance, 4Q17 resultsAction and recommendation

    Reiterate Outperform. Risks to our view: competition from Tencent, weakmonetization, regulation.