Giant To Privatize, Other Gamers To Follow?

Giant Interactive gets buyout offer

Neglected online game operator Giant Interactive (NYSE: GA) has become the latest Chinese tech firm to launch a privatization bid, leading some to wonder whether other companies in the competitive gaming space may follow. I personally believe that Giant represents a special case, as the company was the source of controversy due to some questionable investments at the height of a recent confidence crisis against US-listed Chinese firms. But that said, China’s massive online gaming sector has become quite overheated over the last few years, with the result that many former high-flyers have seen their sales and stock prices languish. 

Before we look at the bigger picture for the online game sector, let’s focus on the latest Giant Interactive announcement that says it received a management-led buyout offer at $11.75 per American Depositary Share (ADS). (company announcement; Chinese article) Giant shares shot up 13 percent jump after the announcement, and now trade at $11.41. The deal sounds likely to get shareholder approval, since the buyout group’s various members already own 47 percent of Giant’s stock.

Giant’s shares have traded as high as $18 in 2008 around the time of its IPO when online game companies were still in favor with investors. But like many other Chinese firms, they have taken a hit over the last 2 years during the ongoing confidence crisis against US-listed Chinese firms. Giant itself came under the spotlight 2 years ago when word emerged that it had invested in an insurance company that had little or no relation to its core gaming business. (previous post) Giant’s CFO resigned at the time, and this year its controversial founder Shi Yuzhu also stepped down as CEO.

Personally speaking, I think the market will be a better place without Giant, which came to symbolize how founders of Chinese tech firms often use their companies as personal investment vehicles, sometimes to the detriment of minority shareholders. But in this instance, I think Giant’s likely de-listing also highlights the issues that many online game companies are facing due to stiff competition in a highly fragmented market.

Former leaders Shanda Games (Nasdaq: GAME) and Changyou (Nasdaq: CYOU) have struggled in the last few years amid slowing sales. Online game revenues for Changyou grew just 7 percent in its latest reporting quarter, while Shanda’s actually fell 11 percent, with no signs of improvement anytime soon. Former high-flyer The9 has also languished for the last few years, following the loss of licensing rights for its most popular title in 2009. Interestingly, Changyou shares rose 2.5 percent and Shanda’s gained 1.7 percent after the Giant Interactive privatization announcement, indicating investors may believe that these companies could privatize.

The only companies that have been successful in the gaming space lately are Internet powerhouse Tencent (HKEx: 700) and NetEase (Nasdaq: NTES). The former has leveraged its popular social networking (SNS) platforms to become China’s leader in the space, while the latter has banked on its self-developed titles and also a strong alliance with leading global game developer Activision Blizzard (Nasdaq: ATVI). But neither Tencent of NetEase looks very interested in acquiring other Chinese rivals in the online game space.

All of that brings us back to the original question, namely, what’s ahead for these remaining listed game companies following this Giant Interactive de-listing plan? My guess is that some of these companies may try to privatize and then quietly find a buyer, with The9 and perhaps Changyou the most likely in that category. What is clear is that prospects for most of these smaller firms look bleak, and I would advise them to look for strategic partners soon or face a very uncertain future.

Bottom line: Giant Interactive’s privatization offer reflects stiff competition in the online game space, and could be followed by similar buyouts for other smaller players like The9 and Changyou.

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