Monday, July 2, 2007

Mobile services in China - the warzone!

Leaving the relatively safe zone of vitamins and Wesco Financial, let's move to China. The land of opportunity, the land of money made ... and lost. How about some value investing there?

I have some investments in mutual funds in China, in particular TDF, however this time let's talk about some stocks. In particular the providers of WAP content and mobile services: KONG - Kongzhong Corp. and HRAY - Hurray! Holding Co. Ltd. Both companies have been in freefall recently due to declining revenues and income. They are both still profitable, though this may change in the coming quarter. And they both hold over $3 of net cash per share. Cold hard cash - if you can believe that such thing exists in China. The stock prices of both companies are hovering in the range of $4-$5, at approximately 1.3-1.6 times cash. For a US based company this would be very low, especially for a company that is not losing money hand over fist. For China based company this is a bit more complicated: Chinese company reports are not necessarily up to US standards and China may not have vulture capitalists willing to buyout these companies.

What is the business side of the picture? KONG and HRAY sell wireless "value added services" (ringtones, music, etc.) to the wireless customers through wireless operators. Due to changes in the operator policies, it seems that the market is disappearing or at least substantially shrinking and changing. CHL and other operators want the WAP service, ringtone, etc. markets to themselves. So they are trying to cut out KONG and HRAY by various methods and consequently KONG/HRAY revenues and earnings are dropping. I believe that probably it is going to get worse from here in that market, although KONG just signed a deal with MSN China to provide a content for it. KONG is paying a fee to have exclusive rights to a couple of Microsoft's Mobile Messanger channels for one year. It is unknown how beneficial and profitable the deal is.

Where we go from here? KONG/HRAY may find a new business opportunities probably related to the current business. There are quite a few things that operators may not have covered yet in mobile service space. However competition is brutal in other areas too. They may get bought out by one of the operators or some other company who wants their content/technology, so they can offer them themselves. Or they can burn through the cash and die. A couple executives have left both companies.

It is almost "cash in search of business" situation although not quite, since they may have some content and technology useful for others.

I prefer to invest in businesses that earn good return on equity - actually both KONG and HRAY did that for couple of years. I have not had great success with the low price/book or price/cash stocks before. However, I am sufficiently intrigued this time, so I decided to buy a small position in KONG today. I will think more about both of these companies though. Especially if the prices continue to drop. ;)

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