Elevator Pitch

I assign a Neutral rating to Hong Kong-listed Chinese mobile games company FriendTimes Inc. (OTCPK:FNDTF) [6820:HK].

FriendTimes’ share price fell by -29% on September 1, 2020, after the company reported 1H 2020 financial results which were below market expectations, due to the weak performance of old games and increased selling & marketing expenses to promote its new game. Going forward, FriendTimes’ earnings for 2H 2020 and beyond will be driven by the performance of its new games and other acquisitions & investments, on top of lower selling & marketing expenses.

FriendTimes trades at 6.6 times consensus forward FY 2021 P/E, and it offers a consensus forward FY 2021 dividend yield of 4.5%. FriendTimes’ valuations are roughly in line with that of its gaming peers, implying limited upside, and the company’s near-term financial performance will be heavily reliant on its new game, Fate of the Empress, with no other new games expected to be launched in 2H 2020. Taking into account these factors, I see my Neutral rating for FriendTimes as fair.

Readers have the option of trading in FriendTimes shares listed either on the Over-The-Counter Bulletin Board/OTCBB as ADRs with the ticker FNDTF or on the Hong Kong Stock Exchange with the ticker 6820:HK. For those shares listed as ADRs on the OTCBB, note that liquidity is low, and bid/ask spreads are wide.

For those shares listed in Hong Kong, there are limited risks associated with buying or selling the shares in terms of trade execution, given that the Hong Kong Stock Exchange is one of the major stock exchanges that is internationally recognized, and there is sufficient trading liquidity. Average daily trading value for the past three months exceeds $2 million, and market capitalization is above $690 million, which is comparable to the majority of stocks traded on the US stock exchanges.

Institutional investors which own FriendTimes shares listed in Hong Kong include SEB Investment Management, RAM Active Investments, and Acadian Asset Management, among others. Investors can invest in key Asian stock markets either using U.S. brokers with international coverage such as Interactive Brokers and Fidelity, or international brokers with Asian coverage like Hong Kong’s Monex Boom Securities and Singapore’s OCBC Securities.

Company Description

Established in May 2010 and listed on the Hong Kong Stock Exchange in October 2019, FriendTimes is a Chinese mobile gaming company targeting female gamers with games such as Legend of Empress, Royal Chaos, Rise of Queendom and Fate of the Empress, among others. The company develops and publishes almost all of its games.

According to research by Frost & Sullivan, FriendTimes was the third largest female-oriented mobile gaming company in China with a 2.9% market share in 2018. Within the smaller ancient Chinese style female-oriented mobile game market niche, FriendTimes is the market leader in China boasting a market share of 31.5% in 2018.

Apart from its focus on female gamers, FriendTimes’ penetration into overseas markets outside of China is another key differentiating factor for the company vis-a-vis most of its domestic peers which are focused on their home market. FriendTimes diversified outside of its home market, China, in 2011, and the company has made significant headway with overseas markets accounting for 15% of its 1H 2020 revenue.

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Share Price Crash Post-1H 2020 Results

FriendTimes’ IPO price was HK$1.52 when the company listed on the Hong Kong Stock Exchange in October 2019. FriendTimes’ share price performance was excellent post-IPO, and its share price subsequently closed at an all-time high of HK$3.89 as of June 23, 2020, which was equivalent to a consensus forward next twelve month’s P/E multiple of 12.5 times.

However, FriendTimes’ share price fell by -29% from HK$3.81 as of August 31, 2020, to HK$2.71 as of September 1, 2020, after the company reported its 1H 2020 financial results on August 31, 2020, after trading hours. FriendTimes’ share price subsequently dropped to a new three-month low of HK$2.21 as of September 25, 2020, before recovering slightly to HK$2.46 as of October 16, 2020.

It is clear from FriendTimes’ share price crash post-1H 2020 results that the company’s financial performance in the first half of the year disappointed the market. FriendTimes’ revenue increased by +34.5% YoY from RMB781 million in 1H 2019 to RMB1,050 million in 1H 2020, while its net profit only increased by +8.7% YoY from RMB150 million to RMB163 million over the same period.

FriendTimes’ top-line growth could have been even better, if not for the weak performance of old games. The company’s old games, Legend of Empress (first launched in June 2015), Royal Chaos (first launched in September 2017), Rise of Queendom (first launched in March 2018), saw revenue declines of -28.3%, -39.8% and -14.1% YoY, respectively, in 1H 2020. In contrast, FriendTimes’ new game Fate of the Empress, which was officially launched in December 2019, is now the key sales driver for the company accounting for 47% of its 1H 2020 revenue.

The company’s lackluster bottom-line growth was mainly attributable to a +86% YoY surge in selling & marketing expenses from RMB204 million in 1H 2019 to RMB379 million (36% of revenue) in 1H 2020, of which approximately RMB280 billion was spent on promoting the new game Fate of the Empress. On one hand, it is positive that FriendTimes is willingly to spend to extend the product life cycle of its new game Fate of the Empress, rather than capitalizing on higher gaming demand during COVID-19 to maximizing the new game’s profit within a short period of time. On the other hand, it is uncertain if the additional selling & marketing expenses will indeed translate to a higher number of monthly paying players and monthly ARPPU (Average Revenue Per Paying User) going forward.

At the company’s 1H 2020 earnings call on September 1, 2020, FriendTimes disclosed that the company has set a target to reduce selling & marketing expenses by approximately -50% on a HoH (Half-on-Half) basis in 2H 2020. On a full-year basis, FriendTimes is guiding for the selling & marketing expenses-to-revenue ratio to be around 30%, which is lower than the selling & marketing expenses-to-revenue ratio of 36% in 1H 2020.

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Looking ahead, the market expects a better 2H 2020 financial performance from FriendTimes. Sell-side analysts see FriendTimes’ revenue and net profit increasing by +47% YoY and +27% YoY to RMB2,482 million and RMB527 million, respectively, for full-year FY 2020. This compares favorably with FriendTimes’ 1H 2020 top line and bottom line of RMB1,050 million and RMB163 million, respectively.

Apart from reduced selling & marketing expenses, FriendTimes’ earnings for 2H 2020 and beyond will be driven by the performance of its new games and other acquisitions & investments.

New Games And New Acquisitions

As mentioned above, FriendTimes’ key new game is Fate of the Empress, which accounted for close to half of the company’s revenue in the first half of the year.

FriendTimes highlighted at its recent 1H 2020 earnings call that Fate of the Empress took approximately five months to achieve break-even following its official launch in December 2019, and monthly active users for this new game reached a peak of close to three million in March 2020, with the proportion of paying users and ARPU (Average Revenue Per User) exceeding that of its past hits.

Going forward, the key growth drivers for Fate of the Empress will be the increase in Android users and overseas expansion. Fate of the Empress was among top five best-selling iOS games in China following launch and stayed on the top 15 list for a long time, but Android users only made up approximately a fifth of the new game’s user base. Separately, FriendTimes launched Fate of the Empress in South Korea in June 2020, and the company should recognize a full six months’ worth of revenue from the new game in 2H 2020. FriendTimes also has plans to introduce the Thai and Vietnamese versions of Fate of the Empress, which should be a boost to overseas sales.

On the flip side, FriendTimes has guided that it does not expect any new games to be launched in 2H 2020. Instead, the company’s “Chinese-style fairy social mobile game, Fate: The Loved Journey and an urban female growth encouragement mobile game Code: WAF are currently in the final stage of development and polishing” as per its 1H 2020 results announcement and are only expected to be launched next year.

FriendTimes’ New Game Fate of the Empress

Source: FriendTimes’ Company Website

Separately, FriendTimes also acquired a 40% stake in mobile games company, Beijing Aoshen Interactive Technology Co., Ltd on May 25, 2020, which is now recognized as a joint venture of the company. Beijing Aoshen Interactive Technology is focused on life simulation games, and FriendTimes’ acquisition of a 40% equity interest in Beijing Aoshen Interactive Technology could help the company expand into other game genres.

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The company has approximately RMB751 million of cash & cash equivalents on its books as of June 30, 2020, which accounts for approximately 16% of its market capitalization. This implies that FriendTimes has the balance sheet to support future acquisitions to drive earnings growth, as long as it does not overpay for its acquisition targets.

Valuation And Dividends

FriendTimes trades at 8.8 times consensus forward FY 2020 P/E and 6.6 times consensus forward FY 2021 P/E, based on its share price of HK$2.46 as of October 16, 2020.

Sell-side analysts see FriendTimes’ ROE decreasing from 44.2% in FY 2019 to 32.2% and 31.9% in FY 2020 and FY 2021, respectively.

The stock offers consensus forward FY 2020 and FY 2021 dividend yields of 3.7% and 4.5%, respectively. Market consensus expects FriendTimes’ full-year dividends per share to decline from HK$0.10 in FY 2019 to HK$0.09 in FY 2020, prior to increasing to HK$0.11 in FY 2021.

FriendTimes’ P/E valuations and dividend yields are roughly in line with peers, as per the peer valuation comparison table below.

Peer Valuation Comparison For FriendTimes

Stock Consensus Current Year P/E Consensus Forward One-Year P/E Consensus Current Year Dividend Yield Consensus Forward One-Year Dividend Yield Consensus Current Year ROE Consensus Forward One-Year ROE
CMGE Technology Group Limited [302:HK] 8.9 7.2 3.1% 4.3% 20.0% 21.1%
IGG Inc. (OTCPK:IGGGF) [799:HK] 7.1 7.7 7.2% 4.3% 46.4% 30.3%
Zengame Technology Holding Limited [2660:HK] 3.5 3.3 3.0% 3.1% 33.5% 28.4%
iDreamSky Technology Holdings Limited [1119:HK] 9.0 7.6 Company does not pay a dividend Company does not pay a dividend 11.0% 11.5%

Source: Author

Risk Factors

The key risk factors for FriendTimes include its new game Fate of the Empress under-performing, higher-than-expected selling & marketing expenses going forward, and overpaying for stakes in other gaming companies.

Note that readers who choose to trade in FriendTimes shares listed as ADRs on the OTCBB (rather than shares listed in Hong Kong) could potentially suffer from lower liquidity and wider bid/ask spreads.

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Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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