NetEase, Perfect World, and Giant Are Cheap Gamers

China's online gaming companies continue to toil in undervalued obscurity. NetEase posted mixed financial results last night. Net revenue climbed 10% to $380.5 million. There was improvement in all three business categories, including online gaming, which accounted for a little more than 85% of total revenue.

Gross profit margins improved, but a spike in sales taxes combined with operating expenses' outpacing of top-line growth led to a more modest 6% increase in earnings. Profitability clocked in at $1.38 a share. The company missed on both ends of the income statement: analysts were holding out for $1.40 a share in net income and $390.9 million in net revenue.

Nobody appreciates a miss, but NetEase is too cheap at this point to punish it too hard for something that was largely out of its control. Activision Blizzard's World of Warcraft -- which NetEase publishes in China -- has been shedding players worldwide over the past couple of years. NetEase's in-house games, mobile initiatives, and other online properties are growing just fine. 

How cheap is NetEase? It's a bargain at just 12 times this year's earnings and 11 times next year's profit forecast. It's even cheaper when you consider that NetEase has $3.1 billion -- or a little more than $23.70 a share -- in cash and long-term investments. Back that out and NetEase's enterprise value multiple drops into the single digits, even based on trailing earnings. 

Risk averse investors may be fine paying earnings multiples in the mid-teens for the slower growing Activision Blizzard, and there's nothing wrong with that. It's a reasonable value, and Activision Blizzard has a rich portfolio and pipeline to offset World of Warcraft's struggles. However, diehard gamers may like the valuations that they see when eyeing China's remaining publicly traded online gaming companies.

They'll some more snapshots when two of NetEase's peers report next week. 

Giant Interactive reports quarterly results on Wednesday. It's trailing earnings multiple of 12 is reasonable. It's not expected to grow as fast as NetEase, but it has beaten Wall Street's profit targets in its past three outings. That contrasts with NetEase, which has now come up short on the bottom line twice over the past three reports. 

Perfect World reports on Monday afternoon. Like NetEase, it too has missed analyst profit forecasts twice over the past three quarters. However, it's trading at a ridiculous seven times next year's estimated earnings. 

China's online gaming stocks are cheap for a reason. It's China, and regulators have been cautious about the addictive nature of video games when it comes to the country's youth. Then again, gaming is all about taking chances. NetEase, Perfect World, and Giant Interactive are too cheap to ignore.

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Rick Munarriz has no position in any stocks mentioned. The Motley Fool recommends Activision Blizzard and The Motley Fool owns shares of Activision Blizzard. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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