Investors like the idea of a Perfect World

The Chinese online game developer prices its IPO $2 above the range after receiving substantial demand from investors. The shares trade up a further $4 in the aftermarket.
Chinese online game developer Perfect World has raised $188.8 million from its initial public offering after strong demand prompted it to fix the price 14.3% above the top of the initial price range.

The book was over 20 times covered and attracted more than 350 investors, according to a source. Of the demand, 55% came from the US, 30% from Asia and 15% from Europe.
The investors include some of the largest US-based technology funds, high-quality global institutions and China specialists as well as hedge funds. There was no price sensitivity in the book and the one-on-one hit rate from the roadshow was over 90%.

ôThe company is in a leading market position, and there are more online game players in China than anywhere in the world,ö says a source close to the deal.

ôItÆs the first online game developer launching an IPO since 2005,ö says another source, trying to explain why the deal was so popular.

Perfect World fixed the price at $16 per share, or $2 above the $12 to $14 price range. The final price values the company at a 2008 price-to-earnings multiple of 14.9, which equals a discount to its Chinese peers on the Nasdaq board.

That discount narrowed substantially when the stock started trading last night, however, and within the first hour hit a high of $21.22. It then eased back slightly to close at $20.40, which translates into a 27.5% gain and a 2008 P/E ratio of 19 times. The turnover was equal to about 85% of the IPO, which suggests that most investors looking to flip the shares for a quick profit have already done so. That should provide support for the stock at current levels in the short-term at least.

The companyÆs main comparables among the Mainland gaming companies listed in the US are Shanda Interactive Entertainment and The9 Limited, which were quoted at 2008 PE multiples of about 17 and 20 times, respectively, based on WednesdayÆs close, according to Bloomberg data.

Perfect World sold 11.8 million American depositary shares (ADS), or 21.1% of the company. Of the total, 9 million ADSs were backed by primary shares, while the remaining 2.8 million were sold by China-based venture capital firm Prosperous World that was an early investor into the company.

Each ADS is equal to 5 Class B ordinary shares, which have one voting right each. The company also has Class A shares with 10 voting rights each. Credit Suisse and Morgan Stanley were joint bookrunners for the offering, while CIBC World Markets and Susquehanna Financial Group were also helping to sell the shares.

There is a 15% greenshoe, which could increase the maximum deal size to $217 million. This is backed by existing shares that will be sold by SB Asia Investment Fund II, a fund backed SAIF Partners that counts Cisco and Softbank as strategic investors, and by a company controlled by Perfect WorldÆs founding chairman and CEO, Michael Yufeng Chi.

The listing comes at a time when investors are getting more comfortable about the growth in ChinaÆs online game industry and less concerned about the regulatory environment, which has helped the share prices of both Shanda and The9 to more than double over the past eight months.

The two companies have traded down a bit recently, however, following the prolonged rally. Shanda has dropped more than 9% since July 19 and The9 experienced a consecutive downturn in the first three days this, losing about 3%.

Perfect World specialises in three dimensional so called massively multiplayer online role playing games (MMORPGs), where players adopt a specific character through which they interact with other players within a virtual world. The Internet-based games, which can be played by thousands of people at the same time, typically have no endings, but feature multiple stories with unlimited scenarios and game situations depending on the actions of each player.

Aside from the use of 3D in all its games, what makes Perfect World stand out from the already listed players, sources say, is the fact that it develops all its games itself, using a proprietary 3D game engine and a module-based game platform. This, according to its listing document, allows the company to create ôsuperior 3D graphics with impressive visual effectsö and also means it is able to maintain higher margins and doesnÆt need to pay license fees û which can account for as much as 30%-40% of revenues - to other developers. The module-based platform also allows it to shorten the development time for new games to about six months.

As part of its expansion, the company is planning to launch two additional 3D MMORPGs in 2007 and also one casual game by early 2008. Casual games are easier and take less time to play than the intricate roll-playing games and include sports games like basketball or car racing, and card games such as poker and blackjack

The chairmanÆs stake will fall to 26.02% from 31.02% as a result of the IPO, or to 23.8% if the greenshoe is exercised in full. SAIF, which was also an early investor in Shanda, will hold 30.08% at the time of listing, or 29.13% post-shoe, while Prosperous World will hold 13.9%.
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