Game on at Shanda Interactive

If you're a gamer, you already know what a "massively multiplayer online role-playing game" is. For the uninitiated, MMORPGs let thousands of users interact in a virtual world, where they assume a character (or several characters) in a continuing series of contests, with the object of advancing in the game but never winning (thereby ending) it.

Now think of a country with the largest online population, yet only 20% of the nation's people have access to the Internet. It's not hard to imagine that Internet users and online gamers there will double by 2012, giving real meaning to massive in massively multiplayer online role-playing.

By those calculations, who wouldn't want to invest in the largest purveyor of online games in China?

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There's no shortage of bulls behind Shanda Interactive (symbol SNDA), a Shanghai company whose businesses operate almost exclusively in China but whose stock trades only on Nasdaq. It closed at $27.53 on September 10.

Whether measured by its revenues, number of games or market capitalization, Shanda places first among its Chinese competitors. "Everyone still wants a piece of China, and this is a pretty darn good way to play it," says Standard & Poor's analyst Scott Kessler.

Shanda derives some 83% of its revenues ($338 million in 2007) from MMORPGs and 13% from so-called casual online games, which are less complex and time-consuming but appeal to a broader range of users. The number of Shanda's paid accounts for the two gaming styles approaches 6 million.

The themes of most of Shanda's MMORPGs are adventure, combat or martial arts, and some of the casual offerings include card, board and arcade games. Shanda doesn't derive any material revenues in the U.S., although the company has licensed a few U.S. imports, including Dungeons and Dragons, as well as a bunch of Disney characters that race about in a casual game called Disney Magicboard. A new game in the pipeline is Company of Heroes, to be launched jointly with THQ Inc., of Agoura Hills, Cal.

Shanda is also diversifying, via in-house efforts or canny acquisitions, into mobile games, in-game advertising, digital music and even into publishing original works of literature from independent writers.

News on September 3 of another boffo quarter, the latest in a string of quarterly announcements that caught Wall Street analysts short, brought out a chorus of bullish accolades for Shanda: Analysts at Citigroup, Standard & Poor's, Piper Jaffray and Merrill Lynch all reiterated "buy" recommendations and raised their earnings estimates. Oppenheimer upgraded the stock to "buy" from "hold."

The company's strong results lately are all the more remarkable considering that Shanda turned its business model upside down just a couple of years ago. In late 2005, it began a transition from a subscription-based game model to one in which players on some of the company's games play for free but pay to enhance their in-game avatars with weapons, skills or other attributes. Revenues took a 13% hit in 2006 but surged back in 2007.

Analysts expect nearly $500 million in revenues this year, up 48% from 2007 levels, and $600 million in 2009. Earnings are expected to come in at $2.28 a share this year and $2.66 in '09.

Shanda shares trade at just 10 times estimated 2009 earnings-a bargain considering that analysts see earnings growing at a rate in the mid to high teens over the next few years. (Oft-recommended competitor The9 Ltd. (NCTY) trades at just eight times expected earnings. But the company derives a large percentage of revenues from Activision Blizzard's hugely popular World of Warcraft game, and the game's license is up for renewal next year.)

Shanda's balance sheet carries zero debt and boasts more than $7 a share in cash. The company announced a $200-million stock repurchase on September 8.

For all the promise that Shanda in particular and China in general hold for investors, you shouldn't take the risks lightly. China's economic growth, though still heady, is slowing. The government can institute new charges or regulations on media companies at any time. And corporate governance may raise eyebrows. One of Shanda's directors, for example, happens to be the wife of the controlling shareholder -- who also happens to be the chief executive and chairman, notes S&P's Kessler.

Still, for investors who are game, Shanda may be just the weapon they need to advance a level or two in that massively multiplayer game called investing.