NetEase Inc (NTES) 2006 Q2 法說會逐字稿

Good day and welcome to the NetEase fiscal second-quarter 2006 conference call. As a reminder, today's call is being recorded. For opening remarks and introductions, I would now like to turn the call over to Ms. Brandi Piacente, Investor Relations for NetEase.com.

Thank you, operator. Today you'll first hear from Mr. William Ding, Chief Executive Officer, and Mr. Michael Tong, Chief Operating Officer who will discuss some of the financial and operational highlights of the second quarter ended June 30, 2006. Finally, Mr. Denny Lee, Chief Financial Officer, will review the financials.

Before we continue, please note that the discussion today will contain forward-looking statements relating to future performance of the Company and are intended to qualify for the Safe Harbor from liability as established by the U.S. Private Securities Litigation Reform Act. Such statements are not guarantees of future performance and are subject to certain risks, uncertainties, assumptions and other factors. Some of these risks are beyond the Company's control and could cause actual results to differ materially from those mentioned in today's press release and this discussion.

Risks related to the fluctuations in the value of the renminbi with respect to other currencies could also adversely affect the Company's business and financial results. The Company does not undertake any obligation to update this forward-looking information except as required by law. As a reminder, this conference is being recorded. In addition, a webcast replay of this conference call will be available on the NetEase corporate website at Corp.NetEase.com.

I will now the call over to Mr. Michael Tong, Chief Operating Officer, who will read the prepared remarks on behalf of Mr. William Ding, Chief Executive Officer of NetEase. Michael?

Thank you for joining us today. I will begin with an overview of each of our service segments. In total, revenues for the quarter increased 8.6% quarter-over-quarter and 38% year-over-year to $72 million, driven by strong sequential growth across all of our service categories. Online game revenues for the quarter grew 7.9% quarter-over-quarter and 41.4% year-over-year to $60.8 million.

The continuing and growing popularity of Fantasy Westward Journey was the key driver of our growth for the quarter. Fantasy Westward Journey achieved record peak concurrent user metrics of approximately 1.3 million for the second quarter. During the same period, Fantasy Westward Journey achieved average concurrent uses of 494,000. In addition, Westward Journey Online II achieved peak and average concurrent uses of approximately 561,000 and 197,000, respectively, for the second quarter of 2006.

Our newest expansion pack with rich content updates for Fantasy Westward Journey is planned for release by the end of this year, which we expect will contribute to the strength and bolster the popularity of this leading game which remains the number one online game in China. Additionally, we are in the process of revamping the game engine for our original and most mature game, Westward Journey II, which we believe will spur future growth in player usage and enhance its longevity.

Effectively, we are going to provide a new game with new playing features, content and artwork under 2.5D environment which we believe has a significant impact on the continued success and longer life cycle of Westward Journey II. We expect to initiate internal closed beta testing of the upgraded version of this game in early '07.

Overall, these comprehensive game enhancements, coupled with the marketing leverage we have from our portal, are key strategies for extending the life cycles of our original online games. Our new 2.5D game, Datang, was in open beta testing for approximately one and a half months during the second quarter and achieved solid results during the period. Datang was commercially launched on July 19, and market response has been satisfactory. We still have many amendments to this game to look forward to, and we will continue to build on this initial success and increasing its popularity in the markets by regularly adding new content and playing features, including new cube system just released in August, and by signing up additional promotional partners as we move ahead.

We are very enthusiastic about our next generation 3D game, Tianxia II, which is currently in closed beta testing. Tianxia II remains on track and we plan to commence open beta testing by the end of this year. And we look forward to solid progress in the remaining parts of '06, as we execute on our marketing customer service and product development initiatives for this game.

Our online game team is stronger than ever, and we believe this is the best in the industry. We have fit internal resources for research and developments, game developments in marketing, a strong and stable platform for the future growth of our online game business.

Turning to our advertising services segment, advertising services revenue increased 11.7% quarter-over-quarter and 28.7% year-over-year, to $8.6 million. The primary drivers of our advertising services revenue growth were the traditional seasonal increase in advertisers spending. During the second quarter, we drove overall increased advertising placements in response to our enhanced Web contents. World Cup activity also brought increased traffic to the NetEase.com portal during the second quarter. World Cup presented us with a great opportunity to showcase our improved content channels and news services for Internet uses to a broad audience. In addition, our new blog services is already under closed beta and is planned to be released in the third quarter.

We have an extremely large and loyal users' base, a massive interactive marketing platform for advertisers. During the second quarter, the NetEase family of websites drew average daily page views of 702 million, making us one of the most popular destinations in China and on the World Wide Web.

Turning to the wireless category, revenues from the wireless value-added services and others also showed solid quarter-over-quarter growth of 16.3%. Revenues from this segment increased to $2.6 million from $2.2 million for the first quarter of 2006 and $2.4 million for the second quarter of 2005. Let me now turn to Denny for a more detailed discussion of our financial performance for the second quarter.

Thank you, Michael. I will now provide an overview of our financial highlights for the second quarter using numbers and percentage based on U.S. dollars. Please note that in order to provide a meaningful comparison of NetEase current operating results to those periods prior to the Company's adoption of statement of Financial Accounting Standard 123(R) which took effect this year, our presentation includes non-GAAP results for the second quarter. Reconciliation of the non-GAAP financial measures to the U.S. GAAP results are provided in an audited financial information included in today's earning release.

Once again, total revenues increased to $72 million for the second quarter of 2006, representing an increase of 8.6% from the previous quarter and 38% over the second quarter of 2005. Breaking down into revenue categories, online game revenues increased to $60.8 million for the second quarter of 2006, representing a 7.9% quarter-over-quarter increase and a 41.4% year-over-year increase.

Revenues from the advertising services increased 11.7% quarter-over-quarter and 28.7% year-over-year to $8.6 million. Wireless (indiscernible) revenue increased to $2.6 million for the second quarter of 2006, from $2.2 million for the first quarter of 2006 and $2.4 million for the second quarter of 2005. GAAP gross profits for the second quarter of 2006 was $57.2 million. Non-GAAP gross profit was $57.8 million, representing an 8.6% increase over the previous quarter's non-GAAP gross profit of $53 million for the first quarter of 2006. Second quarter non-GAAP gross profit represents a 41.3% increase over non-GAAP gross profit of $39.5 million for the corresponding period a year ago.

Non-GAAP financial measures exclude the effect of certain non-cash share based compensation expenses. Total GAAP gross margin was 82.8% for the second quarter. Total non-GAAP gross margin for the second quarter was 83.5%, compared with non-GAAP gross margin of 83.6% for the previous quarter, and 83.2% for the same quarter last year. GAAP gross margin for the online game business for the second quarter of 2006 was 19.7%. Non-GAAP gross margin for the online game business for the second quarter of 2006 was 91%, compared with non-GAAP gross margin of 90.7% for the previous quarter and 90.2% for the second quarter of 2005.

GAAP gross margin for the advertising business for the second quarter of 2006 was 49.8%. Non-GAAP gross margin for the online advertising business for the second quarter of 2006 was 53.3%, compared with non-GAAP advertising gross margin of 55.3% for the preceding quarter and 62.1% for the second quarter of 2005, primarily due to an increase in salary and other benefits paid to our content editors.

GAAP gross margin for wireless value-added services business for the second quarter of 2006 was -2.3%. Non-GAAP gross margin for the wireless segment was 1.9% in comparison to -7.1% for the preceding quarter and 18.4% for the same quarter a year ago. GAAP operating expenses for the second quarter of 2006 totaled $16.8 million or 23% of total revenue. Total non-GAAP operating expenses for the second quarter of 2006 were $14.1 million, compared with $11.5 million for the preceding quarter and $9.7 million for the same period last year. The increase in non-GAAP operating expenses in comparison to the preceding quarter was primarily due to a onetime write-off of $1.4 million in software cost for the Company's licensed online 3D game, Fly for Fun.

As a result of the foreign currency translation from currency other than the RMB into RMB, in accordance with applicable accounting standards, we reported a $6000 foreign exchange loss in the second quarter of 2005. GAAP net profit for the second quarter totaled $39.3 million. Non-GAAP net profits for the second quarter totaled $42.6 million, a 6.5% increase over the preceding quarter's non-GAAP net profit of $39.9 million, and a 40.2% increase over non-GAAP net profit of $30 million for the second quarter of 2005.

GAAP basic and diluted earnings per ADS was $0.30 and U.S. dollars $0.28, respectively, which includes the impact of approximately $3.3 million or $0.02 per ADS in non-cash share-based compensation costs. This compares to $0.28 per basic ADS and $0.26 per diluted ADS for the first quarter of 2006, and $0.23 per basic ADS and $0.21 per diluted ADS for the second quarter of 2005. As of June 30, 2006 this year, total cash and time deposit balance was $451.8 million. Cash flow generated from operating activities decreased to approximately $37.1 million, compared to the previous quarter's $51.4 million, primarily due to the repayment of option proceeds held on behalf by the Company to employees, and the seasonal increase in accounts receivable balance in the second quarter of 2006.

Finally, for an update on our share repurchase program that we announced on May 18, we repurchased approximately 2.4 million of our issued and outstanding ADS for an aggregate purchase consideration of $50.5 million including transaction costs. The weighted average number of ADS outstanding diluted decreased to 141.5 million shares for the second quarter of 2006 as a result of the share repurchase which was funded from available working capital. We are pleased to have completed our share repurchase that underscores our confidence in the long-term value of NetEase and returns such value back to our shareholders.

Now I would like to comment on our financial guidance for the third quarter ending September 30, 2006. Please note that the following outlook statements are based on current expectations. These statements are forward-looking, and actual results might differ materially.

We expect total gross revenues to be between $73.2 million and $75 million for the third quarter, with online game services revenue to be between negative 1% to a 1% increase quarter-over-quarter. Advertising services revenue to increase by 25% to 28% quarter over quarter, and wireless value-added services and others revenue to be flat to a decrease of 10% quarter over quarter.

Net profit for the third quarter is expected to be between $39 million and $40.5 million. I repeat, net profit for the third quarter is expected to be between $39 million and $40.5 million. These estimates include the effect of share-based compensation expenses of approximately $3.3 million. Please note that such share-based compensation expenses are only based on our best estimate as of today, and the actual expenses may differ from their estimate.

Also, we caution that we cannot predict the future exchange rate of the RMB versus other currencies and, therefore, cannot accurately estimate the effect of any changes in exchange rates on our financial results. Accordingly, our guidance assumes no change in exchange rate in the third quarter of 2006 and has (indiscernible) to the same exchange rate as of June 30 this year of US$1 to RMB7.9943. Our actual results could differ however from our guidance as a result of fluctuations in the RMB exchange rates. We will now be happy to take your questions. Operator?

(OPERATOR INSTRUCTIONS). Lu Sun, Lehman Brothers.

Thank you for taking my questions. I have three questions. The first one is on your online advertising business. What is the drivers behind very strong growth in the third quarter and relatively weak growth in the second quarter? Are you gaining contract from new customers going to the second half of the year, and do you expect margins to improve? Then I have two follow-ups. Thanks.

Hi, Lu Sun. This is Michael. It is simply because of different season and also different companies have different seasonal effects. If you look at last year third quarter, we also grow very strongly and because most of our customers are more based on such as IP and FMCG where the third quarter is -- there are more activities from the advertisers. So it is simply just that, actually.

Wallace Cheung, Credit Suisse.

Good morning. Thanks, Michael and Denny. Great quarter. And just wanted to ask about the impact of some events happening in July and how this has happened to your third quarter on the games guidance. Particularly, I mention about the World Cup as the in-game products that has been spreading around in the -- in Fantasy. Thank you very much.

I think if you look at our guidance, Wallace -- this is Michael again -- that I think for the World Cup obviously has been over, and it is obviously a onetime effect between, obviously, end of June to early July, and it spread over two quarters.

And you also asked about the in-game protest. That happened in the beginning of July where some of the players mistakenly believed that some of the graphics actually Japanese-related, but is actually not, and it is totally unfounded. But anyway there were some protests inside the game and which also did -- affected players who played the games and also the revenue numbers.

And that is why you can see the guidance that we have given out for the online game business actually is a very conservative number, but we do see that such kind of protest has been over as we see in August and we think that both games have been stabilized from this to effects starting in August. So it should be a one (indiscernible) event.

Safa Rashtchy, Piper Jaffray.

Hey, operator, I think we can let them follow-on with questions if they don't understand our answers or if they have like follow-on questions of their original questions.

Okay, certainly.

Thanks.

Could you give us some insight into how you expect Datang to contribute in Q3 and also what kind of growth rate you expect for Fantasy and Westward Journey II? You mentioned that the effect of the World Cup and the protests are over. Could you give us more color? Are you actually seeing growth again, or what kind of pattern do you expect for those two games and again the contribution from Datang?

Sure, of course. On Datang, the game went into commercial on the 19 of July and after commercialization of this game, we achieved peak concurrent users of a bit over 30,000 peak concurrent users. And, obviously, that is -- when we say it is satisfactory but not very good.

What happens to this game is that we're still building up the content of this game and to make -- to give more content to the users, and also changing some of the game play right now. But we are still confident about this game and we are expecting to -- with the new content, which include a new system that has just been released and also more marketing effort, we continue to see more confidence in this game.

And for Fantasy Westward Journey, the guidance that we have given out for the total of online game is -1 to 1%, and that is meaning a breakdown of Fantasy Westward Journey of growing -- of growing around low single digits. And then for Westward Journey II, a bit of a negative of single digits as well. So what happens is that, of course, you have already mentioned in July that there are two events that resulted in some negatives events of the World Cup and also the in-game protest. As we see in August that both has been kind of stabilized, and for September, because September is usually kind of a school starting period. So we want to keep ourselves more conservative on these numbers.

And especially for Westward Journey II, the numbers in late June or July is also kind of down because there is another event that we happened, is that we changed some of the game play with the Westward Journey II, where for the purpose of actually making -- paving the ways for our new game engine that we have mentioned in our script, the new game engine with the new content and the new graphics, that is basically a new game for Westward Journey II players. But for paving the way for that, we actually changed some of the game play in Westward Journey II during June and July. And that actually also resulted in some of the drop in the number of uses because they are not used to the game play as yet. But we're also seeing stabilizing of this part in Westward Journey II.

So based on these, could you give us some preliminary indication of how you expect the games to actually trend in Q4? I'm not asking for a Q4 guidance. I just want to see if you expect them to kind of pick up in a major way, if you have some expansion packs that will be coming up or should we expect a more conservative and gradual growth for the two games?

Yes, I think it would be too early to say the numbers or the kind of growth in quarter four for both games. But the way I think about it is, as we mentioned, for Fantasy Westward Journey we are going to have new expansion packs in the fourth quarter and also we are already paving our ways for new -- totally new engine for the Westward Journey II, which is going to have the closed beta in early '07. So we're very confident about continued popularity of both games.

Wallace Cheung, Credit Suisse.

Did I answer your question?

Yes, I think that Safa has already (indiscernible) both of my questions, and I will go back to the queue.

Richard Ji, Morgan Stanley.

I have two questions, and both of these are regarding competition, and especially can you comment on the new trend, being free-to-play games, and how that trend is going to impact your future game designs? That is number one, and then I have a follow-up.

On the free to game -- free-to-play based games, we continue -- you know, obviously, we have not tried on any of our games if we are going into the free model. But we are definitely paying close attention to the market and also paying close attention to how these games are being operated by other competitors.

And, obviously, we are very close to market and we continue to learn from them. And if it happens to some of our games that is in the future, I have to make it very clear, because the way we think about free games would only happen if we designed from the very beginning that this game is going to be a free game; otherwise, we don't think we would do it. And in the future if we have games that we think are suitable using this model, then we will have free games, but we don't think that is going to happen to any of our existing games.

My second question is regarding your nongaming operation. Especially I'm interested in your plans to monetize your casual game service and also how you're going to monetize other services, including e-mail community, etc.?

So for casual games I think, obviously, our focus has been on the release of Datang and also the release of Tianxia II, and for casual games we do have some new initiatives. We're going to have a new platform coming in this two months -- actually, end of this month. And obviously, for casual games, we intend to make money by ways of selling special items and then -- but anyways, a very small part of the business right now.

And for e-mails, I think it is still too early to say. I think the simplest thing to say is still through advertising, and that actually -- by suggesting advertising, it actually means a lot for us because there are a lot of technologies that we need to work on to understand the demographics better, to educate the advertisers on the performance of advertisings on e-mails is actually a lot of work, and all these are taking time and we are working on that.

Frank Shi, CLSA.

Can you talk about your portal business strategy? Right now, we see Siemens and SoHo competing against each other for premium content. Is there anything that you guys are doing differently to sort of enhance your position in the portal business? Thank you.

For the portal, I think competing for premium content is one way of doing it, and we will be positive but we will not be as -- probably not as aggressive as our competitors. As you see, the cost of content that we pay is obviously less. But the way we have been doing this is to make sure and increase the quality of our content, the quality of our editors, and also be able to use technology to integrate together well with our portal by introducing different kind of new services as well; also by integrating with our current applications such as the e-mails and so on and so forth.

So I think, overall, we would not just simply just put up more cost on buying a lot of premium contents, but we have different strategies through both people and technologies, and we believe which is the most reasonable way of competing in this market right now.

Dick Wei, JPMorgan.

I just have a quick question on your longer-term pipeline like Westward Journey III and other games in '07, '08. And also what is the development progress for those games in the pipeline? Thanks.

I think the simplest way to answer that is we currently have a total of other four projects on hand which are both related to either MMORPG or MMORPG-like games. On average, I would say in the development process of these four games spend between from three months to say about 15 months, in terms of the development on each of these games. So some of the games have been developing for three months and some of these have been developing for around 15 months. But I think it is too early to say the release time for these games. I would say that, yes, I think it is just too early to say that.

Maybe can I follow up that? It seems like towards the end of this year or early next year, there are couple of upgrades and game launches. And will you be allocating more people from those longer-term games to these existing upgrades in Tianxia and Datang? I just wonder, is there any delays in these longer-term games?

Because we haven't set the exact time for these games, so I think it is just too early to say if those games will be late or so. But just to give you a clearer picture of what is happening is, so in the fourth quarter we are going to have a new expansion pack for Fantasy Westward Journey.

By the end of this year we're going to have the open beta for Tianxia II. Early next year we also are looking at expansion pack for Datang, and then later on we also obviously have a new game for Westward Journey II players. We call it Westward Journey 2.5. And then going forward, obviously, we're looking at new expansion pack for Tianxia and also new expansion pack of all the other games as well.

And probably by the end of '07, we're looking at new betas for totally new games, and so that is how I would give you kind of a summary of our pipelines. And we have different teams. We have a total of over 700 R&D people working on all of these. We think we will continue to hire more people to work on these, and right now that is the strategy in the pipeline right now.

Thanks a lot. That was helpful.

Lu Sun, Lehman Brothers.

Thank you for taking my follow-up. Actually, as you pointed out about the status of Tianxia, what are the current areas for improvement do you think you need to accomplish before launching the game for open beta? And my second follow-up is on your traffic growth of the portal expansion of 700 million number, how does that compare to the previous quarter in this year and whether you see any marketing improvement in this business going forward? Thank you.

Let me answer the Tianxia question first. Tianxia, we started our closed beta in March '05 -- I'm sorry, '06. And so far we have released around 6000 accounts and, obviously, they are in high demand. And we have released twice this account, the internal beta accounts.

And the response for the games continue to be great, and I think that for the area of improvement, it is just different kinds of minor things that we are improving or making sure that the game is bug-free and all this. But there are no particular difficult points, such as the technical point or such as the game play or the graphics. But it's just aggregate of all the minor things that we are improving. And that is why we are very confident about the release time of this game, which is by the end of this year for the open beta.

And for the traffic, the question is that for June, we have 701.9 million. Actually, in March we had 719.5 million daily average page views. But still both numbers compared to last year went up by more than 40% on average if compared to last year's similar quarter's figures. So I think it is a general understanding of the users continually is that we have been providing the best services both technologically, including the e-mails and other related community products on our Web, and also the improved contents that we have been working on for more than a year. And I think it is just the general results of all these altogether.

James Mitchell, Goldman Sachs.

Thank you very much for taking my question. I hope you can hear me fine. I just wanted to check, with Datang did you say it had dropped from 160,000 peak users to about 30,000 peak users? And then as a follow-on, given Datang's experience, do you intend to spend more on marketing for the next title Tianxia when that goes into open beta and commercial launch? Thank you.

Right. I think for Datang, the problem with Datang is not simply with the marketing of the game. We continue to have a lot of ways of doing marketing for our games, but for Tianxia, I think simply because the game that we are working on is very different title. It's, you know, the development time, the effort given, and the expectation that we're having in this game, naturally, we are going to put more marketing effort in Tianxia II comparing to Datang. But it is not really a function of the result of what happened in Datang.

Okay, great. And maybe it is not a very related follow-up, but just on the Westward Journey II to Westward Journey 2.5 transition, would that involve a shift from hand-based combat to real-time combat?

We will still be turn based.

William Bean, Deutsche Bank.

Just in terms of Westward Journey II to 2.5, are you basically rolling out a new game and trying to move people over, or am I mischaracterizing that?

You are actually quite correct. The Westward Journey 2.5 is actually a new game; 2.5 is actually not a very good way to describe it. But anyway, this is our code name right now. It is a new game with totally new engine, totally new client site, and new game play, new characters, new graphics, and so really it is a new game.

What is different is that the user data in the Westward Journey will be transferred to Westward Journey 2.5 and we keep the old users' data, meaning that we think that is the best way to continue to keep the users and also to generate new interest for the users.

Can you tell me some of the main differences?

Well, it is just basically a new game. Even a lot of the game play, the graphics, if you have got the time, we can show you. But it is just a totally new game, actually.

And are there any changes for the Tianxia launch in the tier-one/tier-two cities, or are you going to continue to do what you have done there before?

Tianxia launch will continue to be -- what do you mean, the open beta?

I mean in terms of marketing in the tier-one to two cities, do you intend on rolling out any new approaches versus your approach in the tier three through six cities for the Tianxia II release?

Actually, our strength has been over the country, so it is not just the tier-two cities, but we are also very strong in some of the tier-one cities, such as you know in Zhejiang Province and in Jiangsu Province, we also are very strong as well. I think the only difference is that, you know, for Tianxia II, I think it is just a combination of home users and also -- and tier-one cities will be just a bit higher. But our power or our network has -- we have the strength in both areas as well, so it doesn't make much of a difference.

Okay, just a quick question on CapEx. Can you give us a sense of the trends there? Is that a big pickup in the quarter? Will we continue to see that as you get ready for the launch?

William, this is Denny. The CapEx increase in the second quarter was mainly due to the increase in the server capacity and for our services, including both online game, Datang new game, and also our other portal services like e-mail, etc.

And also for, in the same quarter we have incurred some renovation costs for our new offices in Beijing and also in Guangzhou. That also accounted for the increase in the CapEx. And for the whole year, in fact, for 2005, our total CapEx was around RMB$92 million for the whole year last year, and this year we are planning for around RMB$116 million for the whole year, including all the computer equipment, servers, laptops, and also some of the renovation costs, etc., etc.

Antonio Tambunan, Bear Stearns.

Actually, William asked most of my questions. I don't want to beat a dead issue. But I'm just kind of curious. Michael, you did mention that you're transferring the account users from Westward Journey. Now, is that just the users -- and all the users have to start from level one, or are they keeping their accounts as well as the character attributes so that for those users, even though the graphics are new, they are going to feel like they're continuing on, or is everyone level one again?

Obviously, it is not. We keep the users' data, so we keep their levels. It is going to be the same and, in other words, some -- maybe some in other communities, the (indiscernible) and everything will be the same.

And the other follow-up question to what he asked was, back in (indiscernible) because of the number of games entering the market, a lot of people say that game success, assuming it's designed okay, is increasingly becoming a function of marketing spend. So do you guys agree with this, or is NetEase in particular shielded from extraordinary marketing spend because of your existing platform? And is marketing spend, therefore, more of a function for smaller companies?

I think it is a function of marketing spend for smaller companies, but it's not a function of marketing spend for us because, as we have explained many times before, our marketing spend has been comparatively small in terms of dollars, but our power of the marketing continues to be huge, given our Company is a portal and also the user space that we have in our game business and on the network that we also have in our business.

Tian Hou, Unterberg.

I have a question. Like two quarters ago when you guys on the conference call, you guys mentioned about the life cycle of a game. You mentioned something like, you know, the two existing games. They are towards the later stage of their life, so the game is supposed to naturally -- it can grow, but grow slower and eventually going down.

However, from last quarter, we saw a different trend, and from what you just said today on the Q and since you do not agree with that view, anymore, so I just wonder what do you think about the life cycle of a game for your existing two games?

Well, there is a life cycle for the product anyway, but it seems that we have been doing well, and we continue to extend that longer and longer. And it is -- frankly it is hard to forecast exactly when this peak or exactly when this whole life cycle is going to be. But we have been continuing to prove ourselves in extending the life cycle especially compared to our competitors. So I think it is just better not to say exactly when or forecast it, but we continue to prove ourselves in giving results.

So based on your experience, successful experience from last quarter, what is the -- how to say -- the medicine for turning over the game to a younger game? What did you exactly do?

I think it is just continued effort in giving more content which are salable to the taste of our users, continue to understand what the players need, continue to innovate with new contents. Yes, I think it is just a function of that, actually.

So the Westward Journey II and Westward Journey 2.5, the 2.5 version, are they similar contents or the content-wise are totally different?

They are totally different. It is basically a new game.

Ming Zhao, Susquehanna.

Thank you for taking my questions. I have a question on advertising business. It seems like your competitors have the very strong numbers during the second quarter benefiting from the World Cup event, whereas I think you guys' advertising revenue guidance for the third quarter is much better than those guys. So could you comment on the seasonality and what you see during the World Cup? Is that good for your advertising business? And I have a quick follow-up.

Well, the World Cup is simply -- I wouldn't say it is especially good for our advertising business. It does move some of the budgets of our advertisers to an earlier period. And also it is a way of showcasing our content that has improved a lot and also showcasing our advertising performance for our advertisers has been very good.

But I wouldn't say that it does give us a lot of advertising dollars, as you can see from the results. And for the third quarter, as I have explained, the third quarter is simply that for us, because the base of our advertisers is different from that of our competitors, so that different seasons and different quarters have different growth compared to our competitors as well. So our third quarter has always been strong and that happened in last year, and that is happening this year as well.

Catherine Leung, Citigroup.

Thank you for taking my question. I have some questions about Datang. Firstly, can you share with us where you are seeing the players for Datang come from? Is it players from other games and NetEase players trying to game out, or is it new game players in the market?

And also, is the performance after the commercialization of the game within your expectations based on the one and a half months open beta of the game? And just, lastly, can you kind of give some more color on what are the main areas in the changes that you're making to the game and how significant these changes will be? Thank you.

The gamers actually come from everywhere. It is just a reflection of the market. We did some calculation on the overlap of the gamers that have ever played our other games and they are totally new gamers. And that is very small number which is, if I remember it, is under 20% who are overlapping with our users who played, ever played our other games.

Given the base of the two games, which is such a huge base, under 20% is actually a very good number. And the good thing is that out of this 20% of these players, actually most of them are churned players in our other games. I mean these gamers who are -- who've played Westward Journey or Fantasy Westward Journey, but who are already churned anyway. So it doesn't really affect our active users in the old games or in our existing games.

And for the areas that we are working on, it actually mainly includes the game play and the balancing of the characters and different professions. So I wouldn't say it's since adding more new maps or new characters, but it's really just the game play, the attributes, the calculation, and the balancing of those different professions. And these are the areas that we are working on right now. A dual system has just been released a few days ago, and we are hopeful that this is going to bring more popularity to Datang, as well.

Wallace Cheung, Credit Suisse.

My questions continue on Datang. Basically, if you always refer some industry statistics being after the commercial launch, then the PC would drop by [40% to 60%], but given the fact that like you only achieved 30,000 versus 160,000 during the open beta test, the same performance actually -- I mean that is lower than the industry performance. But I think since like management still maintaining relatively successful review or confidence on the growth in the future, can you comment like why the kind of drop is relatively higher than the industry average and what kind of experience that you have gained that you can make sure in the future you can drive Datang growth further? Thank you.

Right. I think you are right. The drop-off, that is actually less than satisfactory, to be more clear on this. And I think, as I have just mentioned, we are working on the few areas, including, you know, the balancing of the different professions. And we have just released new [dual] systems. We believe that with the new contents, we will be able to drive the users and the popularity back to the game. So I think it is just still a function of how we work on content and continue to revise the game play.

So my final follow-up is, so within your first-quarter guidance, how much of growth that you are factoring into it, or what kind of like maybe [AT] level or what kind of like general revenue level is being expensed from Datang?

Anyway, it's a very small and minor percentage to the total revenue base. So we tend not to give you the exact assumptions, but it is just -- you know, the way we have been working on these estimates of our guidance is just almost like extending what is happening right now to the next six weeks.

Richard Ji, Morgan Stanley.

And this will be our last question.

Michael, Denny, for your 3Q guidance, you obviously incorporated some of the onetime impact including, as we mentioned, for the in-game protest at the World Cup. Can you help us to quantify income of percentage? How much impact to your guidance (indiscernible) for 3Q?

Richard, this is Denny. Put it this way, I think when we estimate our online game guidance for the next quarter, for this quarter Q3, we have already taken into consideration the actual results for the one and a half months which has already been passed because, as Michael already explained this, there are some events or incidents happened during July which did affect our revenue growth in July, which is the summer season which is supposed to be the peak season.

But on the other hand, we have seen that those instances likely to be onetime because we are seeing some comeback of the growth rate in both of our games. So in our projections for the third quarter, we have taken into account this and actually -- because as you know in September, normally it will be a low season for online game industry because of the students go back to school. So we have been using the same experience as last year in our projections.

That concludes the question-and-answer session today. At this time, I'll turn the call back over to Brandi Piacente for any closing or additional remarks.

Thank you once again, everyone, for joining us today. Please feel free to contact us any time that you have any further questions. Thanks.

That concludes this conference call. We thank you all for joining us. You may now disconnect.