Table of Contents
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 20-F
(Mark One)
| o | REGISTRATION STATEMENT PURSUANT TO SECTION 12(b) OR (g) OF THE SECURITIES EXCHANGE ACT OF 1934 |
OR
| þ | ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the fiscal year ended December 31, 2006
OR
| o | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the transition period from to .
OR
| o | SHELL COMPANY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
Date of event requiring this shell company report .
Commission file number: 000-50705
SHANDA INTERACTIVE ENTERTAINMENT LIMITED
(Exact name of Registrant as specified in its charter)
N/A
(Translation of Registrant’s name into English)
Cayman Islands
N/A
(Translation of Registrant’s name into English)
Cayman Islands
(Jurisdiction of incorporation or organization)
No. 1 Office Building
No. 690 Bibo Road
Pudong New Area
Shanghai 201203, People’s Republic of China
(Address of principal executive offices)
Securities registered or to be registered pursuant to Section 12(b) of the Act:
| (Title of each class) | (Name of each exchange on which registered) | |
| American Depositary Shares, each representing 2 ordinary shares, par value $0.01 per share |
The NASDAQ Global Market |
Securities registered or to be registered pursuant to Section 12(g) of the Act:
None
Securities for which there is a reporting obligation pursuant to Section 15(d) of the Act:
None
Indicate the number of outstanding shares of each of the issuer’s classes of capital or common
stock as of the close of the period covered by the annual report: 143,208,848 ordinary shares, par
value $0.01 per share.
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule
405 of the Securities Act.
o Yes þ No
If this report is an annual or transaction report, indicate by check mark if the registrant is
not required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of
1934.
o Yes þ No
Indicate by check mark whether the registrant (1) has filed all reports required to be filed
by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or
for such shorter period that the registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days.
þ Yes o No
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated
filer, or a non-accelerated filer.
o Large accelerated filer þ Accelerated filer o Non-accelerated filer
Indicate by check mark which financial statement item the registrant has elected to follow:
o Item 17 þ Item 18
If this is an annual report, indicate by check mark whether the registrant is a shell company
(as defined in Rule 12b-2 of the Exchange Act).
o Yes þ No
TABLE OF CONTENTS
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Introduction
CONVENTIONS WHICH APPLY TO THIS FORM
Except where the context otherwise requires and for purposes of this form only:
| • | “we,” “us,” “our company” and “our” refer to Shanda Interactive Entertainment Limited, its predecessor entities and subsidiaries, and, in the context of describing our operations, also include our PRC-incorporated affiliates, including Shanghai Shanda Networking Co., Ltd., or Shanda Networking, Nanjing Shanda Networking Co., Ltd., or Nanjing Shanda, and Hangzhou Bianfeng Networking Co., Ltd., or Hangzhou Bianfeng; | ||
| • | in certain instances, Shanda Networking, Nanjing Shanda, and Hangzhou Bianfeng are referred to collectively as “our PRC operating companies”; | ||
| • | in certain instances, Shanda Networking is referred to as “Shanghai Shanda Internet Development Co., Ltd.”, which is an alternative English translation of its Chinese name; | ||
| • | “China” or “PRC” refers to the People’s Republic of China, excluding Taiwan, Hong Kong and Macau; and | ||
| • | all references to “RMB” or “Renminbi” are to the legal currency of China and all references to “U.S. dollars,” “dollars” and “US$” are to the legal currency of the United States. |
This form contains translations of Renminbi amounts into U.S. dollars at specified rates
solely for the convenience of the reader. Unless otherwise noted, all translations from Renminbi to
U.S. dollars were made at the noon buying rate in The City of New York for cable transfers in
Renminbi per U.S. dollar as certified for customs purposes by the Federal Reserve Bank of New York,
or the noon buying rate, as of December 29, 2006 which was RMB7.8087 to US$1.00. We make no
representation that the Renminbi amounts referred to in this form could have been or could be
converted into U.S. dollars at any particular rate or at all. On June 22, 2007, the noon buying
rate was RMB7.622 to US$1.00.
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Item 1. IDENTITY OF DIRECTORS, SENIOR MANAGEMENT AND ADVISORS
Not Applicable
Item 2. OFFER STATISTICS AND EXPECTED TIMETABLE
Not Applicable
Item 3. KEY INFORMATION
A. SELECTED FINANCIAL DATA
The following selected consolidated statement of operations data for the five years ended
December 31, 2006 and the consolidated balance sheet data as of December 31, 2003, 2004, 2005 and
2006 have been derived from our audited consolidated financial statements, which have been audited
by PricewaterhouseCoopers Zhong Tian CPAs Limited Company, an independent registered public
accounting firm. The report of PricewaterhouseCoopers Zhong Tian CPAs Limited Company on our
consolidated financial statements as of December 31, 2005 and 2006 and for each of the three years
in the period ended December 31, 2006 is included elsewhere in this annual report on Form 20-F.
Our selected consolidated statement of operations data for the year ended December 31, 2002 and
2003 and our consolidated balance sheets as of December 31, 2002, 2003 and 2004 have been derived
from our audited consolidated financial statements, which are not included in this annual report on
Form 20-F. You should read the selected consolidated financial data in conjunction with those
financial statements and the related notes and “Item 5. Operating and Financial Review and
Prospects” included elsewhere in this annual report on Form 20-F. Our consolidated financial
statements are prepared and presented in accordance with U.S. GAAP. Our historical results do not
necessarily indicate our results expected for any future periods.
| For the year ended December 31, | ||||||||||||||||||||||||
| 2002 | 2003 | 2004(4) | 2005 | 2006 | ||||||||||||||||||||
| (in thousands, except per share and per ADS data) | ||||||||||||||||||||||||
| RMB | RMB | RMB | RMB | RMB | US$(1) | |||||||||||||||||||
Consolidated Statements of Operations
and Comprehensive Income Data |
||||||||||||||||||||||||
Net revenues: |
||||||||||||||||||||||||
Online game net revenues: |
||||||||||||||||||||||||
MMORPGs |
326,127 | 580,315 | 994,664 | 1,255,341 | 1,240,096 | 158,810 | ||||||||||||||||||
Casual |
— | 8,313 | 214,513 | 402,968 | 302,800 | 38,777 | ||||||||||||||||||
Other revenues |
94 | 11,352 | 89,548 | 238,302 | 111,564 | 14,287 | ||||||||||||||||||
Total net revenues |
326,221 | 599,980 | 1,298,725 | 1,896,611 | 1,654,460 | 211,874 | ||||||||||||||||||
Cost of revenue |
(122,081 | ) | (233,701 | ) | (471,184 | ) | (614,427 | ) | (689,805 | ) | (88,338 | ) | ||||||||||||
Gross profit |
204,140 | 366,279 | 827,541 | 1,282,184 | 964,655 | 123,536 | ||||||||||||||||||
Operating expenses |
(41,516 | ) | (153,106 | ) | (316,579 | ) | (660,285 | ) | (587,023 | ) | (75,176 | ) | ||||||||||||
Income from operations |
162,624 | 213,173 | 510,962 | 621,899 | 377,632 | 48,360 | ||||||||||||||||||
Interest income and investment
income |
1,112 | 13,531 | 63,171 | 23,127 | 97,104 | 12,436 | ||||||||||||||||||
Amortization of convertible debt
issuance cost |
— | — | (3,524 | ) | (18,492 | ) | (17,490 | ) | (2,240 | ) | ||||||||||||||
Other income (expense), net |
(1,371 | ) | 61,152 | 83,656 | 174,903 | 133,913 | 17,149 | |||||||||||||||||
Income before income tax expenses,
equity in loss of affiliated
companies, minority interests |
162,365 | 287,856 | 654,265 | 801,437 | 591,159 | 75,705 | ||||||||||||||||||
Income tax expenses |
(23,077 | ) | (18,647 | ) | (38,941 | ) | (96,711 | ) | (36,489 | ) | (4,673 | ) | ||||||||||||
Equity in loss of affiliated companies. |
— | — | (4,180 | ) | (544,268 | ) | (26,227 | ) | (3,358 | ) | ||||||||||||||
Minority interests |
— | 3,641 | (1,661 | ) | 4,825 | 767 | 98 | |||||||||||||||||
Net income |
139,288 | 272,850 | 609,483 | 165,283 | 529,210 | 67,772 | ||||||||||||||||||
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| For the year ended December 31, | ||||||||||||||||||||||||
| 2002 | 2003 | 2004 | 2005 | 2006 | ||||||||||||||||||||
| (in thousands, except per share and per ADS data) | ||||||||||||||||||||||||
Earnings per
Share Data: |
RMB | RMB | RMB | RMB | RMB | US$(1) | ||||||||||||||||||
Accretion for preferred shares |
— | (24,963 | ) | — | — | — | — | |||||||||||||||||
Income attributable to preferred
shareholders |
— | (48,358 | ) | (82,479 | ) | — | — | — | ||||||||||||||||
Income attributable to ordinary
shareholders |
139,288 | 199,529 | 527,004 | 165,283 | 529,210 | 67,772 | ||||||||||||||||||
Earnings per share, basic |
1.39 | 2.14 | 4.32 | 1.17 | 3.71 | 0.48 | ||||||||||||||||||
Earnings per share, diluted |
1.39 | 2.07 | 4.05 | 1.13 | 3.66 | 0.47 | ||||||||||||||||||
Earnings per ADS, basic(2) |
2.78 | 4.28 | 8.64 | 2.34 | 7.42 | 0.96 | ||||||||||||||||||
Earnings per ADS, diluted(2) |
2.78 | 4.14 | 8.10 | 2.26 | 7.32 | 0.94 | ||||||||||||||||||
| As of December 31, | ||||||||||||||||||||||||
| 2002 | 2003 | 2004(4) | 2005 | 2006 | ||||||||||||||||||||
| (in thousands, except per share and per ADS data) | ||||||||||||||||||||||||
| RMB | RMB | RMB | RMB | RMB | US$(1) | |||||||||||||||||||
Consolidated Balance Sheets Data: |
||||||||||||||||||||||||
Cash and cash equivalents |
177,040 | 598,922 | 3,123,971 | 949,622 | 1,291,901 | 165,444 | ||||||||||||||||||
Working capital(3) |
99,080 | 459,445 | 3,200,918 | 2,742,420 | 956,672 | 122,514 | ||||||||||||||||||
Total assets |
404,695 | 928,978 | 4,291,164 | 4,470,453 | 5,145,117 | 658,895 | ||||||||||||||||||
Total liabilities |
258,629 | 303,661 | 2,774,386 | 2,829,205 | 2,724,813 | 348,945 | ||||||||||||||||||
Minority interests |
— | 2,716 | 6,879 | 3,389 | 2,910 | 373 | ||||||||||||||||||
Total shareholders’ equity |
146,066 | 622,601 | 1,509,899 | 1,637,859 | 2,417,394 | 309,577 | ||||||||||||||||||
| (1) | Translations of RMB amounts into U.S. dollars were made at a rate of RMB7.8087 to US$1.00, the noon buying rate in New York City for cable transfers as certified for customs purposes by the Federal Reserve Bank of New York on December 29, 2006. | |
| (2) | Each ADS represents two ordinary shares. | |
| (3) | Working capital represents total current assets less total current liabilities. | |
| (4) | Certain reclassification have been made to the consolidated financial statements of the year ended December 31, 2006 to confirm to the current year presentation. |
EXCHANGE RATE INFORMATION
The following table sets forth information regarding the noon buying rates in Renminbi and
U.S. dollars for the periods indicated.
| Renminbi per U.S. Dollar Noon Buying Rate | ||||||||||||||||
| Average(1) | High | Low | Period End | |||||||||||||
2002 |
8.2770 | 8.2800 | 8.2669 | 8.2800 | ||||||||||||
2003 |
8.2770 | 8.2800 | 8.2272 | 8.2769 | ||||||||||||
2004 |
8.2770 | 8.2773 | 8.2765 | 8.2765 | ||||||||||||
2005 |
8.1826 | 8.2765 | 8.0702 | 8.0702 | ||||||||||||
2006 |
7.9579 | 8.0702 | 7.8041 | 7.8087 | ||||||||||||
| Renminbi per U.S. Dollar | ||||||||
| Noon Buying Rate | ||||||||
| High | Low | |||||||
December 2006 |
7.8350 | 7.8041 | ||||||
January 2007 |
7.8127 | 7.7705 | ||||||
February 2007 |
7.7632 | 7.7410 | ||||||
March 2007 |
7.7454 | 7.7232 | ||||||
April 2007 |
7.7345 | 7.7090 | ||||||
May 2007 |
7.7065 | 7.6463 | ||||||
June 2007 (through June 22) |
7.668 | 7.6175 | ||||||
| (1) | Annual averages are calculated using month-end rates. | |
| Source: Federal Reserve Bank of New York |
On June 22, 2007 the noon buying rate was RMB 7.622 to US$1.00.
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B. CAPITALIZATION AND INDEBTEDNESS
Not applicable
C. REASONS FOR THE OFFER AND USE OF PROCEEDS
Not applicable
D. RISK FACTORS
Risks Relating to our Business
We are substantially dependent on two online games, which accounted for approximately 70.3% of our
net revenues in 2006 and which may have a finite commercial lifespan.
We are dependent upon The Legend of Mir II, or Mir II, and The World of Legend, or Woool, for
the majority of our revenue. In 2006, Mir II and Woool accounted for approximately 46.6% and 23.7%
of our net revenues, respectively. These and other online games may, however, have finite
commercial life spans. We believe that Mir II and Woool, which we commercially launched in the
fourth quarter of 2001 and the third quarter of 2003, respectively, have already entered the mature
stages of their lifecycles. Revenues from Mir II sequentially decreased in the third and fourth
quarters of 2005, and revenues from Woool sequentially decreased in the fourth quarter of 2005 and
first quarter of 2006. While the adoption of our new come-stay-play model in 2006 has reversed the
decreasing trend in revenue, we cannot assure you that revenues will not continue to decline in the
future. In order to maximize the lifespan of Mir II and Woool, we work with our licensors and rely
upon in-house efforts to continuously enhance, expand and upgrade Mir II and Woool to include new
features. If we fail to do so, revenue generated by Mir II and Woool may decline. Nonetheless, we
expect to continue to derive a substantial portion of our net revenues from Mir II and Woool
through at least 2007. Accordingly, our business, financial condition and results of operations
would be materially and adversely affected by any occurrence that leads to a continued downward
trend in revenue generated by Mir II and Woool, including but not limited to:
| • | any reduction in purchases of in-game items or value-added services by Mir II or Woool users or any decrease in the popularity of either game in the China market due to intensifying competition or other factors; | ||
| • | loss of our rights to operate either of these games due to a termination of necessary licenses or other reasons; | ||
| • | failure to make improvements, updates or enhancements to Mir II or Woool in a timely manner; or | ||
| • | any lasting or prolonged server interruption due to network failures or other factors or any other adverse developments specific to Mir II or Woool. |
If we are unable to consistently license or develop additional successful online games, our
business, financial condition and results of operations may be materially and adversely affected.
In order to maintain our long-term profitability and operational success, we must continue to
license or develop new online games that are attractive to our users to replace our existing online
games as they reach the end of their commercial lifespan.
Our ability to license successful online games will depend on our ability to identify games
that will appeal to our users, the availability of such games at acceptable costs, our ability to
compete effectively to attract the licensors of such games, and our ability to obtain government
approvals required for the licensing and operation of such games. It is, however, difficult at the
testing phase to determine which online games will appeal to our users. In addition, many
of the games that are licensed by overseas developers were not designed specifically for
China’s online game market, further complicating the task of identifying or implementing games that
will appeal to our users. Moreover, due to
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increased competition among online game operators in
China, upfront license fees for licensed games have increased and most licensors are demanding
guaranteed minimum royalty payments. We may be unable to fully recover upfront and minimum royalty
licensing costs if a licensed game is not popular among users.
Our ability to internally develop successful online games will depend on our ability to
anticipate changing consumer tastes and preferences, to adopt new technologies, to attract, retain
and motivate talented online game developers and to effectively execute online game development
plans. Internal online game development requires substantial initial investment prior to commercial
launch of the games as well as a significant commitment of future resources to produce upgrades and
expansion packs. As with the licensing costs for third-party games, we may be unable to fully
recover development costs if the games are not popular among users.
We cannot be certain that the games we license from third parties or internally develop will
be attractive to users, will be viewed by the regulatory authorities as complying with content
restrictions, will be launched as scheduled or will be able to compete with games operated by our
competitors. If we are not able to consistently license or develop online games with continuing
appeal to users, our future profitability and growth prospects will decline.
If we are unable to maintain stable relationships with the overseas licensors of our online games,
we may experience difficulties in the continued operation of our existing licensed games, the
extension of existing licenses and the granting of licenses for new games.
We need to maintain stable working relationships with our overseas licensors in order to
ensure the continued smooth operation of our licensed online games and our continued access to new
online game licenses. In 2006, we derived approximately 63.1% of our net revenues from online games
that were licensed from third parties. We are dependent upon our licensors for the provision of
technical support necessary for the operation of the licensed games as well as expansion packs and
upgrades that help to sustain interest in a game among online users. In addition, certain marketing
activities often require the consent of our licensors. Moreover, certain of our licenses may be
terminated upon the occurrence of certain events, such as our material breach of the license. If a
licensed game is successful during its initial term of operation, we may be required to negotiate
with our licensors to extend that term of operation. For example, one of our successful casual
games, BNB, is licensed from a third party with its license agreement expiring in September 2008.
We may not be able to renew this license agreement with the licensor on commercially acceptable
terms or at all. Our ability to maintain stable working relationships with our overseas licensors
also influences our ability to license new online games developed by the same or other licensors.
If we are unable to maintain stable relationships with our overseas licensors, our financial
condition and results of operations may be materially and adversely affected.
We or our licensors may be subject to intellectual property infringement claims, which may force us
to incur substantial legal expenses and, if determined adversely against us or our licensors, may
materially disrupt our business.
We cannot be certain that internally developed or licensed online games and other interactive
entertainment content do not and will not infringe upon patents, copyrights, trademarks or other
intellectual property rights held by third parties. For example, we were subject to litigation with
respect to our operation of our in-house developed game Woool when Actoz and Wemade filed copyright
infringement and unfair competition claims against us in the Beijing First Intermediate People’s
Court. These claims were settled in February 2007. For more details about the Actoz and Wemade
litigation please see “Legal Proceedings” in Item 8 “Financial Information”. Of the fourteen games
that we commercially operated as of December 31, 2006, seven are internally developed and seven are
licensed form third parties. In connection with our EZ initiative, we also cooperate with numerous
service and content providers that supply interactive entertainment content, such as movies, music,
news and information. We or any of our licensors may become subject to legal proceedings and claims
from time to time relating to the intellectual property of others. If we or our licensors are found
to have violated the intellectual property rights of others, we may be required to pay damages and
be enjoined from using such intellectual property, and we may incur new or additional licensing
fees if we wish to continue using the infringing content, or be forced to develop or license
alternatives. In addition, we may incur substantial expenses in defending against these third party
infringement claims, regardless of their merit.
Negative publicity in China regarding online games could lead to additional government regulations
that may have a material and adverse impact on our business, financial condition and results of
operations.
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The media in China has reported incidents of violent crimes allegedly inspired by or in
connection with online games. In addition, incidences of excessive online game playing and
allegations that online games distract students and interfere with their education have also been
reported in the media. This negative publicity regarding the online game industry has led to
several regulatory initiatives and could lead to additional regulation in the future. For example,
in July 2005, the Ministry of Culture and the Ministry of Information Industry jointly issued an
opinion which requires online game operators to develop systems and softwares for identity
certification, to implement anti-addiction modifications to game rules and to restrict players
under eighteen years of age from playing certain games. In addition, in August 2005, the State
Administration of Press and Publications, or SAPP, proposed an online game anti-addiction system
that would have reduced and eliminated experience points that a user can accumulate after three and
five hours of consecutive playing, respectively. On April 5, 2007, the GAPP, Ministry of
Education, Chinese Communist Party Central Committee Office of Social Ethics, Ministry of Public
Security, Ministry of Information Industry, Central Committee of Chinese Communist Youth League,
All-China Women’s Federation and China Working Committee for Future Generations issued The Circular
on Implementation of Online Game Anti-addiction System for Protecting Physical and Mental
Well-being of Minors, or the April 5 Circular. The April 5Circular has two annexes, Annex I: Online
Game Anti-addiction System Development Standard and Annex II: Real Identity Verification Procedure
for Online Game Anti-addiction System. According to the April 5 Circular and its annexes, online
game players will be required to register with their real names and identity card numbers. The
anti-addiction system will only be applied to players that are under eighteen years of age. The
April 5 Circular provides that the online game operators shall develop the anti-addiction system
with real identity verification functions in accordance with the Online Game Anti-addiction System
Development Standard and Real Identity Verification Procedure for Online Game Anti-addiction System
during the period from April 5, 2007 to June 15, 2007, test the system during the period from June
15, 2007 to July 15, 2007 and then formally implement the system beginning from July 16, 2007.
Violation of the April 5 Circular may incur regulatory sanctions, including monetary fines, forced
termination of online game operations and recovation of our licenses needed for operations. The
formal implementation of the anti-addiction system and other regulations which may be mandated in
response to negative publicity could have a material and adverse impact on our business, financial
condition and results of operations.
We face significant competition which could reduce our market share and adversely affect our
business, financial condition and results of operations.
The online game market in China is increasingly competitive. Our results of operations to date
may be a result, in part, of a first-mover advantage which may not continue to be available to us.
A significant number of competitors have entered the online game business in China. We expect more
companies to enter the market and we expect a wider range of online games to be introduced to the
China market. Competition from other online game operators, both based in China as well as
overseas, is likely to increase in the future. Other online game operators or developers, such as
China-based Netease, The9, Zhengtu, Perfect Space and 9you, as well as overseas-based Electronic
Arts, NCsoft and Nexon, are current, or potential future, competitors. As the online game industry
in China is relatively new and constantly evolving, our current or future competitors may compete
more successfully as the industry matures. In particular, any of these competitors may offer
products and services that provide significant performance, price, creativity or other advantages
over those offered by us. These products and services may weaken the market strength of our brand
name and achieve greater market acceptance than ours. Furthermore, any of our current or future
competitors may be acquired by, receive investments from or enter into other commercial
relationships with, larger, well-established and well-financed companies and therefore obtain
significantly greater financial, marketing and game licensing and development resources than we
have. In addition, increased competition in the online game industry in China could make it
difficult for us to retain existing users and attract new users. Moreover, game consoles that have
achieved significant successes in markets other than China have not yet formally entered the market
in China due to regulatory and other concerns. If these game consoles, many of which are
strengthening their online game features, formally enter the market in China, we would face
additional competition. We also compete with other forms of entertainment, such as television and
movies. If we are unable to compete effectively in China’s online game market as well as China’s
entertainment market, our business, financial condition and results of operations could be
materially and adversely affected.
We may not be able to successfully implement our growth strategies, including our EZ initiative,
which may materially and adversely affect our business, financial condition and results of
operations.
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In 2005, as part of our transition from a pure online game operator to an interactive
entertainment media company, we introduced the EZ initiative as an integral part of our home
strategy. The EZ initiative involves broadening our interactive entertainment services and content
offerings as well as introducing new media platforms over which to deliver our expanded service and
content offerings to end users. Our EZ initiative includes introducing new products and services
for which there are no established markets. Our ability to successfully implement our EZ initiative
will depend upon our success in educating consumers on the value of these new products and
services. Many consumers in China may, nonetheless, regard some of the new products as too
expensive. In addition, we lack experience and expertise with respect to some of the EZ series
products and services. For example, we do not have experience or expertise in distribution,
marketing, inventory management or warranty support for consumer electronic products. Although in
executing the EZ initiative we will cooperate with consumer electronics manufactures that do have
such experience and expertise, our lack of such knowledge internally may prove to be a material
disadvantage. We cannot assure you that we will be able to deliver the new EZ series products and
services on a commercially viable basis or in a timely manner, or at all. Moreover, execution of
the EZ initiative requires a significant amount of managerial time and energy. Pursuit of the EZ
initiative, and other growth strategies, may divert senior management’s focus away from our core
online game business to the detriment of such business. If we are unable to successfully implement
our growth strategies, our revenue and profitability will not grow as we expect, which may have a
material and adverse effect on our business, financial condition and results of operations.
The recent change to the revenue model for our leading MMORPGs may reduce the amount of revenue
that otherwise would have been generated by these games, thereby negatively affecting our financial
condition and results of operations.
In late November 2005, we replaced the pay-to-play revenue model with a “Come-Stay-Pay,” or
CSP, revenue model for three of our leading MMORPGs: Mir II, Woool and Magical Land. We have since
adopted this revenue model for our casual games and most of our MMORPGs. Under the CSP revenue
model, end users are able to play the basic functions of these MMORPGs for free and may choose to
purchase in-game value-added services, including certain in-game items and premium features, which
enhance the game experience. We have licensed a number of new games, including but not limited to
ArchLord, Kong Fu Masters and LaTale, which will all be operated under the CSP model. In 2006, net
revenue generated from games operated under the CSP model accounted for 92.0% of our net revenue.
Although we believe this new revenue model has initially shown promising results and will benefit
our company in the long run, we cannot assure that it will ultimately be successful, or that it
will not have a negative impact on our financial condition and results of operations. Any material
reduction in revenue would have a material and adverse affect on our financial condition and
results of operations.
There are risks associated with our pursuit of growth through acquisitions and strategic
investments.
In recent years we have pursued, and in the future we may continue to pursue, growth through
acquisitions and strategic investments. We acquired or invested in eight businesses in 2004 and
2005 with a total value of US$421.0 million. In May 2005, we completed the second step of a
two-step acquisition of Shanghai Haofang Online Information Technology Co., Ltd., or Haofang, at a
total purchase price of US$56.0 million. In February 2005, we completed our purchase of an
approximately 19.5% stake in SINA Corp., or SINA, at a total purchase price of US$227.6 million. In
February 2005, we also completed the purchase of a 29% stake in Actoz, increasing our total stake
to approximately 38.1%, at a total purchase price at US$106.1 million. In 2006 and 2007, we
purchased additional Actoz shares on the open market and increased our total stake to approximately
49.48% as of June 22, 2007. In July 2004, we acquired Hangzhou Bianfeng Software Co., Ltd., or
Bianfeng, at a total purchase price of US$20.0 million. For more information on our acquisitions,
see “Recent Acquisitions” in Item 5 “Operating and Financial Review and Prospects” and “History and
Development of the Company ” in Item 4 “Information on the Company”. These acquired or invested
companies operate businesses that complement our core online game business or represent related but
new lines of business. We may, however, fail to realize the synergies contemplated at the time of
executing these transactions, which could negatively impact our financial condition and results of
operations. For example, we completed the purchase of our controlling stake in Actoz, the co-owner
of Mir II, in February 2005, for a total consideration of RMB878million (US$106.1 million), which
represented an 81% premium over the open market price at the time that we entered into the purchase
agreement in October 2004. In the fourth quarter of 2005, however,
we recorded a non-cash impairment charge of RMB521.5 million (US$64.6 million) to reflect the
fair value of our 38.1% stake in Actoz. We recognized the impairment charge primarily as a result
of the continued decline in royalties payable to Actoz from our operation of Mir II in China. The
decision to recognize impairment was also influenced by
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the decline in market price for shares of
Actoz, which in the fourth quarter of 2005 was determined to be other than temporary, mainly due to
the continued decline in Mir II royalties. In addition, as of December 31, 2006, the goodwill and
intangibles relating to Haofang amounted to approximately RMB400 million (US$51.28 million). In
accordance with SFAS No. 142, goodwill and intangible assets are tested for impairment at the
reporting unit level annually or when there are indicators of impairment. Haofang experienced
substantial year over year decline in profit and revenue in 2006. Additionally, the founders and
key management of Haofang left the company during the first half of 2006. Our management obtained
an independent valuation to ascertain the fair value of Haofang as of October 31, 2006. Based on
the valuation report and their own assessment, our management concluded that there was no
impairment in the carrying value of Haofang for 2006. We will continuously monitor the operation of
Haofang for any impairment indicators. If the actual cashflow for 2007 does not reflect our
management’s current estimates, an impairment in this investment may be necessary for 2007.
Additional risks associated with acquisitions and strategic investments include the following:
| • | It may be difficult to assimilate the operations and personnel of an acquired business into our own business; | ||
| • | Management information and accounting systems of an acquired business must be integrated into our current systems; | ||
| • | Our management must devote its attention to assimilating the acquired business, which diverts attention from other business concerns; and | ||
| • | We may be unable to complete transactions that we initiate. |
We cannot assure you that we will have the ability to effectively integrate the operation of
the acquired companies into our own and achieve the synergies contemplated at the time of entering
into these transactions. If we are unable to achieve the synergies contemplated at the time of
acquiring these businesses, the carrying value of the acquired companies may not be recoverable. We
are required by U.S. GAAP to review the impairment of goodwill at least on an annual basis. If an
impairment is determined and charged to the earnings in our financial statements, our financial
condition and results of operations may be materially and adversely affected.
While we believe that we currently have adequate internal control procedures in place, we are still
exposed to potential risks from legislation requiring companies to evaluate controls under Section
404 of the Sarbanes-Oxley Act of 2002.
This annual report does not include an attestation report by our registered public accounting
firm regarding internal control over financial reporting as required by Section 404 of the
Sarbanes-Oxley Act of 2002. Management’s report was not subject to attestation by our registered
public accounting firm pursuant to the temporary rules of the Securities and Exchange Commission
that permit us to provide only management’s report in this annual report. We will be required to
include an attestation report from our registered public accounting firm in our annual report for
the fiscal year ending on December 31, 2007. However, we cannot assure that we will be able to
provide a registered public accounting firm’s attestation report on internal control over financial
reporting in our annual report on Form 20-F for the fiscal year ending on December 31, 2007. If we
fail to implement the requirements of Section 404 in a timely manner or with adequate compliance,
our registered public accounting firm may be unable to provide a written attestation as to the
effectiveness of our internal controls over financial reporting and we may be subject to sanctions
or investigation by regulatory authorities, such as the Securities and Exchange Commission. As a
result, there could be a negative reaction in the financial markets due to a loss of confidence in
the reliability of our financial statements. In addition, we may be required to incur significant
costs in improving our internal control system and the hiring of additional personnel. Any such
action could increase our costs relative to our revenues, thereby reducing our operating margins
and could negatively affect the market price of our ADSs.
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Operation of pirate game servers and the expenses incurred in protecting our intellectual property
rights, may adversely affect our business.
We continue to face challenges from pirate game servers, which are game servers that operate
unauthorized copies of our online games and permit users to play those games without purchasing
pre-paid game cards from us. We have detected the operation by pirate servers of unauthorized
copies of various of our leading games. In September 2002, for example, we discovered that the
server-end software of Mir II was unlawfully released into the China market. This software leak
enabled unauthorized third parties to set up local server networks to operate Mir II, which we
believe continue to divert a significant number of users of one of our most popular online games
away from us. Although we have made efforts to shutdown pirate servers across China, the
intellectual property enforcement regime in China is not as robust as that of the United States,
and we continue to face considerable challenges when attempting to enforce our intellectual
property rights. Enforcement actions generally require cooperation from local authorities, which
are not always willing to use their limited resources to enforce the intellectual property rights
of national corporations against individuals or companies in their districts. In addition, detailed
comparisons of software codes and litigation proceedings are often necessary to enforce our
intellectual property rights, which sometimes result in substantial costs. Despite our efforts to
shutdown pirate servers, we believe that a significant number of pirate game servers continue to
operate unauthorized copies of our online games. The continued operation of our leading games by
pirate game servers, or the operation of any new games that we may introduce by pirate servers, may
materially and adversely affect our business, financial condition and results of operations.
Undetected programming errors or defects in our games and the proliferation of cheating programs
could materially and adversely affect our business, financial condition and results of operations.
Our games may contain undetected programming errors or other defects. In addition, parties
unrelated to us may develop Internet cheating programs that enable our users to acquire superior
features for their game characters that they would not have otherwise. Furthermore, certain
cheating programs could cause the loss of a character’s superior features acquired by a user. The
occurrence of undetected errors or defects in our games, and our failure to discover and disable
cheating programs affecting the fairness of our game environment, could disrupt our operations,
damage our reputation and detract from the game experience of our users. As a result, such errors,
defects and cheating programs could materially and adversely affect our business, financial
condition and results of operations.
Unexpected network interruptions, security breaches or computer virus attacks could have a material
adverse effect on our business, financial condition and results of operations.
Any failure to maintain the satisfactory performance, reliability, security and availability
of our network infrastructure may cause significant harm to our reputation and our ability to
attract and maintain users. We maintain a distributed server network architecture with third party
service providers hosting servers in more than one hundred cities throughout China. Most of the
servers handling log in, and all servers handling billing and data backup matters for us, are
hosted and maintained by third party service providers in Shanghai. We do not maintain full backup
for our server network hardware. Major risks involved in such network infrastructure include:
| • | any break-downs or system failures resulting in a sustained shutdown of all or a material portion of our servers, including failures which may be attributable to sustained power shutdowns, or efforts to gain unauthorized access to our systems causing loss or corruption of data or malfunctions of software or hardware; and | ||
| • | any disruption or failure in the national backbone network, which would prevent our users outside Shanghai from logging on to any of our games or other content, or playing the games, for which the servers are all located in Shanghai. |
In the past, our server network has experienced unexpected outages for several hours and
occasional slower performance in a number of locations in China as a result of failures by third
party service providers. Our network systems are also vulnerable to damage from fire, flood, power
loss, telecommunications failures, computer virus, hackings and similar events. Any network
interruption or inadequacy that causes interruptions in the availability of our games or
deterioration in the quality of access to our games could reduce our users’ satisfaction. In
addition, any
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security breach caused by hacking, which involve efforts to gain unauthorized access to
information or systems, or to cause intentional malfunctions or loss or corruption of data,
software, hardware or other computer equipment, and the inadvertent transmission of computer
viruses could have a material adverse effect on our business, financial condition and results of
operations. We do not maintain insurance policies covering losses relating to our systems and we do
not have business interruption insurance.
Any failure to maintain a stable and efficient distribution and payment network could have a
material and adverse impact on our business, financial condition and results of operations.
Online payment systems in China are in a developmental stage and are not as widely available
or acceptable to consumers in China as in the United States. As a result, we rely heavily on a
multi-layer distribution and payment network composed of third party distributors for our sales to,
and collection of payment from, our users. As we do not enter into long-term agreements with any of
our distributors, we cannot assure you that we will continue to maintain favorable relationships
with them. If we fail to maintain a stable and efficient distribution and payment network, our
business, financial condition and results of operations could be materially and adversely affected.
The limited use of personal computers in China and the relatively high cost of Internet access with
respect to per capita gross domestic product may limit the development of the Internet in China and
impede our growth.
Although the use of personal computers in China has increased in recent years, the penetration
rate for personal computers in China is much lower than in the United States. In addition, despite
a decrease in the cost of Internet access in China due to a decrease in the cost of personal
computers and the introduction and expansion of broadband access, the cost of personal Internet
access, in contrast with Internet access through Internet cafes, remains relatively high in
comparison to the average per capita income in China. In addition, the PRC government has recently
promulgated regulations to curb the growth of internet cafes. See Item 3.D. “Risk Factors—Risks
Relating to Regulation of the Internet and to Our Structure—The PRC government has announced its
intention, and has begun, to intensify its regulation of Internet cafes, which are currently the
primary venue for our users to play online games. Intensified government regulation of Internet
cafes could restrict our ability to maintain or increase our revenues and expand our customer
base.” The limited use of personal computers in China and the relatively high cost of personal
Internet access may limit the growth of our business. Furthermore, any Internet access or
telecommunications fee increase could reduce the number of users that play our online games.
Our business could suffer if we do not successfully manage our growth.
Our recent growth has placed significant strain on our management, operational, financial and
other resources. For example, the total number of our employees increased from 562 as of December
31, 2003 to 1,429 as of December 31, 2004, and to 2,392 as of December 31, 2005. During 2006, we
reduced the total number of our employees to 1,906 as of December 31, 2006 in order to streamline
operations and reduce costs. In addition, certain of our directors, officers and key employees that
have recently joined our company will need time to learn our business and successfully integrate
themselves into our company. In addition, as a result of our growth we need to continue to develop
and expand our financial and management controls and our reporting systems and procedures. We
cannot assure you that we will be able to efficiently or effectively manage the growth of our
operations, and any failure to do so may limit our future growth and materially and adversely
affect our business, financial condition and results of operations.
We depend on our key personnel, and our business and growth prospects may be severely disrupted if
we lose their services.
Our future success is heavily dependent upon the continued service of our key executives and
other key employees. In particular, we rely on the expertise, experience and leadership ability of
Tianqiao Chen, our founder, controlling shareholder and chief executive officer, in our business
operations, and rely on his personal relationships with our employees, the relevant regulatory
authorities, our game and service suppliers and Shanda Networking. We also rely on a number of key
technology officers and staff for the development and operation of our online games. In addition,
as we expect to focus increasingly on the development of our own online games, we will need to
continue attracting and retaining skilled and experienced online game developers to maintain our
competitiveness.
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If one or more of our key personnel are unable or unwilling to continue in their present
positions, we may not be able to easily replace them and may incur additional expenses to recruit
and train new personnel, our business could be severely disrupted, and our financial condition and
results of operations could be materially and adversely affected. Furthermore, since our industry
is characterized by high demand and intense competition for talent, we may need to offer higher
compensation and other benefits in order to attract and retain key personnel in the future. We
cannot assure you that we will be able to attract or retain the key personnel that we will need to
achieve our business objectives. Furthermore, we do not maintain key-man life insurance for any of
our key personnel.
The discontinuation of any of the preferential tax treatments or the government financial
incentives currently available to us in the PRC could materially and adversely affect our business,
financial condition and results of operations.
Certain of our PRC companies, including Shengqu, Shanda Networking, Hangzhou Bianfeng and
Nanjing Shanda, enjoy preferential tax treatments, in the form of reduced tax rates or tax
holidays, provided by the PRC government or its local agencies or bureaus. These four subsidiaries,
Shengqu, Shanda Networking, Hangzhou Bianfeng and Nanjing Shanda benefit from a 15% preferential
income tax rate. In addition, Shengqu was granted an income tax exemption for 2003 and 2004,
followed by a three year tax holiday during which it is subject to a 7.5% preferential income tax
rate; in the second quarter of 2006, Hangzhou Bianfeng was granted an income tax exemption for
2005; and in the third quarter of 2005, Nanjing Shanda was granted an income tax exemption for 2005
and 2006. After receiving approval for tax exemption treatment, the income tax already paid in 2005
by Hangzhou Bianfeng and Nanjing Shanda prior to receipt of approval
was reversed in the second
quarter of 2006 and and in the third quarter of 2005, respectively. As a result of these
preferential tax treatments, our effective income tax rate for 2006 was 6.2%.
On March 16, 2007, the National People’s Congress of the PRC, or NPC, passed the new PRC
Enterprise Income Tax Law, or New EIT Law, which will come into effect on January 1, 2008 and will
replace the existing enterprise income tax laws applicable separately to foreign invested
enterprises and domestic invested enterprises. After the New EIT Law becomes effective on January
1, 2008, both foreign invested enterprises, which are currently subject to preferential tax
treatments, and domestic invested enterprises, which are currently subject to a standard enterprise
income tax rate of 33%, will be subject to the unified enterprise income tax rate of 25% under the
New EIT Law. Preferential enterprise income tax rate of 15% and 20% are made available to
recognized high-tech enterprises and qualified small-scale enterprises under the New EIT Law
respectively. In addition, the New EIT Law sets a general withholding tax rate of 20% on
China-sourced income, such as dividends, interest, rent, royalties, capital gains, and other items,
received by non-resident enterprises.
The New EIT Law provides that enterprises established before March 16, 2007 remain eligible
for lower enterprise income tax rates offered under the current tax laws and regulations. However,
such enterprises will be subject to a transitional phase out period of 5 years starting from
January 1, 2008 during which their rates will gradually increase to the standard rate of 25% under
the New EIT Law. Enterprises established before March 16, 2007 that are eligible for tax
exemptions and reductions may continue to enjoy such tax preferential treatments until those tax
preferential treatments expire. It is anticipated that detailed implementing rules and supporting
interpretive circulars of the New EIT Law will be issued by the State Council and relevant
government authorities in the next few months. The New EIT Law and any other changes to our
effective tax rate could have a material and adverse effect on our business, financial condition
and results of operations.
In 2004, 2005 and 2006 we also received aggregate government financial incentives of RMB88.1
million, RMB137.3 million and RMB83.9 million (US$10.7 million), respectively, which were
calculated with reference to taxable revenue and taxable income. For Shengqu and Shanda Networking,
incentives granted with reference to taxable revenue on which we pay business tax have a term of 3
years and for incentives granted with reference to taxable income on which we pay income tax have a
term of 8 years. For Shengqu and Shanda Networking, the term of the government financial incentives
for taxable revenues expired as of December 31, 2005 and December 31, 2004, respectively. The
government financial incentives were reduced substantially in 2006 and for all subsequent years.
Eligibility conditions for the government financial incentives we receive require that we continue
to meet a number of financial and non-financial criteria and our continued qualification is further
subject to the discretion of the municipal government. Moreover, the central government or
municipal government could determine at any time to immediately eliminate or reduce these
government financial incentives, generally with prospective effect. If we had not received
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these government financial incentives in 2004, our income before income tax expenses, equity
in loss of affiliated companies, and minority interests would have been RMB566.2 million, a
decrease of 13.5% from the reported amount. If we had not received these government financial
incentives in 2005, our income before income tax expenses, equity in loss of affiliated companies,
and minority interests would have been RMB664.1 million, a decrease of 17.1% from the reported
amount. If we had not received these government financial incentives in 2006, our income before tax
expenses, equity in loss of affiliated companies and minority interests would have been RMB507.3
million (US$65.0 million), a decrease of 14.2% from the reported amount. As the receipt of these
government financial incentives are subject to periodic time lags and inconsistent municipal
government practice on payment times, for so long as we continue to receive these government
financial incentives, our net income in a particular quarter may be higher or lower relative to
other quarters based on the potentially uneven receipt by us of these government financial
incentives in addition to any business or operating related factors we may otherwise experience.
We cannot assure you that we will continue to enjoy these preferential tax treatments or
government financial incentives in the future. The discontinuation or reduction of these
preferential tax treatments or government financial incentives could materially and adversely
affect our business, financial condition and results of operations. Please see Item 5 for a
discussion of the duration of these preferential tax treatments or government financial incentives.
We may become a passive foreign-investment company, or PFIC, which could result in adverse U.S. tax
consequences to U.S. investors.
Based upon projected composition of our income and valuation of our assets, including
goodwill, we believe we are not a passive foreign investment company, or PFIC, and do not expect to
become one in the future, although there can be no assurance in this regard. If, however, we were
or were to become a PFIC, such characterization could result in adverse U.S. tax consequences to
you if you are a U.S. investor. For example, if we are a PFIC, our U.S. investors will become
subject to increased tax liabilities under U.S. tax laws and regulations and will become subject to
burdensome reporting requirements. The determination of whether or not we are a PFIC is made on an
annual basis and will depend on the composition of our income and assets from time to time.
Specifically, we will be classified as a PFIC for U.S. tax purposes if either: (i) 75% or more of
our gross income in a taxable year is passive income, or (ii) the average percentage of our assets
by value in a taxable year which produce or are held for the production of passive income (which
includes cash) is at least 50%. The calculation of the value of our assets will be based, in part,
on the quarterly market value of our shares and ADSs, which is subject to change.
We cannot assure you that we will not be a PFIC for 2007 or any future taxable year. For more
information on the U.S. tax consequences to you that would result from our classification as a
PFIC, please, see the subsection “Taxation” included in Item 10 “Additional Information”.
We may be required to take significant actions that are contrary to our business objectives to
avoid being deemed an investment company as defined under the Investment Company Act.
Generally, the Investment Company Act provides that a company is not an investment company and
is not required to register under the Investment Company Act as an investment company if:
| • | the company is primarily engaged, directly or through a wholly-owned subsidiary or subsidiaries, in a business or businesses other than those of investing, reinvesting, owning, holding or trading in securities; and | ||
| • | 40% or less of the fair market value of the company’s assets is represented by investment securities. |
We believe that we are engaged primarily in the businesses of, among other things, developing
and operating online games. In addition, less than 40% of the fair market value of our assets is
represented by investment securities. As a result, we believe, that we are not an investment
company as that term is defined under the Investment Company Act. We may, however, be required to
take significant actions that are contrary to our business objectives to avoid being deemed an
investment company in the future. We may, for example, need to hold a significant portion of our
assets and invest portions of our cash flows in low-yielding investments or we may need to acquire
additional income
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or loss generating assets that we might not otherwise have acquired. In addition, we may need
to sell all or a portion of our minority investments in Actoz, or forego opportunities to acquire
minority interests in other companies that could be important to our strategy.
The Investment Company Act also contains substantive regulations with respect to investment
companies including restrictions on their capital structure, operations, transactions with
affiliates and other matters which would be incompatible with our operations. If we were to be
deemed an investment company in the future, we would, among other things, effectively be precluded
from making public offerings in the United States. We could also be subject to other adverse
consequences.
Changes to existing accounting pronouncements, including SFAS 123R, taxation rules, including
FIN48, or practices may adversely affect our reported results of operations or how we conduct our
business.
A change in accounting pronouncements, taxation rules or practices can have a significant
effect on our reported results and may even affect our reporting of transactions completed before
the change is effective. Pursuant to SEC rules, we are required to implement the Statement of
Financial Accounting Standards No. 123 (revised 2004), “Share-Based Payment,” or SFAS 123R,
starting in the first quarter of 2006. SFAS 123R requires us to measure compensation costs for all
share-based compensation at fair value and take compensation charges equal to that value. The
requirement to measure compensation costs for all share-based compensation under SFAS 123R could
negatively affect our profitability and the trading price of our ADSs. SFAS 123R and the impact of
expensing on our reported results could also limit our ability to continue to use stock options as
an incentive and retention tool, which could, in turn, hurt our ability to recruit employees and
retain existing employees. Other new accounting pronouncements or taxation rules, such as FIN48,
and varying interpretations of accounting pronouncements have occurred and may occur in the future.
This change to existing rules, future changes, if any, or the questioning of current practices may
adversely affect our reported financial results or the way we conduct our business.
We have limited business insurance coverage in China.
The insurance industry in China is still at an early stage of development. In particular, PRC
insurance companies do not offer extensive business insurance products. As a result, we do not have
any business liability or disruption insurance coverage for our operations in China. Any business
disruption, litigation or natural disaster might result in our incurring substantial costs and the
diversion of resources.
You should not place undue reliance on our financial guidance, nor should you rely on our quarterly
operating results as an indication of our future performance because our results of operations are
subject to significant fluctuations.
We may experience significant fluctuations in our quarterly operating results due to a variety
of factors, many of which are outside of our control. Significant fluctuations in our quarterly
operating results could be caused by any of the factors identified in this section, including but
not limited to our ability to retain existing users, attract new users at a steady rate and
maintain user satisfaction; the announcement or introduction of new games or update to existing
games by us or our competitors; technical difficulties, system downtime or Internet failures;
seasonality of the online game market; the amount and timing of operating costs and capital
expenditures relating to expansion of our business, operations and infrastructure; governmental
regulation; seasonal trends in Internet use; a shortfall in our revenues relative to our forecasts
and a decline in our operating results due to our inability to adjust our spending quickly; and
general economic conditions and economic conditions specific to the online game and China market.
As a result of these and other factors, you should not place undue reliance on our financial
guidance, nor should you rely on quarter-to-quarter comparisons of our operating results as
indicators of likely future performance. Our quarterly revenue and earnings per share guidance is
our best estimate at the time guidance is provided. Our operating results may be below our
expectations or the expectations of public market analysts and investors in one or more future
quarters. If that occurs, the price of our ADSs could decline and you could lose part or all of
your investment.
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Risks Relating to Regulation of the Internet and to Our Structure
If the PRC government finds that the agreements that establish the structure for operating our
China business do not comply with PRC government restrictions on foreign investment in the online
game industry, we could be subject to severe penalties.
On December 11, 2001, the PRC State Counsel promulgated the Foreign-Invested
Telecommunications Enterprises Regulation, or the FITE Regulation, which became effective on
January 1, 2002. Under the FITE Regulation, foreign ownership of companies that provide value-added
telecommunication services, which includes online game operation, is limited to 50%. In addition,
foreign and foreign-invested enterprises are currently not able to apply for the licenses required
to operate online games in China or to provide Internet information content, such as online
advertising. We are a Cayman Islands exempted company and we conduct our operations in China
primarily through Shengqu, our indirectly wholly owned subsidiary. We and Shengqu are foreign or
foreign-invested enterprises under PRC law and accordingly are ineligible to apply for a license to
operate online games or to sell online advertising. In order to comply with foreign ownership
restrictions, we operate our online game business in China through Shanda Networking, which is
wholly owned by Tianqiao Chen, our chairman and chief executive officer, and Danian Chen, our
executive senior vice president, both of whom are PRC citizens, and through Nanjing Shanda and
Hangzhou Bianfeng, which are subsidiaries of Shanda Networking. Shanda Networking, Nanjing Shanda,
Hangzhou Bianfeng, or our PRC operating companies, and other subsidiaries of Shanda Networking hold
the licenses and approvals that are required to operate our online game business and to sell online
advertising on our web pages and Shengqu owns the substantial majority of physical assets. Shengqu
has entered into a series of contractual arrangements with Shanda Networking and its shareholders.
As a result of these contractual arrangements, we are considered the primary beneficiary of Shanda
Networking and accordingly we consolidate the results of operations of Shanda Networking and its
subsidiaries in our financial statements. For a description of these contractual arrangements, see
“Organizational Structure” in Item 4, “Information on the Company” and Item 7 “Major Shareholders
and Related Party Transactions”.
On July 13, 2006, the MII issued The Circular of the Ministry of Information Industry on
Intensifying the Administration of Foreign Investment in Value-added Telecommunication Services, or
the “MII Circular 2006.” Under the MII Circular 2006, since the FITE Regulation went into effect,
some foreign investors have been engaged in value-added telecom services illegally by conspiring
with domestic value-added telecom enterprises to circumvent the requirements of the FITE
Regulations by delegating domain names and licensing trademarks.
In order to further intensify the administration of FITEs, the MII Circular 2006 provides that
any domain name or trademark used by a value-added telecom carrier shall be legally owned by such
carrier or its shareholders. The MII Circular 2006 also provides that the operation site and
facilities of a value-added telecom carrier shall be installed within the scope as prescribed by
operating licenses obtained by the carrier and shall correspond to the value-added telecom services
that the carrier has been approved to provide. In addition, value-added telecom carriers are
required to establish or improve the measures of ensuring safety of network information. As to the
companies which have obtained the operating licenses for value-added telecom services, they are
required to conduct self-examination and self-correction according to the said requirements and
report the result of such self-examination and self-correction to the provincial branches of the
MII.
Accordingly, Shengqu and Shanda Networking have certain corrective measures in order to
achieve compliance with MII Circular 2006. Shengqu has transferred to Shanda Networking 22 domain
names primarily used by the PRC operating companies. In addition, Shengqu will execute the transfer
to Shanda Networking of 26 trademarks at the Trademark Office of State Administration of Industry
and Commerce, or SAIC.
We believe that (1) the ownership structures of our company, Shengqu, and our PRC operating
companies are in compliance with existing PRC laws and regulations; (2) our contractual
arrangements with Shanda Networking and its shareholders are valid, binding and enforceable, and
will not result in any violation of PRC laws or regulations currently in effect; and (3) the
business operations of our company, Shengqu, and our PRC operating companies, as described in this
annual report, are in compliance with existing PRC laws and regulations in all material aspects.
There are, however, substantial uncertainties regarding the interpretation and application of
current or future PRC laws and regulations. Accordingly, we cannot assure you that the PRC
regulatory authorities will not ultimately take a view that is contrary to our view. If we,
Shengqu, or any of our PRC operating companies are found to be in violation of any
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existing or future PRC laws or regulations, the relevant regulatory authorities would have
broad discretion in dealing with such violations, including:
| • | revoking Shengqu’s or any of our PRC operating companies’ business and operating licenses; | ||
| • | discontinuing or restricting our, Shengqu’s or our PRC operating companies’ operations; | ||
| • | imposing conditions or requirements with which we, Shengqu or our PRC operating companies may not be able to comply; | ||
| • | requiring us, Shengqu or our PRC operating companies to restructure the relevant ownership structure or operations; or | ||
| • | taking other regulatory or enforcement actions, including levying fines, that could be harmful to our business. |
Any of these actions could cause our business, financial condition and results of operations
to suffer and the price of our ADSs to decline.
The contractual arrangements related to critical aspects of our operations with Shanda Networking
and its shareholders, Tianqiao Chen and Danian Chen, may not be as effective in providing
operational control as direct ownership.
We rely on contractual arrangements with Shanda Networking and its shareholders, Tianqiao Chen
and Danian Chen, to operate our business. These contractual arrangements may not be as effective as
direct ownership in providing us control over PRC operating companies. Direct ownership would allow
us, for example, to directly exercise our rights as a shareholder to effect changes in the board of
Shanda Networking, which, in turn, could effect changes, subject to any applicable fiduciary
obligations, at the management level. However, under the current contractual arrangements, as a
legal matter, if Shanda Networking or Tianqiao Chen or Danian Chen fails to perform its, his or her
respective obligations under these contractual arrangements, we may have to incur substantial costs
and expend significant resources to enforce those arrangements and rely on legal remedies under PRC
law. These remedies may include seeking specific performance or injunctive relief, and claiming
damages, any of which may not be effective.
All of these contractual arrangements are governed by PRC laws and provide for the resolution
of disputes through either arbitration or litigation in the PRC. Accordingly, these contracts would
be interpreted in accordance with PRC laws and any disputes would be resolved in accordance with
PRC legal procedures. The legal environment in the PRC is not as developed as in other
jurisdictions, such as the United States. As a result, uncertainties in the PRC legal system could
limit our ability to enforce these contractual arrangements. In the event we are unable to enforce
these contractual arrangements, we may be unable to exert effective control over our PRC operating
companies, and our ability to conduct our business may be negatively affected.
The entire share capital of Shanda Networking is held by our controlling shareholders, who may
cause the agreements between our company and Shanda Networking to be amended in a manner that is
adverse to us.
We conduct substantially all of our operations, and generate substantially all of our
revenues, through our PRC operating companies. Our control over these entities is based upon
contractual arrangements with Shanda Networking and its shareholders that provide us with the
substantial ability to control Shanda Networking. The two shareholders of Shanda Networking,
Tianqiao Chen and Danian Chen, are also our controlling shareholders. As a result, Tianqiao Chen
and Danian Chen may be able to cause these agreements to be amended in a manner that will be
adverse to our company, or may be able to prevent these agreements from being renewed, even if
their renewal would be beneficial for us. Although we have entered into an agreement that prevents
the amendment of these agreements without the approval of our audit committee, which is comprised
of independent directors, we can provide no assurances that these agreements will not be amended in
the future to contain terms that may be adverse to our interests.
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Our arrangements with our PRC operating companies may be subject to scrutiny by the PRC tax
authorities for transfer pricing adjustments.
We also could face material and adverse tax consequences if the PRC tax authorities determine
that our contracts with our PRC operating companies were not entered into based on arm’s length
negotiations. Although we based our contractual arrangements on those of similar businesses, if the
PRC tax authorities determine that these contracts were not entered into on an arm’s length basis,
they may adjust our income and expenses for PRC tax purposes in the form of a transfer pricing
adjustment. A transfer pricing adjustment could result in a reduction, for PRC tax purposes, of
deductions recorded by our PRC operating companies, which could adversely affect us by:
| • | increasing our PRC operating companies’ tax liability without reducing Shengqu’s tax liability, which could further result in late payment fees and other penalties to our PRC operating companies for under-paid taxes; or | ||
| • | limiting Shengqu’s ability to maintain preferential tax treatments and government financial incentives, if the transfer pricing adjustment is significant. |
As a result, any transfer pricing adjustment could have a material and adverse impact upon our
financial condition.
Our corporate structure may restrict our ability to receive dividends from, and transfer funds to,
our PRC subsidiary and our PRC operating companies, which could restrict our ability to act in
response to changing market conditions and reallocate funds from one Chinese affiliated entity to
another in a timely manner.
We are a Cayman Islands holding company and substantially all of our operations are conducted
through our subsidiary, Shengqu, and our PRC operating companies. We rely principally on dividends
and other distributions on equity paid by Shengqu for our cash requirements, including the funds
necessary to allow us to pay dividends on the shares underlying our ADSs and the funds necessary to
service any debt we may incur, or financing we may need for operations other than through Shengqu.
If Shengqu incurs debt on its own behalf in the future, the instruments governing the debt may
restrict Shengqu’s ability to pay dividends or make other distributions to the intermediate holding
company and thus to us. We generate substantially all of our revenues through contractual
arrangements with our PRC operating companies. However, PRC governmental authorities may require us
to amend these contractual arrangements in a manner that would materially and adversely affect
Shengqu’s ability to pay dividends and other distributions to us. Furthermore, PRC legal
restrictions permit payments of dividends by Shengqu only out of its retained earnings, if any,
determined in accordance with PRC accounting standards and regulations. Under PRC law, Shengqu is
also required to set aside a portion of its net income each year to fund certain reserve funds.
These reserves are not distributable as cash dividends. As a result of these and other restrictions
under PRC laws and regulations, our PRC subsidiary and our affiliated PRC entities are restricted
in their ability to transfer a portion of their net assets to us in the form of dividends, loans or
advances, which restricted portion amounted to approximately RMB1,588.6 million (US$203.4 million),
or 65.7%, of our total consolidated net assets as of December 31, 2006. Any limitation on the
ability of our PRC subsidiary and our affiliated PRC entities to transfer funds to us in the form
of dividends, loans or advances could materially and adversely limit our ability to grow, make
investments or acquisitions that could be beneficial to our businesses, pay debt or dividends, and
otherwise fund and conduct our business.
In addition, any transfer of funds from us to our PRC subsidiary, either as a shareholder loan
or as an increase in registered capital, is subject to registration or approval of Chinese
governmental authorities, including the relevant administration of foreign exchange and/or the
relevant examining and approval authority. It is not permitted under PRC law for our PRC subsidiary
and our PRC operating companies to directly lend money to each other. Therefore, it is difficult to
change our capital expenditure plans once the relevant funds have been remitted from our company to
our PRC subsidiary and PRC operating companies. These limitations on the free flow of funds between
us and our PRC entities could restrict our ability to act in response to changing market conditions
and reallocate funds from one Chinese entity to another in a timely manner.
Recent PRC regulations relating to offshore investment activities by PRC residents may increase the
administrative burden we face and create regulatory uncertainties that could restrict our overseas
and cross border investment
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activity, and a failure by our shareholders who are PRC residents to make any required applications
and filings pursuant to such regulations may prevent us from being able to distribute profits and
could expose us and our PRC resident shareholders to liability under PRC law.
In 2005, regulations were promulgated by the State Administration of Foreign Exchange, or
SAFE, that require registration with local SAFE offices in connection with direct or indirect
offshore investment by PRC residents, including PRC individual residents and PRC corporate
entities. These regulations apply to our shareholders who are PRC residents and also apply to our
prior and future offshore acquisitions. In particular, the SAFE regulations require PRC Residents
to file with competent SAFE offices information about offshore companies in which they have
directly or indirectly invested and to make follow-up filings in connection with certain material
transactions involving such offshore companies, such as increases or decreases in investment
amount, transfers or exchanges of shares, mergers or divisions, long-term equity or debt
investments, or external guarantees, or other material events that do not involve return
investment.
The SAFE regulations retroactively require registration by March 31, 2006 of direct or
indirect investments previously made by PRC residents in offshore companies. If a PRC resident with
a direct or indirect stake in an offshore parent company fails to make the required SAFE
registration, the PRC subsidiaries of such offshore parent company may be prohibited from making
distributions of profit to the offshore parent and from paying the offshore parent proceeds from
any reduction in capital, share transfer or liquidation in respect of the PRC subsidiaries.
Further, failure to comply with various SAFE registration requirements described above could result
in liability under PRC law for foreign exchange evasion.
Our major shareholders who are PRC residents, or whose shares are beneficially owned by PRC
residents, have completed foreign exchange registration with the local Shanghai Foreign Exchange
Bureau according to these SAFE regulations. As a result of the newness of the regulations and
uncertainty concerning the reconciliation of the new regulations with other approval requirements,
it remains unclear how the regulations, and any future legislation concerning offshore or
cross-border transactions, will be interpreted, amended and implemented by the relevant government
authorities. We are committed to complying and to ensuring that our shareholders who are subject to
the regulations comply with the relevant rules. However, we cannot assure you that all of our
shareholders who are PRC residents will comply with our request to make or obtain any applicable
registrations or approvals required by the regulations or other related legislation. The failure or
inability of our PRC resident shareholders to receive any required approvals or make any required
registrations may subject us to fines and legal sanctions, restrict our overseas or cross border
investment activities, limit our PRC subsidiary, Shengqu, to make distributions or pay dividends or
affect our ownership structure, as a result of which our acquisition strategy and business
operations and our ability to distribute dividend to you could be materially and adversely
affected.
The laws and regulations governing the online game industry and related businesses in China are
developing and subject to future changes. If we or any of our PRC operating companies fail to
obtain or maintain all applicable permits and approvals, our business and operations would be
materially and adversely affected.
The Internet industry, including the operation of online games, in China is highly regulated
by the PRC government. Various regulatory authorities of the central PRC government, such as the
State Council, the Ministry of Information Industry, the State Administration of Industry and
Commerce, the Ministry of Culture, the State Press and Publication Administration, the State
Administration of Radio, Film and Television, and the Ministry of Public Security, are empowered to
issue and implement regulations governing various aspects of the Internet and online game
industries.
Our PRC operating companies are required to obtain applicable permits or approvals from
different regulatory authorities in order to provide their services. For example, an Internet
content provider, or ICP, must obtain an ICP license from the Ministry of Information Industry in
order to engage in any commercial ICP operations within China. An online game operator must also
obtain a license from the Ministry of Culture and a license from the State Press and Publication
Administration in order to distribute games through the Internet. In addition, in connection with
our launch of certain EZ series products, which offer video and audio content, such as music and
movies, our PRC operating companies may need to obtain a license from the State Administration of
Radio, Film and Television. We understand, however, that companies that are not state-owned may not
be able to obtain such license. If any of our PRC operating companies fails to obtain or maintain
any of the required permits or approvals, they may be subject to
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various penalties, including fines and the discontinuation or restriction of their operations.
Any such disruption in business operations would materially and adversely affect our financial
condition and results of operations.
We currently operate a large number of websites, the domain names of which are registered
under the names of Shanda Networking and Shengqu. In order to streamline and optimize our Internet
publication businesses, we have started to put all of our Internet publication businesses,
including our editing, content supervision, publication, and other related businesses, under Shanda
Networking. We have reported to the Ministry of Information Industry of the change and Shanda
Networking has applied to the State Press and Publications Administration for expanding its
Internet publication license from the publication of online games to encompass books, newspapers,
periodicals, music and video products, works in the fields of literature, art, natural science,
social science, engineering, and other electronic publications. We believe that Shanda Networking
has satisfied all qualifications required to obtain the permission for license expansion and we do
not believe that, while its application is pending, the regulatory authorities will take any action
against it. However, we cannot assure you that it will obtain this approval or that the regulatory
authority will not take any action against it.
As the online game industry is at an early stage of development in China, new laws and
regulations may be adopted in the future to address new issues that arise from time to time, such
as online advertising. Also, different regulatory authorities may have different opinions with
regard to the licensing requirements imposed on online game operators. As a result, substantial
uncertainties exist regarding the interpretation and implementation of current and any future PRC
laws and regulations applicable to the online game industry and related businesses. While we
believe that we are in compliance in all material respects with all applicable PRC laws and
regulations currently in effect, we cannot assure you that we will not be found in violation of any
current or future PRC laws and regulations.
The PRC government may prevent us from distributing, and we may be subject to liability for,
content that it believes is inappropriate.
China has enacted laws and regulations governing Internet access and the distribution of news,
information or other content, as well as products and services, through the Internet. In the past,
the PRC government has stopped the distribution of information through the Internet that it
believes violates PRC law. The Ministry of Information Industry, the State Press and Publication
Administration and the Ministry of Culture have promulgated regulations that prohibit games from
being distributed through the Internet if the games contain content that is found to, among other
things, propagate obscenity, gambling or violence, instigate crimes, undermine public morality or
the cultural traditions of the PRC, or compromise State security or secrets. In addition, certain
PRC social organizations have recently discussed the possibility of implementing a rating system
for online games. The effect that such a system could have on our business is unclear.
If any games we offer were deemed to violate any such content restrictions, we would not be
able to continue such offerings and could be subject to penalties, including confiscation of
income, fines, suspension of business and revocation of our license for operating online games,
which would materially and adversely affect our business, financial condition and results of
operations.
We may also be subject to potential liability for unlawful actions of our users or for content
we distribute that is deemed inappropriate. Furthermore, we may be required to delete content that
violates the laws of the PRC and report content that we suspect may violate PRC law. It may be
difficult to determine the type of content that may result in liability for us, and if we are
wrong, we may be prevented from operating our games or other services in China.
In February 2007, the Ministry of Public Security, the Ministry of Culture, the Ministry of
Information Industry and the State Administration of Press and Publication jointly issued a
circular regarding online gambling. In an effort to clamp down on online games that involve
gambling and online betting as well as address concerns that “virtual money” might be used for
money laundering or illicit trade, the circular (1) requires that the online game operators shall
not charge commissions that employ “virtual money” or other means in relation to winning or losing
of games; (2) requires online game operators to set up quantity limits in guessing and betting
games by using game points; (3) bans the exchange of “virtual money” into real currencies or
properties; and (4) bans the provision of services for game points transfer among game users. We
believe our online operations are in compliance with the provisions of this circular in all
material aspects. There are, however, substantial uncertainties regarding the interpretation and
application of this circular, and we cannot assure you that the PRC regulatory authorities will not
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ultimately take a view that is contrary to our view. If the PRC regulatory authorities deem
our online operations to be in violation of this circular, our business will be materially and
adversely affected.
The PRC government has announced its intention, and has begun, to intensify its regulation of
Internet cafes, which are currently the primary venue for our users to play online games.
Intensified government regulation of Internet cafes could restrict our ability to maintain or
increase our revenues and expand our customer base.
In April 2001, the PRC government began tightening its regulation and supervision of Internet
cafes. In particular, a large number of unlicensed Internet cafes have been closed. The PRC
government has also imposed higher capital and facility requirements for the establishment of
Internet cafes. Furthermore, the PRC government’s policy, which encourages the development of a
limited number of national and regional Internet cafe chains and discourages the establishment of
independent Internet cafes, may slow down the growth of Internet cafes. Moreover, the State
Administration of Industry and Commerce, one of the government agencies in charge of Internet cafe
licensing, and other government agencies jointly issued a notice in February 2004 suspending the
issuance of new Internet cafe licenses for a period of six months. On February 15, 2007, 14 PRC
government departments jointly issued a circular in connection with the strengthening of Internet
café and online game administration. According to the circular, local authorities are barred from
issuing new Internet café licenses for the remainder of 2007. It is unclear when this suspension
will be lifted, if at all. Since a substantial portion of our users play our games in Internet
cafes, any reduction in the number, or slowdown in the growth, of Internet cafes in China, or any
new regulatory restrictions on their operations, could limit our ability to maintain or increase
our revenues and expand our customer base, thereby reducing our profitability and growth prospects.
Currently there are no laws or regulations in the PRC specifically governing virtual asset property
rights and therefore, it is not clear what liabilities, if any, online game operators may have for
virtual assets.
In the course of playing online games, some virtual assets, such as special equipment, player
experience grades and other features of our users’ game characters, are acquired and accumulated.
Such virtual assets can be important to online game players and in some cases are exchanged between
players for monetary value. In practice, virtual assets can be lost for various reasons, often
through unauthorized use of the game account of one user by other users and occasionally through
data loss caused by a delay of network service or by a network crash. Currently there are no PRC
laws and regulations specifically governing virtual asset property rights. As a result, it is
unclear who is the legal owner of virtual assets and whether and how the ownership of virtual
assets is protected by law. In case of a loss of virtual assets, we may be sued by online game
players and may be held liable for damages, which may negatively affect our business, financial
condition and results of operations.
Risks Relating to the People’s Republic of China
Substantially all of our assets are located in China and substantially all of our revenues are
derived from our operations in China. Accordingly, our business, financial condition, results of
operations and prospects are subject, to a significant extent, to economic, political and legal
developments in China.
The PRC’s economic, political and social conditions, as well as government policies, could affect
our business.
The PRC economy differs from the economies of most developed countries in many respects,
including in the amount of government involvement, level of development, growth rate, control of
foreign exchange and allocation of resources. While the PRC economy has experienced significant
growth since the late 1970’s, growth has been uneven, both geographically and among various sectors
of the economy. The PRC government has implemented numerous measures to encourage economic growth
and to guide the allocation of resources. Some of these measures may benefit the overall PRC
economy, but also have a negative effect on us. For example, our financial condition and results of
operations may be adversely affected by government control over capital investments or changes in
tax regulations that are applicable to us.
The PRC economy has been transitioning from a planned economy to a more market-oriented
economy. Although the PRC government has implemented measures since the late 1970s emphasizing the
utilization of market forces for economic reform, the reduction of state ownership of productive
assets and the establishment of sound
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corporate governance in business enterprises, a substantial portion of productive assets in
China is still owned by the PRC government. In addition, the PRC government continues to play a
significant role in regulating industry development by imposing industrial policies. The PRC
government also exercises significant control over China’s economic growth through the allocation
of resources, controlling payment of foreign currency denominated obligations, setting monetary
policy and providing preferential treatment to particular industries or companies. These actions,
as well as future actions and policies of the PRC government, could materially affect general
economic conditions in China and could have a material adverse effect on our business and results
of operations.
The PRC legal system embodies uncertainties which could limit the legal protections available to
you and us.
The PRC legal system is a civil law system based on written statutes. Unlike common law
systems, it is a system in which decided legal cases have little precedential value. In 1979, the
PRC government began to promulgate a comprehensive system of laws and regulations governing general
economic and business matters. The overall effect of legislation since 1979 has been a significant
enhancement of the protections afforded to various forms of foreign-invested enterprises in
mainland China. Our PRC operating subsidiary, Shengqu, is a wholly foreign owned enterprise, or
WFOE, which is an enterprise incorporated in mainland China and wholly-owned by foreign investors.
Shengqu is subject to laws and regulations applicable to foreign investment in mainland China in
general and laws and regulations applicable to WFOEs in particular. However, these laws,
regulations and legal requirements are constantly changing, and their interpretation and
enforcement involve uncertainties. These uncertainties could limit the legal protections available
to us and other foreign investors, including you. In addition, we cannot predict the effect of
future developments in the PRC legal system, particularly with regard to the Internet, including
the promulgation of new laws, changes to existing laws or the interpretation or enforcement
thereof, or the preemption of local regulations by national laws.
Restrictions on currency exchange may limit our ability to utilize our revenues effectively.
Substantially all of our revenues and operating expenses are denominated in Renminbi. The
Renminbi is currently freely convertible under the “current account”, which includes dividends,
trade and service-related foreign exchange transactions, but not under the “capital account”, which
includes foreign direct investment and loans.
Currently, Shengqu may purchase foreign exchange for settlement of “current account
transactions”, including payment of dividends to us and payment of license fees to foreign game
licensors, and our PRC operating companies may purchase foreign exchange for payment of license
fees to foreign game licensors without the approval of the State Administration for Foreign
Exchange. Shengqu may also retain foreign exchange in its current account, subject to a ceiling
approved by the State Administration for Foreign Exchange, to satisfy foreign exchange liabilities
or to pay dividends. However, we cannot assure you that the relevant PRC governmental authorities
will not limit or eliminate our ability to purchase and retain foreign currencies in the future.
Since a significant amount of our future revenues will be denominated in Renminbi, the
existing and any future restrictions on currency exchange may limit our ability to utilize revenues
generated in Renminbi to fund our business activities outside China, if any, or expenditures
denominated in foreign currencies.
Foreign exchange transactions under the capital account are subject to limitations and require
registration with or approval by the relevant PRC governmental authorities. In particular, if we
finance Shengqu by means of foreign currency loans, those loans cannot exceed certain statutory
limits and must be registered with the State Administration for Foreign Exchange, and if we finance
Shengqu by means of capital contributions, those capital contributions must be approved by the
Ministry of Commerce. Our ability to use the U.S. dollar proceeds of the sale of our equity or debt
to finance our business activities conducted through Shengqu will depend on our ability to obtain
these governmental registrations or approvals. In addition, because of the regulatory issues
related to foreign currency loans to, and foreign investment in, domestic PRC enterprises, we may
not be able to finance Shanda Networking or its subsidiaries’ operations by loans or capital
contributions. We cannot assure you that we can obtain these governmental registrations or
approvals on a timely basis, if at all.
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Fluctuations in exchange rates could result in foreign currency exchange losses.
Substantially all of our revenues are denominated in Renminbi, while a portion of our
expenditures are denominated in foreign currencies, primarily the U.S. dollar. Fluctuations in
exchange rates, particularly those involving the U.S. dollar, may affect our costs and operating
margins. In addition, these fluctuations could result in exchange losses and increased costs in
Renminbi terms. Where our operations conducted in Renminbi are reported in dollars, such
fluctuations could result in changes in reported results which do not reflect changes in the
underlying operations. Since January 1, 1994, the PRC government has used a unitary managed
floating rate system. Under that system, the People’s Bank of China, or PBOC, publishes a daily
base exchange rate with reference primarily to the supply and demand of Renminbi against U.S.
dollar and other foreign currencies in the market during the previous day. Authorized banks and
financial institutions are allowed to quote buy and sell rates for Renminbi within a specified bank
around the central bank’s daily exchange rate. On July 21, 2005, PBOC announced an adjustment of
the exchange rate of the U.S. dollar to Renminbi from 1:8.27 to 1:8.11 and modified the system by
which the exchange rates are determined. As a result of this policy change, the Renminbi has
appreciated approximately 2.5% and 3.4% against the U.S. Dollar in
2005 and 2006, respectively. In May 2007, the PRC government widened
the daily trading band of the Renminbi against a basket of certain
foreign currencies from 0.3% to 0.5%. As a result, the exchange rate
of Renminbi against U.S. dollar appreciated to 1:7.617 as of June 19,
2007. It is possible that the PRC government could adopt a more flexible currency policy,
which could result in further and more significant revaluation of the Renminbi against the U.S.
dollar or any other foreign currency, including possible devaluations. As substantially all of our
revenues are denominated in Renminbi, such a potential future devaluation of Renminbi against the
U.S. dollars could negatively impact our results of operations. Moreover, we have material monetary
assets and liabilities denominated in U.S. dollars, which mainly consists of our bank deposits,
investments in marketable securities and affiliated companies and the convertible notes payable.
The fluctuation of foreign exchange rate affects the value of these monetary assets and liabilities
denominated in U.S. dollars. Generally, appreciation of Renminbi against U.S. dollars results in a
foreign exchange loss for monetary assets denominated in U.S. dollars, and a foreign exchange gain
for monetary liabilities denominated in U.S. dollars. On the contrary, devaluation of Renminbi
against U.S. dollars results in a foreign exchange gain for monetary assets denominated in U.S.
dollars, and a foreign exchange loss for monetary liabilities denominated in U.S. dollars.
Effective from January 1, 2007, Shanda Interactive Entertainment Limited, our listed company
incorporated in Cayman Islands, changed its functional currency from Renminbi to US dollars due to
changes in its economic facts and circumstances, including an active plan to explore overseas
market. Going forward, the exchange gain or losses from revaluation of the monetary assets and
liabilities denominated in US dollars of Shanda Interactive Entertainment Limited will not be
recorded in the statement of operations, but instead will be treated as a cumulative translation
adjustment under shareholders’ equity in the balance sheet.
Very limited hedging transactions are available in China to reduce our exposure to exchange
rate fluctuations. To date, we have not entered into any hedging transactions in an effort to
reduce our exposure to foreign currency exchange risk. While we may decide to enter into hedging
transactions in the future, the availability and effectiveness of these hedges may be limited and
we may not be able to successfully hedge our exposure at all.
In addition, our currency exchange losses may be magnified by PRC exchange control regulations
that restrict our ability to convert Renminbi into U.S. dollars. Conversely, an increase in the
value of the Renminbi could increase our reported earnings in U.S. dollar terms without a
fundamental change in our business or operating performance.
Since our revenues are primarily denominated in Renminbi, our valuation could be materially
and adversely affected by the devaluation of the Renminbi if U.S. investors analyze our value based
on the U.S. dollar equivalent of our financial condition and results of operations. In addition,
certain of our acquisitions may expose us to additional currency fluctuations that would affect our
reported valuation of those holdings. Actoz, which we account for under the equity method, is a
South Korean company; changes in its valuation as a consequence of fluctuations in the Korean Won
would be reflected in our valuation.
Inflation in China could negatively affect our profitability and growth.
While the PRC economy has experienced rapid growth, such growth has been uneven among various
sectors of the economy and in different geographical areas of the country. Rapid economic growth
can lead to growth in the
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money supply and rising inflation. If prices for our products and services rise at a rate that
is insufficient to compensate for the rise in our costs, our business may be materially and
adversely affected. In order to control inflation in the past, the PRC government has imposed
controls on bank credits, limits on loans for fixed assets, and restrictions on state bank lending.
Such austerity measures can lead to a slowing of economic growth. A slow down in the PRC economy
could also materially and adversely affect our business and prospects.
You may experience difficulties in effecting service of process, enforcing foreign judgments or
bringing original actions in China based on United States or other foreign laws against us, our
management or the experts named in the prospectus.
We conduct substantially all of our operations in China and substantially all of our assets
are located in China. In addition, most of our directors and executive officers reside within
China. As a result, it may not be possible to effect service of process within the United States or
elsewhere outside China upon some of our directors and senior executive officers, including with
respect to matters arising under U.S. federal securities laws or applicable state securities laws.
Moreover, the PRC does not have treaties with the United States or many other countries providing
for the reciprocal recognition and enforcement of judgment of courts.
We face risks related to health epidemics and other outbreaks of contagious diseases, including
avian influenza, or avian flu, and SARS.
Our business could be adversely affected by the effects of avian flu, SARS or another epidemic
or outbreak. There have been recent reports of outbreaks of a highly pathogenic avian flu, caused
by the H5N1 virus, in certain regions of Asia and Europe. In 2005 and 2006, there have been reports
on the occurrences of avian flu in various parts of China, including a few confirmed human cases.
An outbreak of avian flu in the human population could result in a widespread health crisis that
could adversely affect the economies and financial markets of many countries, particularly in Asia.
Additionally, any recurrence of SARS, a highly contagious form of atypical pneumonia, similar to
the occurrence in 2003 which affected China, Hong Kong, Taiwan, Singapore, Vietnam and certain
other countries, would also have similar adverse effects. These outbreaks of contagious diseases,
and other adverse public health developments in China, would have a material adverse effect on our
business operations. These could include our ability to travel or ship our products outside of
China, as well as temporary closure of our manufacturing facilities. Such closures or travel or
shipment restrictions would severely disrupt our business operations and adversely affect our
financial condition and results of operations. We have not adopted any written preventive measures
or contingency plans to combat any future outbreak of avian flu, SARS or any other epidemic.
Risks Relating to our ADSs
One shareholder has significant control over the outcome of our shareholder votes.
As of March 31, 2007, Skyline Media beneficially owned approximately 56.4% of our outstanding
equity interests. Accordingly, Skyline Media has and is expected to maintain significant control
over the outcome of any corporate transaction or other matter submitted to our shareholders for
approval, including mergers, consolidations and the sale of all or substantially all of our assets.
If our controlling shareholder, Skyline Media, which holds approximately 56.4% of our ordinary
shares, chose to dispose of a material portion of the ordinary shares that it holds, the prevailing
market price for our securities may decline.
As of March 31, 2007, Skyline Media beneficially owned 81,070,090 of our ordinary shares,
representing approximately 56.4% of our outstanding ordinary shares. The beneficial owners of
Skyline Media are Tianqiao Chen, our chairman and chief executive officer, Danian Chen, our
executive senior vice president and the brother of Tianqiao Chen, and Qianqian Luo, our director
and the wife of Tianqiao Chen. Tianqiao Chen and Qianqian Luo beneficially own an additional
2,188,388 of our ordinary shares through DBS Trustees Ltd as trustee for the Jade Trust and 266,200
ordinary shares that maybe issued upon exercise of stock options that are held by DBS Trustees
Limited acting as trustees of the Jade Trust and Danian Chen beneficially owns an additional ,1,023,170 of our ordinary shares
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through DBS Trustees Ltd as trustee for the Chi Feng Trust and 133,100 ordinary shares that
may be issued upon exercise of stock options that are held by DBS Trustees Limited acting as
trustees of the Chi Feng Trust.
In June 2005, Jade Trust adopted pre-arranged stock trading plans in accordance with
Rule10b5-1 under the U.S. Securities Exchange Act of 1934, as amended, and the Company’s trading
policy with respect to sales of the Company’s securities by insiders. As of the 10b5-1 plan’s
expiration on August 15, 2006, 322,000 ordinary shares had been sold pursuant to the plan. If
Skyline Media chooses to sell a material portion of the ordinary shares that it holds, or indicate
its intention to do so, the prevailing market price for our securities may decline.
The price of our ADSs has been volatile historically and may continue to be volatile, which may
make it difficult for holders to resell the ADSs when desired or at attractive prices.
The trading price of our ADSs has been and may continue to be subject to wide fluctuations.
Since we completed our initial public offering in May 2004, the sale prices of our ADSs on the
Nasdaq National Market ranged from US$10.58 to US$45.40 per ADS and the last reported sale price on
June 22, 2007 was US$28.58. Our ADS price may fluctuate in response to a number of events and
factors. In addition, the financial markets in general, and the market prices for Internet-related
companies in particular, have experienced extreme volatility that often has been unrelated to the
operating performance of such companies. These broad market and industry fluctuations may adversely
affect the price of our ADSs, regardless of our operating performance. In addition, the existence
of our Zero Coupon Senior Convertible Notes due 2014 that we issued in October 2004, or the
convertible notes, may encourage short selling in our ADSs by market participants because the
conversion of the convertible notes could depress the price of our ADSs.
You may face difficulties in protecting your interests, and our ability to protect our rights
through the U.S. federal courts may be limited, because we are incorporated under Cayman Islands
law.
Our corporate affairs are governed by our memorandum and articles of association and by the
Companies Law (2004 Revision) and common law of the Cayman Islands. The rights of our shareholders
and the fiduciary responsibilities of our directors under Cayman Islands law are not as clearly
established as they would be under statutes or judicial precedents in the United States. In
particular, the Cayman Islands has a less developed body of company law as compared to the U.S.,
and provides significantly less protection to investors. Therefore, our shareholders may have more
difficulties in protecting their interests in the face of actions by our management, directors or
controlling shareholders than would shareholders of a corporation incorporated in a jurisdiction in
the United States. In addition, Cayman Islands companies may not have standing to sue before the
federal courts of the United States. As a result, our ability to protect our interests if we are
harmed in a manner that would otherwise enable us to sue in a United States federal court may be
limited.
Anti-takeover provisions in our organizational documents may discourage our acquisition by a third
party, which could limit your opportunity to sell your shares at a premium.
Our amended and restated memorandum and articles of association include provisions that could
limit the ability of others to acquire control of us, modify our structure or cause us to engage in
change of control transactions, including, among other things, the following:
| • | provisions that restrict the ability of our shareholders to call meetings and to propose special matters for consideration at shareholder meetings; and | ||
| • | provisions that authorize our board of directors, without action by our shareholders, to issue preferred shares and to issue additional ordinary shares, including ordinary shares represented by ADSs. |
These provisions could have the effect of depriving you of an opportunity to sell your ADSs at
a premium over prevailing market prices by discouraging third parties from seeking to acquire
control of us in a tender offer or similar transactions.
The voting rights of holders of ADSs are limited by the terms of the deposit agreement.
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A holder of our ADSs may only exercise the voting rights with respect to the underlying
ordinary shares in accordance with the provisions of the deposit agreement. Upon receipt of voting
instructions of a holder of ADSs in the manner set forth in the deposit agreement, the depositary
will endeavor to vote the underlying ordinary shares in accordance with these instructions. Under
our amended and restated memorandum and articles of association and Cayman Islands law, the minimum
notice period required for convening a general meeting is ten days. When a general meeting is
convened, you may not receive sufficient notice of a shareholders’ meeting to permit you to
withdraw your ordinary shares to allow you to cast your vote with respect to any specific matter.
In addition, the depositary and its agents may not be able to send voting instructions to you or
carry out your voting instructions in a timely manner. We will make all reasonable efforts to cause
the depositary to extend voting rights to you in a timely manner, but we cannot assure you that you
will receive the voting materials in time to ensure that you can instruct the depositary to vote
your shares. Furthermore, the depositary and its agents will not be responsible for any failure to
carry out any instructions to vote, for the manner in which any vote is cast, or for the effect of
any such vote. As a result, you may not be able to exercise your right to vote and you may lack
recourse if your ordinary shares are not voted as you requested.
You may be subject to limitations on transfer of your ADSs
Your ADSs represented by American Depositary Receipts are transferable on the books of the
depositary. However, the depositary may close its books at any time or from time to time when it
deems expedient in connection with the performance of its duties. The depositary may close its
books for a number of reasons, including in connection with corporate events such as a rights
offering, during which time the depositary needs to maintain an exact number of ADS holders on its
books for a specified period. The depositary may also close its books in emergencies, and on
weekends and public holidays. The depositary may refuse to deliver, transfer, or register transfers
of our ADSs generally when our books or the books of the depositary are closed, or at any time if
we or the depositary thinks it is advisable to do so because of any requirement of law or any
government or governmental body, or under any provision of the deposit agreement, or for any other
reason.
Your right as a holder of ADSs to participate in any future rights offerings may be limited, which
may cause dilution to your holdings.
We may from time to time distribute rights to our shareholders, including rights to acquire
our securities. However, we cannot make rights available to our ADS holders in the United States
unless we register the rights and the securities to which the rights relate under the Securities
Act or an exemption from the registration requirements is available. In addition, the deposit
agreement provides that the depositary bank will not make rights available to you unless the
distribution to ADS holders of both the rights and any related securities are either registered
under the Securities Act or exempted from registration under the Securities Act. We are under no
obligation to file a registration statement with respect to any such rights or securities or to
endeavor to cause such a registration statement to be declared effective. Moreover, we may not be
able to establish an exemption from registration under the Securities Act. Accordingly, ADS holders
may be unable to participate in our rights offerings and may experience dilution in their holdings.
In addition, if the depositary is unable to sell rights that are not exercised or not distributed
or if the sale is not lawful or reasonably practicable, it will allow the rights to lapse, in which
case you will receive no value for these rights.
Item 4. INFORMATION ON THE COMPANY
A. HISTORY AND DEVELOPMENT OF THE COMPANY
Our business was founded in December 1999 when Tianqiao Chen and Danian Chen established
Shanda Networking, initially focusing on investments relating to the development and operation of a
Chinese language online virtual community. In November 2004, we incorporated Shanda Interactive
Entertainment Limited in the Cayman Islands.
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Our principal executive offices are located at No. 1 Office Building, No. 690 Bibo Road,
Pudong New Area, Shanghai 201203, China. Our telephone number is (86-21) 5050 4740. Our agent for
service of process in the United States is CT Corporation System, located at 111 Eighth Avenue, New
York, New York 10011.
In November 2001, we commercially launched Mir II, our first massively multiplayer online
role-playing game, or MMORPG. In March 2003, we commercially launched Fortress II, our first casual
game, and in October 2003, we launched Woool, our first in-house developed online game. As of
December 31, 2006, Shanda commercially operates fourteen online games, including eight MMORPGs, six
casual games, one network PC game platform and two online chess and board game platforms. In 2006,
total peak concurrent users for all Shanda games in commercial service reached 2.45 million.
In addition to our comprehensive online game portfolio, in 2005 Shanda introduced the EZ
Center platform, a unified software solution on top of our service platform that integrates
entertainment and informational content from the Internet and provides users with access to such
content through a user-friendly interface. For more information on the EZ initiative, see also
“Business Overview” in Item 4 “Information on the Company, Item 5 “Operating and Financial Review
and Prospects,” and Item 3 “Risk Factors”.
In the fourth quarter of 2005, we adopted a “Come-Stay-Pay”, or CSP, revenue model for three
of our MMORPGs: Mir II, Magical Land and Woool. In 2006, we began operating several other games
under this revenue model, including ArchLord, and plan to adopt this new revenue model for our
other existing or new MMORPGs going forward, depending on the game type and lifecycle. For more
information on the new revenue model, see also “Business Overview” in Item 4 “Information on the
Company”, Item 5 “Operating and Financial Review and Prospects,” and Item 3 “Risk Factors”.
As part of our efforts to further broaden our content offerings and expedite our growth, we
have developed our business through a number of strategic acquisitions and investments, including
the following:
| • | In July 2004, we acquired Hangzhou Bianfeng Software Co. Ltd., or Bianfeng, a developer and operator of online chess and board games in China; | ||
| • | In October 2004, we completed the second step of a two-step acquisition of Beijing Digital Red Software Application Technology Co., Ltd., or Digital Red, a developer of mobile phone games; | ||
| • | In September 2004, we acquired Shanghai Xuanting Entertainment Information Technology Co., Ltd., which operates Qidian, an online literature forum; | ||
| • | In February 2005, we also completed the purchase of a 29% stake in Actoz, the co-owner of MIR II, increasing our total stake to approximately 38.1%. Actoz is a Korean developer, operator and publisher of online games. During the period from January 2007 to June 22, 2007, we purchased an additional 802,364 ordinary shares of Actoz through the open market and increased our stake in Actoz to 49.48% as of June 22, 2007; | ||
| • | In February 2005, we also completed our purchase of an approximately 19.5% stake in SINA Corporation, or SINA, an online media company and value-added service provider in China. Subsequently, we decided to sell our entire stake in SINA through the following open-market transactions: 3,703,487 shares of SINA for US$99.1 million (RMB779.9 million) on November 6, 2006; 4,000,000 shares of SINA for US$129.6 million (RMB1.0 billion) on February 8, 2007; 1,066,344 shares of SINA for US$38.1 million (RMB297.5 million) on May 11, 2007; and 1,051,934 shares of SINA for US$38.4 million (RMB299.9 million) on May 15, 2007. | ||
| • | In May 2005, we completed the second step of a two-step acquisition of Shanghai Haofang Online Information Technology Co. Ltd., or Haofang, the operator of the largest network PC game platform in China; and |
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| • | In November 2005, we acquired Wenzhou Chuangjia Technology Co., Ltd., or Gametea, which develops chess and board games and operates Gametea, a casual game platform in China. |
We have also made the following issuances of securities:
| • | In October 2004, we placed US$200 million in aggregate principal amount of zero coupon senior convertible notes in a private placement transaction pursuant to Rule 144A under the Securities Act of 1933, as amended. On October 26, 2004, the underwriters of this zero coupon senior convertible notes offering exercised their option to purchase an additional US$75 million in aggregate principal amount of notes. | ||
| • | In May 2004, we and certain of our shareholders completed an initial public offering and sale of 13.8 million ADSs, priced at US$11 per ADS. |
B. BUSINESS OVERVIEW
Shanda Interactive Entertainment Limited is a leading interactive entertainment media company
and the largest operator of online games in China. Shanda offers a portfolio of diversified
entertainment content including some of the most popular massively multi-player online role playing
games, or MMORPGs, and casual online games in China, along with online chess and board games, a
network PC game platform and a variety of cartoons, literary works and music.
Our core online game business includes the operation of online games that are either licensed
from third-parties or developed in-house. In 2006, our commercially launched games had
approximately 2.45 million peak concurrent users. In 2006, we commercially launched a MMORPG
Archlord and a casual game Crazy Kart, and began open-beta testing for a 3D MMORPG titled Dungeons
& Dragons Online. We also started to test several in-house developed online video games for our EZ
Platform in late 2006.
In late November 2005, we introduced a “Come-Stay-Pay”, or CSP, revenue model for three of our
leading MMORPGs, Mir II, Woool, and Magical Land. Under the new revenue model, users are able to
play the basic functions of an MMORPG for free and may choose to purchase in-game value-added
services, including certain in-game items and premium features, which enhance the game experience.
In 2006, our CSP revenue model was expanded to most of our MMORPGs, which we believe has helped us
to reverse declining revenue trends and achieve consecutive revenue growth over the last three
quarters of 2006. The CSP model allows us to make frequent adjustments to meet the changing demands
of users in order to enhance game interaction and create a better game community. In addition, the
CSP model offers flexible ways to generate revenues, including attracting more users, increasing
the number of active paying accounts and growing average monthly revenue per active paying account,
or ARPU.
In 2005, we introduced our EZ Center platform as a unified software solution on top of our
service platform, designed to integrate entertainment and informational content from the Internet
and provide users with access to such content through a user-friendly interface. The EZ Pod, which
is the first product launched off our EZ Center platform, enables PC users to navigate and access
the aggregated Internet content over our EZ Center platform using a remote control. In 2006, we
modified our EZ Center platform strategy to focus on providing PC users with console-like game
experiences.
Our operating platform includes our technology infrastructure, distribution and payment
system, customer service center, game content management and
marketing platform. As of December 31, 2006, our technology
infrastructure consists of a nation-wide server network with the capacity to accommodate
approximately 8.8 million concurrent online users. Our nation-wide distribution and payment network
includes approximately 316,000 distribution points for our pre-paid cards. Our customer service
system includes a 24-hour call center and a walk-in customer service center. In addition, for each
of our online games we have a separate game content management team which manages the operation of
the game and the online community for the game.
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Our Content
Our content offerings primarily consist of online games, including MMORPGs and casual games,
as well as online chess and board games, a network PC game platform and wireless games. In
addition, through our EZ Center platform we plan to provide PC users with console-like game
experiences. As of December 31, 2006, we have started open beta testing of this new online video
game platform.
MMORPGs
Our MMORPGs are action-adventure based, and draw upon martial arts and combat themes. Each
MMORPG creates a virtual world within which players interact with one another inside the game.
Typical features of our MMORPGs include the following:
| • | players may assume the ongoing role, or alter-ego, of a particular game character, each with different strengths and weaknesses; | ||
| • | each game character may gain experience and collect certain game features and items, such as weapons and points, which increases the status and power of the game character and, in the process, builds a strong game identity; the variety of features that are available means that a player is unlikely to “meet” anyone in the virtual world exactly like his or her game character; | ||
| • | although each game character may be unique, groups of players may, and often must, form teams or alliances to fulfill certain game objectives, such as quests and missions; | ||
| • | game features and items may be “traded” or “sold” within the game, and game characters may take on life-like social experiences such as getting married and forming master/disciple relationships with other players. In addition, players may communicate with each other through our instant messaging service or our chat room during the game on our operation platform which supports all of our online games; | ||
| • | special events are held from time to time to stimulate group interest, such as “fortress raids” where players are encouraged to form groups and attack a particular fortress at a specified time; and | ||
| • | the game is ultimately never won or lost, but instead continues through a game story that is interactively written by the game developer and players and does not have a natural ending. |
Most of our MMORPGs are now operated under our CSP revenue model, which by the end of 2006 has
largely replaced our traditional subscription-based pay-to-play revenue model, where users purchase
pre-paid cards to play for a fixed number of hours or for an unlimited amount of time within a
specified number of days. Under the CSP model, users are able to play the basic functions of a
MMORPG for free and may choose to purchase in-game value-added services, as well as certain in-game
items and premium features, which enhance the game experience. Same as our traditional
subscription-based pay-to-play revenue model, payment is collected upon the sale of our pre-paid
cards under the CSP model. However, game points are consumed as users purchase value-added services
and in-game items, instead of as users play the games, which allows us to create additional sources
of revenue by offering increased in-game items and premium features through new expansion packs.
In preparation for the commercial launch of a new game, we conduct closed beta testing of the
game in an effort to eliminate technical problems. This closed beta testing is followed by open
beta testing in which we allow our registered users to play without charge in open market
conditions to ensure performance consistency and stability of operation systems.
As of December 31, 2006, the following table summarizes the MMORPGs or other massively
multiplayer online games that we offer.
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| Game | Description | Game Source | Date of Commercial Launch | |||
Mir II
|
Martial arts adventure | Licensed | November 2001 | |||
Woool
|
Martial arts adventure | In-house developed | October 2003 | |||
The Sign
|
3D martial arts adventure | In-house developed | May 2004 | |||
The Age
|
Society simulation | In-house developed | June 2004 | |||
Magical Land
|
Fantasy role-playing | In-house developed | July 2005 | |||
D.O.
|
3D martial arts adventure | Licensed | August 2005 | |||
R.O.
|
Fantasy role-playing | Licensed | September 2005 | |||
Archlord
|
3D martial arts adventure | Licensed | July 2006 |
In 2006, total peak concurrent users for all Shanda MMORPGs in commercial service reached
947,000. Shanda launched Archlord in July and began open beta testing of Dungeons & Dragons Online
in August, which is a 3D fantasy role playing game. In the fourth quarter of 2006, we also
released expansion packs for Mir II and Woool titled Treasury Box and Evil Inside I.
In February 2007, we entered into a license agreement with our affiliate, Actoz, a Korean
online game developer, for the operation of Latale, a side-scrolling role playing game, in China.
Latale was commercialized in April 2007.
In February 2007, Shanda also entered into a license agreement with a leading Korean online
game developer to operate Changchun Online, a highly anticipated 3D MMORPG, in China. Changchun
Online is based on the popular Chinese novel “The Romance of Three Kingdoms”.
Our Casual Games
Casual games are easier to play than MMORPGs. Casual games are typically session based,
meaning that a game can be played to a conclusion within a short period of time. Generally, fewer
than ten players may interact with each other in an online casual game. Casual games are an
important component of our overall home strategy because casual games attract a broader range of
users than MMORPGs, as well as more home users. We believe that casual games provide us with
certain benefits and opportunities not typically available through MMORPGs, including:
| • | casual games, due to their lower level of complexity and typically shorter duration, provide less-experienced online game players with a means to become familiar with both online game playing and the online game culture without making substantial commitments of time and resources; and | ||
| • | casual games are well-suited to use at home, due to their shorter duration and reduced demand for a player’s full attention for prolonged periods, as compared to MMORPGs; as a result, we believe that casual games may contribute to the expansion of the online game culture beyond the Internet cafes and into the homes of users. |
We generally use the CSP revenue model to charge users of our casual games. As a result, users
are able to play the basic functions of our casual games for free and may choose to purchase
in-game items and premium features, which enhance the game experience.
As of December 31, 2006, the following table summarizes the casual games that we offer.
| Game | Description | Game Source | Launch | |||
BNB
|
Battle | Licensed | August 2003 | |||
GetAmped
|
3D fighting game | Licensed | May 2004 | |||
Maple Story
|
Side-scrolling combat game | Licensed | August 2004 | |||
Three Kingdoms
|
Strategy combat | In-house developed | September 2005 | |||
Shanda Richman
|
3D Strategy Operation | In-house developed | December 2005 | |||
Crazy Kart
|
3D racing game | In-house developed | March 2006 |
In addition to the casual games listed above, we have entered into a license agreement to
operate Kong-Fu Masters, a domestic 3D martial arts fighting game in September 2006. The game
features a cast of well-known
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characters from Chinese folklore and history including the Monkey King and Mulan. In March
2007, we entered into a license agreement with Korean online game company Nowcom to operate
TalesRunner, a 3D online sports-themed running game, in mainland China. The game is expected to
enter commercialization in China during the third quarter of 2007. In
June 2007, we entered into a license agreement with Korean online
game developer Actoz for the exclusive license to operate X-Up,
a 3D online table tennis game, in mainland China.
In 2006, our commercially launched casual games, including the casual games operated by or
played on the platforms provided by Bianfeng, Haofang and Gametea, had approximately 1,558,000 peak
concurrent users.
Our Online Chess and Board Games
Our casual games also include online chess and board games offered through Bianfeng, which we
acquired in 2004, and Gametea, which we acquired in 2005. Through Bianfeng and Gametea, we offer a
variety of casual games, including card games, board games, mahjong and simple arcade games.
Network PC Games Platform
Through Haofang, which we completed the two-step acquisition of in May 2005, we provide a
personal computer game network to our end users. Through this platform, users of PC games are able
to find and connect through the Internet with other players of the same PC games. This enables
users to form a large network through which to interact with others virtually, using software that
has network capability. Without such an Internet based network, users of PC games would generally
be limited to playing with other users that are either at the same PC or connected through a local
area network. Unlike with our MMORPGs and casual games, we do not own or license the content that
PC game players use over the Haofang network. Nonetheless, we believe that the Haofang PC game
network enhances our overall online game platform.
Wireless Games
Through Digital Red, which we completed the two-step acquisition of in October 2004, we
develop and offer wireless games to end users of mobile phones. Digital Red offers nearly 500
individual mobile games and several online mobile games, for example, the mobile versions of Woool
and Magical Land, to end users through arrangements with various mobile phone manufacturers. Going
forward, Digital Red plans to focus on developing and distributing online mobile games.
Content on EZ Platform
We provided online video games, music, movie and other entertainment content through our EZ
Platform which we introduced in 2005. Based on the feedback from our end users, we found the most
popular application to be our console-like online video games played on the EZ Platform system.
Consequently, we will mainly focus on developing console-like online video games for our EZ
Platform in the future. We already have Crazy Kart and other various chess and
board games available on the EZ Platform. Going forward, we will continue to provide more
console-like video games on the EZ Platform.
Sources of Content
Game Licensing
We license games from developers in various countries where online game use is relatively
established. We monitor each of the South Korean, Japanese, United States and European markets to
identify and source new online games. Prior to negotiating a license agreement with an overseas
game developer, we evaluate games in our game testing center.
The cost of licensing games from developers generally consists of an upfront licensing fee,
which we normally pay in several installments, and ongoing licensing fees, which are equal to a
percentage of revenues generated from operation of the game. The ongoing licensing fee payments for
games which have been commercially launched range from 20% to 30% of revenues for MMORPGs, and 20%
to 40% of revenues for casual games. Each of
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our licenses provides us with the exclusive right to operate the game in China. Most
developers agree to timely provide us, without any additional charge, with updates, enhancements
and improvements developed for the games licensed to us. The majority of our game licenses require
the licensors to provide us with technical support. As of December 31, 2006, seven of the fourteen
online games that we commercially operate are licensed from overseas developers.
We have also obtained rights or control to certain licenses through the acquisition of, or
investment in, other businesses. Please see the section “Recent Acquisitions” in Item 5 “Operating
and Financial Review and Prospects”.
Game Development
We both develop online games at our in-house game development studios and fund the development
of games at independent game development studios. Our initial in-house game development efforts
focused upon MMORPGs. Currently, besides the development of new MMORPGs and casual games, we are
also developing expansion packs for our existing MMORPG games. We will also continue to develop
console-like games for our EZ Platform. In addition to the development of traditional online games,
through Bianfeng and Gametea we develop online chess and board games, and through Digital Red we
develop wireless games for mobile phone users. As of December 31, 2006, approximately 500 employees
were engaged in our in-house game development efforts. In addition, as of December 31, 2006, seven
of the fourteen online games that we commercially operate were in-house developed, including three
casual games.
Other Content
We also provide additional other content on EZ Platform and Qidian, a Chinese language
original literature portal we acquired in 2004. The additional content on EZ Platform is generally
provided in partnership with third party service and content providers. Through Qidian, we
published works of independent writers, including magic fantasy works, science fiction works and
other works.
Our Operating Platform
We believe that our operating platform contributes to the experience of our users and enhances
user loyalty. Our operating platform encompasses a variety of elements, including our product
management system, distribution and payment network, unified billing platform, marketing, customer
service and technological infrastructure.
Game Product Management
We have a separate product management team for each of our MMORPGs and casual games. Each
product team acts as a product specialist in interaction with our functional departments, such as
research and development, marketing, sales and distribution, technology support and customer
services. Our product teams:
| • | conduct the cost/return analysis and form operational plans before the launch of each game; | ||
| • | coordinate internal resources and interact with the other departments to secure the smooth operation of the game on a day-to-day basis; | ||
| • | control the timing of the release of new game versions and enhancements; and | ||
| • | manage the online game’s virtual community on an hour-by-hour basis including, for example, by organizing in-game events. |
Pricing, Distribution and Payment
In order to play our games or in order to purchase in-game value-added services, users must
purchase pre-paid cards, which are sold in both virtual and physical form. Each pre-paid card
contains a unique access code and password that enables users to add value to their account for one
of our online games. Currently, each pre-paid card may only be used to play one of our online
games, although a user may choose which game account, among all
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accounts held by the user, to apply the pre-paid card’s value to. Charges based on the number
of hours of playtime, unlimited playtime for a specified number of days or the value and amount of
in-game value-added services purchased are deducted against the value provided in the pre-paid
cards.
We generally develop a pricing curve to set the retail prices for the games we offer. Pricing
curves are developed primarily based on the game cost, user game playing and payment patterns and
the pricing of competing games in the market. Since the launch of our first online game in 2001, we
have tracked and accumulated user data generated from our user base, which provides us with an
extensive database to analyze user patterns and establish pricing curves for particular types of
games. Once a game’s pricing is set, it is difficult to increase prices during the game’s
commercial lifecycle. We have generally maintained stable pricing curves for our games.
We distribute our pre-paid cards through three principal channels:
| • | our e-sales system for virtual pre-paid cards; | ||
| • | our offline distribution system for physical pre-paid cards; and | ||
| • | direct online sales. |
Other than direct online sales, we generally operate by selling pre-paid cards to a group of
regional distributors from whom we generally collect payment on a prepaid basis. These distributors
resell the cards to sub-distributors who, in turn, distribute the cards directly to Internet cafes
and other retail points of sale. We estimate, based on a survey we conducted among our regional
distributors in December 2006 and sales records in our e-sales system, that our e-sales and offline
distribution networks include approximately 145,000 and 171,000 points of sale in China,
respectively. Our data center and servers maintain user information, including user registration
information and data relating to usage patterns, and we do not rely on distributors for such
information.
The following table sets forth the percentage of pre-paid card sales from each of these
distribution channels in 2005 and 2006:
| Distribution Channel | Prepaid Card Sales in | |||||||
| 2005 | 2006 | |||||||
E-sales |
48.6 | % | 56.5 | % | ||||
Offline Distribution |
36.9 | % | 22.4 | % | ||||
Direct Online Sales |
13.8 | % | 20.5 | % | ||||
Other |
0.7 | % | 0.6 | % | ||||
Total |
100 | % | 100 | % | ||||
In
2006, we offered average sales discounts of approximately 19.3% and
16.6%, compared to
23.8% and 16.7% in 2005 to our e-sales distributors and offline distributors, respectively. The
decrease of the discount rate for e-sales distributors is mainly attributable to our new discount
policy that we adopted in April 2006. The sales discount represents the difference between the
price at which we sell pre-paid cards to distributors and the face value of the pre-paid cards. We
generally offer a larger discount to our e-sales distributors than our offline physical card
distributors because we intend to facilitate the expansion of our e-sales system, which provides us
with control over the distribution process. In addition, the cost of distributing virtual pre-paid
cards through our e-sales system is lower than the costs involved in offline distribution of
physical pre-paid cards. In addition, we are actively promoting direct online sales of our pre-paid
cards through debit card payments. In 2006, we offered an average sales discount of approximately
8.6% for our prepaid cards sold directly to users via the direct online sales system. For more
information on our sales discount policy, please also see subsection “A. Operating Results—Net
Revenue” in Item 5 “Operating and Financial Review and Prospects.”
Our Unified User Platform
Through our unified user and billing verification system, users can access our various online
games and other interactive entertainment content through a single Shanda account. We believe that
our unified user platform helps us
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to leverage the value of our user base within any given application, to build user loyalty and
to have an efficient means to manage our billing and user data as well as to organize promotional
events for new products and services.
Marketing
Due to the group interaction appeal of online games, word-of-mouth is a major medium for
promoting our games. Our marketing strategy includes utilizing our large user base and nationwide
distribution network to retain our existing users and attract new users. We employ a variety of
traditional and online marketing programs and promotional activities, including in-game events,
in-game marketing, open beta testing and offline efforts.
We frequently organize in-game events for our users, which we believe encourages the
development of virtual communities among our users and increases user interest in our games.
Examples of in-game events include special challenges or features, such as fortress raids,
introduced to the game environments for a scheduled period. In addition, we use in-game events to
introduce users to new features of our games. Moreover, we frequently post announcements in the
game environment of our MMORPGs to promote new features, other improvements to the games, and
in-game events. We generally use these announcements to promote the game in which they are
displayed.
After our transition to the CSP model, we worked on more in-game events to promote our new
games and existing games during holidays, which have been proven very effective and cost-efficient.
Examples of these in-game events include giving Lucky Money to users during Chinese New Year and
organizing in-game parties during special holidays such as Christmas and Valentine’s Day.
Our open beta testing system both tests the operation of new games under open market
conditions and introduces new games to users. During open beta testing, we do not charge users to
play the new game. Open beta testing provides an initial user base and creates initial excitement
and word-of-mouth publicity to support the commercial launch of the game.
We also market new games through offline efforts. We promote new games by placing game posters
in Internet cafes. In addition, we place advertisements in traditional print media as well as on
billboards and city buses. We also cooperated with other businesses in co-marketing projects. In
addition, we organize promotional events at Internet cafes, distribution points, school campuses
and other locations frequented by game players. We also sponsor select media events to promote our
brand name and our games.
Customer Service
We regard customer service as one of our key marketing tools and we are committed to providing
superior customer service to our users. We provide service to our customers through three principal
channels:
| • | our call center, which serves our customers 24 hours per day, seven days per week; | ||
| • | our walk-in customer service center, located in Shanghai, Chengdu and Nanjing; and | ||
| • | e-mail and facsimile letters. |
In addition, we offer bulletin board services that allow users to post questions to, and
receive responses from, other users.
Technology Infrastructure
We have developed an extensive technology infrastructure to support the operation of our
games, including a nation-wide server network. Due to the real-time interaction among thousands of
users, the stable operation of our MMORPGs requires a large number of servers and a significant
amount of connectivity bandwidth. Due to China’s large geographical area and limitations on
bandwidth, we have located game servers for our MMORPGs in a number of regions throughout China. As
a result, our MMORPG users can play our games using servers located in their region
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and without exchanging data across the national network, thereby increasing the speed at which
our games operate and enhancing the user experience.
As of December 31, 2006, our server network for our game operations consisted of approximately
15,000 servers and 1,800 server annex equipment units with the capacity to accommodate up to 8.8
million concurrent online users. As of December 31, 2006, we owned approximately 63% of the servers
in our network, and we leased the remainder from telecommunications operators. All of the servers
in our server network are located on the premises of our hosting telecommunications operators.
Our EZ Initiative
In 2005, we introduced our EZ Center interactive entertainment platform and our hardware
product EZ Pod, as the first step of our home strategy initiatives. In 2006 we made considerable
progress in building business partnerships and developing the distribution models for our EZ Pod
product. We formed strategic partnerships with leading PC manufacturers in China, including China
HP, Changhong Zarva, Hedy Computer, Hisense Digital Products, TCL Computer Technology and Tsinghua
Tongfang, to bundle our EZ Pod with their PC products and digital home products for sale. We also
signed partnerships with China Netcom and one China Telecom’s subsidiary. By the end of 2006, we
have sold a total of approximately 230,000 sets of EZ Pod and registered users of our EZ Center
platform have surpassed 100,000. Going forward, we will continue to work with PC manufacturers to
increase EZ Pod shipments through bundling with sales of new PCs.
Based on the initial feedback we collected from early adopters of our EZ Pod, the most popular
application appears to be our console-like online video games offered through our EZ Platform.
Going forward, console-like online video games will be a key application on our EZ Platform and
will be the primary focus of the current stage of our home strategy. In addition to our current
console-like online games offered on the EZ Platform such as Crazy Kart and various
chess and board games, we will continue to provide a wide variety of video games which are more
open and interactive compared to traditional video games.
Competition
We compete primarily with other online game operators based in China. We believe that domestic
operators, including us, are likely to have a competitive advantage over international service
providers who enter the China market, as these international service providers are likely to lack
operational infrastructure in China and content localization experience for the China market. We
cannot assure you, however, that this competitive advantage will continue to exist, particularly if
international operators establish joint ventures or form alliances with, or acquire, domestic
operators. In addition, we compete for users against various offline games, such as console games,
arcade games and handheld games, as well as various other forms of traditional or other online
entertainment.
Intellectual Property and Proprietary Rights
We rely on copyright, trademark, patent, trade secret and other intellectual property law, as
well as non-competition, confidentiality and license agreements with our employees, suppliers,
business partners and others to protect our intellectual property rights. Our employees are
generally required to sign agreements acknowledging that all inventions, trade secrets, works of
authorship, developments and other processes generated by them on our behalf are our property, and
assigning to us any ownership rights that they may claim in those works. Despite our precautions,
it may be possible for third parties to obtain and use intellectual property that we own or license
without our consent. Unauthorized use of our intellectual property by third parties, and the
expenses incurred in protecting our intellectual property rights, may adversely affect our
business.
As of December 31, 2006, we own 49 software copyrights, each of which we have registered with
the State Copyright Bureau of the PRC.
As of December 31, 2006, we own 32 trademarks, each in various classes, each of which we have
registered with the China Trademark Office, and had 94 trademark applications, each in various
classes, pending with the China
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Trademark Office. We have also filed applications to register certain trademarks in a number
of other jurisdictions, including Taiwan, Hong Kong, South Korea, the United States, India, Japan,
Canada, Singapore and New Zealand.
As of December 31, 2006, we hold 14 patents granted by the State Intellectual Property Office
of the PRC and we have 32 patent applications pending with the State Intellectual Property Office.
In addition, we hold five patents that have been granted by select jurisdictions outside of China,
including the European Union, South Korea and Singapore.
Regulatory Matters
The online game industry in China operates under a legal regime that consists of the State
Council, which is the highest authority of the executive branch of the PRC central government, and
the various ministries and agencies under its leadership. These ministries and agencies mainly
include:
| • | the Ministry of Information Industry; | ||
| • | the Ministry of Culture; | ||
| • | the State Press and Publications Administration; | ||
| • | the State Copyright Bureau; | ||
| • | the State Administration for Industry and Commerce; | ||
| • | the Ministry of Public Security; and | ||
| • | the Bureau of State Secrecy. |
The State Council and these ministries and agencies have issued a series of rules that
regulate a number of different substantive areas of our business, which are discussed below.
Foreign Ownership Restrictions
PRC regulations currently limit foreign ownership of companies that provide Internet content
services, which includes operating online games, to 50%. In addition, foreign and foreign-invested
enterprises are currently not able to apply for the required licenses for operating online games in
China. In order to comply with foreign ownership restrictions, we operate our online game business
in China through Shanda Networking, which is wholly owned by Tianqiao Chen, our chairman and chief
executive officer, and Danian Chen, our executive senior vice president, both of whom are PRC
citizens, and through Nanjing Shanda and Hangzhou Bianfeng, which are subsidiaries of Shanda
Networking. Under PRC law, we cannot hold the licenses and approvals necessary to operate our
online games because those licenses and approvals can only be held by domestic PRC persons and we
are not considered to be a domestic PRC person for this purpose. We believe that (1) the ownership
structures of our company, Shengqu and our PRC operating companies are in compliance with existing
PRC laws and regulations, (2) our contractual arrangements with Shanda Networking and its
shareholders are valid and binding, and will not result in any violation of PRC laws or regulations
currently in effect; and (3) the business operations of our company, Shengqu and our PRC operating
companies, as described in this annual report, are in compliance with existing PRC laws and
regulations in all material aspects. There are, however, substantial uncertainties regarding the
interpretation and application of current or future PRC laws and regulations. Accordingly, we
cannot assure you that the PRC regulatory authorities will not ultimately take a view that is
contrary to our view. If the PRC government finds that the agreements that establish the structure
for operating our China business do not comply with PRC government restrictions on foreign
investment in the online game industry, we could be subject to severe penalties.
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Licenses
There are a number of aspects of our business which require us to obtain licenses from a
variety of PRC regulatory authorities.
As ICP service providers, our PRC operating companies are required to either hold value-added
telecommunications business operation licenses, or ICP licenses, issued by the Ministry of
Information Industry or its local offices or be sublicensed by qualified ICP license holders.
Moreover, ICP operators providing ICP services in multiple provinces, autonomous regions and
centrally administered municipalities may be required to obtain an Inter-regional ICP license.
Shanda Networking and Shanghai Shulong Technology Development Co., Ltd. have already obtained
inter-regional ICP licenses, which both cover SMS service. Shanda Networking’s license also covers
online bulletin board service. Nanjing Shanda and Hangzhou Bianfeng currently conduct ICP
businesses by having sublicensing arrangements with Shanda Networking.
Each ICP license holder that engages in the supply and servicing of Internet cultural
products, which include online games, must obtain an additional Internet culture business
operations license from the Ministry of Culture. Shanda Networking holds an Internet culture
business operations license issued by the Ministry of Culture. In connection with our launch of
certain EZ series products, which offer video and audio content, such as music and movies, we may
need to obtain a license from the State Administration of Radio, Film and Television. We understand
that non-State-owned companies may not be able to obtain such a license and, accordingly, if it is
determined that such a license is required our EZ initiative may be materially and adversely
affected.
The State Press and Publications Administration and the Ministry of Information Industry
jointly impose a license requirement for any company that intends to engage in online publishing,
defined as any act by an Internet information service provider to select, edit and process content
or programs and to make such content or programs publicly available on the Internet. Shanda
Networking holds an online publishing license for online games issued by the State Press and
Publications Administration. In addition, the Ministry of Culture requires us to submit for its
content review and approval any online games we would like to import. If we import games without
that approval, the Ministry of Culture may impose penalties on us, including revoking our Internet
culture business operations license required for the operation of online games in China.
The Ministry of Public Security imposes a license requirement for any company that intends to
engage in the development and sales of computer and information system safety guard products.
Shanda Networking holds a computer and information system safety guard products sales license
issued by the Ministry of Public Security.
ICP License Sublicensing
According to rules promulgated by the Ministry of Information Industry, an ICP service
provider that has obtained an inter-regional ICP license shall conduct its business operations in
provinces, autonomous regions and centrally administered municipalities as covered by its license
within one year after acquiring the license. An inter-regional ICP service provider may authorize
its subsidiaries or its branches to conduct an ICP business in licensed regions. If it authorizes
its subsidiaries, the ICP service provider’s shareholding in such subsidiaries must be greater than
51%. Moreover, an ICP service provider shall not authorize two or more subsidiaries or branches to
conduct the same ICP business in the same region. Shanda Networking has authorized Nanjing Shanda
and Hangzhou Bianfeng to conduct ICP business in several regions. Nanjing Shanda is responsible for
the east and central-south of China. Hangzhou Bianfeng is responsible for north-east China. Shanda
Networking will continue to conduct online game business in residual regions, with its Xian branch,
Beijing branch and its subsidiary Chengdu Jisheng Technology Co., Ltd. being respectively
responsible for north-west China, north China and south-west China. Shanghai Shulong Technology
Development Co., Ltd has set up five branches and authorized them to conduct ICP business in five
regions of north China, north-east China, central-south China, south-west China and north-west
China. Shanghai Shulong Technology Development Co., Ltd. is responsible for east China.
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Regulation of Internet Content
The PRC government has promulgated measures relating to Internet content through a number of
ministries and agencies, including the Ministry of Information Industry, the Ministry of Culture
and the State Press and Publications Administration. These measures specifically prohibit Internet
activities, which includes the operation of online games that result in the publication of any
content which is found to, among other things, propagate obscenity, gambling or violence, instigate
crimes, undermine public morality or the cultural traditions of the PRC, or compromise State
security or secrets. If an ICP license holder violates these measures, the PRC government may
revoke its ICP license and shut down its websites.
In addition, the PRC government has recently promulgated regulations that require online game
operators to implement anti-addiction measures for users under eighteen years of age. The
anti-addiction system must be formally implemented beginning on July 16, 2007. See Item 3.D. “Risk
Factors—Risks Relating to our Business—Negative publicity in China regarding online games could
lead to additional government regulations that may have a material and adverse impact on our
business, financial condition and results of operations.”
Regulation of Information Security
Internet content in China is also regulated and restricted from a State security standpoint.
The Standing Committee of the National People’s Congress, China’s national legislative body, issued
a decision in December 2000, according to which following conducts in China may be subject to
criminal punishment in China any effort to: (1) gain improper entry into a computer or system of
strategic importance; (2) disseminate politically disruptive information; (3) leak state secrets;
(4) spread false commercial information; or (5) infringe intellectual property rights.
The Ministry of Public Security has promulgated measures that prohibit use of the Internet in
ways which, among other things, result in a leakage of state secrets or a spread of socially
destabilizing content. The Ministry of Public Security has supervision and inspection rights in
this regard, and we may be subject to the jurisdiction of the local security bureaus. If an ICP
license holder violates these measures, the PRC government may revoke its ICP license and shut down
its websites.
Import Regulation
Our ability to license online games from abroad and import them into China is regulated in
several ways. We are required to register with the Ministry of Commerce any license agreement with
a foreign licensor that involves an import of technologies, including online game software into
China. Without that registration, we cannot remit licensing fees out of China to any foreign game
licensor. Furthermore, the State Copyright Bureau requires us to register copyright license
agreements relating to imported software. Without the State Copyright Bureau registration, we are
not allowed to publish or reproduce the imported game software in China. In addition, imported
online game software is also required to pass a content examination by the Ministry of Culture. Any
imported online game software, which has not been examined and approved by the Ministry of Culture
is not allowed to be put into operation in China.
Publishing Regulation
Our publishing activities include both online publishing and offline publishing. In order to
engage in the online publishing business, we have obtained licenses for online game publishing from
both the State Press and Publications Administration and the Ministry of Culture. We do not hold
the required license to engage in online or offline literature publishing. In order to operate our
online literature publishing business, Shanda Networking has applied at the State Press and
Publications Administration to expand its Internet publication license, which was originally
granted for the publication of online games, to encompass, among other things, books literary works
and other electronic publications. We believe that Shanda Networking has satisfied all
qualifications required to obtain the permission to expand its license and we do not believe that,
while its application is pending, the regulatory authorities will take any action against it.
However, we cannot assure you that it will obtain this approval or that the regulatory authority
will not take any action against it. In order to operate the offline publishing business, we
cooperate with companies that are licensed to conduct such business.
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Advertising Regulation
According to PRC laws and regulations, in order to conduct advertising and related business, a
company must have an approved business scope that covers such businesses. Currently, we conduct our
advertising and related businesses primarily through our subsidiary, Shanghai Shengyue
Advertisement Co., Ltd., which is licensed to conduct these businesses.
Intellectual Property Rights
The State Council and the State Copyright Bureau have promulgated various regulations and
rules relating to protection of software in China. Under these regulations and rules, software
owners, licensees and transferees may register their rights in software with the State Copyright
Bureau or its local branches and obtain software copyright registration certificates. Although such
registration is not mandatory under PRC law, software owners, licensees and transferees are
encouraged to go through the registration process and registered software rights may be entitled to
better protections. We have registered all of our commercially launched in-house developed online
games with the State Copyright Bureau.
Internet Cafe Regulation
Internet cafes are required to obtain a license from the Ministry of Culture and the State
Administration of Industry and Commerce, and are subject to requirements and regulations with
respect to location, size, number of computers, age limit of customers and business hours. Although
we do not own or operate any Internet cafes, many Internet cafes distribute our virtual pre-paid
cards. The PRC government has announced its intention, and has begun, to intensify its regulation
of Internet cafes, which are currently the primary venue for our users to play online games. In
February 2004, the State Administration of Industry and Commerce and other related government
agencies issued a notice to suspend issuance of new Internet cafe licenses for a six month period.
In January 2007, 14 PRC government departments jointly issued a circular in connection with the
strengthening of Internet café and online game administration. According to the circular, local
authorities are barred from issuing new Internet café licenses for the remainder of 2007.
Intensified government regulation of Internet cafes could restrict our ability to maintain or
increase our revenues and expand our customer base.
Privacy Protection
PRC law does not prohibit Internet content providers from collecting and analyzing personal
information from their users. We require our users to accept a user agreement whereby they agree to
provide certain personal information to us. PRC law prohibits Internet content providers from
disclosing to any third parties any information transmitted by users through their networks unless
otherwise permitted by law. If an Internet content provider violates these regulations, the
Ministry of Information Industry or its local bureaus may impose penalties and the Internet content
provider may be liable for damages caused to its users.
C. ORGANIZATIONAL STRUCTURE
We are a Cayman Islands exempted company and we conduct our operations in China primarily
through Shengqu, our indirectly wholly owned subsidiary. We and Shengqu are foreign or
foreign-invested enterprises under PRC law and accordingly are ineligible to apply for a license to
operate online games.
In order to comply with foreign ownership restrictions, we operate our online game business in
China through Shanda Networking, which is wholly owned by Tianqiao Chen, our chairman and chief
executive officer, and Danian Chen, our executive senior vice president, both of whom are PRC
citizens, and through Nanjing Shanda and Hangzhou Bianfeng, which are subsidiaries of Shanda
Networking. Shanda Networking, Nanjing Shanda, Hangzhou Bianfeng, collectively referred to as our
PRC operating companies, and other subsidiaries of Shanda Networking hold the licenses and
approvals that are required to operate our online game business and to sell online advertising on
our web pages, and Shengqu owns the substantial majority of physical assets.
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Shengqu has entered into a series of contractual arrangements with Shanda Networking and its
shareholders. As a result of these contractual arrangements, we are considered the primary
beneficiary of Shanda Networking and its subsidiaries (including the other PRC operating companies)
and accordingly we consolidate the results of operations of Shanda Networking and its subsidiaries
in our financial statements. However, neither we nor Shengqu owns the equity of the PRC operating
companies, and, although we consolidate the results of the PRC operating companies in our
consolidated financial statements and we can utilize their cash and cash equivalents in our
operations through our contractual arrangements with Shanda Networking, we do not have direct
access to the cash and cash equivalents or future earnings of the PRC operating companies.
As of December 31, 2006, we had approximately RMB1,291.9 million (US$165.4 million) in cash
and cash equivalents, of which RMB486.4 million (US$62.3 million) was held by Shanda Networking and
its subsidiaries.
Pursuant to our contractual arrangements with Shanda Networking and the other PRC operating
companies, we provide services, software licenses and equipment to the PRC operating companies in
exchange for fees. The principal service, software license and equipment lease agreements that we
have entered into are:
| • | equipment leasing agreements, pursuant to which Shanda Networking, Nanjing Shanda and Hangzhou Bianfeng lease a substantial majority of their operating assets from Shengqu; | ||
| • | a technical support agreement, pursuant to which Shengqu provides technical support for Shanda Networking’s operations; | ||
| • | technology licensing agreements, pursuant to which Shengqu licenses certain billing technology to Shanda Networking, Nanjing Shanda and Hangzhou Bianfeng; | ||
| • | software license agreements, pursuant to which Shengqu licenses certain software to Shanda Networking, Nanjing Shanda and Hangzhou Bianfeng; | ||
| • | a strategic consulting agreement, pursuant to which Shengqu provides strategic consulting services to Shanda Networking; and | ||
| • | online game distribution and service agreements, pursuant to which Shanda Networking, Nanjing Shanda and Hangzhou Bianfeng distributes and services certain online games that are licensed or owned by Shengqu. |
In addition, we have entered into agreements with Shanda Networking and its shareholders that
provide us with the substantial ability to control Shanda Networking. Pursuant to these contractual
arrangements:
| • | the shareholders of Shanda Networking have granted an irrevocable proxy to individuals designated by Shengqu to exercise the right to appoint directors, the general manager and other senior management of Shanda Networking; | ||
| • | Shanda Networking will not enter into any transaction that may materially affect its assets, liabilities, equity or operations without our prior written consent; | ||
| • | Shanda Networking will not distribute any dividend; | ||
| • | Shengqu may purchase the entire equity interest in, or all the assets of, Shanda Networking for a purchase price of the lower of RMB10 million or the lowest price permitted under PRC law when and if such purchase is permitted by PRC law or when the current shareholders of Shanda Networking cease to be directors or employees of Shanda Networking; | ||
| • | the shareholders of Shanda Networking have pledged their equity interest in Shanda Networking to Shengqu to secure the payment obligations of Shanda Networking under all of the agreements between Shanda Networking and Shengqu; and |
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| • | the shareholders of Shanda Networking will not transfer, sell, pledge, dispose of or create any encumbrance on their equity interest in Shanda Networking without the prior written consent of Shengqu. |
Each of Shengqu’s contractual arrangements with Shanda Networking and its shareholders may
only be amended with the approval of our audit committee or another independent body of our board
of directors.
The following diagram illustrates our corporate and share ownership structure as of March 31,
2007.
| (1) | Skyline Media Limited is 100% owned by Skyline Capital International Limited, which is in turn 40% owned by Tianqiao Chen through Shanda Media Limited, a company wholly owned by him, 30% owned by Danian Chen through Shanda Investment International Limited, a company wholly owned by him, and 30% owned by Qianqian Luo through Fortune Capital Holdings Enterprise Limited, a company wholly owned by her. | |
| (2) | Shanda Interactive Entertainment Limited holds a beneficial ownership interest in a number of subsidiaries and investee companies, a list of which is set forth below. | |
| (3) | Shanda Networking holds a beneficial ownership interests in a number of subsidiary and investee companies established in the PRC. Although we consolidate our results of operations with those of Shanda Networking and its majority beneficially owned subsidiaries, |
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| we do not own these entities. Shanda Networking’s beneficial ownership interests in its subsidiaries and investee companies are listed in the table set forth below. |
Subsidiaries and Investee Companies
The following table sets forth the direct and indirect subsidiaries and investee companies of
Shanda Interactive Entertainment Limited as of March 31, 2007.
| Shanda Interactive | ||||||||
| Entertainment’s | ||||||||
| Beneficial Ownership | Jurisdiction of | |||||||
| Percentage(1) | Incorporation | Business | ||||||
Shengqu Information Technology
(Shanghai) Co., Ltd.
|
100 | % | PRC | Provider of information technology-related services and developer of software | ||||
Shanda Computer (Shanghai) Co., Ltd.
|
100 | % | PRC | Developer of software, hardware and composite systems for end-users | ||||
Grandpro Technology Ltd.
|
100 | % | BVI | Network PC game platform operator | ||||
Shanda Zona LLC
|
100 | % | Delaware | Developer and provider of server infrastructure | ||||
Shanda Zona Limited
|
100 | % | BVI | Developer and provider of server infrastructure | ||||
Actoz Soft Co., Ltd.
|
45.64 | % | Korea | Developer, operator and publisher of online games | ||||
SINA Corporation
|
3.9%(2) | Cayman Islands | Online media company and value-added information service provider for China and Chinese communities worldwide | |||||
Grandpro Technology (Shanghai) Co., Ltd.
|
100 | % | PRC | Network PC game platform operator | ||||
| (1) | For purposes of reporting beneficial ownership, we include interests held by controlled subsidiaries and nominee shareholders. Due to certain restrictions under PRC Company Law and before it was amended, most PRC limited liability companies, including Shanda Networking, were required to have two or more shareholders. A common practice in cases where a subsidiary would otherwise be wholly-owned is to realize ownership and control via connected companies or organize a second, nominee shareholder through whom control and beneficial ownership are maintained by contractual arrangements. PRC Company Law was amended on October 27, 2005, which came into effect on January 1, 2006. According to the amended Company Law, limited liability companies are no longer required to have two or more shareholders. We may change our current shareholding structure accordingly. | |
| (2) | As of March 31, 2007, we held 2,118,278 ordinary shares of SINA Corporation, or SINA. The figure 3.9% is based on the 54,538,680 ordinary shares outstanding as of February 23, 2007, as reported by SINA Corporation on its annual report on Form 10-K, filed with the Securities and Exchange Commission on March 1, 2007. Subsequently, we sold the remaining 2,118,278 ordinary shares of our stake in SINA through open market transactions in May 2007. |
The following table sets forth the direct and indirect subsidiaries and investee
companies of Shanda Networking. Although we consolidate our results of operations with those of
Shanda Networking and its majority beneficially owned subsidiaries, we do not own any legal
interest in Shanda Networking or such subsidiaries.
| Shanda Networking’s | ||||||||
| Beneficial Ownership | Jurisdiction of | |||||||
| Percentage(1) | Incorporation | Business | ||||||
Nanjing Shanda Networking Co., Ltd.
|
100 | % | PRC | Operation of online games | ||||
Hangzhou Bianfeng Networking Co., Ltd.
|
100 | % | PRC | Operation of online games | ||||
Shanghai Shengjin Software
Development Co., Ltd.
|
69 | % | PRC | Development of online games | ||||
Shanghai Shengpin Network Technology
Development Co., Ltd.
|
62.5 | % | PRC | Development of online games | ||||
Shanghai Shanda Xinhua Network
Development Co., Ltd.
|
56.0 | % | PRC | Development and distribution of game publications and Products | ||||
Shanghai Orient Youth Culture
Development Co., Ltd.
|
16.8%(2) | PRC | Expo services, consulting services related to international cultural activities, and advertising business | |||||
Chengdu Jisheng Technology Co., Ltd.
|
100.0 | % | PRC | Development and distribution of management software for Internet cafes | ||||
Shanghai Shulong Technology
Development Co., Ltd.
|
100.0 | % | PRC | Short messaging services | ||||
Shanghai Haofang Online Information
Technology Co., Ltd.
|
100 | % | PRC | Operation of network PC game platform | ||||
Hangzhou Bianfeng Software Co., Ltd.
|
100 | % | PRC | Development and operation of online chess and board games | ||||
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| Shanda Networking’s | ||||||||
| Beneficial Ownership | Jurisdiction of | |||||||
| Percentage(1) | Incorporation | Business | ||||||
Beijing Manyou Tiandi Networking
Service Co., Ltd.
|
51.02 | % | PRC | Development of virtual community website | ||||
Shanghai Xuanting Entertainment
Information Technology Co., Ltd.
|
100 | % | PRC | Publication of original literature online | ||||
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| Shanda Networking’s | ||||||||
| Beneficial Ownership | Jurisdiction of | |||||||
| Percentage(1) | Incorporation | Business | ||||||
Beijing Digital Red Software
Technology Co., Ltd.
|
100 | % | PRC | Development of mobile phone-based wireless games | ||||
Shanghai Shengyue Advertisement
Co., Ltd.
|
100 | % | PRC | Provider of online advertising services | ||||
Beijing Shengkai Interactive
Entertainment Technology Co., Ltd.
|
75 | % | PRC | Development of video games. | ||||
Shanghai Shanda Family Culture
Communication Co., Ltd.
|
49 | % | PRC | Distributor of magazines | ||||
Shanghai Shengci Network Technology
Co., Ltd.
|
75 | % | PRC | Developer of instant message software | ||||
Wenzhou Chuangjia Technology Co., Ltd.
|
100 | % | PRC | Development and operation of online chess and board games. | ||||
| (1) | For purposes of reporting beneficial ownership, we include interests held by controlled subsidiaries and nominee shareholders. Due to certain restrictions under PRC Company Law and before it was amended, most PRC limited liability companies, including Shanda Networking, were required to have two or more shareholders. A common practice in cases where a subsidiary would otherwise be wholly-owned is to realize ownership and control via connected companies or organize a second, nominee shareholder through whom control and beneficial ownership are maintained by contractual arrangements. PRC Company Law was amended on October 27, 2005, which came into effect on January 1, 2006. According to the amended Company Law, limited liability companies are no longer required to have two or more shareholders. We may change our current shareholding structure accordingly. | |
| (2) | The figure 16.8% is derived from the fact that Shanda Networking owns 56% of Shanghai Xinhua Networking Development Co., Ltd., which in turn owns 30% of Shanghai Orient Youth Culture Development Co., Ltd. |
D. PROPERTY, PLANTS AND EQUIPMENT
Our principal executive offices are located at No. 1 Office Building, No. 690 Bibo Road,
Pudong New Area, Shanghai, P.R.C. We acquired this office building with approximately 14,500 square
meters of office space on December 21, 2006. In the fourth quarter of 2005, we acquired a property
located at No. 356 Guoshoujing Road, Pudong New Area, Shanghai, P.R.C. with approximately 10,197.70
square meters of office space. In addition, in the third quarter of 2006, we acquired the land use
rights for a parcel of land with approximately 50,723.80 square meters. We plan to use the newly
acquired land for office space.
As of March 31, 2007, we currently occupy approximately 2,000 square meters of leased office
space and warehouse space in a number of locations in Shanghai and approximately 6,500 square
meters of additional leased office space in Beijing, Shenzhen, Chengdu, Hangzhou, Guangzhou and
Wuhan, China; Tokyo, Japan; and Santa Clara, California. We believe that our existing facilities
are adequate for our current requirements.
Item 4A. UNRESOLVED STAFF COMMENTS
None.
Item 5. OPERATING AND FINANCIAL REVIEW AND PROSPECTS
You should read the following discussion and analysis of our financial condition and results
of operations in conjunction with our consolidated financial statements and the related notes
included elsewhere in this annual report on Form 20-F. This discussion may contain forward-looking
statements based upon current expectations that involve risks and uncertainties. Our actual results
may differ materially from those anticipated in these forward-looking statements as a result of
various factors, including those set forth under “Item 3. Key Information—D. Risk Factors” or in
other parts of this annual report on Form 20-F.
Overview
We are a leading interactive entertainment company and one of the largest operators of online
games in China. We offer a portfolio of diversified entertainment content including some of the
most popular massively multi-player online role playing games, or MMORPGs, and casual online games
in China, along with online chess and
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board games, a network PC game platform and a variety of cartoons, literary works and music.
In 2006, our commercially launched games had approximately 2.45 million peak concurrent users,
which refers to the highest number of users playing our games at the same time during that period.
Prior to November 2005, we operated all MMORPGs under a pay-to-play model, or “Come-Pay-Stay”
(CPS) model. Under this model, users are charged based on the duration of time spent playing games.
Beginning in November 2005, we introduced a “Come-Stay-Pay”, or CSP, revenue model for three of our
leading MMORPGs, Mir II, Woool, and Magical Land. Under the new CSP revenue model, users are able
to play the basic functions of an MMORPG for free and may choose to purchase in-game value-added
services, including certain in-game items and premium features, which enhance the game experience.
In 2006, our CSP revenue model was expanded to most of our MMORPGsThe CSP model allows us to make
frequent adjustments to meet the changing demands of users, which effectively prolongs the lives of
our MMORPG titles. Under CSP model, online games were transformed from merely game products to an
entertainment platform. We are able to attract more users and increase the average monthly revenue
per paying user, or ARPU, by creating demand and satisfy the needs of our users in the virtual
community. After the adoption of the CSP model, our revenue from online game operation reported a
sequential growth in the second, third and fourth quarter of 2006.
In November 2005, we introduced our EZ Center platform as a unified software solution on top
of our service platform to integrate entertainment and informational content from the Internet and
provide users with access through a user-friendly interface. The EZ Pod, which is the first product
launched off our EZ Center platform, enables PC users to navigate and access the aggregated
Internet content over our EZ Center platform using a remote control. In 2006, we modified our EZ
Center platform strategy to focus on providing PC users with console-like game experiences.
Factors Affecting Results of Operations
Significant factors affecting our financial condition and results of operations include:
| • | the commercial lifespan of the online games and other content that we offer, and our ability to replace such content with new popular online games during that lifespan; | ||
| • | the willingness of users to purchase in-game value-added services following the introduction of our new CSP revenue model for our leading MMORPGs; | ||
| • | our ability to offer various virtual items or value-added services users prefer under CSP model; | ||
| • | the arrival of additional competition into our markets and its erosion of any first-mover advantage that we might have benefited from by having been one of the first entrants into the online game market in China, and any effect on market prices and the costs of our services and operations; | ||
| • | our ability to successfully grow through the identification and acquisition of complementary businesses and our ability to successfully integrate acquired companies and realize synergies envisioned at the time of acquisition; | ||
| • | our ability to successfully develop the EZ initiative and transition from a pure online game company to an interactive entertainment media platform, content and service provider; | ||
| • | the cost of researching, developing and marketing new products, including the EZ initiative; | ||
| • | the costs of licensing and in-house development of new games; | ||
| • | the future availability of preferential tax treatments and government financial incentives in China; | ||
| • | the discounts offered for sales of our prepaid vouchers; | ||
| • | the effect of PRC regulations on the conduct of our operations; and |
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| • | the growth of Internet and personal computer use and the popularity of these media as a source of entertainment. |
Related Party Arrangements
In order to comply with current foreign ownership restrictions, we operate our online game
business in China through Shanda Networking, a company wholly owned by Tianqiao Chen, our chairman
and chief executive officer, and Danian Chen, our executive senior vice president, both of whom are
PRC citizens, and through Nanjing Shanda and Hangzhou Bianfeng, which are subsidiaries of
Shanda Networking. Tianqiao Chen and Danian Chen, together with Qianqian Luo, also own all of the
shares of Skyline Media Limited, our controlling shareholder. We have entered into a series of
contractual arrangements with Shanda Networking, Nanjing Shanda, Hangzhou Bianfeng and the
shareholders of Shanda Networking.
Pursuant to these contractual arrangements, we provide services, software licenses and
equipment to the PRC operating companies in exchange for fees, and we have undertaken to provide
financial support to the PRC operating companies to the extent necessary for their operations. As a
result of these contractual arrangements, we are considered the primary beneficiary of the PRC
operating companies and accordingly we consolidate the results of operations of the PRC operating
companies in our financial statements. For a description of our contractual arrangements with
Shanda Networking and its shareholders and with Nanjing Shanda and Hangzhou Bianfeng, see
“Organizational Structure” in Item 4 and “Major Shareholders and Related Party Transactions” in
Item 7.
A. OPERATING RESULTS
Net Revenues
In 2006, we had net revenues of RMB1,654.5 million (US$211.9 million), of which net revenues
from our online games were RMB1,542.9 million (US$197.6 million), accounting for approximately
93.3% of total net revenues, and net revenues from other sources were RMB111.6 million (US$14.3
million), accounting for approximately 6.7% of total net revenues. Our online game revenues are net
of a sales discount, which in 2006 averaged approximately 19.3%, 16.6% and 8.6% of the face value
of our pre-paid cards that we sell to our e-sales distributors, offline distributors and end-users
via direct online payment, respectively. The sales discounts represent the difference between the
price at which we sell pre-paid cards to distributors and the face value of the pre-paid cards. In
April 2006, we adopted a new discount policy that reduces the traditional sales discount rates, but
gives distributors rebates and incentives based on how much they sell and what kinds of pre-paid
game cards they sell. Under the new policy, we are able to encourage our distributors to promote
specific games, and this allows us to have more control over our distributors.
Our net revenues reflect a deduction from our revenues for business taxes and related
surcharges incurred in connection with our China operations. Since Shanda Networking and its
subsidiaries operate in China, their revenues are subject to a business tax, at an effective rate
of 4.4% for 2006, on revenues earned from services provided in the PRC. We deduct these amounts
from our revenues to arrive at our net revenues. Due to the preferential treatments for qualified
high technology companies in China and the incentive from local government to encourage regional
business development, a portion of our revenues for which we previously paid business taxes in
connection with our operations in China are currently refunded to us in the form of government
financial incentives, but the amount of the financial incentives and the timing to grant them are
subject to determination of the government authorities. Upon receipt, these government financial
incentives are recognized as other income in our statements of operations and comprehensive income.
Please see “Taxation” in Item 10 “Additional Information” and note 7 to our consolidated financial
statements.
Sources of Revenues
Online game revenues. We derive our online game revenues, which constitute substantially all
of our revenues, from online game usage fees and purchases of in-game items paid by users of our
MMORPGs and casual
games. Mir II and Woool are our two most popular MMORPGs and accounted for 46.6% and 23.7% of
our net revenues in 2006. However, we believe that Mir II and Woool, which we commercially launched
in the fourth quarter
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of 2001 and the third quarter of 2003, respectively, have already entered
into a mature stage of their lifecycles. To maximize the lifespan of Mir II and Woool, we have
taken various measures to upgrade in-game features and offer a variety of customized
in-game virtual items and value-added services to players under CSP model. Going forward, we expect
Mir II and Woool to continue to be significant contributors to our revenues during the remainder of
their respective lifecycles. Revenues from casual games are primarily derived from BNB and Maple
Story. In 2006, the revenue contribution from casual games decreased to 18.3% of total net revenue
from 21.2% of total net revenue in 2005. The revenue contributed from BNB did decline during 2006
and we expect this downward trend to continue in 2007. Previously under the CPS model, online games
had a relatively short commercial lifecycle of typically four to five years for successful games.
Our new CSP model has prolonged the lifecycle of our online games by creating an online community
instead of merely offering a stand-alone game product. Accordingly, we believe that developing new
versions of our existing games is just as important as developing and launching new games. As part
of our efforts to introduce new content to our users, we commercially launched one MMORPG,
Archlord, and two casual games, Shanda Richman and Crazy Kart, as well the expansion packs for most
of our MMORPG and casual games in 2006. In February 2007, we entered into a license agreement with
our affiliate, Actoz, a Korean online game developer, for the operation of Latale, a side-scrolling
role playing game, in China. Latale was commercialized in April 2007. In February 2007, we also
entered into a license agreement with Wemade, a Korean online game developer, to operate Changchun
Online, a highly anticipated 3D MMORPG, in China. In March 2007, we entered into a license
agreement with Nowcom, a Korean online game developer, to operate TalesRunner, a 3D online
sports-themed running game, in China. With the combination of our new games and the expansion
packs for our existing games, we expect to witness sequential growth of our online game revenues in
2007.
Other net revenues. Our other net revenues primarily consist of net revenues from sales of EZ
series products subscription fees from our online literature portal, net revenues from online advertisement,
fees from technical services and cooperation, service fees from rendering management software to
internet cafe, mobile valued-added services revenue, sale of E-Key and other online game related
auxiliary products. In 2006, the contribution from other revenues decreased to 6.7% of total net
revenue from 12.6% of total net revenue in 2005. In the last quarter of 2005, we commenced the sale
of EZ Pod products, which is a software-based upgrade that allows users to access our interactive
entertainment content. For the year ended December 31, 2006, the
revenue from sale of EZ series products
amounted to RMB28.9 million (US$3.7 million).
Significant Factors
Pay-to-play revenue model. Prior to late November 2005, our MMORPG online game revenues were
primarily derived from the purchase and utilization of playing time by our users. Accordingly, the
two significant factors that affect our MMORPG online game revenues have been:
| • | the number of hours that users play our games, or total user-hours; and | ||
| • | our average revenue per user-hour. |
We calculate our total user-hours based on our average concurrent users, which is a commonly
used industry statistic. In a given period, the number of total user-hours equals the average
concurrent users for that period multiplied by the number of hours in that period. In measuring
average concurrent users, we determine the number of users logged on to each of our commercially
launched games at one minute intervals, then average that data over the course of a day to derive
daily averages. Average daily information is further averaged over a particular period to determine
average concurrent users for that period. For a discussion of factors that might affect total
user-hours, see “Risk Factors” in Item 3 “Key Information”.
Our effective revenue per user-hour is derived by taking the revenues from our online games
for a period and dividing this number by total user-hours in that period. This provides us with a
measure of the average revenue per user-hour that we receive from users that play our games.
Come-Stay-Play (CSP) revenue model. In late November 2005, we adopted a CSP revenue model for
three of our MMORPGs: Mir II, Magical Land and Woool. The CSP revenue model is also used for our
casual games and by the end of 2006 has been adopted for most of our MMORPGs.. Under this model,
users acquire in-game items by
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converting game points from pre-paid cards. Because playing the
basic features of the game is free and the purchase of in-game items is optional, average
concurrent users is not a significant revenue factor under this model. The most significant factors
that affect MMORPG and casual game revenue under the CSP revenue model are:
| • | the number of active paying accounts; and | ||
| • | our average revenue per active paying account. |
The number of active paying accounts for any given period is equal to the number of accounts
from which game points are utilized during such period. Our average revenue per paying account is
equal to our revenue for the given period divided by our active paying accounts in that period. For
a discussion of factors that might affect the number of active paying casual game account and the
average revenue per active paying account, see “Risk Factors” in Item 3 “Key Information”
Revenue Collection
Our online game revenues are collected through the sale of pre-paid cards, which we sell in
both virtual and physical form, to third party distributors and retailers, including Internet
cafes, as well as through our direct online payment systems. In most cases, we receive cash
payments from these parties in exchange for delivery of the pre-paid cards. We do not provide
refunds to these distributors or retailers with respect to unsold inventories of pre-paid cards. We
also collect online game revenues through certain telecommunications service operators that bundle
broadband access services for home users with our online games. In April 2006, we adopted a new
discount policy that cuts the sales discount rates, but gives distributors more in rebates and
incentives based on how much they sell and what kinds of pre-paid game cards they sell. Under the
new policy, we are able to encourage our distributors to promote specific games, and this allows us
to have more control over our distributors.
Our
other revenues are collected form sales of EZ series products, sales of our E-key, subscription fees
from our online literature portal, fees from online advertisement, fees from other online game
related auxiliary products and payments from mobile telecommunications service operators in
connection with our recharge by SMS service.
In 2006, we recorded doubtful debts in the amount of RMB26.4 million (US$3.4 million), which
was mainly due to overdue receivables from online advertising and
sales of EZ series products. As of December
31, 2006, we had net accounts receivable of RMB31.7 million (US$4.1 million), which were also
mainly due from purchasers of online advertising, SMS services and
sales of EZ series products.
Revenue Recognition and Deferred Revenue
In the case of pay-to-play games, we recognize revenues based on the time units actually
consumed by our users, and, in the case of the games operated under CSP model, we recognize
revenues over the life of the in-game premium features users purchase or as the premium features
are consumed. We also recognize revenues when our users who had previously purchased playing time
and/or points are no longer entitled to access the online games in accordance with our published
expiration policy. We account for the amounts received upon the sale of pre-paid cards,
but prior to usage or expiration of the value sold, as deferred revenue in our consolidated balance
sheets. Deferred revenue is reduced as revenues are recognized. As of December 31, 2006, we had
deferred revenue of RMB201.6 million (US$25.8 million), an increase from RMB172.5 million as of
December 31, 2005.
Sales Tax
Our PRC affiliates are subject to PRC business tax. We primarily pay business tax on gross
revenues generated from online game operations, rentals, service fees and license fees. Shanda
Networking, Nanjing Shanda and Hangzhou Bianfeng pay business tax on their gross revenues derived
from online game operations at a rate ranging from 3% to 5%, and this business tax is deducted from
total revenues. In addition, Shengqu pays a 5%
business tax on the gross revenues derived from its contractual arrangements with Shanda
Networking, Nanjing Shanda and Hangzhou Bianfeng, and these taxes are primarily recorded in
operating expenses in accordance with our accounting policy.
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Cost of Revenue
Our cost of revenue primarily consists of ongoing licensing fees for online games,
amortization of upfront licensing fees and other intangible assets related to game operations,
server leasing and maintenance fees, salary and benefits, depreciation of property, equipment and
software.
Upfront and ongoing licensing fees. The cost of licensing games from developers consists of
upfront licensing fees, which are generally paid in several installments, and ongoing licensing
fees, which are equal to a percentage of our revenues from the relevant licensed game. The ongoing
licensing fee payments range from 20% to 30% of revenues for our commercially launched MMORPGs, and
from 20% to 40% of our revenues for our commercially launched casual games. The cost of licensing
fees for our ongoing games was equal to 15.8% of our net revenues in 2005 and 17.7% of our net
revenues in 2006, and constituted the largest component of our cost of revenue in each such period.
Seven of the fourteen online games we offer commercially are licensed from third parties. The
increase of upfront and ongoing licensing cost as a percentage of our net revenues is primarily due
to a decrease in our non-game revenue and an increase in the revenue sharing percentage of BNB from
30% to 40% when its license agreement was renewed in November 2005. In 2007, we expect that
upfront and ongoing licensing fees will increase as a result of intense market competition and
continued growth of the revenue from licensed games, but will remain stable as a percentage of net
revenue.
Amortization of upfront licensing fees and other intangible assets related to game operations.
Amortization of upfront licensing fees and other intangible assets related to game operations was
equal to 2.0% of our net revenues in 2005 and 3.4% of our net revenues in 2006. Upfront licensing
fees are paid to developers of the licensed games in several installments and are amortized over
the licensed period upon commercial launch of the games. Other intangible assets related to game
operations included the software technology of game servers, EZ Platform, and game engines. As a
result of licensing new games and purchasing software related to game operations, we expect the
amortization of upfront licensing fees and other intangible assets related to game operations to
increase in 2007.
Server leasing and maintenance fees. Server leasing and maintenance fees was equal to 4.7% of
our net revenues in 2005 and 5.9% of our net revenues in 2006. As of December 31, 2006, we leased
approximately 37% of our servers, primarily from telecommunications companies. These companies host
our server network, and receive maintenance fees from us in addition to the lease payments. The
majority of our server leases have variable payment obligations based on the number of our users
logging on to each relevant server. We expect our costs for servers to decline in the future, which
will be the net effect of the purchase of additional servers in connection with our introduction of
new games, and elimination or combination of server groups for existing games as part of our cost
saving procedures.
Depreciation of property, equipment and software. Depreciation of property, equipment and
software, which consisted primarily of servers and other computer equipment, was equal to 2.3% of
our net revenues in 2005 and 3.2% of our net revenues in 2006. We include depreciation expenses
within our cost of revenue when the relevant assets are directly related to the
operations of our online game network and provision of online game services. Depreciation expenses
are characterized as operating expenses in all other cases. In 2006, the increase in our
depreciation expense was primarily due to the acquisition of additional servers and office
premises. As we expect to continue to purchase additional servers in connection with the
introduction of new games, we believe that our depreciate costs will continue to increase in 2007.
Salary and benefits. Salary and benefits expense was equal to 2.2% of our net revenues in 2005
and 3.2% of our net revenues in 2006. Salary and benefits expense includes employee wages and
welfare benefits, such as medical insurance, housing subsidies, unemployment insurance and pension
benefits. Salary and benefits expense included in our cost of revenue primarily relates to
employees involved in the operation of our online games, including network maintenance, billing
systems and our call center. In 2005 and 2006, approximately 18.6% and 21.3%, respectively, of our
salary and benefits expense was included in our cost of revenue, with the remainder constituting
operating expenses. As a result of the commercial launch of new games in 2007, we expect an
increase in the number of
employees involved in the operation of our games. Beginning from the second quarter of 2006,
we adopted a new compensation structure for employees that operate our games, pursuant to which an
employee’s bonus is tied to the financial performance of the game that his group operates.
Moreover, we typically perform a merit-based increase in salaries throughout the company in the
third quarter of every year. Based on the increased number of employees
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involved in game
operations, the results of the new compensation structure and the anticipated increase in salaries
in the third quarter, we expect the salary and benefit expenses to increase in cost of revenues,
but decline as a percentage of net revenue in 2007.
Gross profit/margin. Gross profit represented 67.6% of our net revenues in 2005 and 58.3% of
our net revenues in 2006.
Operating Expenses
Our operating expenses consist of product development expenses, sales and marketing expenses,
general and administrative expenses.
Product development expenses. Product development expenses were equal to 8.7% of our net
revenues in 2005 and 10.1% of our net revenues in 2006. Our product development expenses primarily
consist of salary and benefits expenses of personnel engaged in the research and development of our
products, amortization of software used by our research and development center, rental and
management fees for office space used by our research and development center, share-based
compensation, and depreciation of equipment used in research and development activities. We expect
our product development expenses to decline in 2007, as we continue to control our expenses for
research and development projects related to our in-house casual games and our EZ initiative.
Sales and marketing expenses. Sales and marketing expenses were equal to 12.4% of our net
revenues in 2005 and 10.9% of our net revenues in 2006. Our sales and marketing expenses primarily
consist of promotion, advertising and sponsorship of media events, share-based compensation, and
salary and benefits of our sales and marketing department. In 2006, we took various measures to
improve the budget control procedure. Our sales and marketing budget is set based on a certain
percentage of forecasted revenues on a quarterly basis, and then we allocate budgets to each of our
teams responsible for existing and new games, as well as our other business lines. In 2006, each
marketing and promotional activity was done within the pre-determined quotas, In addition, we also
changed our employee compensation scheme to incorporate bonuses based on the actual performance
result under our new budgeting plan for each team. Going forward, we will focus on the effective
usage of the budget, with emphasis on promoting new games launched. We expect that sales and
marketing expenses to remain stable in 2007.
General and administrative expenses. General and administrative expenses were equal to 13.7%
of our net revenues in 2005 and 14.4% of our net revenues in 2006. General and administrative
expenses primarily consist of salary and benefits for general management, finance and
administrative personnel, professional service fees, business tax expense, share-based
compensation, and provision for doubtful debts. Our business tax expense primarily relates to
services and licensing fees paid by our PRC operating companies to Shengqu. Provisions of RMB 26.4
million (US$ 3.4 million) for doubtful debts were made in 2006 for the overdue
receivables from online advertising, and sales of EZ series products. Going forward, we expect the general and
administrative expenses to increase in 2007 due to the increased business tax to be paid by our PRC
operating companies, as a result of the expected growth of game revenues. See the sections entitled
“Our Corporate Structure” and “Related Party Transactions” in Item 7 “Major Shareholders and
Related Party Transactions” for additional description of the relationship between Shengqu and our
PRC operating companies.
Income from operations/margin. In 2005, our income from operations accounted for 32.8% of our
net revenues. In 2006, our income from operations accounted for 22.8% of our net revenues.
Other Income
Our other income consists primarily of government financial incentives that certain of our PRC
incorporated affiliates receive from municipal governments and that are calculated with reference
to taxable income and revenues, as the case may be. In 2005 and 2006, we received aggregate
government financial incentives of RMB137.3 million
and RMB83.9 million (US$10.7 million), respectively, from municipal governments. Going
forward, eligibility for the government financial incentives we are to receive requires that we
continue to meet a number of government financial and non-financial criteria to continue to qualify
for these government financial incentives. Generally, which include:
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| • | at least a minimum level of revenues must be generated from high-tech related sales or services, determined as a percentage of total revenues; | ||
| • | at least a minimum number of employees must be engaged in research and development; and | ||
| • | at least a minimum amount must be expended on research and development, determined as a percentage of total revenues. |
The continued qualification is further subject to the discretion of the municipal government.
Moreover, the central government or municipal government could determine at any time to immediately
eliminate or reduce these financial incentives. Upon expiration of these government financial
incentives, we will consider available options, in accordance with applicable law, that would
enable us to qualify for further government financial incentives to the extent they are then
available to us.
In 2007, we expect to continue receiving government financial incentives related to our 2006
taxable income and revenues in 2006 until those 2006 financial incentives are completed, but the
amount of the government financial incentives is expected to decline due to expiration of the
financial incentives in certain PRC operating companies.
In 2006, other income also includes a foreign exchange gain of RMB59.8 million (US$7.7
million) mainly arising from a revaluation of convertible bond denominated in US Dollar following
the appreciation of the RMB against the U.S. dollar in 2006. We cannot predict a foreign exchange
gain or loss in 2007 because that fully depends upon the amount of monetary assets and liabilities
we have in US Dollars as well as the trend of the foreign exchange rates. Effective from January
1, 2007, Shanda Interactive Entertainment Limited, our listed company incorporated in Cayman
Islands, changed its functional currency from Renminbi to US dollars due to changes in its economic
facts and circumstances, which includes an active plan to explore overseas market. Going forward,
the foreign exchange gains or losses from revaluation of the monetary assets and liabilities
denominated in US dollars of Shanda Interactive Entertainment Limited will not be recorded in the
statement of operations, but instead will be treated as a cumulative translation adjustment under
shareholders’ equity in the balance sheet.
Income Tax Expense
Under the current laws of the Cayman Islands and the British Virgin Islands, neither Shanda
Interactive Entertainment Limited nor Shanda Holdings Limited, our wholly owned subsidiary
incorporated in the British Virgin Islands, is subject to tax on its income or capital gains. In
addition, payment of dividends by either company is not subject to withholding tax in those
jurisdictions.
PRC enterprise income tax. Our PRC incorporated affiliates, including Shengqu, Shanda
Networking, Nanjing Shanda, Hangzhou Bianfeng and Shanda Computer, are subject to PRC enterprise
income tax on the taxable income as reported in their respective statutory financial statements,
adjusted in accordance with the Enterprise Income Tax Law and the Income Tax Law of the People’s
Republic of China concerning Foreign Investment Enterprise and Foreign Enterprises (collectively
the “PRC Income Tax Laws”), respectively. Pursuant to the PRC Income Tax Laws, our PRC incorporated
affiliates are generally subject to PRC enterprise income tax at a statutory rate of 33%. However,
Shengqu, Shanda Networking and Shanda Computer, because of their incorporation in the Pudong New
District of Shanghai, are subject to a 15% preferential income tax rate pursuant to the local tax
preferential treatment. Shengqu, as a software development enterprise, has been granted a two year
income tax exemption to be followed by a three year 50% income tax reduction on its taxable income,
commencing the year ended December 31, 2003 (“tax holiday”). Nanjing Shanda, as a result of
receiving government’s recognition as a technologically advanced enterprise in the third quarter of
2005, has been entitled to a full income tax exemption for two years effective from January 1, 2005
and will be subject to a preferential tax rate of 15% after January 1, 2007 due to its residence in
a national high-tech development zone. As a result of this recognition, Nanjing Shanda received the
refund for the income tax it previously paid in 2005. Hangzhou Bianfeng was in the process of
applying for recognition as a technologically advanced enterprise in 2005 and was then subject to
income tax at the statutory rate of 33%. In the second quarter of 2006, Hangzhou Bianfeng received
an approval from local tax authorities in respect of the preferential treatment as a
technologically advanced enterprise and is thus entitled to a reduced income tax rate of 15%
effective from January 1, 2006. Moreover, the income tax previously paid by Hangzhou Bianfeng for
the years
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ended December 31, 2004 and 2005 was refunded in 2006. The qualifications of Shengqu,
Shanda Networking, Nanjing Shanda and Hangzhou Bianfeng as a software development enterprise or a
technologically advanced enterprise are required to be reassessed on an annual basis. Shanda
Computer was still in a loss-making position as of December 31, 2006, and thus no PRC enterprise
income tax was due for the year then ended.
We reported an effective income tax rate of 6.2% in 2006. However, after taking into account
the effects of the net gain of RMB 66.9 million (US$8.6 million) from the sale of SINA’s ordinary
shares, which is tax free as we are incorporated in Cayman Islands, and the income tax expenses of
RMB10.3 million (US$1.3 million) reversed by Hangzhou Bianfeng as a result of being recognized as a
technologically advanced enterprise, our effective tax rate in 2006 would be adjusted to 8.9%.
Given the fact that the tax holiday of Nanjing Shanda expired in 2006, we expect that the effective
tax rate in 2007 will increase to approximately 10%,
Critical Accounting Policies
We prepare our financial statements in conformity with US GAAP, which requires us to make
estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of
contingent assets and liabilities on the date of the financial statements and the reported amounts
of revenues and expenses during the financial reporting period. We continually evaluate these
estimates and assumptions based on the most recently available information, our own historical
experience and on various other assumptions that we believe to be reasonable under the
circumstances. Since the use of estimates is an integral component of the financial reporting
process, actual results could differ from those estimates. Some of our accounting policies require
higher degrees of judgment than others in their application. We consider the policies discussed
below to be critical to an understanding of our financial statements as their application places
the most significant demands in our management’s judgment.
Revenue Recognition
Substantially all of our revenues are collected through the sales of pre-paid cards, which we
sell in both virtual and physical form, to third party distributors and retailers. Prior to late
November 2005, we operated all MMORPGs under a pay-to-play model. Under this model, the
subscription fees from distributors or retailers are deferred when received and revenue is
recognized based upon the actual usage of time units by the end users. In late November 2005, we
changed the revenue model of certain MMORPGs from the pay-to-play to a CSP revenue model. Under the
new model, players can access the game free of charge but must pay for in-game premium features,
which is the same model under which our casual games were operated. Under the CSP revenue model,
subscription fees are deferred when received and revenue is recognized over the life of the
premium features users purchase or as the premium features are consumed.
Deferred revenues included the value of the prepaid cards which were sold but not yet
activated by users within our published expiration policy, and the value of the prepaid cards which
were sold and transferred to game accounts but not yet consumed within our published expiration
policy. Both are collectively referred to as deferred revenues from expired cards. In accordance
with our published expiration policy and our belief that the likelihood of our being required to
render online game services in connection with these expired card to be remote, starting from
January 2005, we recognized revenues for pre-paid cards which are sold but not yet activated six
and twelve months after the pre-paid cards are sold, for virtual pre-paid cards and physical
pre-paid cards, respectively. For the deferred revenues which were deposited in game account but
not yet consumed, we recognize them as revenues after the game accounts remain inactive for certain
period of time, specifically, seven months for MMORPGs, and six months for casual games. As a
result of the above policies, we recognized net revenues from expired cards of RMB86.1 million in
2005 and additional net revenues of RMB39.8million (US$5.1 million) in 2006.
Consolidation of Variable Interest Entities
PRC regulations currently limit foreign ownership of companies that provide Internet content
services, which includes the operation of online games, to 50%. In addition, foreign and
foreign-invested enterprises are currently not able to apply for the licenses required to operate
online games in China or to provide Internet information content (such as online advertising). We
are a Cayman Islands exempted company and we conduct our operations in China primarily through
Shengqu, our indirect wholly owned subsidiary. We and Shengqu are foreign or foreign-invested
enterprises under PRC law and accordingly are ineligible to apply for a license to operate online
games or to sell online
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advertising. In order to comply with foreign ownership restrictions, we
operate our online games business in China through Shanda Networking, which is wholly owned by
Tianqiao Chen, our chairman and chief executive officer, and Danian Chen, our executive senior
vice president, both of whom are PRC citizens, and through Nanjing Shanda and Hangzhou
Bianfeng, which are subsidiaries of Shanda Networking. Shanda Networking, Nanjing Shanda and
Hangzhou Bianfeng hold the licenses and approvals that are required to operate our online game
business and to sell online advertising on our web pages and Shengqu owns the substantial majority
of physical assets. Shengqu has entered into a series of contractual arrangements with Shanda
Networking, Nanjing Shanda, Hangzhou Bianfeng, and the shareholders of Shanda Networking. As a
result of these contractual arrangements, we are considered the primary beneficiary of the PRC
operating companies and accordingly we consolidate their results of operations in our financial
statements.
Property and Equipment, Intangible Assets, Long-term Prepayments and Other Long-lived Assets
Our accounting for long-lived assets, including property and equipment, intangible assets,
long-term prepayments and other long-lived assets is described in
notes 2(10), 2(11), 2(13) and 2(14) to our
consolidated financial statements. The recorded values of long-lived assets, including property and
equipment, intangible assets, long-term prepayments and other long-lived assets are affected by a
number of management estimates, including the estimated useful lives, residual values and
impairment charges. We assess the impairment for long-lived assets whenever events or changes in
circumstances indicate that the applicable carrying amount may not be recoverable. During the years
ended December 31, 2004, 2005 and 2006, we did not record any
material impairment charges for long-lived
assets.
Impairment of Investment in Affiliated Companies
We continually review our investments in affiliated companies to determine whether a decline
in fair value below the cost basis is other than temporary. The primary factors we consider in its
determination are the length of time that the fair value of the investment is below its carrying
value; and the financial condition, operating performance and near term prospects of the investee.
In addition, we consider the reasons for the decline in fair value, be it general market
conditions, industry specific or investee specific; analysts’ ratings and estimates of 12 month
share price targets for the investee; changes in stock market price or valuation subsequent to the
balance sheet date; and our intent and ability to hold the investment for a period of time
sufficient to allow for a recovery in fair value. In determination of whether a decline in value is
other than temporary requires significant judgment. If the decline in fair value is deemed to be
other than temporary, the cost basis of the security is written down to fair value. Write-downs for
equity method investments are included in equity in earning (loss) of affiliated companies. In the
fourth quarter of 2005, we recorded a non-cash impairment charge of RMB521.5 million (US$64.6
million) to reflect the fair value of our 38.1% stake in Actoz, the co-owner of Mir II. We
completed the purchase of our controlling stake in February 2005 for a total consideration of
RMB878.0 million (US$106.1 million). We recognized the impairment charge primarily as a result of
the continued decline in royalties payable to Actoz from our operation of Mir II in China. The
decision to recognize impairment was also influenced by the decline in market price for share of
Actoz, which in the fourth quarter of 2005 was determined to be other than temporary mainly due to
the continued decline in Mir II royalties. In 2006, the revenue from Mir II rebounded after
changing to the CSP business model, and the share price of Actoz appreciated during the year to a
level that was close to our investment cost. Therefore, we believe that the circumstances that
triggered impairment of the investment in Actoz has substantially changed and therefore no further
impairment was necessary.
In addition, as of December 31, 2006, the goodwill and intangibles relating to Haofang
amounted to approximately RMB400 million (US$51.28 million). In accordance with SFAS No. 142,
goodwill and intangible assets are tested for impairment at the reporting unit level annually or
when there are indicators of impairment. Haofang experienced substantial year over year decline in
profit and revenue in 2006. Additionally, the founders and
key management of Haofang left the company during the first half of 2006. Our management
obtained an independent valuation to ascertain the fair value of Haofang as of October 31, 2006.
Based on the valuation report and their own assessment, our management concluded that there was no
impairment in the carrying value of Haofang for 2006. However, we will continuously monitor the
operation of Haofang for any impairment indicators. If the actual cashflow of 2007 does not
reflect our management’s current estimates, then an impairment in this investment may be necessary
for 2007.
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Allowances for Doubtful Accounts
We determines the allowance for doubtful accounts when facts and circumstances indicate that
the receivable is unlikely to be collected. If the financial condition of our customers
deteriorates, resulting in an impairment of their ability to make payments, we consider making
additional allowances. During the years ended December 31, 2004, 2005 and 2006, we made
provisions of nil, RMB55.7 million and RMB26.4 (US$ 3.4 million) for doubtful accounts,
respectively.
Share-Based Compensation
We have equity compensation plans, which allow for the granting of stock options to certain
senior executives, management, employees and directors. Prior to January 1, 2006, we accounted for
any grants made pursuant to the plans in accordance with Accounting Principles Board Opinion No.
25, “Accounting for Stock Issued to Employees”, or APB No. 25, the intrinsic value approach, with
the required disclosures under the related accounting guidance described in note 2(22) to our
consolidated financial statements.
Under APB No. 25, intrinsic value, if any, is determined as the difference between estimated
fair value of our ordinary shares on the grant date of an option and the exercise price for the
option. On March 31, 2003, we granted options to purchase 7,320,436 of our ordinary shares to some
of our directors and officers at an exercise price of US$1.516 per share, which approximated the
estimated fair value of our ordinary shares on the grant date. When estimating the fair value of
our ordinary shares, we review both internal and external sources of information. The sources
utilized to determine the fair market value of the underlying shares at the date of measurement
were, prior to our initial public offering in May 2004, subjective in nature. For our March 2003
option grants, the estimated fair value of our ordinary shares was based on, among other factors,
our (1) financial condition as of the date of grant, (2) operating history and (3) financial and
operating prospects at that time with reference to our issuance of convertible preferred shares in
March 2003. On December 18, 2003, we granted options to purchase an additional 1,537,367 of our
ordinary shares to some of our officers and managers at the same exercise price. Compensation
expense was recognized based on the intrinsic value of our ordinary shares measured on that date.
Estimated fair value of the Company’s ordinary shares on December 18, 2003 was determined with
reference to the initial public offering price of our ordinary shares. In 2004 and 2005, we granted
options to purchase an additional 4,826,234 ordinary shares to some of our officers, directors and
other employees, which have an exercise price equal to the market value of our ordinary shares at
the time of grant. Accordingly, no share-based compensation expenses have been incurred in
connection with our 2004 and 2005 option grants prior to January 1, 2006. For purposes of 2004
grants made prior to our initial public offering in May of 2004, the fair value of our shares was
equal to the initial public offering price of our ordinary shares. For purposes of 2004 grants made
after the initial public offering, the fair value of our ordinary shares equaled the market value
of such shares (in the form of ADS equivalents) on the Nasdaq at the time of grant.
We recognized compensation expense of RMB28.8 million in 2004 and RMB13.7 million (US$1.7
million) in 2005 with respect to the options granted in December 2003. These options had the same
exercise price as the options granted to our directors and officers in March 2003. See note 2(22)
to our consolidated financial statements.
Since January 1, 2006, we have accounted for grants made pursuant to the plans in accordance
with, Statement of Financial Accounting Standards No. 123 (revised 2004), “Share-Based Payment”, or
SFAS 123R. We elected the modified-prospective method, under which prior periods are not revised
for comparative purposes. Under the fair value recognition provision of SFAS 123R, share-based
compensation expense is measured at the grant date based on the fair value of the stock options and
is recognized as an expense on a straight-line basis, net of estimated forfeitures, over the
requisite service period, which is generally the vesting period. We use the Black-Scholes option
pricing model to determine the fair value of stock options. The determination of the fair value of
stock options on the date of grant using an option-pricing model is affected by our stock price as
well as assumptions regarding a number of
complex and subjective variables, including our expected stock price volatility over the
vesting period, risk-free interest rate, expected dividend yield, and actual and projected employee
stock option exercise behaviors. Furthermore, we are required to estimate forfeitures at the time
of grant and recognize stock-based compensation expense only for those awards that are expected to
vest. If actual forfeitures differ from those estimates, we may need to revise those estimates used
in subsequent periods.
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Had we determined the share-based compensation expenses for the options granted based upon the
fair value at their grant date in accordance with SFAS 123R, the net income attributable to
ordinary shareholders for the years ended December 31, 2004 and 2005 would have been reduced by
RMB35.6 million and RMB36.5 million, respectively.
On June 28, 2006, we granted options to purchase an additional 3,000,000 of ordinary shares to
some of our directors, officers and other employees. For the year ended December 31, 2006, the
share-based compensation expense amounted to RMB 40.0 million (US$5.1 million).
On April 24, 2007, we granted options under the 2005 plan to purchase 655,000 of ordinary
shares to some of our officers and other employees.
Based on unvested options as of the date of this annual report, and excluding any new options
that may be granted, we estimate the share-based compensation expenses to be approximately RMB13.0
million (US$1.7 million) in each of the following quarters in 2007. See note 2(24) to our
consolidated financial statements for a discussion of these changes in accounting standards. For a
description of our equity compensation plans, see Item 6 “Directors, Senior Manage and Employees –
B. Compensation – Equity Compensation Plans.”
Income Taxes
We account for income taxes under the provisions of SFAS No. 109, “Accounting for Income
Taxes”, with the required disclosures as described in note 7 to our consolidated financial
statements. Accordingly, we record valuation allowances to reduce our deferred tax assets when we
believe it is more likely than not that we will not be able to utilize the deferred tax asset
amounts based on our estimates of future taxable income and prudent and feasible tax planning
strategies. As of December 31, 2005 and 2006, valuation allowances recognized were RMB7.0 million
and RMB14.2million (US$1.8 million), respectively. Valuation allowances were provided for because
it was more likely than not that we would not be able to utilize certain tax loss carryforwards
generated by certain indirectly held subsidiaries. As of December 31, 2005 and 2006, we have
recorded deferred tax assets, net of valuation allowances, of RMB17.1 million and RMB17.4 million
(US$2.2 million) respectively. We do not believe any further valuation allowances to reduce our net
deferred tax assets are necessary as we currently anticipate future taxable profits which will
allow us to fully utilize our net deferred tax assets in the foreseeable future. If, however,
events were to occur in the future which are not currently contemplated, that would not allow us to
realize all or part of our net deferred tax assets in the future, an adjustment would result by way
of a charge to income tax expense in the period in which such determination was made.
Contingencies
We account for loss contingencies under the provisions of SFAS No. 5, “Accounting for
Contingencies”, with the required disclosures as described in note 25 to our consolidated financial
statements. We record loss contingencies when, based on information available, it is likely that a
loss has been incurred and the amount of the loss can be reasonably estimated. Based on our current
knowledge, which includes consultation with outside counsel handling our defense in these matters,
we believe that we have made adequate provisions for current or unasserted claims. It is possible,
however, that our future results of operations could be materially affected by changes in our
estimates or in the effectiveness of our strategies relating to these proceedings. As of December
31, 2006, we did not have any accruals for loss contingencies. We are, however, currently involved
in various legal proceedings. See “Legal Proceedings” in Item 8, “Financial Information”.
Results of Operations
Year Ended December 31, 2006 Compared to Year Ended December 31, 2005
Net revenues. Our net revenues decreased from RMB1,896.6 million in 2005 to RMB1,654.5 million
(US$211.9 million) in 2006.
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Our online game net revenues decreased from RMB1,658.3 million in 2005 to RMB1,542.9 million
(US$197.6 million) in 2006. Net revenues from MMORPGs decreased by 1.2% from RMB1,255.3 million in
2005 to RMB1,240.1 million (US$158.8 million) in 2006. Net revenues from casual games decreased
from RMB403.0 million in 2005 to RMB302.8 million (US$38.8 million) in 2006.
The decrease in our net revenues from MMORPGs was primarily due to a decrease in revenues from
Woool, partially offset by an increase in revenue of Mir II, Magic Land and Archlord. Starting from
late November 2005, we have operated our leading MMORPGs using CSP model. Under the CSP model,
which is also used for our casual games, playing the basic features of the game is free and users
are able to purchase in-game items and value-added services. The most significant factors effecting
revenue under the CSP model are the number of active paying accounts and the average revenue per
paying account, which we reported on a quarterly basis. In each of the four quarters of 2006, the
number of active paying accounts for MMORPGs was 2.47 million, 2.23 million, 2.14 million and 2.29
million, respectively, and the average revenue per paying account per quarter was RMB91.2,
RMB136.6, RMB155.3 and RMB165.1, respectively.
The decrease in our net revenues from our casual games was primarily due to a decrease in
revenues from BNB, partially offset by an increase in sales of GetAmped and board and chess games.
For our casual games, we also reported the number of active paying accounts and average revenue per
paying account on a quarterly basis. In each of the four quarters of 2006, the number of active
paying accounts for casual games was 2.50 million , 2.26 million, 2.09 million and 1.96 million,
respectively, and the average revenue per paying account per quarter was RMB33.8, RMB29.4, RMB36.8
and RMB36.8.
Our other net revenue also decreased from RMB238.3 million in 2005 to RMB111.6 million
(US$14.3 million) in 2006. This decrease in other net revenue was primarily due to decreases in
sales of online advertising and user password protection products, as well as a decrease in revenue
from mobile value-added services. The decrease in other net revenue was partially offset by an
increase in revenue from sales of EZ series products, subscription fees from our online literature website and
the revenue from licensing of management software to internet cafés.
Cost of revenue. Our cost of revenue increased 12.3% from RMB614.4 million in 2005 to RMB689.8
million (US$88.3 million) in 2006. This increase was primarily due to increases in our amortization
of upfront licensing fees and other intangible assets related to game operations. server leasing
and maintenance fees, depreciation of property and equipment, salary and benefits of employees
directly engaged in provision of our online games services, and
manufacturing costs for our EZ series products.
The increase in cost of revenue was partially offset by decreases in the cost of our user password
protection products and ongoing licensing fees for online games:
| • | Ongoing licensing fees for online games decreased 1.9% from RMB299.2 million in 2005 to RMB293.4 million (US$37.6 million) in 2006. The decrease in ongoing licensing fees for online games is primarily the result of the decrease in sales of BNB, a licensed casual game. Ongoing licensing fees for online games totaled approximately 15.8% of our net revenues in 2005 compared to approximately 17.7% of our net revenues in 2006. | ||
| • | Amortization of upfront online game licensing fees and other intangible assets related to game operations increased 51.4% from RMB37.3 million in 2005 to RMB56.4 million (US$7.2 million) in 2006. This increase was principally due to the acquisition of Haofang in May 2005, the operator of a network PC game platform. We commenced amortization of the acquired intangible assets in Haofang immediately after the acquisition. 2006 was the first full year that the acquired intangible assets in Haofang were amortized and thus amortization expense was in excess of that in 2005. Amortization of upfront online game licensing fees and other intangible assets related to game operations totaled approximately 2.0% and 3.4% of our net revenues in 2005 and 2006, respectively. | ||
| • | Aggregate server leasing fees and server maintenance fees increased 9.4% from RMB88.9 million in 2005 to RMB97.2 million (US$12.5 million) in 2006. This increase was primarily due to acquiring of additional servers and increased maintenance fees. Aggregate server leasing and maintenance fees totaled approximately 4.7% and 5.9% of our net revenues in 2005 and 2006, respectively. |
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| • | Depreciation of property and equipment increased 20.7% from RMB44.0 million in 2005 to RMB53.1 million (US$6.8 million) in 2006. This increase was primarily due to our acquiring of additional servers and our new office premise. Depreciation of property and equipment totaled approximately 2.3% and 3.2% of our net revenues in each of 2005 and 2006. | ||
| • | Salary and benefits increased 29.8% from RMB40.9 million in 2005 to RMB53.1 million (US$6.8 million) in 2006. This increase was primarily due to a merit-based salary raise throughout the company in the middle of 2006 and the additional bonus granted to the employees directly engaged in provision of our online games services as a result of implementing a performance-based employee incentive program starting from the second quarter of 2006. Salary and benefits attributable to costs of revenue totaled approximately 2.2% and 3.2% of our net revenues in 2005 and 2006, respectively. | ||
| • | Other cost of revenue, which includes manufacturing costs for our EZ series products, user password protection product and pre-paid cards, rental of leased software, commission paid or payable to the writers of online literature which were published on our online literature website, technical service charges (including commissions paid or payable to telecommunications providers), cost of customer royalty program, inventory provisions, among other things, increased 31.2% from RMB104.1 million in 2005 to RMB136.6 million (US$17.5 million) in 2006. This increase was primarily due to an increase in manufacturing costs for our EZ series products, and an increase in the charges paid or payable to business partners for operation of the certain games in particular regions. The increase was also caused by a cost arising from a new customer loyalty program, which was implemented beginning in June 2006. The increase in cost of revenue was partially offset by a decrease in manufacturing costs of user password protection products due to slowdown in sales. Other cost of revenue totaled approximately 5.5% and 8.3% of our net revenues in 2005 and 2006, respectively. |
Gross profit. As a result of the foregoing, our gross profit decreased 24.8% from RMB1,282.2
million in 2005 to RMB964.7 million (US$123.5 million) in 2006. Our gross profit margin, which is
equal to our gross profit divided by our net revenues, decreased from 67.6% in 2005 to 58.3% in
2006.
Operating expenses. Our operating expenses decreased from RMB660.3 million in 2005 to RM587.0
million (US$75.2 million) in 2006. This increase was due to decreases in our product development,
sales and marketing and general and administrative expenses.
| • | Our product development expenses increased from RMB164.8 million in 2005 to RMB167.8 million (US$21.5 million) in 2006. This increase was primarily due to an increase in depreciation of property and equipment from RMB12.6 million in 2005 to RMB18.5 million (US$2.4 million) in 2006 as a result of acquiring our new office premise and information technology equipment. The increase was also attributable to the increased outsourcing service charges from RMB7.5 million in 2005 to RMB11.7 million (US$1.5 million) in 2006 for development of new online games. The number of our employees engaged in the development of online games, our EZ initiative and technology supporting our operations decreased from approximately 810 as of December 31, 2005 to approximately 720 as of December 31, 2006, but salary and benefits expenses incurred for project development staff in 2006 did not decline as a result of a merit-based increase in salary throughout the company in the middle of 2006. Product development expenses totaled approximately 8.7% and 10.1% of our net revenues in 2005 and 2006, respectively. | ||
| • | Our sales and marketing expenses decreased from RMB235.4 million in 2005 to RMB181.1 million (US$23.2 million) in 2006. This decrease was mainly due to a significant cut in marketing promotion expenses from RMB168.6 million in 2005 to RMB105.3 million (US$13.5 million) as a result of enhanced budgeting controls. The number of sales and marketing personnel slightly decreased from approximately 350 as of December 31, 2005 to approximately 270 as of December 31, 2006. The decrease in our sales and marketing expenses was partially offset by an increase in salary and benefit of our sales and marketing personnel from RMB34.6 million in 2005 to RMB43.0 million (US$5.5 million) in 2006, due to a merit-based salary raise throughout the company in the middle of 2006, as well as |
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| implementing a performance-based employee incentive program. Sales and marketing expenses totaled approximately 12.4% and 10.9% of our net revenues in 2005 and 2006, respectively. | |||
| • | Our general and administrative expenses decreased by 8.4% from RMB260.1 million in 2005 to RMB238.1 million (US$30.5 million) in 2006. This decrease was primarily due to the following factors: |
| • | The decrease in provisions for doubtful debts from RMB55.7 million in 2005 to RMB26.4 million (US$3.4 million) in 2006, as a result of tightening credit controls over receivables from online advertising and sales of EZ series products. | ||
| • | The 23.5% increase in salary and benefits expenses from RMB42.4 million in 2005 to RMB52.4 million (US$6.7 million) in 2006, which was primarily attributable to the increase in the number of employees engaged in general and administrative work from approximately 200 as of December 31, 2005 to approximately 250 as of December 31, 2006, as well as a merit-based salary raise throughout the company in the middle of 2006. | ||
| • | The 15.8% decrease in business taxes from RMB57.8 million in 2005 to RMB48.7 million (US$6.2 million) in 2006, which primarily relate to business taxes incurred by Shengqu from revenues collected from our operating companies, namely Shanda Networking, Nanjing Shanda and Hangzhou Bianfeng; | ||
| • | The 372.6% increase in share-based compensation cost from RMB8.1 million in 2005 to RMB38.4 million (US$4.9 million) in 2006, which is due to the options granted to our directors and officers and other administration staff under the 2005 Equity Plan in June 2006. | ||
| • | The decrease in other general and administrative expenses from RMB96.1 million in 2005 to RMB72.2 million (US$9.2 million) in 2006, which relate primarily to consulting, legal and audit fees, rental and management fees and amortization of intangible assets-reevaluation. |
General and administrative expenses accounted for approximately 13.7% and 14.4% of our net
revenues in 2005 and 2006, respectively.
Income from operations. As a result of the foregoing, our operating income decreased from
RMB621.9 million in 2005 to RMB377.6 million (US$48.4 million) in 2006. Our operating margin, which
is equal to our operating profit divided by our net revenues, decreased from 32.8% in 2005 to 22.8%
in 2006.
Income before minority interests and income tax expenses. Our income before minority interests
and income tax expenses decreased 26.2% from RMB801.4 million in 2005 to RMB591.2 million (US$75.7
million) in 2006. This decrease was primarily the result of the decrease in income from operations,
as well as the following:
| • | Interest income. Our interest income decreased from RMB29.0 million in 2005 to RMB24.7 million (US$3.2 million) in 2006. This decrease was primarily due to the decrease in our average cash and cash equivalents balances in 2006 relative to those in 2005. | ||
| • | Amortization of convertible debt insurance cost. Amortization of convertible debt issuance costs decreased from RMB18.5 million in 2005 to RMB17.5 million (US$2.2 million) in 2006. | ||
| • | Investment income (loss). We had an investment loss of RMB5.9 million in 2005 and an investment income of RMB72.4 million (US$9.3 million) in 2006. The loss in 2005 primarily related to loss on disposition of investment in Bothtec Inc. and Shenzhen Fenglin Huoshan Computer Technology Co., Ltd., while the investment gain in 2006 primarily related to gains from disposal of marketable securities. | ||
| • | Other income. Our other income decreased from RMB174.9 million in 2005 to RMB133.9 million (US$17.1 million) in 2006. Our other income in 2006 was primarily comprised of government financial incentives of RMB83.9 million (US$10.7 million), compared to RMB137.3 million in 2005, from local |
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| government authorities in China relating to business and income taxes we previously paid in the PRC. The decrease in our government financial incentives in 2006 is primarily due to expiry of the financial incentive treatments in certain subsidiary companies. Looking forward, we expect that the government financial incentives will further decline as compared to that in 2006. Other income in 2006 also included a foreign exchange gain of RMB59.8 million (US$7.7 million), compared to RMB46.3 million in 2005, as a result of the continued appreciation of the RMB against the U.S. dollar. |
Income tax expenses. Our income tax expenses decreased from RMB96.7 million in 2005 to RMB36.5
million (US$4.7 million) in 2006, primarily due to the decrease
in taxable income and reversal of income tax expense previously
recorded in Hangzhou Bianfeng for the year ended December 31,
2005 amounting to RMB10.3 million as a result of the
preferential tax treatment obtained in 2006.
Equity in loss of affiliates. Our equity in loss of an affiliate decreased from RMB544.3
million in 2005 to RMB26.2 million (US$3.4 million) in 2006. The significant loss in 2005 was
primarily due to the recognition of a non-cash impairment charge of RMB521.5 million (US$64.6
million) in the fourth quarter of 2005 to reflect the fair value of our 38.1% stake in Actoz. We
completed the purchase of our 38.1% controlling stake in February 2005 for a total consideration of
RMB878.0 million (US$106.1 million), which represented a premium over the then quoted market price.
We recognized an impairment charge on our investment in Actoz primarily as a result of the
continued decline in royalties payable to Actoz from our operation of Mir II in China. The decision
to recognize impairment was also influenced by the decline in the market price for shares of Actoz.
Net income. As a result of the foregoing, our net income increased by 220.2% from RMB165.3
million in 2005 to RMB529.2 million (US$67.8 million) in 2006.
Year Ended December 31, 2005 Compared to Year Ended December 31, 2004
Net revenues. Our net revenues increased from RMB1,298.7 million in 2004 to RMB1,896.6 million
in 2005.
Our online game net revenues increased from RMB1,209.2 million in 2004 to RMB1,658.3 million
in 2005. Net revenues from MMORPGs increased by 26.2% from RMB994.7 million in 2004 to RMB1,255.3
million in 2005. Net revenues from casual games increased from RMB214.5 million in 2004 to RMB403.0
million in 2005.
The increase in our net revenues from MMORPGs was primarily due to an increase in revenues
from Woool as well as Mir II. Average concurrent users for our MMORPGs decreased from 736,000 in
2004 to 672,000 in 2005. Average revenue per user-hour increased from RMB 0.16 in 2004 to RMB 0.21
in 2005. Peak concurrent users for our MMORPGs increased from 1,006,000 in 2004 to 1,028, 000 in
2005. In late November 2005, we adopted the free-to-play and pay-for in-game value-added services
revenue model for our leading MMORPGs. Under the free-to-play and pay-for in-game value-added
services revenue model, which is also used for our casual games, playing the basic features of the
game is free and users are able to purchase in-game items and value-added services that enhance the
game experience. Under the free-to-play and pay-for in-game value-added services revenue model, the
most significant factors effecting revenue are the number of active paying accounts and the average
revenue per paying account.
Increase
in our net revenues from our casual games was primarily due to an increase in
revenues from Maple Story and BNB. Peak concurrent users for our casual games increased from
878,000 in 2004 to 1,661,000 in 2005.
Our other net revenue also increased from RMB89.5 million in 2004 to RMB238.3 million in 2005.
This increase in other net revenue was primarily due to increases in online advertising sales,
which we commenced in 2004, and user password protection products sales as well as revenue
generated by EZ Pod sales and by Haofang’s PC game network platform. The increase in other net
revenue was partially offset by a decrease in revenue from the sale of game related merchandise
products and our SMS services.
Cost of revenue. Our cost of revenue increased 30.4% from RMB471.2 million in 2004 to RMB614.4
million in 2005. This increase was primarily due to increases in our ongoing licensing fees for
online games, amortization of upfront licensing fees, server leasing and maintenance fees,
depreciation of property, equipment and software, salary
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and benefits of employees directly engaged
in provision of our online games services, and manufacturing costs for our user password protection
products and EZ Pod.
| • | Ongoing licensing fees for online games increased 20.0% from RMB249.3 million in 2004 to RMB299.2 million in 2005. This increase was principally a result of the continued increase in our revenues attributable to licensed games, particularly MapleStory, which we launched commercially in the third quarter of 2004, and Mir II. Ongoing licensing fees for online games totaled approximately 19.2% of our net revenues in 2004 compared to approximately 15.8% of our net revenues in 2005. This decrease was primarily due to the increase in revenue generated by Woool, an in-house developed game, and the increase in our non-game revenue. | ||
| • | Amortization of upfront online game licensing fees increased 36.9% from RMB27.2 million in 2004 to RMB37.3 million in 2005. This increase was principally due to the amortization of upfront fees that we paid for the license of R.O. and D.O. to Gravity Co,, Ltd. and Cr-Space Co., Ltd., respectively, and of an upfront fee that we paid to Nexon Corporation in connection with our extension of our BNB license. Amortization of upfront online game licensing fees totaled approximately 2.1% and 2.0% of our net revenues in 2004 and 2005, respectively. | ||
| • | Aggregate server leasing fees and server maintenance fees increased 11.2% from RMB79.9 million in 2004 to RMB88.9 million in 2005. This increase was primarily due to the increase of average concurrent user, acquiring of additional servers and increased maintenance fees. The number of servers we leased as of December 31, 2005 was approximately 5665. Aggregate server leasing and maintenance fees totaled approximately 6.2% and 4.7% of our net revenues in 2004 and 2005, respectively. | ||
| • | Depreciation of property, equipment and software increased 55.0% from RMB28.4 million in 2004 to RMB44.0 million in 2005. This increase was primarily due to our acquiring of additional servers to meet the needs of our increased user base. Depreciation of property, equipment and software totaled approximately 2.2% and 2.3% of our net revenues in each of 2004 and 2005. | ||
| • | Salary and benefits increased 71.8% from RMB23.8 million in 2004 to RMB40.9 million in 2005. This increase was primarily due to the increase in the number of employees directly engaged in provision of our online games services from approximately 500 as of December 31, 2004 to approximately 720 as of December 31, 2005, as well as a merit-based salary raise throughout the company during the third quarter of 2005. Salary and benefits attributable to costs of revenue totaled approximately 1.8% and 2.2% of our net revenues in 2004 and 2005, respectively. | ||
| • | Other cost of revenue, which includes manufacturing costs for our user password protection product, derivative products, pre-paid cards and EZ Pods, rental and management fees, technical service fees (including commissions paid to telecommunications providers) and inventory provisions, increased from RMB62.6 million in 2004 to RMB104.1 million in 2005. This increase was primarily due to an increase in manufacturing costs of our user protection product as a result of increased production costs due to increased sales, and costs of manufacturing EZ Pod, which was commercially launched in the fourth quarter of 2005. The increase was partially offset by a decrease in manufacturing costs for derivative products as a result of a decrease in production due to the slowdown of derivative product sales. Other expenses totaled approximately 4.8% and 5.5% of our net revenues in 2004 and 2005, respectively. |
Gross profit. As a result of the foregoing, our gross profit increased 54.9% from RMB827.5
million in 2004 to RMB1,282.2 million in 2005. Our gross profit margin, which is equal to our gross
profit divided by our net revenues, increased from 63.7% in 2004 to 67.6% in 2005.
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Operating expenses. Our operating expenses increased from RMB316.6 million in 2004 to RM660.3
million in 2005. This increase was due to increases in our product development, sales and marketing
and general and administrative expenses.
| • | Our product development expenses increased from RMB71.8 million in 2004 to RMB164.8 million in 2005. This increase was primarily due to an increase in salary and benefits expenses of personnel engaged in the research and development of our products, as well as depreciation and rental and management fees attributable to our research and development efforts. The number of our employees engaged in the development of online games, our EZ initiative and technology supporting our operations increased from approximately 550 as of December 31, 2004 to approximately 810 as of December 31, 2005. These increases were principally a result of our focus on the EZ initiative in 2005. Product development expenses totaled approximately 5.5% and 8.7% of our net revenues in 2004 and 2005, respectively. | ||
| • | Our sales and marketing expenses increased from RMB91.2 million in 2004 to RMB235.4 million in 2005. This increase was mainly due to the following factors: |
| • | The significant increase in advertisement fees and marketing promotion expenses from RMB57.7 million in 2004 to RMB168.6 million in 2005, which is primarily attributable to the expansion of our game offerings, introduction of the EZ Pod and advertising efforts to build awareness of our brand; | ||
| • | The growth of our sales and marketing personnel from approximately 215 as of December 31, 2004 to approximately 340 as of December 31, 2005, along with a merit-based salary raise throughout the company during the third quarter of 2005, resulted in an increase in our salary and benefit expense increasing from RMB19.0 million in 2004 to RMB34.6 million in 2005; and |
Sales and marketing expenses accounted for approximately 7.0% and 12.4% of our net revenues in
2004 and 2005, respectively.
| • | Our general and administrative expenses increased by 69.4% from RMB153.6 million in 2004 to RMB260.1 million in 2005. This increase was primarily due to the following factors: |
| • | The increase in provisions for doubtful debts from RMB0.8 million in 2004 to RMB55.7 million in 2005. The provisions for doubtful debt in 2005 are due to RMB48.0 million recorded in the fourth quarter of 2005, which was mainly due to overdue receivables from online advertising and sales of our user password protection product. | ||
| • | The 56.7% increase in salary and benefits expenses from RMB27.1 million in 2004 to RMB42.4 million in 2005, which was primarily attributable to the increase in the number of employees engaged in general and administrative work from approximately 180 as of December 31, 2004 to approximately 201 as of December 31, 2005, as well as a merit-based salary raise throughout the company during the third quarter of 2005. | ||
| • | The 50.1% increase in business taxes from RMB38.5 million in 2004 to RMB57.8 million in 2005, which primarily relate to business taxes incurred by Shengqu from revenues collected from our operating companies: Shanda Networking, Nanjing Shanda and Hangzhou Bianfeng; and | ||
| • | The increase in other general and administrative expenses from RMB87.2 million in 2004 to RMB104.2 million in 2005, which relate primarily to consulting, legal and audit fees, rental and management fees and amortization of intangible assets-reevaluation. |
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General and administrative expenses accounted for approximately 11.8% and 13.7% of our net
revenues in 2004 and 2005, respectively.
Income from operations. As a result of the foregoing, our operating income increased from
RMB511.0 million in 2004 to RMB621.9 million in 2005. Our operating margin, which is equal to our
operating profit divided by our net revenues, decreased from 39.3% in 2004 to 32.8% in 2005.
Income before minority interests and income tax expenses. Our income before minority interests
and income tax expenses increased 22.5% from RMB654.3 million in 2004 to RMB801.4 million in 2005.
This increase was primarily the result of the increase in income from operations, as well as the
following:
| • | Interest income. Our interest income increased from RMB19.7 million in 2004 to RMB29.0 million in 2005. This increase was primarily due to the increase in our average cash and cash equivalents balances in 2005 relative to those in 2004. | ||
| • | Amortization of convertible debt insurance cost. Amortization of convertible debt issuance costs increased from RMB3.5 million in 2004 to RMB18.5 million in 2005 due to the full year effect from the amortization of costs incurred in connection with the issuance of our convertible notes in October 2004. | ||
| • | Investment income (loss). We had investment income of RMB43.5 million in 2004 and an investment loss of RMB5.9 million in 2005. The investment gain in 2004 primarily related to gains on trading marketable securities, while the loss in 2005 primarily related to loss on disposition of investment in Bothtec Inc. and Shenzhen Fenglin Huoshan Computer Technology Co., Ltd. | ||
| • | Other income. Our other income increased from RMB83.7 million in 2004 to RMB174.9 million in 2005. Our other income during 2005 was primarily attributable to government financial incentives of RM137.3 million we received in 2005 from a local government authority in China relating to business taxes we paid in the PRC. The increase in our government financial incentives in 2005 is due to an increase in the amount of business taxes we have paid as a result of our increased revenues. See the sections of this Item 5 entitled “A. Operating Results-Other Income”. In 2005, we also recorded a foreign exchange gain of RMB48.9 million due to the appreciation of the RMB against the U.S. dollar during 2005. |
Income tax expenses. Our income tax expenses increased from RMB38.9 million in 2004 to RMB96.7
million in 2005.
Equity in loss of affiliates. Our equity in loss of an affiliate increased from RMB4.2 million
in 2004 to RMB544.3 million in 2005. This increase was primarily due to the recognition of a
non-cash impairment charge of RMB521.5 million in the fourth quarter of 2005 to reflect the fair
value of our 38.1% stake in Actoz. We completed the purchase of our 38.1% controlling stake in
February 2005 for a total consideration of RMB878.0 million, which represents a premium over the
then quoted market price. We recognized an impairment charge on our investment in Actoz primarily
as a result of the continued decline in royalties payable to Actoz from our operation of Mir II in
China. The decision to recognize impairment was also influenced by the decline in the market price
for shares of Actoz.
Net income. As a result of the foregoing, our net income decreased by 72.9% from RMB609.5
million in 2004 to RMB165.3 million in 2005.
B. LIQUIDITY AND CAPITAL RESOURCES
Cash Flows and Working Capital
To date, we have financed our operations through internally generated cash, the sale of our
preferred shares to an investor in March 2003, our initial public offering of ADSs in May 2004 and
the offering of the convertible notes in October 2004. As of December 31, 2006, we had
approximately RMB1,291.9 million (US$165.4 million) in cash and
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cash equivalents, of which RMB486.4
million (US$62.3 million) was held by Shanda Networking and its subsidiaries. As of the same date,
we had outstanding debt of RMB2,147.4 million (US$275.0 million) pursuant to the convertible notes.
Our cash and cash equivalents primarily consist of cash on hand, demand deposits, and liquid
investments with original maturities of three months or less that are placed with banks and other
financial institutions. Although we consolidate the results of Shanda Networking and its
subsidiaries in our consolidated financial statements and we can utilize the cash and cash
equivalents of Shanda Networking and its subsidiaries in our operations, we do not have direct
access to the cash and cash equivalents or future earnings of Shanda Networking or any of its
subsidiaries. However, these cash balances can be utilized by us for our normal operations pursuant
to our agreements with Shanda Networking and its subsidiaries that provide us with the substantial
ability to control these companies and their operations. See “Organizational Structure” in Item 4
and “Exchange Controls” in Item 10.
The following table shows our cash flows with respect to operating activities, investing
activities and financing activities in the years ended December 31, 2004, 2005 and 2006:
| For the years ended December 31, | ||||||||||||||||
| 2004 | 2005 | 2006 | ||||||||||||||
| RMB | RMB | RMB | US$ | |||||||||||||
| (in thousands) | ||||||||||||||||
Net cash provided by operating activities |
807,330.8 | 649,787.9 | 780,066.6 | 99,897.1 | ||||||||||||
Net cash used in investing activities |
(615,675.0 | ) | (2,831,460.3 | ) | (449,223.4 | ) | (57,528.6 | ) | ||||||||
Net cash provided by financing activities |
2,333,392.9 | 17,900.5 | 23,864.8 | 3,056.2 | ||||||||||||
Effect of exchange rate change on cash |
— | (10,577.6 | ) | (12,428.4 | ) | (1,591.6 | ) | |||||||||
Net increase (decrease) in cash and cash equivalents |
2,525,048.7 | (2,174,349.5 | ) | 342,279.6 | 43,833.1 | |||||||||||
Cash beginning of period |
598,922.4 | 3,123,971.1 | 949,621.6 | 121,610.7 | ||||||||||||
Cash, end of period |
3,123,971.1 | 949,621.6 | 1,291,901.2 | 165,443.8 | ||||||||||||
We had net cash provided by operating activities of RMB780.1 million (US$99.9 million) in
2006 compared to RMB649.8 million in 2005. The cash provided by operating activities was primarily
derived from our online games operations, advertising, sales of EZ
series products, subscription fees from our
online literature website and sales of our internet café management software. The increase of net
cash provided by operating activities in 2006 was primarily a result of a decrease in account
receivables from online advertisement and a decrease in accounts receivables and inventories
attributable to manufacturing and sales of the EZ series products product and user password protection product.
The increase in net cash provided by operating activity in 2006 was also due to an increase in
deferred revenue, taxes payables and licensing fees payable to a related party. The increase was
partially offset by the lower cash operating profit as a result of declining operating margin. We
had net cash provided by operating activities of RMB649.8 million in 2005 compared to RMB807.3
million in 2004. This decrease in net cash provided by operating activities in 2005 was primarily
due to a decline in operating margin of online game operations, and an increase of accounts
receivable and inventories attributable to manufacturing and sales of user password projection
product and EZ series products.
In 2006, we had net cash used in investing activities of RMB449.2 million (US$57.5 million),
compared to RMB2,831.5 million in 2005. In 2006, our cash used in investing activities was
principally due to the purchase of a US Dollar high yield fund of RMB464.3 million (US$59.5
million), an increase in bank deposits with maturity date over three months of RMB281.0 million
(US$36.0 million), the payment of RMB220.0 million (US$28.2 million) for purchase of property,
equipment, software, intangible assets and land use rights, new investments totaling RMB25.1
million (US$3.2 million) in our affiliate companies, Actoz and Shanda Family, and the consideration
of RMB249.3 (US$31.9 million) and RMB7.4 million (US$948,000) paid for the acquisitions of Haofang
and Gametea, respectively. In 2006, our cash provided by investing activities was primarily from
the proceeds of a RMB 779.9 million (US$99.1 million) sale of 3,703,487 ordinary shares of SINA
Corporation under Rule 144 of the Securities Act of 1933, as amended. In 2005, we had net cash used
in investing activities of RMB2,831.5 million. Our net cash used in investing activities in 2005
was principally attributed to the payment of RMB1,559.5 million for purchase of the stake in SINA,
the payment of RMB759.1 million for purchase of the issued and outstanding shares of Actoz, the
payment of RMB218.9 for purchase of property, equipment, software, intangible assets and land use
rights, the net increase in time deposits of RMB 126.4 million, the payment of RMB165.5 million for
the acquisition of a 100% equity interest in Haofang and the payment of RMB29.2 million for the
acquisition of a 100% equity interest in Gametea. In 2004, we had net cash used in investing
activities of RMB615.7 million. This was primarily due to our purchase of marketable securities, our purchase
of property, equipment, software and
intangible assets, and our investments in associated companies. This amount was partially offset by
the repayment of an outstanding loan to an unrelated party and the proceeds from the disposition of
short-term investments.
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In 2006, we had net cash provided by financing activities of RMB23.9 million (US$3.1 million),
compared to RMB17.9 million in 2005. Our cash provided by financing activities was primarily
attributed the proceeds of RMB23.6 million (US$3.0 million) in connection with the stock options
exercised by our officers, directors and employees. In 2005, we had net cash provided by financing
activities of RMB17.9 million, which was comprised of RMB72.5 million in connection with stock
option exercises by our officers, directors and employees, and partially offset by RMB54.9 million
used for share repurchases. In 2004, we had net cash provided by financing activities of RMB2,333.4
million. This was primarily attributable to the net proceeds from our initial public offering in
May 2004 of RMB875.5 million and the net proceeds of our offering of convertible notes in October
2004 of approximately RMB2,225.4 million. This amount was partially offset by a special dividend of
RMB192.1 million paid to our shareholders in March 2004 and the repurchase of 5,326,250 of our
ordinary shares from SB Asia Infrastructure Fund for US$75.0 million, or $14.08 per ordinary share.
As of December 31, 2006, we had cash and cash equivalents of RMB1,291.9 million (US$165.4
million).
Certain transactions out of the ordinary course of business have occurred since December 31,
2006 and have affected our liquidity and capital resources. We sold 4,000,000 and 2,118,278 shares
of SINA in February and May 2007, respectively, and received net proceeds of US$206.1 million
(RMB1,609.4 million) in aggregate. On March 9, 2007, the board of directors approved a US$50
million share repurchase program, and as of March 31, 2007, we have repurchased 1,476,550 ordinary
shares (which was equal to 738,275 ADSs) from the open market at a cost of US$ 16.0 million (RMB
124.9 million). In the first quarter of 2007, we continued to acquire shares of Actoz in the open
market at a cost of US$4.7 million (RMB36.7 million). As of June 22, 2007, our shareholding in
Actoz increased to 49.48%. As of March 31, 2007, we had cash and cash equivalents, short-term
investments and marketable securities totaling RMB3,577.2 million(US$458.1 million).
We believe that our existing cash and cash equivalents, cash flows from operations, short-term
investments and marketable securities will be sufficient to meet the anticipated cash needs for our
operating activities, capital expenditures and other obligations for at least the next twelve
months. In particular, the holders of our US$275 million Zero Coupon Senior Convertible Notes, or
the convertible notes, have the right to require us to repurchase all or a portion of their notes
on October 15, 2007 at a repurchase price equal to 100% of the principal amount of notes to be
repurchased, plus accrued and unpaid interest and liquidated damages, if any. We may, however,
require additional cash resources due to changed business conditions or other future developments.
We may sell additional equities or obtain credit facilities to enhance our liquidity position or to
or increase our cash reserves for future operations. The sale of additional equity would result in
further dilution to our shareholders. The incurrence of indebtedness would result in increased
fixed obligations and could result in operating covenants that would restrict our operations. We
cannot assure you that financing will be available in amounts or on terms acceptable to us, if at
all. ” Please see “Exchange Controls” in Item 10 for a discussion of impediments to capital flows
in and out of China.
From time to time, we evaluate possible investments, acquisitions or divestments and may, if a
suitable opportunity arises, make an investment or acquisition or conduct a divestment, which may
have a material effect upon our liquidity and capital resources. Please see “Recent Acquisitions”
in this Item 5 for a description of our significant investments, acquisitions and divestments.
Capital Expenditures
We made capital expenditures of RMB97.4 million, RMB218.9 million and RMB220.0 million
(US$28.2 million) in 2004, 2005 and 2006. To date, the capital expenditures have primarily
consisted of purchases of online game network infrastructure, software, copyrights as well as
office premises. Since we will continue to purchase severs and IT equipment for new game
operations, complete improvement of our new office premises and perform extensive network upgrades
in 2007, we expect the capital expenditures in 2007 to increase.
C. RESEARCH AND DEVELOPMENT, PATENTS AND LICENSES, ETC.
We focus our research and development activities principally on the in-house development of
casual games and on the EZ initiative.
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Our research and development efforts and plans consist of:
| • | development of casual online games, including chess and board games, for use on our Internet game portal and our EZ Center platform; | ||
| • | design and development of the EZ Center software platform and the EZ Series products; | ||
| • | localization of games licensed from abroad for commercialization in China; | ||
| • | design and development of the EZ Center software platform and the EZ Series products; | ||
| • | development of wireless games for mobile phones; | ||
| • | improving our unified user platform, including our unified billing and user authentication system; and | ||
| • | improving our server management and control systems. |
Our research and development expenditures were RMB71.8 million, and RMB164.8 million and
RMB167.8 million (US$21.5 million) in 2004, 2005 and 2006, respectively.
D. TREND INFORMATION
Other than as disclosed elsewhere in this annual report, we are not aware of any trends,
uncertainties, demands, commitments or events for the period from January 1, 2004 to December 31,
2006 that are reasonably likely to have a material effect on our net revenues, income,
profitability, liquidity or capital resources, or that caused the disclosed financial information
to be not necessarily indicative of future operating results or financial conditions.
E. OFF-BALANCE SHEET ARRANGEMENTS
Other than our operating lease arrangements, we have not entered into any off-balance sheet
arrangements other than our operating lease arrangements:
| • | We have not entered into any financial guarantees or other commitments to guarantee the payment obligations of any unconsolidated entity; | ||
| • | We have not entered into any obligations under any derivative contracts that are indexed to our own shares and classified as shareholder’s equity, or that are not reflected in our consolidated financial statements; | ||
| • | We do not have any retained or contingent interest in assets transferred to an unconsolidated entity that serves as credit, liquidity or market risk support to such entity; and |
F. CONTRACTUAL OBLIGATIONS AND COMMERCIAL COMMITMENTS
The following table sets forth our contractual obligations as of December 31, 2006:
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| Payments Due by Period | ||||||||||||||||||||||||
| January 1, | January 1, | January 1, | January 1, | |||||||||||||||||||||
| 2007 to | 2008 to | 2009 to | 2010 to | |||||||||||||||||||||
| December | December | December | December | |||||||||||||||||||||
| Total | 31, 2007 | 31, 2008 | 31, 2009 | 31, 2010 | Thereafter | |||||||||||||||||||
| (RMB in millions) | ||||||||||||||||||||||||
Operating lease obligations: |
||||||||||||||||||||||||
Office premises |
7.8 | 6.9 | 0.7 | 0.2 | — | — | ||||||||||||||||||
Computer equipment and others. |
48.3 | 32.0 | 16.3 | — | — | — | ||||||||||||||||||
Obligations relating to
upfront licensing fees for
licensed games |
9.7 | 9.7 | — | — | — | — | ||||||||||||||||||
Total contractual obligations. |
65.8 | 48.6 | 17.0 | 0.2 | — | — | ||||||||||||||||||
As of December 31, 2006, substantially all of our operating lease arrangements for
servers and related services provide for the calculation of lease payments based on formulas that
reference the actual number of users of the relevant servers. Our rental expenses under these
operating leases were RMB55.7 million, RMB43.9 million and RMB40.9 million (US$5.2 million) in
2004, 2005 and 2006, respectively. As future lease payments for these arrangements are based on the
actual number of users and thus cannot be reasonably estimated, they are not included in the
minimum lease payments shown above.
As of December 31, 2006, we did not have any material capital lease obligations.
Apart from the foregoing, as of December 31, 2006, we did not have any other long-term debt
obligations, operating lease obligations or purchase obligations. However, pursuant to the
contractual arrangements between Shengqu, Shanda Networking and the shareholders of Shanda
Networking, Shengqu has an option, exercisable at such time, if any, as it is legally permissible,
to acquire 100% of the equity interest in Shanda Networking for RMB10.0 million or such lower
amount as permitted by applicable law. In addition, Shengqu has agreed to indemnify the
shareholders of Shanda Networking to the extent that they are subject to any legal or economic
liabilities as a result of performing their obligations pursuant to their agreements with Shengqu.
Furthermore, Shengqu has undertaken to provide financial support to Shanda Networking and its
subsidiaries to the extent necessary for its operations. See Item 7 “Major Shareholders and Related
Party Transactions” and “Organizational Structure” in Item 4.
We do not have any variable interest in any unconsolidated entity that provides financing,
liquidity, market risk or credit support to us or engages in leasing, hedging or research and
development services with us.
G. SAFE HARBOR
This form contains forward-looking statements that are based on our current expectations,
assumptions, estimates and projections about us and our industry. All statements other than
statements of historical fact in this form are forward-looking statements. These forward-looking
statements can be identified by words or phrases such as “may”, “will”, “expect”, “anticipate”,
“estimate”, “plan”, “believe”, “is/are likely to” or other similar expressions. The forward-looking
statements included in this form relate to, among others:
| • | our goals and strategies; | ||
| • | our future business development, financial condition and results of operations; | ||
| • | our projected revenues, earnings, profits and other estimated financial information; | ||
| • | expected changes in our margins and certain costs or expenditures; | ||
| • | expected continued acceptance of our new revenue model; | ||
| • | our plans to expand and diversify the sources of our revenues; | ||
| • | expected changes in the respective shares of our revenues from particular sources; |
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| • | our plans for staffing, research and development and regional focus; | ||
| • | the projected economic lifespan of our current games, and our plans to launch games and to develop new games in-house or license additional games from third parties, including the timing of any such launches, development or licenses; | ||
| • | our plans to launch new products, including the new EZ series products, EZ content and services, movies and music content; | ||
| • | our plans for strategic partnerships with other businesses; | ||
| • | our acquisition strategy, and our ability to successfully integrate past or future acquisitions with our existing operations; | ||
| • | the development of other delivery platforms for online games and other interactive entertainment content and services, including the new EZ series products; | ||
| • | competition in the PRC online game industry; | ||
| • | the outcome of ongoing, or any future, litigation or arbitration; | ||
| • | the outcome of our annual PFIC evaluations; | ||
| • | the expected growth in the number of Internet and broadband users in China, growth of personal computer penetration and developments in the ways most people in China access the Internet; | ||
| • | changes in PRC governmental preferential tax treatment and financial incentives we currently qualify for and expect to qualify for; and | ||
| • | PRC governmental policies relating to media and the Internet and Internet content providers and to the provision of advertising over the Internet. |
These forward-looking statements involve various risks and uncertainties. Although we believe
that our expectations expressed in these forward-looking statements are reasonable, we cannot
assure you that our expectations will turn out to be correct. Our actual results could be
materially different from and worse than our expectations. Important risks and factors that could
cause our actual results to be materially different from our expectations are generally set forth
in the “Risk Factors” section of Item 3 and elsewhere in this form.
The forward-looking statements made in this form relate only to events or information as of the
date on which the statements are made in this form. We undertake no obligation to update any
forward-looking statements to reflect events or circumstances after the date on which the
statements are made or to reflect the occurrence of unanticipated events.
Item 6. DIRECTORS, SENIOR MANAGEMENT AND EMPLOYEES
A. DIRECTORS AND SENIOR MANAGEMENT
The following table sets forth certain information relating to our directors and executive
officers as of the date of this annual report. The business address of each of our directors and
executive officers is No. 1 Office Building, No. 690 Bibo Road, Pudong New Area, Shanghai 201203,
China.
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| Name | Age | Position | ||||
Tianqiao Chen(1)
|
33 | Chairman of the Board and Chief Executive Officer | ||||
Jun Tang
|
44 | Director and President | ||||
Danian Chen
|
28 | Director and Executive Senior Vice President | ||||
Qianqian Luo(1)
|
30 | Director | ||||
Jingsheng Huang(2)
|
49 | Director | ||||
Chengyu Xiong(2)
|
52 | Director | ||||
Bruno Wu(2)
|
40 | Director | ||||
Qunzhao Tan
|
30 | Director, Executive Senior Vice President and Chief Technology Officer | ||||
Daniel Zhang
|
34 | Director, Vice President and Chief Financial Officer | ||||
Haibin Qu
|
32 | Executive Senior Vice President | ||||
Yanmei Zhang
|
42 | Senior Vice President | ||||
Jingying Wang
|
36 | Senior Vice President | ||||
Hai Ling
|
36 | Senior Vice President | ||||
Xiangdong Zhang
|
31 | Senior Vice President | ||||
Jianwu Liang
|
25 | Vice President | ||||
Jisheng Zhu
|
34 | Vice President | ||||
Diana Li
|
36 | Vice President | ||||
| (1) | Member of the compensation committee. | |
| (2) | Member of the audit committee. |
Tianqiao Chen, one of our co-founders, has served as the chairman of our board of
directors and our chief executive officer since our inception in December 1999. Mr. Chen
established Shanda Networking with Danian Chen in December 1999. Prior to establishing Shanda
Networking, Mr. Tianqiao Chen served as the vice director of the office of the president of
Kinghing Trust & Investment Co., Ltd. from 1998 to 1999. From 1994 to 1998, Mr. Chen served in
various management positions with Shanghai Lujiazui Group. Mr. Tianqiao Chen holds a bachelor’s
degree in economics from Fudan University. Mr. Tianqiao Chen is the brother of Danian Chen, our
co-founder, and is married to Qianqian Luo, one of our directors.
Jun Tang has served as our president since February 2004 and as our director since April 2004.
Prior to joining us, Mr. Tang served as the president of Microsoft China Co., Ltd. from March 2002
to January 2004 and the general manager of Microsoft Asia product support and service and Microsoft
Global Technical Engineering Center from January 1998 to March 2002. In 2002, he founded Intertex
Company, a software and entertainment company, in California. Mr. Tang received his doctorate
degree, master’s degree and bachelor’s degree in the U.S., Japan and China, respectively.
Danian Chen, one of our co-founders, established Shanda Networking with Tianqiao Chen in
December 1999. Mr. Danian Chen has served as our executive senior vice president since August 2005.
Mr. Danian Chen served as a senior vice president from July 2003 to August 2005, after serving as
our director of products until July 2003, Mr. Danian Chen has served on our board of directors
since our inception. Prior to co-founding Shanda Networking, Mr. Danian Chen worked as an employee
in Xinghui International Transport Company, Haijie Shipping Agency Company and Jinyi Network from
September 1996 to November 1999. Mr. Danian Chen is Tianqiao Chen’s brother.
Qianqian Luo has served as our director since our inception in December 1999. Ms. Luo
previously served as our director of administration from November 1999 to July 2003 and vice
president from July 2003 to February 2004. Ms. Luo served as a project manager at the investment
banking department of Kinghing Trust & Investment Co., Ltd. from 1998 to 1999. Ms. Luo holds a
bachelor’s degree in economics from Financial & Banking Institute of China. Ms. Luo is married to
Tianqiao Chen.
Jingsheng Huang has served as our director since October 2005. Since October 2005, Mr. Huang
has served as Managing Director at Bain Capital. From January 2002 to September 2005, he was
Managing Director China at SOFTBANK Asia Infrastructure Fund, or SAIF, and served as a director on
the board of twelve SAIF portfolio companies in the technology, telecommunications and media
sectors. Prior to joining SAIF, Mr. Huang was a partner at SUNeVision Ventures. Mr. Huang has also
served as Senior Manager of Strategic Investments at Intel Capital,
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Director of Asia Pacific Research Operations at Gartner Group and Vice President of Marketing
of Mtone Wireless. Mr. Huang holds an MBA degree from Harvard Business School, a master’s degree in
sociology from Stanford University and a bachelor’s degree in English from Beijing Foreign Studies
University.
Chengyu Xiong has served as our director since October 2005. Dr. Xiong is a professor and
deputy dean of the School of Journalism and Communication at Tsinghua University. In addition, Dr.
Xiong serves as the director of both the New Media Studies Center and the Cultural Industries
Center at the School of Journalism. Dr. Xiong received his doctorate degree from Brigham Young
University. Dr Xiong has written, edited and translated numerous books and articles.
Bruno Wu has served as our director since October 2006. Mr. Wu is the Co-Founder and Chairman
of The Sun Media Investment Holding Group of Companies, one of China’s largest privately held media
groups with investment interests in 20 media-related companies and a portfolio of over 60 media
brands and products. Mr. Wu served as Co-Chairman of SINA Corporation from 2001 to 2002 and as the
Chief Operating Officer of ATV, one of the two free-to-air networks in Hong Kong, from June 1998
until February 1999. Mr. Wu received his Diploma of Studies in French civilization from the
University of Savoie, France, in 1987. He graduated with a Bachelor of Science in Business
Administration-Finance from Culver-Stockton College in Missouri in December 1990. He received his
Master of Arts in International Affairs degree from Washington University, Missouri in 1993 and a
Ph.D. in the International Politics Department of College of Law, Fudan University, Shanghai,
China, in 2001.
Qunzhao Tan has served as our executive senior vice president since June 2006 and senior vice
president from August 2005 to June 2006 and chief technology officer since July 2003. Mr. Tan
became a member of our board of directors in October 2006. Mr. Tan previously served as our vice
president from July 2003 to August 2005 and director of research and development from November 1999
to July 2003. Prior to joining us, Mr. Tan worked as an assistant in the Institute of Clean Coal
Technology of East China University of Science and Technology from July 1996 to November 1999. Mr.
Tan holds a bachelor’s degree in chemical engineering from East China University of Science and
Technology.
Daniel Zhang has served as our vice president and chief financial officer since July 2006. Mr.
Zhang previously served as our financial controller from September 2005 to June 2006. Prior to
joining Shanda, Mr. Zhang served as senior manager of PricewaterhouseCoopers’ Audit and Business
Advisory Division in Shanghai, China from 2002 to 2005. Prior to PricewaterhouseCoopers’ he served
for seven years with Arthur Andersen, departing as an audit manager of the firm’s Shanghai office.
Mr. Zhang holds a bachelor’s degree in finance from Shanghai University of Finance and Economics.
Haibin Qu has served as our executive senior vice president since August 2005. Prior to
serving as our senior vice president from July 2003 to August 2005, Mr. Qu served as our vice
president from September 2002 to June 2003 and as our director of business development from
February 2000 to August 2002. Previously, Mr. Qu served as a vice president of Shanghai Fuwei
Technology Development Co., Ltd. from September 1996 to December 1999. Mr. Qu holds a bachelor’s
degree in mechanics from Fudan University.
Yanmei Zhang has served as our senior vice president since August 2005 and as our vice
president from January 2005 to August 2005. Prior to joining us, Ms. Zhang served as vice president
at Sony China Corp. from January 1994 until December 2004. Ms. Zhang joined Sony America in New
York in 1991 as international Human Resources specialist and served in that position until 1993.
Ms. Zhang holds a master’s degree in Business Administration from University of South Carolina and
a bachelor’s degree in English from Shanxi University.
Jingying Wang has served as our senior vice president since August 2005. Ms. Wang previously
served as our vice president from January 2005 to August 2005 and as our director of customer
services from May 2002 to July 2003. Prior to joining us, Ms. Wang served as the customer services
manager of Shanghai Waterman Drinks Co., Ltd. from December 2000 to May 2002, and the customer
services supervisor of Hangzhou Marykay Cosmetics Co., Ltd. from 1998 to December 2000. Ms. Wang
holds a bachelor’s degree in radio technology from Shanghai University.
Hai Ling has served as our senior vice president since August 2005. Mr. Ling previously served
as our vice president from August 2003 to August 2005 and as our director of sales. Prior to
joining us, Mr. Ling served as general
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manager of Powerise Technology Co. from 1997 to 2003. Mr. Ling holds a bachelor’s degree in
computer science and technology from the National University of Defense Technology.
Xiangdong Zhang was promoted to senior vice president in June 2006. Prior to serving as our
vice president from July 2005 to June 2006, Mr. Zhang served as director of our product management
center from 2001 to July 2005. Prior to joining us, Mr. Zhang served as the editor-in-chief of the
game channel at China.com from 1999 to 2001. Mr. Zhang holds a bachelor’s degree in engineering
from Dalian Institute of Light Industry.
Jianwu Liang has served as our vice president since March 2007. Mr. Liang previously served as
the vice president of our SDO (Shanda Operation) Division from July 2006 to March 2007, and as the
director of our billing platform center from July 2005 to July 2006. Mr. Liang joined Shanda in
February 2002 and worked in our Billing Platform Center. Before joining Shanda, Jianwu Liang worked
in a Shanghai software company from May 2000 to January 2002, and was responsible for research and
development as well as project management. Mr. Liang holds a bachelor’s degree in applied
mathematics from Shanghai Jiao Tong University.
Jisheng Zhu has served as our vice president since March 2007. Mr. Zhu previously served as
the vice president of our SDO (Shanda Operation) Division from July 2006 to March 2007, as the
director of our Technical Support Center from January 2005 to June 2006, and as a manager of our
Network Security Department from May 2003 to December 2004. Before joining Shanda, Mr. Zhu served
as the engineering service director of Kingnet Security Inc. from 2001 to 2003 and as the director
of research and development in Eachnet.com from 2000 to 2001. Mr. Zhu holds a master’s degree in
automatic control from East China University of Science and Technology.
Diana Li has served as our vice president since March 2007. Ms. Li was previously appointed
vice president of our SDG (Shanda Game) Division in May 2006 and as a director of both our Project
Management Center and Game Design Center since February 2005. Before joining Shanda, Ms. Li was a
project director at Expedia Inc., responsible for project management and operations for Expedia in
the Asia Pacific including Australia. From 1999 to 2004, Ms. Li held management positions in
various product groups of Microsoft including the Office, Windows Server and Xbox product groups.
Prior to joining Microsoft, Ms. Li was a manager at Fidelity Investments in Boston from 1998 to
1999, and she was a team manager at Unifi Telecommunication Inc. from 1995 to 1998. Ms. Li holds a
bachelor’s of science degree in psychology from Beijing University and a master’s of science degree
in applied statistics and operations research from Bowling Green State University in Ohio.
Duties of Directors
Under Cayman Islands law, our directors have a duty of loyalty to act honestly in good faith
with a view to our best interests. Our directors also have a duty to exercise the care, diligence
and skills that a reasonably prudent person would exercise in comparable circumstances. In
fulfilling their duty of care to us, our directors must ensure compliance with our amended and
restated memorandum and articles of association. A shareholder has the right in certain
circumstances in a derivative action in the name of the company to seek damages if a duty owed by
our directors is breached.
The functions and powers of our board of directors include, among others:
| • | convening shareholders’ meetings and reporting its work to shareholders at such meetings; | ||
| • | implementing shareholders’ resolutions; | ||
| • | determining our business plans and investment proposals; | ||
| • | formulating our profit distribution plans and loss recovery plans; | ||
| • | determining our debt and finance policies and proposals for the increase or decrease in our registered capital and the issuance of debentures; |
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| • | formulating our major acquisition and disposition plans, and plans for merger, division or dissolution; | ||
| • | proposing amendments to our amended and restated memorandum and articles of association; and | ||
| • | exercising any other powers conferred by the shareholders’ meetings or under our amended and restated memorandum and articles of association. |
Terms of Directors and Executive Officers
Each of our directors holds office until a successor has been duly elected and qualified
unless the director was appointed by the board of directors, in which case such director holds
office until the next following annual meeting of shareholders at which time such director is
eligible for reelection. All of our executive officers are appointed by and serve at the discretion
of our board of directors.
B. COMPENSATION
In 2006, the aggregate cash compensation paid to our directors and executive officers as a
group RMB was 14.06 million (US$1.80 million). In addition, options to acquire an aggregate of
1,280,000 ordinary shares were granted to our directors and executive officers in 2006. We have no
service contracts with any of our directors or executive officers that provide benefits to them
upon termination.
Equity Compensation Plans
In order to promote our success and to increase shareholder value by providing an additional
means to attract, motivate, retain and reward selected directors, employees and other eligible
persons, we have adopted our 2003 Incentive Plan, or the 2003 Plan and our 2005 Equity Compensation
Plan, or the 2005 Plan. In March 2003, our board of directors adopted the 2003 Plan. An aggregate
of 13,309,880 ordinary shares, which is equal to approximately 9.4% of our issued and outstanding
ordinary shares as of March 31, 2007, were reserved for issuance under the 2003 Plan. In October
2005, shareholders approved the 2005 plan at our annual general meeting of shareholders. An
aggregate of 7,449,235 ordinary shares, which is equal to approximately 5.2% of our issued and
outstanding ordinary shares as of March 31, 2007, were reserved for issuance under the 2005 Plan.
The table set forth below summarizes stock option activity under the plans for the years ended
December 31, 2004, 2005 and 2006:
| 2004 | 2005 | 2006 | ||||||||||||||||||||||
| Weighted | Weighted | Weighted | ||||||||||||||||||||||
| Average | Average | Average | ||||||||||||||||||||||
| Options | Exercise Price | Options | Exercise Price | Options | Exercise Price | |||||||||||||||||||
| Outstanding | (US$) | Outstanding | (US$) | Outstanding | (US$) | |||||||||||||||||||
Outstanding at
beginning of year |
8,857,803 | 1.516 | 8,883,402 | 3.42 | 6,220,775 | 4.71 | ||||||||||||||||||
Granted |
4,258,503 | 5.57 | 567,731 | 15.63 | 3,000,000 | 6.8505 | ||||||||||||||||||
Exercised |
(4,116,074 | ) | 1.55 | (2,762,438 | ) | 2.70 | (1,226,082 | ) | 3.57 | |||||||||||||||
Forfeited |
(116,830 | ) | 3.51 | (467,920 | ) | 5.33 | (406,671 | ) | 7.88 | |||||||||||||||
Expired |
(20,785 | ) | 13.87 | |||||||||||||||||||||
Outstanding at end
of year |
8,883,402 | 3.42 | 6,220,775 | 4.71 | 7,567,237 | 5.55 | ||||||||||||||||||
Vested and
exercisable at end
of year |
397,091 | 2.53 | 1,164,853 | 3.97 | 2,907,096 | 3.18 | ||||||||||||||||||
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As of December 31, 2006, approximately 5,087,284 options were available for granted under
the plans. The table set forth below summarizes outstanding and exercisable stock options under the
plans as of December 31, 2006.
| Options Outstanding at | Options Exercisable at | |||||||||||||||||||
| December 31, 2006 | December 31, 2006 | |||||||||||||||||||
| Weighted Average | ||||||||||||||||||||
| Remaining | Weighted Average | Weighted Average | ||||||||||||||||||
| Number | Contractual Life | Exercise Price | Number | Exercise Price | ||||||||||||||||
| Exercise Prices US$ | Outstanding | (years) | (US$) | Outstanding | (US$) | |||||||||||||||
1.516 |
1,967,966 | 6.25 | 1.516 | 1,967,966 | 1.516 | |||||||||||||||
5.5 |
2,158,452 | 7.14 | 5.5 | 802,037 | 5.5 | |||||||||||||||
8.00 |
35,850 | 7.58 | 8.00 | 35,850 | 8.00 | |||||||||||||||
15.33 |
163,078 | 8.07 | 15.33 | 40,770 | 15.33 | |||||||||||||||
15.55 |
171,940 | 8.08 | 15.55 | 42,985 | 15.55 | |||||||||||||||
14.89 |
40,295 | 8.13 | 14.89 | 10,074 | 14.89 | |||||||||||||||
16.86 |
29,656 | 8.42 | 16.86 | 7,414 | 16.86 | |||||||||||||||
6.8505 |
3,000,000 | 9.50 | 6.8505 | 0 | 6.8505 | |||||||||||||||
| 7,567,237 | 2,907,096 | |||||||||||||||||||
On April 24, 2007, we granted options under the 2005 plan to purchase 655,000 of our
ordinary shares to three of our officers, Jianwu Liang, Jisheng Zhu and Diana Li, and other
employees at an exercise price of US$11.6406, which is equal to the average of the
closing prices for the 90 trading days prior to the grant date.
Both the 2003 Plan and the 2005 Plan are administered by our compensation committee, which has
wide discretion to award equity compensation grants. Subject to the provisions of the 2003 Plan and
the 2005 Plan, including the limits upon the number of ordinary shares reserved for issuance under
these plans, our compensation committee determines who will receive equity compensation awards, the
type and timing of awards to be granted, vesting schedules, exercise prices and other terms and
conditions of the awards.
For a description of our past stock option compensation expense and recent accounting changes,
see Item 5 “Operating and Financial Review and Prospects – A. Operating Results – Operating
Expenses – Share-based Compensation.”
The table below sets forth the option grants made to our directors and executive officers
pursuant to the plans as of March 31, 2007:
| Number of Shares | Per Share | |||||||||||||||
| Underlying | Exercise Price (in | Date of | ||||||||||||||
| Name | Options Granted | US$) | Date of Grant | Expiration | ||||||||||||
Tianqiao Chen |
266,198 | 1.516 | March 31, 2003 | March 31, 2013 | ||||||||||||
Danian Chen |
266,198 | 1.516 | March 31, 2003 | March 31, 2013 | ||||||||||||
Jun Tang |
2,661,976 | 5.5 | February 12, 2004 | February 12, 2014 | ||||||||||||
Qianqian Luo |
266,198 | 1.516 | March 31, 2003 | March 31, 2013 | ||||||||||||
Jingsheng Huang |
* | 1.516 | March 31, 2003 | March 31, 2013 | ||||||||||||
Qunzhao Tan |
2,129,581 | 1.516 | March 31, 2003 | March 31, 2013 | ||||||||||||
Qunzhao Tan |
150,000 | 6.8505 | June 28, 2006 | June 28, 2016 | ||||||||||||
Daniel Zhang |
* | 6.8505 | June 28, 2006 | June 28, 2016 | ||||||||||||
Haibin Qu |
1,863,383 | 1.516 | March 31, 2003 | March 31, 2013 | ||||||||||||
Jingying Wang |
* | 1.516 | March 31, 2003 | March 31, 2013 | ||||||||||||
Jingying Wang |
* | 6.8505 | June 28, 2006 | June 28, 2016 | ||||||||||||
Yanmei Zhang |
* | 15.33 | January 25, 2005 | January 25, 2015 | ||||||||||||
Yanmei Zhang |
* | 6.8505 | June 28, 2006 | June 28, 2016 | ||||||||||||
Hai Ling |
* | 1.516 | March 31, 2003 | March 31, 2013 | ||||||||||||
Hai Ling |
* | 5.5 | April 1, 2004 | April 1, 2014 | ||||||||||||
Hai Ling |
* | 6.8505 | June 28, 2006 | June 28, 2016 | ||||||||||||
Xiangdong Zhang |
* | 1.516 | March 31, 2003 | March 31, 2013 | ||||||||||||
Xiangdong Zhang |
* | 5.5 | April 1, 2004 | April 1, 2014 | ||||||||||||
Xiangdong Zhang |
* | 6.8505 | June 28, 2006 | June 28, 2016 | ||||||||||||
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| Number of Shares | Per Share | |||||||||||||||
| Underlying | Exercise Price (in | Date of | ||||||||||||||
| Name | Options Granted | US$) | Date of Grant | Expiration | ||||||||||||
Jianwu Liang |
* | 1.516 | March 31, 2003 | March 31, 2013 | ||||||||||||
Jianwu Liang |
* | 6.8505 | June 28, 2006 | June 28, 2016 | ||||||||||||
Jisheng Zhu |
* | 5.5 | April 1, 2004 | April 1, 2014 | ||||||||||||
Jisheng Zhu |
* | 6.8505 | June 28, 2006 | June 28, 2016 | ||||||||||||
Diana Li |
* | 14.89 | February 16, 2005 | February 16, 2016 | ||||||||||||
Diana Li |
* | 6.8505 | June 28, 2006 | June 28, 2016 | ||||||||||||
| * | Upon exercise of all options granted, would beneficially own less than 1% of our outstanding ordinary shares. |
C. BOARD PRACTICES
Term and Severance Provisions of Directors and Executive Officers
Each of our directors holds office until a successor has been duly elected and qualified
unless the director was appointed by the board of directors, in which case such director holds
office until the next following annual meeting of shareholders at which time such director is
eligible for reelection. All of our executive officers are appointed by and serve at the discretion
of our board of directors. We have no service contracts with any of our directors or executive
officers that provide benefits to them upon termination.
Board Committees
Our board of directors has established an audit committee and a compensation committee.
Audit Committee
Our audit committee currently consists of Jingsheng Huang, Chengyu Xiong and Bruno Wu. Our
board of directors has determined that all of our audit committee members are independent directors
within the meaning of Nasdaq Marketplace Rule 4200(a)(15) and meet the criteria for independence
set forth in Section 10A(m)(3)(B)(i) of the Exchange Act.
Our audit committee is responsible for, among other things:
| • | selecting the independent auditors and pre-approving all auditing and non-auditing services permitted to be performed by the independent auditors; | ||
| • | annually reviewing an independent auditors’ report describing the auditing firm’s internal quality-control procedures, any material issues raised by the most recent internal quality-control review, or peer review, of the independent auditors and all relationships between the independent auditors and our company; | ||
| • | setting clear hiring policies for employees or former employees of the independent auditors; | ||
| • | reviewing with the independent auditors any audit problems or difficulties and management’s response; | ||
| • | reviewing and approving all proposed related-party transactions, as defined in Item 404 of Regulation S-K; | ||
| • | discussing the annual audited financial statements with management and the independent auditors; | ||
| • | discussing with management and the independent auditors major issues regarding accounting principles and financial statement presentations; |
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| • | reviewing reports prepared by management or the independent auditors relating to significant financial reporting issues and judgments; | ||
| • | discussing earnings press releases, as well as financial information and earnings guidance provided to analysts and rating agencies; | ||
| • | reviewing with management and the independent auditors the effect of regulatory and accounting initiatives, as well as off-balance sheet structures on our financial statements; | ||
| • | discussing policies with respect to risk assessment and risk management; | ||
| • | reviewing major issues as to the adequacy of our internal controls and any special audit steps adopted in light of material control deficiencies; | ||
| • | timely reviewing reports from the independent auditors regarding all critical accounting policies and practices to be used by our company, all alternative treatments of financial information within GAAP that have been discussed with management and all other material written communications between the independent auditors and management; | ||
| • | establishing procedures for the receipt, retention and treatment of complaints received from our employees regarding accounting, internal controls or auditing matters and the confidential, anonymous submission by our employees of concerns regarding questionable accounting or auditing matters; | ||
| • | annually reviewing and reassessing the adequacy of our audit committee charter; | ||
| • | such other matters that are specifically delegated to our audit committee by our board of directors from time to time; | ||
| • | meeting separately, periodically, with management, the internal auditors and the independent auditors; and | ||
| • | reporting regularly to the full board of directors. |
Compensation Committee
Our current compensation committee consists of Tianqiao Chen and Qianqian Luo.
Our compensation committee is responsible for:
| • | reviewing and making recommendations to our board of directors regarding our compensation policies and forms of compensation provided to our directors and officers; | ||
| • | reviewing and determining bonuses for our officers and other employees; | ||
| • | reviewing and determining stock-based compensation for our directors, officers, employees and consultants; | ||
| • | administering our equity incentive plans in accordance with the terms thereof; and | ||
| • | such other matters that are specifically delegated to the compensation committee by our board of directors from time to time. |
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Controlled Company
We are a controlled company as defined under Nasdaq Marketplace Rule 4350(c)(5). As a result,
for so long as we remain a controlled company as defined in that rule, we are exempt from some of
the requirements of Nasdaq Marketplace Rule 4350(c), including the requirements that:
| • | a majority of our board of directors must be independent directors; | ||
| • | the compensation of our chief executive officer must be determined or recommended by a majority of the independent directors or a compensation committee comprised solely of independent directors; and | ||
| • | the director nominees must be selected or recommended by a majority of the independent directors or a nomination committee comprised solely of independent directors. |
Corporate Governance
Our board of directors has adopted a code of ethics, which is applicable to our senior
executive and financial officers. In addition, our board of directors has adopted a code of
conduct, which is applicable to all of our directors, officers and employees. We have made our code
of ethics and our code of conduct publicly available on our website. See also Item 16B “Code of
Ethics”.
In addition, our board of directors has adopted a set of corporate governance guidelines. The
guidelines reflect certain guiding principles with respect to our board’s structure, procedure and
committees. The guidelines are not intended to change or interpret any law or our amended and
restated memorandum and articles of association.
We also have established a disclosure committee, which is comprised of certain members of
senior management. Pursuant to the disclosure committee’s charter, which was ratified by our board
of directors, the disclosure committee is responsible for adopting, evaluating and overseeing our
disclosure controls and procedures and internal financial controls.
D. EMPLOYEES
As of December 31, 2004, 2005 and 2006, we had 1,429, 2,392 and 1,906 full-time employees,
respectively. The following table sets forth the number of our employees by department as of
December 31, 2005 and 2006:
| As of December 31, 2005 | As of December 31, 2006 | |||||||||||||||
| Number | Percent | Number | Percent | |||||||||||||
Senior Management |
32 | 1.3 | 27 | 1.4 | ||||||||||||
Customer Service |
419 | 17.5 | 398 | 20.9 | ||||||||||||
Technology Support |
301 | 12.6 | 245 | 12.9 | ||||||||||||
Game Development |
818 | 34.2 | 504 | 26.4 | ||||||||||||
Product Management |
254 | 10.6 | 324 | 17.0 | ||||||||||||
Sales, Marketing and Public Relations |
345 | 14.4 | 229 | 12.0 | ||||||||||||
Finance and Administration /
Investment and Overseas Business |
223 | 9.4 | 179 | 9.4 | ||||||||||||
New Business |
||||||||||||||||
Total |
2,392 | 100 | 1,906 | 100 | ||||||||||||
As required by PRC regulations, we participate in various employee benefit plans that are
organized by municipal and provincial governments, including housing, pension, medical and
unemployment benefit plans. We are required under PRC law to make contributions to the employee
benefit plans at specified percentages of the salaries, bonuses and certain allowances of our
employees, up to a maximum amount specified by the local government from time to time. Members of
the retirement plan are entitled to a pension equal to a fixed proportion of the salary prevailing
at the member’s retirement date. In addition to the benefits that we are required to provide to our
employees
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pursuant to PRC regulations, we also provide life insurance and supplemental medical and
housing insurance. The total amount of contributions we made to employee benefit plans in 2004,
2005 and 2006 was RMB13.7 million, RMB 24.2 million and RMB33.5 million (US$4.3 million)
respectively.
Our employees who are PRC citizens are members of a labor union that represents employees with
respect to labor disputes and other employee matters. The labor union does not, however, represent
employees for the purpose of collective bargaining. We believe that we maintain a good working
relationship with our employees and we have not experienced any significant labor disputes or any
difficulty in recruiting staff for our operations.
We enter into a standard annual employment contract with most of our officers, managers and
employees. These contracts include a covenant that prohibits the officer, manager or employee from
engaging in any activities that compete with our business during, and for one to two years after
the period of their employment with us.
E. SHARE OWNERSHIP
Please see Item 7.A.
Item 7. MAJOR SHAREHOLDERS AND RELATED PARTY TRANSACTIONS
A. MAJOR SHAREHOLDERS
The following table sets forth information with respect to the beneficial ownership, within
the meaning of Rule 13d-3 of the U.S. Securities Exchange Act of 1934, as amended, or the Exchange
Act, of our ordinary shares, as of March 31, 2007:
| • | each person known to us to own beneficially more than 5% of our ordinary shares; and | ||
| • | each of our directors and executive officers who beneficially own ordinary shares within the meaning of Rule 13d-3 of the Exchange Act; |
Beneficial ownership includes voting or investment power with respect to the securities.
Except as indicated below, and subject to applicable community property laws, the persons named in
the table have sole voting and investment power with respect to all ordinary shares shown as
beneficially owned by them. Percentage of beneficial ownership is based on 143,678,698 ordinary
shares outstanding as of March 31, 2007.
| Shares Beneficially Owned | ||||||||
| Percentage of | ||||||||
| Name | Number | Total | ||||||
Tianqiao Chen(1) |
83,524,628 | 58.1 | % | |||||
Danian Chen(2) |
82,226,360 | 57.2 | % | |||||
Qianqian Luo(3) |
83,524,628 | 58.1 | % | |||||
Skyline Media Limited(4) |
81,070,090 | 56.4 | % | |||||
Cisco Systems, Inc(5) |
10,382,316 | 7.3 | % | |||||
AXA Group(5) |
7,596,058 | 5.4 | % | |||||
Jun Tang |
887,581 | 0.6 | % | |||||
Jingsheng Huang |
* | * | ||||||
Qunzhao Tan(6) |
1,415,781 | 1.0 | % | |||||
Daniel Zhang |
* | * | ||||||
Haibin Qu(7) |
1,216,661 | 0.9 | % | |||||
Yanmei Zhang |
* | * | ||||||
Jingying Wang(8) |
* | * | ||||||
Hai Ling |
* | * | ||||||
Xiangdong Zhang(9) |
* | * | ||||||
Jianwu Liang |
* | * | ||||||
Jisheng Zhu |
* | * | ||||||
Diana Li |
* | * | ||||||
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| * | Upon exercise of all options currently exercisable or vesting within 60 days of the date of this table, would beneficially own less than 1% of our ordinary shares. | |
| (1) | Represents 81,070,090 ordinary shares owned by Skyline Media Limited, 2,188,338 ordinary shares held by DBS Trustees Limited acting as trustees of the Jade Trust and 266,200 ordinary shares that may be issued upon exercise of stock options that are held by DBS Trustees Limited acting as trustees of the Jade Trust. Tianqiao Chen is the sole shareholder of Shanda Media Limited, which is a director and owns 40% of Skyline Capital International Limited, the sole shareholder of Skyline Media Limited. Tianqiao Chen is also a director of Skyline Media Limited. Tianqiao Chen disclaims beneficial ownership of all of our ordinary shares owned by Skyline Media Limited. Ordinary shares and stock options held by DBS Trustees Limited acting as trustees of the Jade Trust are held for the benefit of Tianqiao Chen and his family members. | |
| (2) | Represents 81,070,090 ordinary shares owned by Skyline Media Limited, 1,023,170 ordinary shares owned by DBS Trustees Limited acting as trustees of the Chi Feng Trust and 133,100 ordinary shares that may be issued upon exercise of stock options that are held by DBS Trustees Limited acting as trustees of the Chi Feng Trust. Danian Chen is the sole shareholder of Shanda Investment International Limited, which is a director and owns 30% of Skyline Capital International Limited, the sole shareholder of Skyline Media Limited. Danian Chen is also a director of Skyline Media Limited. Danian Chen disclaims beneficial ownership of all of our ordinary shares owned by Skyline Media Limited. Ordinary shares and stock options held by DBS Trustees Limited acting as trustees of the Chi Feng Trust are held for the benefit of Danian Chen and his family members. | |
| (3) | Represents 81,070,090 ordinary shares owned by Skyline Media Limited, 2,188,338 ordinary shares owned by DBS Trustees Limited acting as trustees of the Jade Trust and 266,200 ordinary shares that may be issued upon exercise of stock options held by DBS Trustees Limited acting as trustees of the Jade Trust. Qianqian Luo is the sole shareholder of Fortune Capital Holdings Enterprises Limited, which is a director and owns 30% of Skyline Capital International Limited, the sole shareholder of Skyline Media Limited. Ms. Luo is also a director of Skyline Media Limited. Ms. Luo disclaims beneficial ownership of all of our ordinary shares owned by Skyline Media Limited. Ordinary shares and stock options held by DBS Trustees Limited acting as trustees of the Jade Trust are held for the benefit of Ms. Luo and her family members. | |
| (4) | Tianqiao Chen, Danian Chen and Qianqian Luo indirectly own 40%, 30% and 30%, respectively, of Skyline Media and may be deemed to beneficially own all of our shares held by Skyline Media Limited. | |
| (5) | The number of shares was taken from Schedule 13G filed with the SEC by AXA Group and Cisco Systems, Inc. on February 13, 2007 and February 14, 2007 respectively, both the file number is 005-80297. The percentage of beneficial ownership was calculated based on the amount of our ordinary shares outstanding as of March 31, 2007 | |
| (6) | These ordinary shares, or stock options to purchase ordinary shares, are held by DBS Trustees Limited acting as Trustees of the Three Gorges Trust for the benefit of Qunzhao Tan and his family members. | |
| (7) | These ordinary shares, or stock options to purchase ordinary shares, are held by DBS Trustees Limited acting as Trustees of the Hub Trust for the benefit of Haibin Qu and his family members. | |
| (8) | These ordinary shares, or stock options to purchase ordinary shares, are held by DBS Trustee Limited acting as Trustees of the Fly Trust for the benefit of Jingying Wang and his family members | |
| (9) | These ordinary shares, or stock options to purchase ordinary shares, are held by DBS Trustee Limited acting as Trustee of the Shabak Trust for the benefit of Xiangdong Zhang and his family members. |
None of our existing shareholders have voting rights that differ from the voting rights
of other shareholders. We are not aware of any arrangement that may, at a subsequent date, result
in a change of control of our company. As of March 31, 2007 of the 143,678,698 issued and
outstanding ordinary shares, approximately 23.7% of those ordinary shares were held in the US by 86
institutional holders of record.
B. RELATED PARTY TRANSACTIONS
Shengqu/Shanda Networking Arrangements
In order to comply with PRC regulations, through the date of this annual report, we have
operated our online game business in China through Shanda Networking, a company wholly owned by
Tianqiao Chen and Danian Chen, our founders and controlling shareholders, who are also PRC
citizens. We have entered into a series of contractual arrangements with Shanda Networking and its
shareholders, including contracts relating to the transfer of assets, the provision of services,
software licenses and equipment, and certain shareholder rights and corporate governance matters.
Each of Shengqu’s contractual arrangements with Shanda Networking and its shareholders may
only be amended with the approval of our audit committee or another independent body of our board
of directors.
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In December 2004, with an effective date of January 2005, we reorganized our online game
operations in China, splitting such operations between three different companies, Shanda
Networking, Nanjing Shanda and Hangzhou Bianfeng. Nanjing Shanda and Hangzhou Bianfeng are
subsidiaries of Shanda Networking. Following this reorganization, each of these companies operates
our online games in distinct provinces and regions across China. In connection with this
reorganization, we entered into a series of contractual arrangements with Shanda Networking,
Nanjing Shanda and Hangzhou Bianfeng and modified certain existing contractual arrangements with
Shanda Networking.
The following is a summary of the material provisions of these agreements. For more complete
information you should read these agreements in their entirety. Directions of how to obtain copies
of those agreements are provided in this annual report under “Documents on Display” included in
Item 10 “Additional Information”.
| No | Agreement | Date | Parties | Purpose | Payment | |||||
1
|
Research and Development Agreement | October 31, 2005 | Shengqu and Shengjin | Shengjin to develop Shanda Richman, an online casual game | Shengqu to pay: (i) recoupable installment payments of totaling 2 million over 24 months; and (ii) monthly royalty payments equal to 16% | |||||
2
|
Research and Development Agreement | July 14, 2004 | Shengqu and Shengjin | Shengjin to develop The Sign, a MMORPG | Shengqu to pay: (i) recoupable installment payments of totaling 2 million over 24 months; and (ii) monthly royalty payments between 5% and 10%. | |||||
3
|
Purchase Agreement | December 21, 2004 | Shengqu and Shengpin | Shengqu to purchase from Shengpin copyright for The Age, a MMORPG | RMB2.7 million | |||||
4
|
The Woool License Agreement Extension |
January 1, 2007 | Shengqu and PRC operating companies | Shengqu extends term Woool operating license to the PRC operating companies | 26% royalty | |||||
5
|
The Age License Agreement Extension |
January 1, 2007 | Shengqu and PRC operating companies | Shengqu extends term The Age operating license to the PRC operating companies | 26% royalty | |||||
6
|
3G Hero License Agreement |
September 1, 2006 | Shengqu and PRC operating companies | Shengqu licenses right to operate 3G Hero to the PRC operating companies | 35% royalty | |||||
7
|
Shanda Richman License Agreement |
December 8, 2006 | Shengqu and PRC operating companies | Shengqu licenses right to operate Shanda Richman to the PRC operating companies | 35% royalty | |||||
8
|
GetAmped License Agreement |
February 18, 2006 | Shengqu and PRC operating companies | Shengqu licenses right to operate GetAmped to the PRC operating companies | 25% royalty | |||||
9
|
LaTale License Agreement |
April 2, 2007 | Shengqu and PRC operating companies | Shengqu licenses right to operate LaTale to the PRC operating companies | RMB7,740,900 and 32% royalty |
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Table of Contents
| No | Agreement | Date | Parties | Purpose | Payment | |||||
10
|
Arena Software III License Agreement |
May 1, 2006 | Grandpro and Haofang Online | Grandpro licenses right to use Arena Software III to Haofang Online | 35% royalty | |||||
11
|
Mir II License Agreement Extension |
September 28, 2005 | Shengqu and PRC operating companies | Shengqu extends term Mir II operating license to the PRC operating companies | RMB23,799,400 and 26% royalty | |||||
12
|
BNB License Agreement Extension |
October 1, 2005 | Shengqu and PRC operating companies | Shengqu extends term BNB operating license to the PRC operating companies | RMB12,138,000 and 45% royalty | |||||
13
|
The Woool License Agreement Extension |
January 1, 2006 | Shengqu and PRC operating companies | Shengqu extends term Woool operating license to the PRC operating companies | RMB15,000,000 and 26% royalty | |||||
14
|
The Age License Agreement Extension |
January 1, 2006 | Shengqu and PRC operating companies | Shengqu extends term The Age operating license to the PRC operating companies | RMB1,080,000 and 26% royalty | |||||
15
|
The Sign License Agreement Extension |
January 1, 2006 | Shengqu and PRC operating companies | Shengqu extends term The Sign operating license to the PRC operating companies | RMB1,080,000 and 26% royalty | |||||
16
|
R.O. License Agreement | September 1, 2005 | Shengqu and PRC operating companies | Shengqu licenses right to operate R.O. to the PRC operating companies | RMB5,669,860 and 35% royalty | |||||
17
|
3G Hero License Agreement |
September 1, 2005 | Shengqu and PRC Operating Companies | Shengqu licenses right to operate 3G Hero to the PRC operating companies | RMB2,000,000 and 35% royalty | |||||
18
|
Shanda Richman License Agreement |
December 8, 2005 | Shengqu and PRC operating companies | Shengqu licenses right to operate Shanda Richman to the PRC operating companies | RMB1,500,000 and 35% royalty | |||||
19
|
Crazy Kart License Agreement |
March 18, 2006 | Shengqu and PRC operating companies | Shengqu licenses right to operate Crazy Kart to the PRC operating companies | RMB1,200,000 and 35% royalty | |||||
20
|
Doudizhu License Agreement |
May 1, 2006 | Grandpro and Haofang Online | Grandpro licenses right to operate Doudizhu to Haofang Online | 35% royalty | |||||
21
|
The Woool License Agreement |
December 28, 2004 | Shengqu and PRC operating companies | Shengqu licenses right to operate Woool to the PRC operating companies | RMB30,000,000 and 26% royalty | |||||
22
|
The Age License Agreement |
December 28, 2004 | Shengqu and PRC operating companies | Shengqu licenses right to operate the Age to the PRC operating companies | RMB3,300,000 and 26% royalty |
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| No | Agreement | Date | Parties | Purpose | Payment | |||||
23
|
The Sign License Agreement |
December 28, 2004 | Shengqu and PRC operating companies | Shengqu licenses right to operate The Sign to the PRC operating companies | RMB2,900,000 and 26% royalty | |||||
24
|
Maple Story License Agreement |
December 28, 2004 | Shengqu and PRC operating companies | Shengqu licenses right to operate Maple Story to the PRC operating companies | RMB3,972,960 and 35% royalty | |||||
25
|
Mir II License Agreement |
December 28, 2004 | Shengqu and PRC operating companies | Shengqu licenses right to operate Mir II to the PRC operating companies | RMB11,035,733 and 26% royalty | |||||
26
|
BNB License Agreement |
December 28, 2004 | Shengqu and PRC operating companies | Shengqu licenses right to operate BNB to the PRC operating companies | RMB1,308,701 and 35% royalty | |||||
27
|
GetAmped License Agreement |
December 28, 2004 | Shengqu and PRC operating companies | Shengqu licenses right to operate GetAmped to the PRC operating companies | RMB958,222 and 25% royalty | |||||
28
|
Arena Software I License Agreement |
May 1, 2006 | Grandpro and Haofang Online | Grandpro licenses right to use Arena Software I to Haofang Online | 35% royalty | |||||
29
|
Arena Software II License Agreement |
May 1, 2006 | Grandpro and Haofang Online | Grandpro licenses right to use Arena Software II to Haofang Online | 35% royalty | |||||
30
|
Unified Platform Verification System License Agreement |
January 1, 2007 | Shanda Computer and Shanda Networking | Shanda Computer licenses right to use Unified Platform Verification System to Shanda Networking | monthly royalty fee equal to log-in number multiplied by unit price as set forth in Exhibit A. | |||||
31
|
Unified Platform Verification System License Agreement |
January 1, 2007 | Shanda Computer and Nanjing Shanda | Shanda Computer licenses right to use Unified Platform Verification System to Nanjing Shanda | monthly royalty fee equal to log-in number multiplied by unit price as set forth in Exhibit A. | |||||
32
|
Unified Platform Verification System License Agreement |
January 1, 2007 | Shanda Computer and Hangzhou Bianfeng | Shanda Computer licenses right to use Unified Platform Verification System to Hangzhou Bianfeng | monthly royalty fee equal to log-in number multiplied by unit price as set forth in Exhibit A. | |||||
33
|
Jingling System Software License Agreement |
January 1, 2007 | Shanda Computer and Shanda Networking | Shanda Computer licenses right to use Jingling System to Shanda Networking | monthly royalty fee equal to Q&A number multiplied by unit price as set forth in Exhibit A | |||||
34
|
Jingling System Software License Agreement |
January 1, 2007 | Shanda Computer and Nanjing Shanda | Shanda Computer licenses right to use Jingling System to Nanjing Shanda | monthly royalty fee equal to Q&A number multiplied by unit price as set forth in Exhibit A |
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Table of Contents
| No | Agreement | Date | Parties | Purpose | Payment | |||||
35
|
Jingling System Software License Agreement |
January 1, 2007 | Shanda Computer and Hangzhou Bianfeng | Shanda Computer licenses right to use Jingling System to Hangzhou Bianfeng | monthly royalty fee equal to Q&A number multiplied by unit price as set forth in Exhibit A | |||||
36
|
Physical Card | January 1, 2007 | Shanda Computer and | Shanda Computer | Shanda Networking to pay: | |||||
| Online-sales System Software License Agreement |
Shanda Networking | licenses right to use Physical Card Online-sales System to Shanda Networking | (i) installment payments of RMB1,200,000 over 12 months; and (ii) monthly royalty equal to 15% | |||||||
37
|
Physical Card | January 1, 2007 | Shanda Computer and | Shanda Computer | Nanjing Shanda to pay: | |||||
| Online-sales System Software License Agreement |
Nanjing Shanda | licenses right to use Physical Card Online-sales System to Nanjing Shanda | (i) installment payments of RMB1,200,000 over 12 months; and (ii) monthly royalty equal to 15% | |||||||
38
|
Physical Card | January 1, 2007 | Shanda Computer and | Hangzhou Bianfeng | Hangzhou Bianfeng to pay: | |||||
| Online-sales System Software License Agreement |
Hangzhou Bianfeng | licenses right to use Physical Card Online-sales System to Hangzhou Bianfeng | (i) installment payments of RMB120,000 over 12 months; and (ii) monthly royalty equal to 15% | |||||||
39
|
Virtual Card | January 1, 2007 | Shanda Computer and | Shanda Computer | Shanda Networking to pay: | |||||
| Online-sales System Software License Agreement |
Shanda Networking | licenses right to use Virtual Card Online-sales System to Shanda Networking | (i) installment payments of RMB1,200,000 over 12 months; and (ii) monthly royalty equal to 15% | |||||||
40
|
Virtual Card | January 1, 2007 | Shanda Computer and | Shanda Computer | Nanjing Shanda to pay: | |||||
| Online-sales System Software License Agreement |
Nanjing Shanda | licenses right to use Virtual Card Online-sales System to Nanjing Shanda | (i) installment payments of RMB1,200,000 over 12 months; and (ii) monthly royalty equal to 15% | |||||||
41
|
Virtual Card | January 1, 2007 | Shanda Computer and | Shanda Computer | Hangzhou Bianfeng to pay: | |||||
| Online-sales System Software License Agreement |
Hangzhou Bianfeng | licenses right to use Virtual Card Online-sales System to Hangzhou Bianfeng | (i) installment payments of RMB120,000 over 12 months; and (ii) monthly royalty equal to 15% | |||||||
42
|
Debit Card and | January 1, 2007 | Shanda Computer and | Shanda Computer | Shanda Networking to pay: | |||||
| Credit Card Online-sales System Software License Agreement |
Shanda Networking | licenses right to use Debit Card and Credit Card Online-sales System to Shanda Networking | (i) installment payments of RMB1,200,000 over 12 months; and (ii) monthly royalty equal to 15% | |||||||
43
|
Debit Card and | January 1, 2007 | Shanda Computer and | Shanda Computer | Nanjing Shanda to pay: | |||||
| Credit Card Online-sales System Software License Agreement |
Nanjing Shanda | licenses right to use Debit Card and Credit Card Online-sales System to Nanjing Shanda | (i) installment payments of RMB1,200,000 over 12 months; and (ii) monthly royalty equal to 15% | |||||||
44
|
Debit Card and | January 1, 2007 | Shanda Computer and | Shanda Computer | Hangzhou Bianfeng to pay: | |||||
| Credit Card Online-sales System Software License Agreement |
Hangzhou Bianfeng | licenses right to use Debit Card and Credit Card Online-sales System to Hangzhou Bianfeng | (i) installment payments of RMB120,000 over 12 months; and (ii) monthly royalty equal to 15% |
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Table of Contents
| No | Agreement | Date | Parties | Purpose | Payment | |||||
45
|
Equipment | January 1, 2007 | Shengqu and Shanda | Shengqu licenses | Shanda Networking to pay: | |||||
| Management Platform Software License Agreement |
Networking | right to use Equipment Management Platform Software to Shanda Networking | (i) initial license fee of RMB1,680,000 over 12 months; (ii) monthly service fees equal to RMB70,000; and (iii) monthly supporting fees equal to request number multiplied by RMB50,000 | |||||||
46
|
Equipment | January 1, 2007 | Shengqu and Nanjing | Shengqu licenses | Nanjing Shanda to pay: | |||||
| Management Platform Software License Agreement |
Shanda | right to use Equipment Management Platform Software to Nanjing Shanda | (i) initial license fee of RMB1,680,000 over 12 months; (ii) monthly service fees equal to RMB70,000; and (iii) monthly supporting fees equal to request number multiplied by RMB50,000 | |||||||
47
|
Equipment | January 1, 2007 | Shengqu and | Shengqu licenses | Hangzhou Bianfeng to pay: | |||||
| Management Platform Software License Agreement |
Hangzhou Bianfeng | right to use Equipment Management Platform Software to Hangzhou Bianfeng | (i) initial license fee of RMB240,000 over 12 months; (ii) monthly service fees equal to RMB10,000; and (iii) monthly supporting fees equal to request number multiplied by RMB50,000 | |||||||
48
|
Octopod System Software License Agreement |
January 1, 2007 | Shengqu and Shanda Networking | Shengqu licenses right to use Octopod System Software to Shanda Networking | Shanda Networking to pay monthly supporting fees equal to number of servers multiplied by RMB100 | |||||
49
|
Octopod System Software License Agreement |
January 1, 2007 | Shengqu and Nanjing Shanda | Shengqu licenses right to use Octopod System Software to Nanjing Shanda | Nanjing Shanda to pay monthly supporting fees equal to number of servers multiplied by RMB100 | |||||
50
|
Octopod System Software License Agreement |
January 1, 2007 | Shengqu and Hangzhou Bianfeng | Shengqu licenses right to use Octopod System Software to Hangzhou Bianfeng | Hangzhou Bianfeng to pay monthly supporting fees equal to number of servers multiplied by RMB100 | |||||
51
|
User Platform Software License Agreement |
January 1, 2007 | Shengqu and Shanda Networking | Shengqu licenses right to use User Platform Software to Shanda Networking | Shanda Networking to pay monthly supporting fees equal to total number of subsidiary systems multiplied by RMB5,000 | |||||
52
|
User Platform Software License Agreement |
January 1, 2007 | Shengqu and Nanjing Shanda | Shengqu licenses right to use User Platform Software to Nanjing Shanda | Nanjing Shanda to pay monthly supporting fees equal to total number of subsidiary systems multiplied by RMB5,000 | |||||
53
|
User Platform Software License Agreement |
January 1, 2007 | Shengqu and Hangzhou Bianfeng | Shengqu licenses right to use User Platform Software to Hangzhou Bianfeng | Hangzhou Bianfeng to pay monthly supporting fees equal to total number of subsidiary systems multiplied by RMB5,000 |
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| No | Agreement | Date | Parties | Purpose | Payment | |||||
54
|
Remote Desktop | January 1, 2007 | Shengqu and Shanda | Shengqu licenses | Shanda Networking to pay: | |||||
| System Software License Agreement |
Networking | right to use Remote Desktop System Software to Shanda Networking | (i) initial license fee of RMB2,040,000 over 12 months; (ii) monthly service fees equal to RMB40,000 | |||||||
55
|
Remote Desktop | January 1, 2007 | Shengqu and Nanjing | Shengqu licenses | Nanjing Shanda to pay: | |||||
| System Software License Agreement |
Shanda | right to use Remote Desktop System Software to Nanjing Shanda | (i) initial license fee of RMB2,040,000 over 12 months; (ii) monthly service fees equal to RMB40,000 | |||||||
56
|
Remote Desktop | January 1, 2007 | Shengqu and | Shengqu licenses | Hangzhou Bianfeng to pay: | |||||
| System Software License Agreement |
Hangzhou Bianfeng | right to use Remote Desktop System Software to Hangzhou Bianfeng | (i) initial license fee of RMB240,000 over 12 months; (ii) monthly service fees equal to RMB10,000 | |||||||
57
|
Graph Supervision System Software License Agreement |
January 1, 2007 | Shengqu and Shanda Networking | Shengqu licenses right to use Graph Supervision System Software to Shanda Networking | Shanda Networking to pay monthly supporting fees equal to revenue multiplied by 1% | |||||
58
|
Graph Supervision System Software License Agreement |
January 1, 2007 | Shengqu and Nanjing Shanda | Shengqu licenses right to use Graph Supervision System Software to Nanjing Shanda | Nanjing Shanda to pay monthly supporting fees equal to revenue multiplied by 1% | |||||
59
|
Graph Supervision System Software License Agreement |
January 1, 2007 | Shengqu and Hangzhou Bianfeng | Shengqu licenses right to use Graph Supervision System Software to Hangzhou Bianfeng | Hangzhou Bianfeng to pay monthly supporting fees equal to revenue multiplied by 1% | |||||
60
|
Server Local | January 1, 2007 | Shengqu and Shanda | Shengqu licenses | Shanda Networking to pay: | |||||
| Verification Software License Agreement |
Networking | right to use Server Local Verification Software to Shanda Networking | (i) initial license fee of RMB840,000 over 12 months; and (ii) monthly supporting fees equal to total number servers multiplied by RMB50 | |||||||
61
|
Server Local | January 1, 2007 | Shengqu and Nanjing | Shengqu licenses | Nanjing Shanda to pay: | |||||
| Verification Software License Agreement |
Shanda | right to use Server Local Verification Software to Nanjing Shanda | (i) initial license fee of RMB840,000 over 12 months; and (ii) monthly supporting fees equal to total number servers multiplied by RMB50 | |||||||
62
|
Server Local | January 1, 2007 | Shengqu and | Shengqu licenses | Hangzhou Bianfeng to pay: | |||||
| Verification Software License Agreement |
Hangzhou Bianfeng | right to use Server Local Verification Software to Hangzhou Bianfeng | (i) initial license fee of RMB120,000 over 12 months; and (ii) monthly supporting fees equal to total number servers multiplied by RMB50 | |||||||
63
|
External Application Supervision System Software License Agreement |
January 1, 2007 | Shengqu and Shanda Networking | Shengqu licenses right to use External Application Supervision System Software to Shanda Networking | Shanda Networking to pay monthly supporting fees equal to Supervised Object number multiplied by RMB2,000 |
81
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| No | Agreement | Date | Parties | Purpose | Payment | |||||
64
|
External Application Supervision System Software License Agreement |
January 1, 2007 | Shengqu and Nanjing Shanda | Shengqu licenses right to use External Application Supervision System Software to Nanjing Shanda | Nanjing Shanda to pay monthly supporting fees equal to Supervised Object number multiplied by RMB2,000 | |||||
65
|
External Application Supervision System Software License Agreement |
January 1, 2007 | Shengqu and Hangzhou Bianfeng | Shengqu licenses right to use External Application Supervision System Software to Hangzhou Bianfeng | Hangzhou Bianfeng to pay monthly supporting fees equal to supervised object number multiplied by RMB2,000 | |||||
66
|
HIDS System Software License Agreement |
January 1, 2007 | Shengqu and Shanda Networking | Shengqu licenses right to use HIDS System Software to Shanda Networking | Shanda Networking to pay monthly supporting fees equal to alarm number multiplied by RMB500 | |||||
67
|
HIDS System Software License Agreement |
January 1, 2007 | Shengqu and Nanjing Shanda | Shengqu licenses right to use HIDS System Software to Nanjing Shanda | Nanjing Shanda to pay monthly supporting fees equal to alarm number multiplied by RMB500 | |||||
68
|
HIDS System Software License Agreement |
January 1, 2007 | Shengqu and Hangzhou Bianfeng | Shengqu licenses right to use HIDS System Software to Hangzhou Bianfeng | Hangzhou Bianfeng to pay monthly supporting fees equal to alarm number multiplied by RMB500 | |||||
69
|
GameMaster System Software License Agreement |
January 1, 2007 | Shengqu and Shanda Networking | Shengqu licenses right to use GameMaster System Software to Shanda Networking | Shanda Networking to pay monthly supporting fees equal to revenue multiplied by 0.5% | |||||
70
|
GameMaster System Software License Agreement |
January 1, 2007 | Shengqu and Nanjing Shanda | Shengqu licenses right to use GameMaster System Software to Nanjing Shanda | Nanjing Shanda to pay monthly supporting fees equal to revenue multiplied by 0.5% | |||||
71
|
GameMaster System Software License Agreement |
January 1, 2007 | Shengqu and Hangzhou Bianfeng | Shengqu licenses right to use GameMaster System Software to Hangzhou Bianfeng | Hangzhou Bianfeng to pay monthly supporting fees equal to revenue multiplied by 0.5% | |||||
72
|
Kangaroo System | January 1, 2007 | Shengqu and Shanda | Shengqu licenses | Shanda Networking to pay: | |||||
| Software License Agreement |
Networking | right to use Kangaroo System Software to Shanda Networking | (i) initial license fee of RMB 840,000 over 12 months; and (ii) monthly supporting fees equal to request number multiplied by RMB100,000 | |||||||
73
|
Kangaroo System | January 1, 2007 | Shengqu and Nanjing | Shengqu licenses | Nanjing Shanda to pay: | |||||
| Software License Agreement |
Shanda | right to use Kangaroo System Software to Nanjing Shanda | (i) initial license fee of RMB 840,000 over 12 months; and (ii) monthly supporting fees equal to request number multiplied by RMB100,000 |
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Table of Contents
| No | Agreement | Date | Parties | Purpose | Payment | |||||
74
|
Kangaroo System Software License Agreement |
January 1, 2007 | Shengqu and Hangzhou Bianfeng | Shengqu licenses right to use Kangaroo System Software to Hangzhou Bianfeng | Hangzhou Bianfeng to pay(i) initial license fee of RMB 120,000 over 12 months; and (ii) monthly supporting fees equal to request number multiplied by RMB100,000 | |||||
75
|
Cobweb System | January 1, 2007 | Shengqu and Shanda | Shengqu licenses | Shanda Networking to pay: | |||||
| Software License Agreement |
Networking | right to use Cobweb System Software to Shanda Networking | (i) initial license fee of RMB 840,000 over 12 months; and (ii) monthly supporting fees equal to checking point number multiplied by RMB10,000 | |||||||
76
|
Cobweb System | January 1, 2007 | Shengqu and Nanjing | Shengqu licenses | Nanjing Shanda to pay: | |||||
| Software License Agreement |
Shanda | right to use Cobweb System Software to Nanjing Shanda | (i) initial license fee of RMB 840,000 over 12 months; and (ii) monthly supporting fees equal to checking point number multiplied by RMB10,000 | |||||||
77
|
Cobweb System | January 1, 2007 | Shengqu and | Shengqu licenses | Hangzhou Bianfeng to pay: | |||||
| Software License Agreement |
Hangzhou Bianfeng | right to use Cobweb System Software to Hangzhou Bianfeng | (i) initial license fee of RMB 120,000 over 12 months; and (ii) monthly supporting fees equal to checking point number multiplied by RMB10,000 | |||||||
78
|
Netview System Software License Agreement |
January 1, 2007 | Shengqu and Shanda Networking | Shengqu licenses right to use Netview System Software to Shanda Networking | Shanda Networking to pay monthly supporting fees equal to equipment number multiplied by RMB50 | |||||
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Netview System Software License Agreement |
January 1, 2007 | Shengqu and Nanjing Shanda | Shengqu licenses right to use Netview System Software to Nanjing Shanda | Nanjing Shanda to pay monthly supporting fees equal to equipment number multiplied by RMB50 | |||||
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Netview System Software License Agreement |
January 1, 2007 | Shengqu and Hangzhou Bianfeng | Shengqu licenses right to use Netview System Software to Hangzhou Bianfeng | Hangzhou Bianfeng to pay monthly supporting fees equal to equipment number multiplied by RMB50 | |||||
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Event Platform Software License Agreement |
January 1, 2007 | Shengqu and Shanda Networking | Shengqu licenses right to use Event Platform Software to Shanda Networking | Shanda Networking to pay monthly supporting fees equal to event number multiplied by RMB300 | |||||
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Event Platform Software License Agreement |
January 1, 2007 | Shengqu and Nanjing Shanda | Shengqu licenses right to use Event Platform Software to Nanjing Shanda | Nanjing Shanda to pay monthly supporting fees equal to event number multiplied by RMB300 | |||||
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Event Platform Software License Agreement |
January 1, 2007 | Shengqu and Hangzhou Bianfeng | Shengqu licenses right to use Event Platform Software to Hangzhou Bianfeng | Hangzhou Bianfeng to pay monthly supporting fees equal to event number multiplied by RMB300 |
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| No | Agreement | Date | Parties | Purpose | Payment | |||||
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Network Log | January 1, 2007 | Shengqu and Shanda | Shengqu licenses | Shanda Networking to pay: | |||||
| Supervision System Software License Agreement |
Networking | right to use Network Log Supervision System Software to Shanda Networking | (i) initial license fee of RMB1,008,000 over 12 months; and (ii) monthly supporting fees equal to alarm number multiplied by RMB150 | |||||||
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Network Log | January 1, 2007 | Shengqu and Nanjing | Shengqu licenses | Nanjing Shanda to pay: | |||||
| Supervision System Software License Agreement |
Shanda | right to use Network Log Supervision System Software to Nanjing Shanda | (i) initial license fee of RMB1,008,000 over 12 months; and (ii) monthly supporting fees equal to alarm number multiplied by RMB150 | |||||||
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Network Log | January 1, 2007 | Shengqu and | Shengqu licenses | Hangzhou Bianfeng to pay: | |||||
| Supervision System Software License Agreement |
Hangzhou Bianfeng | right to use Network Log Supervision System Software to Hangzhou Bianfeng | (i) initial license fee of RMB144,000 over 12 months; and (ii) monthly supporting fees equal to alarm number multiplied by RMB150 | |||||||
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New E-sales System License Agreement |
December 9, 2005 | Shengqu and PRC operating companies | Shengqu licenses right to use E-Sales System software to the PRC operating companies | The PRC operating companies to pay: (i) installment payments of RMB3,250,000 over 12 months; and (ii) monthly royalty payments equal to 15% | |||||
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New Xintianyou License Agreement |
January 1, 2006 | Shengqu and PRC operating companies | Shengqu licenses right to use Xintianyou to the PRC operating companies | The PRC operating companies to pay: (i) one installment payment of RMB3,600,000 over 12 months, and (ii) monthly royalty equal to 5% | |||||
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E-sales System License Agreement |
December 28, 2004 | Shengqu and PRC operating companies | Shengqu licenses right to use E-Sales System software to the PRC operating companies | The PRC operating companies to pay: (i) one installment payments of RMB6,000,000 over 12 months, and (ii) monthly royalty equal to 15% | |||||
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Xintianyou License Agreement |
December 28, 2004 | Shengqu and PRC operating companies | Shengqu licenses right to use Xintianyou to the PRC operating companies | The PRC operating companies to pay: (i) one installment payment of RMB3,600,000 over 12 months, and (ii) monthly royalty equal to 5% | |||||
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New Business Support System License Agreement |
January 1, 2007 | Shanda Computer and Shanda Networking | Shanda Computer licenses right to use Business Support System in South-west China, North-west China and North China to Shanda Networking | Shanda Networking to pay monthly royalty payments equal to the number of online game players per month multiplied by unit price as set forth in Appendix 2 | |||||
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New Business Support System License Agreement |
January 1, 2007 | Shanda Computer and Nanjing Shanda | Shanda Computer licenses right to use Business Support System in East China and South-central China to Nanjing Shanda | Nanjing Shanda to pay monthly royalty payments equal to the number of online game players per month multiplied by unit price as set forth in Appendix 2 |
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| No | Agreement | Date | Parties | Purpose | Payment | |||||
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New Business Support System License Agreement |
January 1, 2007 | Shanda Computer and Hangzhou Bianfeng | Shanda Computer licenses right to use Business Support System in North-east China to Hangzhou Bianfeng | Hangzhou Bianfeng to pay monthly royalty payments equal to the number of online game players per month multiplied by unit price as set forth in Appendix 2 | |||||
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Termination Agreement to New Billing Technology License Agreement | December 1, 2006 | Shengqu and Shanda Networking | Shengqu terminates the right to use billing technology in South-west China, North-west China and North China to Shanda Networking | ||||||
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Termination Agreement to New Billing Technology License Agreement | December 1, 2006 | Shengqu and Nanjing Shanda | Shengqu terminates the right to use billing technology in East China and South-central China to Nanjing Shanda | ||||||
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Termination Agreement to New Billing Technology License Agreement | December 1, 2006 | Shengqu and Hangzhou Bianfeng | Shengqu terminates the right to use billing technology in North-east China to Hangzhou Bianfeng | ||||||
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New Billing Technology License Agreement |
January 1, 2006 | Shengqu and Shanda Networking | Shengqu licenses right to use billing technology in South-west China, North-west China and North China to Shanda Networking | Shanda Networking to pay monthly royalty payments equal to the number of monthly average concurrent users multiplied by RMB10 for 2006 | |||||
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New Billing Technology License Agreement |
January 1, 2006 | Shengqu and Nanjing Shanda | Shengqu licenses right to use billing technology in East China and South-central China to Nanjing Shanda | Nanjing Shanda to pay monthly royalty payments equal to the number of monthly average concurrent users multiplied by RMB10 for 2006 | |||||
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New Billing Technology License Agreement |
January 1, 2006 | Shengqu and Hangzhou Bianfeng | Shengqu licenses right to use billing technology in North-east China to Hangzhou Bianfeng | Hangzhou Bianfeng to pay monthly royalty payments equal to the number of monthly average concurrent users multiplied by RMB10 for 2006 | |||||
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Amendment to the Amended and Restated Billing Technology License Agreement | December 28, 2004 | Shengqu and Shanda Networking | Shengqu licenses right to use billing technology in South-west China, North-west China and North China to Shanda Networking | Shanda Networking to pay monthly royalty payments equal to the number of monthly average concurrent users multiplied by RMB13.46 for 2005 | |||||
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Billing Technology License Agreement |
December 28, 2004 | Shengqu and Nanjing Shanda | Shengqu licenses right to use billing technology in East China and South-central China to Nanjing Shanda | Nanjing Shanda to pay monthly royalty payments equal to the number of monthly average concurrent users multiplied by RMB13.46 for 2005 |
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| No | Agreement | Date | Parties | Purpose | Payment | |||||
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|
Billing Technology License Agreement |
December 28, 2004 | Shengqu and Hangzhou Bianfeng | Shengqu licenses right to use billing technology in North-east China to Hangzhou Bianfeng | Nanjing Shanda to pay monthly royalty payments equal to the number of monthly average concurrent users multiplied by RMB13.46 for 2005 | |||||
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The Amended and Restated Billing Technology License Agreement | December 9, 2003 | Shengqu and Shanda Networking | Shengqu licenses right to use billing technology in China to Shanda Networking | Shanda Networking to pay monthly royalty payments equal to the number of monthly average concurrent users multiplied by RMB13.46 for 2004 and RMB 15.3 for 2003 | |||||
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Equipment Lease Agreement |
December 28, 2004 | Shengqu and Nanjing Shanda | Shengqu leases certain equipment to Nanjing Shanda | Nanjing Shanda to pay monthly rent equal to 4.2% of the original value of the leased equipment. | |||||
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Equipment Lease Agreement |
December 28, 2004 | Shengqu and Hangzhou Bianfeng | Shengqu leases certain equipment to Hangzhou Bianfeng | Hangzhou Bianfeng to pay monthly rent equal to 4.2% of the original value of the leased equipment. | |||||
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New Strategic Consulting Service Agreement |
January 1, 2007 | Shengqu and Shanda Networking | Shengqu provides strategic consulting service to Shanda Networking | Shanda Networking to pay monthly consulting fee equal to the result of the following formula: | |||||
| (player number of paying account x ARPU as described in the Exhibit 1 — fees paid to cooperative parties - other reasonable costs) x 60% | ||||||||||
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New Strategic Consulting Service Agreement |
January 1, 2007 | Shengqu and Nanjing Shanda | Shengqu provides strategic consulting service to Nanjing Shanda | Nanjing Shanda to pay monthly consulting fee equal to the result of the following formula: | |||||
| (player number of paying account x ARPU as described in the Exhibit 1 — fees paid to cooperative parties - other reasonable costs) x 60% | ||||||||||
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New Strategic Consulting Service Agreement |
January 1, 2007 | Shengqu and Hangzhou Bianfeng | Shengqu provides strategic consulting service to Hangzhou Bianfeng | Hangzhou Bianfeng to pay monthly consulting fee equal to the result of the following formula: | |||||
| (player number of paying account x ARPU as described in the Exhibit 1 — fees paid to cooperative parties - other reasonable costs) x 60% | ||||||||||
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New Technical Support Agreement |
January 1, 2007 | Shanda Computer and Shanda Networking | Shanda Computer provides technical support to Shanda Networking | Shanda Networking to make monthly service fee equal to the result of the following formula: | |||||
| service fee of different employee /per day described in the Schedule A x number of business days) x 88% + other reasonable out of pocket costs |
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| No | Agreement | Date | Parties | Purpose | Payment | |||||
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New Technical Support Agreement |
January 1, 2007 | Shanda Computer and Nanjing Shanda | Shanda Computer provides technical support to Nanjing Shanda | Nanjing Shanda to make monthly service fee equal to the result of the following formula: | |||||
| service fee of different employee /per day described in the Schedule A x number of business days) x 88% + other reasonable out of pocket costs | ||||||||||
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New Technical Support Agreement |
January 1, 2007 | Shanda Computer and Hangzhou Bianfeng | Shanda Computer provides technical support to Hangzhou Bianfeng | Hangzhou Bianfeng to make monthly service fee equal to the result of the following formula: | |||||
| service fee of different employee /per day described in the Schedule A x number of business days) x 88% + other reasonable out of pocket costs | ||||||||||
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Amended Strategic | December 28, | Shengqu and Shanda | Shengqu provides | Shanda Networking to pay: | |||||
| Consulting Service Agreement II |
2004 | Networking | strategic consulting service to Shanda Networking | (i) standard monthly fee of RMB150.00 per user; and (ii) RMB1,900,000 for 2005 | ||||||
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Amended Strategic | December 28, | Shengqu and Shanda | Shengqu provides | Shanda Networking to pay: | |||||
| Consulting Service Agreement III |
2005 | Networking | strategic consulting service to Shanda Networking | (i) standard monthly fee of RMB92.00 per user; and (ii) RMB1,600,000 for 2006 | ||||||
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Amended Strategic | December 28, | Shengqu and Shanda | Shengqu provides | Shanda Networking to pay: | |||||
| Consulting Service Agreement |
2004 | Networking | strategic consulting service to Shanda Networking | (i) standard monthly fee of RMB86.00 per user; and (ii) RMB1,900,000 for 2004 | ||||||
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Entrusted Loan Agreement |
March 19, 2006 | Nanjing Shanda and China Merchants Bank Dongfang Branch | Nanjing Shanda provides Shanda Computer with a loan through services provided by China Merchants Bank |
Nanjing Shanda to provide Shanda Computer a loan of RMB38,000,000 | |||||
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Loan Agreement | March 19, 2006 | China Merchants Bank Dongfang Branch and Shanda Computer | Nanjing Shanda provides Shanda Computer with a loan through services provided by China Merchants Bank |
Nanjing Shanda to provide Shanda Computer a loan of RMB38,000,000 | |||||
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Entrusted Loan Agreement |
March 19, 2006 | Hangzhou Bianfeng and China Merchants Bank Dongfang Branch | Hangzhou Bianfeng provides Shanda Computer with a loan through services provided by China Merchants Bank |
Hangzhou Bianfeng to provide Shanda Computer a loan of RMB27,000,000 | |||||
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Loan Agreement | March 19, 2006 | China Merchants Bank Dongfang Branch and Shanda Computer | Hangzhou Bianfeng provides Shanda Computer with a loan through services provided by China Merchants Bank |
Hangzhou Bianfeng to provide Shanda Computer a loan of RMB27,000,000 |
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| No | Agreement | Date | Parties | Purpose | Payment | |||||
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Entrusted Loan Agreement |
March 24, 2006 | Shanda Networking and China Industrial & Commercial Bank Pudong Branch | Shanda Networking provides Shanda Computer with a loan through services provided by China Industrial & Commercial Bank |
Shanda Networking to provide Shanda Computer a loan of RMB35,000,000 | |||||
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Loan Agreement | March 24, 2006 | Shanda Networking, Shanda Computer and China Industrial & Commercial Bank Pudong Branch | Shanda Networking provides Shanda Computer with a loan through services provided by China Industrial & Commercial Bank |
Shanda Networking to provide Shanda Computer a loan of RMB35,000,000 | |||||
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Loan Agreement | January 4, 2006 | Shanda Networking, Shanghai Bank Xujiahui Branch and Shegnqu | Shanda Networking provides Shengqu with a loan through services provided by Shanghai Bank |
Shanda Networking to provide Shengqu a loan of RMB100,000,000 | |||||
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Entrusted Loan Agreement |
January 4, 2006 | Shanda Networking and China Merchants Bank Dongfang Branch | Shanda Networking provides Shengqu with a loan through services provided by China Merchants Bank |
Shanda Networking to provide Shengqu a loan of RMB100,000,000 | |||||
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Loan Agreement | January 4, 2006 | China Merchants Bank Dongfang Branch and Shengqu | Shanda Networking provides Shengqu with a loan through services provided by China Merchants Bank |
Shanda Networking to provide Shengqu a loan of RMB100,000,000 | |||||
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Entrusted Loan Agreement |
January 4, 2006 | Nanjing Shanda and China Merchants Bank Dongfang Branch | Nanjing Shanda provides Shengqu with a loan through services provided by China Merchants Bank |
Nanjing Shanda to provide Shengqu a loan of RMB100,000,000 | |||||
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Loan Agreement | January 4, 2006 | China Merchants Bank Dongfang Branch and Shengqu | Nanjing Shanda provides Shengqu with a loan through services provided by China Merchants Bank |
Nanjing Shanda to provide Shengqu a loan of RMB100,000,000 | |||||
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Cooperation Agreement |
January 1, 2005 | Shengqu and Shengyue | Shengqu to plan, design and create media content and prepare such materials for Shengyue | Shengyue to pay a service fee equal to 80% of the revenue realized through the distribution of media content | |||||
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Website Development Agreement |
January 1, 2007 | Shengqu and Shanda Networking | Shengqu to design and cdevelop Rainbow Service website for Shanda Networking | Shanda Networking to make monthly supporting fees equal to request number multiplied by RMB100,000 |
Shareholder Rights and Corporate Governance
Transfer of Ownership when Permitted by Law. Pursuant to a purchase option and cooperation
agreement, or the purchase option agreement, entered into among Shengqu, Tianqiao Chen, Danian Chen
and Shanda Networking on December 30, 2003, Tianqiao Chen and Danian Chen jointly granted Shengqu
an exclusive option to purchase all of
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their equity interest in Shanda Networking, and Shanda Networking granted Shengqu an exclusive
option to purchase all of its assets if and when (1) such purchase is permitted under applicable
PRC law or (2) to the extent permitted by law, with respect to his individual interest, either
Tianqiao Chen and Danian Chen ceases to be a director or employee of Shanda Networking or desires
to transfer his equity interest in Shanda Networking to a third party. Shengqu may purchase such
interest or assets by itself or designate another party to purchase such interest or assets. The
exercise price of the option will be equal to the lower of RMB10 million or the lowest price
permitted by PRC law, or a pro rata portion thereof for a purchase of a portion of the equity
interest in, or assets of, Shanda Networking. Shengqu will bear the tax consequences of Tianqiao
Chen and Danian Chen caused by any exercise by Shengqu of the option to purchase the equity
interest in Shanda Networking. Following any exercise of the option, the parties will enter into a
definitive share or asset purchase agreement and other related transfer documents within 30 days
after written notice of exercise is delivered. Pursuant to the purchase option agreement, at all
times before Shengqu acquires 100% of Shanda Networking’s shares or assets, Shanda Networking may
not (1) sell, transfer, assign, dispose of in any manner or create any encumbrance in any form on
any of its assets unless such sale, transfer, assignment, disposal or encumbrance is relating to
the daily operation of Shanda Networking or has been disclosed to and consented to in writing by
Shengqu; (2) enter into any transaction which may have a material effect on Shanda Networking
assets, liabilities, operations, equity or other legal interests unless such transaction relates to
the daily operation of Shanda Networking or has been disclosed to and consented to in writing by
Shengqu; and (3) distribute any dividends to its shareholders in any manner, and Tianqiao Chen and
Danian Chen may not cause Shanda Networking to amend its articles of association to the extent such
amendment may have a material effect on Shanda Networking’s assets, liabilities, operations, equity
or other legal interests except for pro rata increases of registered capital required by law.
Voting Arrangement. Pursuant to two proxies executed and delivered by Tianqiao Chen and Danian
Chen to Haibin Qu and Qunzhao Tan, respectively, on December 30, 2003, Tianqiao Chen and Danian
Chen have granted Haibin Qu and Qunzhao Tan, who are employees of Shengqu, the power to exercise
their rights as the shareholders of Shanda Networking to appoint directors, the general manager and
other senior managers of Shanda Networking. Under the purchase option agreement, Tianqiao Chen and
Danian Chen have agreed that (1) they will only revoke the proxies granted to Haibin Qu or Qunzhao
Tan when either of the two individuals ceases to be an employee of Shengqu or Shengqu delivers a
written notice to Tianqiao Chen and Danian Chen requesting such revocation, and (2) they, or either
of them, as the case may be, will execute and deliver another proxy in the same format as the one
dated December 30, 2003 to any other individual as instructed by Shengqu. Tianqiao Chen and Danian
Chen have agreed that they will cause their successors to continue to fulfill such undertaking if
and when either ceases to be a shareholder or director of Shanda Networking.
Share Pledge Agreement. Pursuant to a share pledge agreement, dated December 30, 2003,
Tianqiao Chen and Danian Chen have pledged all of their equity interest in Shanda Networking to
Shengqu to secure the payment obligations of Shanda Networking under all of the agreements between
Shanda Networking and Shengqu. Under this agreement, Tianqiao Chen and Danian Chen have agreed not
to transfer, assign, pledge or in other manner dispose of their interests in Shanda Networking or
create any other encumbrance on their interests in Shanda Networking which may have a material
effect on Shengqu’s interests without the written consent of Shengqu.
Financing Support. Pursuant to the purchase option agreement, Shengqu has agreed to provide or
designate one of its affiliates to provide financing to Shanda Networking to the extent Shanda
Networking needs such financing. To the extent that Shanda Networking is unable to repay the
financing due to its losses, Shengqu agrees to waive or cause other relevant parties to waive all
recourse against Shanda Networking with respect to the financing.
Indemnifications. Shengqu has agreed to provide necessary support to and to indemnify Tianqiao
Chen and Danian Chen to the extent that they are subject to any legal or economic liabilities as a
result of performing their obligations pursuant to their agreements with Shengqu.
Other Related Party Transactions
Authorization of Skyline Media Limited, Skyline Capital International Limited and Shanda Media
Limited to purchase shares of SINA on behalf of the Company. On February 14, 2005, we entered into
an agreement to purchase 688,015 shares of SINA Corp, an online media company, value-added service
provider and Internet portal in China, at an aggregate purchase price of US$10.7 million from
Skyline Media Limited, Skyline Capital
International Limited and Shanda Media Limited, in connection with
our strategic investment in SINA. This aggregate purchase price is
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equivalent to a US$15.59 per share purchase price, which
represents the actual cost incurred by the sellers in purchasing the SINA shares less certain past
profits realize by the sellers on behalf of us in connection with trading SINA shares.
Item 8. FINANCIAL INFORMATION
A. CONSOLIDATED STATEMENTS AND OTHER FINANCIAL INFORMATION
Consolidated Financial Statements
Please see Item 18 “Financial Statements” for our audited consolidated financial statements
filed as a part of this annual report.
Legal Proceedings
From time to time we may initiate legal proceedings in order to protect our contractual and
property rights and becoming involved in legal proceedings in which others allege that we have
breached their contractual or property rights.
Actoz / Wemade
On July 3, 2003, we initiated an arbitration in Singapore, under the auspices of the
International Chamber of Commerce, or the ICC, against Actoz and Wemade, which are two online game
developers based in South Korea, in order to resolve, among other things, certain disputes relating
to the software license agreement between Shanda Networking and Actoz for Mir II. In August 2003,
we settled the disputes regarding the Mir II license agreement with Actoz and requested
discontinuance of the arbitration. Wemade, however, objected to the discontinuation request and
filed claims against Shanda and Actoz, alleging, among other things, that Wemade validly
terminated the Mir II license in November 2002. In October 2005, the arbitrator appointed by the
ICC to decide the dispute issued its award. The tribunal found that Actoz was fully authorized to
enter into the settlement with Shanda on behalf of Wemade and that Wemade had no legitimate
interest to object to the withdrawal of the arbitration. Accordingly, the claims made by Wemade
against Shanda and Actoz were dismissed. In addition, Wemade shall bear and pay the costs incurred
by Shanda and Actoz from August 29, 2003 in defending against such claims.
On October 8, 2003, Wemade filed a claim with the Beijing First Intermediate People’s Court,
or the Beijing Court, against us and Beijing Lian Jin Century Scientific and Commercial Centre, a
Beijing based distributor of our games, which alleged that we have infringed upon Wemade’s
copyright and violated the PRC Anti-Unfair Competition Law with respect to Mir II in connection
with our development and operation of Woool. In particular, Wemade has alleged that the Chinese
name for Woool, which includes two characters from the Chinese name for Mir II, misleads users and
that we previously encouraged users to switch from Mir II to Woool by permitting the transfer of
game characters developed in Mir II to Woool. The claim was served to us on December 29, 2003.
Wemade has alleged, among other things, that we have copied Mir II and elements of the Legend of
Mir III, another game developed by Wemade, in developing Woool and that customers have been misled
into thinking that Woool is a new version of Mir II. Wemade has requested the court to order us to
stop operating Woool, destroy all data relating to Woool, stop distributing and marketing products
related to Woool, take down the Woool website, stop selling pre-paid cards and related products
with respect to Woool, and pay Wemade’s legal fees and related costs incurred by Wemade in
connection with this litigation. On May 24, 2004, the Beijing court informed us that Actoz joined
Wemade as a co-plaintiff in these proceedings. In October 2005, the Beijing Court completed a
series of hearings in connection with the allegations. On February 2, 2007, we entered into an
agreement with Wemade and Actoz to fully settle the copyright infringement and unfair competition
case before the Beijing court. All parties agreed to settle at no additional cost to any party and
each party would bear its own costs incurred to date in relation to the litigation. Under the terms
of the settlement, Wemade and Actoz agreed to recognize our copyright for Woool, and we agreed to
recognize Wemade and Actoz’s jointly-owned copyright of Mir II.
In late March 2004, we received notice from Actoz on a separate cause of action relating to an
audit on Mir II royalty fees prepared on behalf of Actoz pursuant to the settlement agreement. The
audit alleged certain potential
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underpayments of royalty fees in respect of the period from July 1,
2002 to September 30, 2003 amounting to approximately RMB35 million. In addition, we received
notice from Actoz relating to an audit of Mir II royalty fees prepared on behalf of Actoz for
royalties accrued during the fourth quarter of 2003. The audit alleged certain potential
underpayments of royalty fees for such period in an amount of approximately RMB2 million. In
September 2005, in connection with the extension of the software license agreement for Mir II, we
settled the alleged underpayment of royalty fees with Actoz and agreed to pay RMB20.6 million of
RMB37 million alleged underpayment.
China Cyberport
On April 25, 2006, China Cyberport Co. Ltd., or China Cyberport, filed a claim with the
Shanghai First Intermediate People’s Court against our affiliate company Haofang. The claim alleges
that Haofang, which operates a PC game network platform that allows users to play PC games against
each other through the Internet, infringed upon China Cyberport’s exclusive distribution rights for
certain PC games. China Cyberport has requested that the Shanghai Court order Haofang to cease
operation of its PC game network, to pay damages in the amount of RMB120 million and to reimburse
China Cyberport for costs incurred in connection with the dispute. On February 2, 2007, the
Shanghai court completed the first hearing in connection with the allegations. On June 6, 2007,
the Shanghai First Intermediate People’s Court dismissed China Cyberport’s complaint based on the
finding that China Cyberport is not a qualified plaintiff. On June 14, 2007, China Cyberport filed
an appeal with the Shanghai High Court to appeal the dismissal of the claim against Haofang by the
First Intermediate People’s Court of Shanghai.
Dividend Policy
We declared a special cash dividend in the first quarter of 2004, that was paid on April 29,
2004, pro-rata out of available cash to our existing shareholders. We do not, however, expect to
pay dividends on our ordinary shares in the foreseeable future. We currently intend to retain all
available funds and any future earnings for use in the operation and expansion of our business, and
do not anticipate paying any cash dividends on our ordinary shares, or indirectly on our ADSs, for
the foreseeable future.
Future cash dividends, if any, will be declared at the discretion of our board of directors
and will depend upon our future operations and earnings, capital requirements and surplus, general
financial condition, contractual restrictions and other factors as our board of directors may deem
relevant.
Holders of ADSs will be entitled to receive dividends, subject to the terms of the deposit
agreement, to the same extent as the holders of our ordinary shares, less the fees and expenses
payable under the deposit agreement. Cash dividends will be paid by the depositary to holders of
ADSs in U.S. dollars, subject to the terms of the deposit agreement. Other distributions, if any,
will be paid by the depositary to holders of ADSs in any means it deems legal, fair and practical.
B. SIGNIFICANT CHANGES
Since the date of the audited financial statements included as a part of this annual report,
the following significant changes have occurred:
Effective from January 1, 2007, Shanda Interactive Entertainment Limited changed its
functional currency from Renminbi into US dollars, given changes in its economic facts and
circumstances, including an active plan to explore overseas market.
During the period from January 1, 2007 to June 22, 2007, we purchased additional Actoz shares
on the open market and increased our total stake to approximately 49.48% as of June 22, 2007.
On February 2, 2007, Wemade repurchased a 40% equity interest in Wemade from Actoz under a
share purchase agreement.
On February 2, 2007, we entered into an agreement with Wemade and Actoz to fully settle the
copyright infringement and unfair competition case before the Beijing court. Under the terms of the
settlement, Wemade and
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Actoz agreeed to recognize our copyright for Woool. In addition, we agreeed
to recognize Wemade and Actoz’s jointly-owned copyright of Mir II.
On February 2, 2007 we entered into an exclusive agreement with Wemade Entertainment, Co.,
Ltd., or Wemade, for the license to operate the 3D MMORPG Changchun
Online in China. The up-front licence fee payable to Wemade in
respect of the initial five year term of the agreement was
US$20 million. Additional amounts may be payable if certain
performance targets are met.
On February 8, 2007, we sold 4,000,000 ordinary shares of SINA Corporation, or SINA, pursuant
to Rule 144 of the Securities Act of 1933, as amended, for
approximately US$ 129.6 million
(RMB1.0 billion).
On March 9, 2007, our Board of Directors approved a share repurchase program, effective March,
2007. Under the program, we are authorized to repurchase up to US$50 million of our outstanding
American Depositary Shares over the following 12 months depending on market conditions, share price
and other factors, as well as subject to the relevant rules under the United States securities
regulations. The share repurchases may be made on the open market, in block trades or otherwise and
may include derivative transactions. The program may be suspended or discontinued at any time. As
of March 31, 2007, we have repurchased 1,476,550 ordinary shares
(which was equal to 738,275 ADSs) from the open market at a cost of US$16.0 million (RMB 124.9 million).
On April 24, 2007, we granted options under the 2005 plan to purchase 655,000 of ordinary
shares to some of our officers and other employees.
On May 11, 2007 and May 15, 2007, we sold the remaining 1,066,344 and 1,051,934 shares of SINA
in open-market transactions for US$38.1 million (RMB297.5 million) and US$38.4 million (RMB299.9
million), respectively.
On June 6, 2007, the Shanghai First Intermediate People’s Court dismissed the complaint filed
by China Cyberport Co., Ltd., or China Cyberport, against Haofang, ruling that China Cyberport is
not a qualified plaintiff. On June 14, 2007, China Cyberport filed an appeal with the Shanghai
High Court to appeal the dismissal of the claim against Haofang by the First Intermediate People’s
Court of Shanghai.
Item 9. THE OFFER AND LISTING
A. OFFER AND LISTING DETAILS
Price Range of American Depositary Shares
Our ADSs, each representing two of our ordinary shares, have been listed on The Nasdaq
National Market since May 13, 2004. Our ADSs trade under the symbol “SNDA.” The following table
provides the high and low sale prices for our ADSs on The Nasdaq National Market for (1) the year
of 2004 and the year of 2005, (2) each of the quarters since the second quarter of 2004, and (3)
each of the most recent six months. On June 22, 2007, the last reported sale price for our ADSs was
US$28.58 per ADS.
| Sale Price (US$) | ||||||||
| High | Low | |||||||
Yearly highs and lows |
||||||||
Year 2004 (from May 13, 2004)
|
45.40 | 10.58 | ||||||
Year 2005
|
43.55 | 14.80 | ||||||
Year 2006
|
22.49 | 12.23 | ||||||
Quarterly highs and lows: |
||||||||
First quarter 2005
|
43.55 | 27.80 | ||||||
Second quarter 2005
|
42.24 | 28.98 | ||||||
Third quarter 2005
|
41.18 | 26.67 | ||||||
Fourth quarter 2005
|
28.30 | 14.80 | ||||||
First quarter 2006
|
18.40 | 12.58 | ||||||
Second quarter 2006
|
15.30 | 12.23 | ||||||
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| Sale Price (US$) | ||||||||
| High | Low | |||||||
Third quarter 2006
|
17.84 | 12.65 | ||||||
Fourth quarter 2006
|
22.49 | 13.63 | ||||||
Monthly highs and lows: |
||||||||
August 2006
|
17.84 | 14.38 | ||||||
September 2006
|
16.78 | 14.76 | ||||||
October 2006
|
15.84 | 13.63 | ||||||
November 2006
|
19.68 | 14.68 | ||||||
December 2006
|
22.49 | 18.65 | ||||||
January 2007
|
23.56 | 20.25 | ||||||
February 2007
|
25.68 | 21.42 | ||||||
March 2007
|
27.23 | 21.13 | ||||||
April 2007
|
27.59 | 25.00 | ||||||
May 2007
|
30.63 | 24.10 | ||||||
June 2007 (through June 22)
|
28.80 | 26.75 | ||||||
B. PLAN OF DISTRIBUTION
Not applicable
C. MARKETS
Our ADSs, each representing two of our ordinary shares, have been listed on The Nasdaq Global
Market since May 13, 2004 under the symbol “SNDA.”
D. SELLING SHAREHOLDER
Not applicable
E. DILUTION
Not applicable
F. EXPENSES OF THE ISSUE
Not applicable
Item 10. ADDITIONAL INFORMATION
A. SHARE CAPITAL
Not applicable.
B. MEMORANDUM AND ARTICLES OF ASSOCIATION
We incorporate by reference into this annual report the description of our amended and
restated memorandum and articles of association contained in our registration statement on Form F-1
(File No. 333-114177) filed with the Securities and Exchange Commission on May 7, 2004.
C. MATERIAL CONTRACTS
We have not entered into any material contracts other than in the ordinary course of business
or other than those described in Item 4 “Information on the Company” and elsewhere in this annual
report.
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D. EXCHANGE CONTROLS
Substantially all of our revenues are denominated in Renminbi, while a portion of our
expenditures are denominated in foreign currencies, primarily the U.S. dollar. Fluctuations in
exchange rates, particularly those involving the U.S. dollar and the Japanese yen, may affect our
costs and operating margins. In addition, these fluctuations could result in exchange losses and
increased costs in Renminbi terms. Where our operations conducted in Renminbi are reported in
dollars, such fluctuations could result in changes in reported results which do not reflect changes
in the underlying operations. Since January 1, 1994, the PRC government has used a unitary managed
floating rate system. Under that system, the People’s Bank of China, or PBOC, publishes a daily
base exchange rate with reference primarily to the supply and demand of Renminbi against U.S.
dollar and other foreign currencies in the market during the previous day. Authorized banks and
financial institutions are allowed to quote buy and sell rats for Renminbi within a specified bank
around the central bank’s daily exchange rate. On July 21, 2005, PBOC announced an adjustment of
the exchange rate of the U.S. dollar to Renminbi from 1:8.27 to 1:8.11 and modified the system by
which the exchange rates are determined. While the international reaction to the Renminbi
revaluation has generally been positive, there remains significant international pressure on the
PRC government to adopt an even more flexible currency policy, which could result in a further
reevaluation and a significant fluctuation of the exchange rate of Renminbi against the U.S.
dollar, including possible devaluations. As substantially all of our revenues are denominated in
Renminbi, such a potential future devaluation of Renminbi against the U.S. dollars could negatively
impact our results of operations.
In October 2005, the State Administration of Foreign Exchange, or SAFE, promulgated
regulations that require registration with local SAFE in connection with direct or indirect
offshore investment by PRC residents, including PRC individual residents and PRC corporate
entities. These regulations apply to our shareholders who are PRC residents and also apply to our
prior and future offshore acquisitions.
The SAFE regulations retroactively require registration by March 31, 2006 of direct or
indirect investments previously made by PRC residents in offshore companies. If a PRC resident with
a direct or indirect stake in an offshore parent company fails to make the required SAFE
registration, the PRC subsidiaries of such offshore parent company may be prohibited from making
distributions of profit to the offshore parent and from paying the offshore parent proceeds from
any reduction in capital, share transfer or liquidation in respect of the PRC subsidiaries.
Further, failure to comply with various SAFE registration requirements described above could result
in liability under PRC law for foreign exchange evasion.
For more information about foreign exchange control and other foreign exchange regulations in
China, see “Risk Factors” in Item 3 “Key Information.”
E. TAXATION
The following is a general summary of certain Cayman Islands and U.S. federal income tax
considerations. The discussion is not intended to be, nor should it be construed as, legal or tax
advice to any particular prospective holder of our ADSs. The discussion is based on laws and
relevant interpretations thereof in effect as of the date hereof, all of which are subject to
change or different interpretations, possibly with retroactive effect. The discussion does not
address United States state or local tax laws, or tax laws of jurisdictions other than the Cayman
Islands and the United States.
Cayman Islands Taxation
The Cayman Islands currently levies no taxes on individuals or corporations based upon
profits, income, gains or appreciation and there is no taxation in the nature of inheritance tax or
estate duty or withholding tax applicable to us or to any holder of our securities. There are no
other taxes likely to be material to us levied by the Government of the Cayman Islands except for
stamp duties which may be applicable on instruments executed in, or after execution brought within
the jurisdiction of the Cayman Islands. No stamp duty is payable in the Cayman Islands on transfers
of shares of Cayman Islands companies except those which hold interests in land in the Cayman
Islands. The Cayman Islands is not party to any double tax treaties. There are no exchange control
regulations or currency restrictions in the Cayman Islands.
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Pursuant to Section 6 of the Tax Concessions Law (1999 Revision) of the Cayman Islands, the
Company has obtained an undertaking from the Governor-in-Council:
| (1) | that no law which is enacted in the Cayman Islands imposing any tax to be levied on profits or income or gains or appreciation shall apply to the Company or its operations; and | ||
| (2) | that the aforesaid tax or any tax in the nature of estate duty or inheritance tax shall not be payable on the shares, debentures or other obligations of the Company. |
The undertaking for the Company is for a period of twenty years from November 25, 2003.
United States Federal Income Taxation
The following summary describes certain United States federal income tax consequences of the
ownership of our ADSs as of the date hereof. The discussion is applicable to United States Holders
(as defined below) who hold our ADSs as capital assets. As used herein, the term “United States
Holder’’ means a holder of an ADS that is for United States federal income tax purposes:
| • | an individual citizen or resident of the United States; | ||
| • | a corporation (or other entity treated as a corporation for United States federal income tax purposes) created or organized in or under the laws of the United States, any state thereof or the District of Columbia; | ||
| • | an estate the income of which is subject to United States federal income taxation regardless of its source; or | ||
| • | a trust if it (1) is subject to the primary supervision of a court within the United States and one or more United States persons have the authority to control all substantial decisions of the trust or (2) has a valid election in effect under applicable United States Treasury regulations to be treated as a United States person. |
This summary does not represent a detailed description of the United States federal income tax
consequences applicable to you if you are subject to special treatment under the United States
federal income tax laws, including if you are:
| • | a dealer in securities or currencies; | ||
| • | a financial institution; | ||
| • | a regulated investment company; | ||
| • | a real estate investment trust; | ||
| • | an insurance company; | ||
| • | a tax-exempt organization; | ||
| • | a person holding our ADSs as part of a hedging, integrated or conversion transaction, a constructive sale or a straddle; | ||
| • | a trader in securities that has elected the mark-to-market method of accounting for your securities; |
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| • | a person liable for alternative minimum tax; | ||
| • | a person who owns 10% or more of our voting stock; | ||
| • | a partnership or other pass-through entity for United States federal income tax purposes; or | ||
| • | a person whose “functional currency” is not the United States dollar. |
The discussion below is based upon the provisions of the Internal Revenue Code of 1986, as
amended (the “Code’’), and regulations, rulings and judicial decisions thereunder as of the date
hereof, and such authorities may be replaced, revoked or modified so as to result in United States
federal income tax consequences different from those discussed below. In addition, this summary is
based, in part, upon representations made by the depositary to us and assumes that the deposit
agreement, and all other related agreements, will be performed in accordance with their terms.
If a partnership holds ADSs, the tax treatment of a partner will generally depend upon the
status of the partner and the activities of the partnership. If you are a partner of a partnership
holding our ADSs, you should consult your tax advisors.
This summary does not contain a detailed description of all the United States federal income
tax consequences to you in light of your particular circumstances. If you are considering the
purchase, ownership or disposition of our ADSs, you should consult your own tax advisors concerning
the United States federal income tax consequences to you in light of your particular situation as
well as any consequences arising under the laws of any other taxing jurisdiction.
The U.S. Treasury has expressed concerns that intermediaries in the chain of ownership between
the holder of an ADS and the issuer of the security underlying the ADS may be taking actions that
are inconsistent with the claiming of foreign tax credits for United States holders of ADSs. Such
actions would also be inconsistent with the claiming of the reduced rate of tax, described below,
applicable to dividends received by certain non-corporate holders. Accordingly, the analysis of
the availability of the reduced tax rate for dividends received by certain non-corporate holders
below could be affected by actions taken by intermediaries in the chain of ownership between the
holder of an ADS and our company.
ADSs
If you hold ADSs, for United States federal income tax purposes, you generally will be treated
as the owner of the underlying Shares that are represented by such ADSs. Accordingly, deposits or
withdrawals of Shares for ADSs will not be subject to United States federal income tax.
Taxation of Dividends
We do not anticipate paying dividends on our ordinary shares or indirectly on our ADSs, in the
foreseeable future. See “Dividend Policy” in Item 8.
Subject to the “Passive Foreign Investment Company” discussion below, the gross amount of
distributions on the ADSs will be taxable as dividends, to the extent paid out of our current or
accumulated earnings and profits, as determined under United States federal income tax principles.
Such income will be includable in your gross income as ordinary income on the day actually or
constructively received by the depositary. Such dividends will not be eligible for the dividends
received deduction allowed to corporations under the Code.
With respect to non-corporate United States investors, certain dividends received before
January 1, 2011 from a qualified foreign corporation may be subject to reduced rates of taxation. A
foreign corporation is treated as a qualified foreign corporation with respect to dividends
received from that corporation on shares (or ADSs backed by such shares) that are readily tradable
on an established securities market in the United States. United States Treasury Department
guidance indicates that our ADSs, which are listed on the Nasdaq National Market, are readily
tradable
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on an established securities market in the United States. There can be no assurance that our
ADSs will be considered readily tradable on an established securities market in later years.
Non-corporate holders that do not meet a minimum holding period requirement during which they are
not protected from the risk of loss or that elect to treat the dividend income as “investment
income” pursuant to Section 163(d)(4) of the Code will not be eligible for the reduced rates of
taxation regardless of our status as a qualified foreign corporation. In addition, the rate
reduction will not apply to dividends if the recipient of a dividend is obligated to make related
payments with respect to positions in substantially similar or related property. This disallowance
applies even if the minimum holding period has been met. You should consult your own tax advisors
regarding the application of these rules given your particular circumstances.
To the extent that the amount of any distribution exceeds our current and accumulated earnings
and profits for a taxable year, as determined under United States federal income tax principles,
the distribution will first be treated as a tax-free return of capital, causing a reduction in the
adjusted basis of the ADSs, and the balance in excess of adjusted basis will be taxed as capital
gain recognized on a sale or exchange. However, we do not expect to keep earnings and profits in
accordance with United States federal income tax principles. Therefore, you should expect that a
distribution will generally be treated as a dividend (as discussed above).
Passive Foreign Investment Company
Based on the projected composition of our income and valuation of our assets, including
goodwill, we do not believe we were a passive foreign investment company (a “PFIC”) for 2006, and
we do not expect to become one in the future, although there can be no assurance in this regard.
In general, we will be a PFIC for any taxable year in which:
• at least 75% of our gross income is passive income, or
• at least 50% of the value (determined on a quarterly basis) of our assets is
attributable to assets that produce or are held for the production of passive
income.
For this purpose, passive income generally includes dividends, interest, royalties and rents (other
than royalties and rents derived in the active conduct of a trade or business and not derived from
a related person). If we own at least 25% (by value) of the stock of another corporation, we will
be treated, for purposes of the PFIC tests, as owning our proportionate share of the other
corporation’s assets and receiving our proportionate share of the other corporation’s income.
The determination of whether we are a PFIC is made annually. Accordingly, it is possible that
we may become a PFIC in the current or any future taxable year due to changes in our asset or
income composition. Because we have valued our goodwill based on the market value of our equity, a
decrease in the price of our ADSs may also result in our becoming a PFIC. If we are a PFIC for any
taxable year during which you hold our ADSs, you will be subject to special tax rules discussed
below.
If we are a PFIC for any taxable year during which you hold our ADSs, you will be subject to
special tax rules with respect to any “excess distribution” received and any gain realized from a
sale or other disposition, including a pledge, of ADSs. Distributions received in a taxable year
that are greater than 125% of the average annual distributions received during the shorter of the
three preceding taxable years or your holding period for the ADSs will be treated as excess
distributions. Under these special tax rules:
| • | the excess distribution or gain will be allocated ratably over your holding period for the ADSs, | ||
| • | the amount allocated to the current taxable year, and any taxable year prior to the first taxable year in which we were a PFIC, will be treated as ordinary income, and | ||
| • | the amount allocated to each other year will be subject to tax at the highest tax rate in effect for that year and the interest charge generally applicable to underpayments of tax will be imposed on the resulting tax attributable to each such year. |
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In addition, non-corporate United States Holders will not be eligible for reduced rates of
taxation on any dividends received from us prior to January 1, 2011, if we are a PFIC in the
taxable year in which such dividends are paid or in the preceding taxable year. You will be
required to file Internal Revenue Service Form 8621 if you hold our ADSs in any year in which we
are classified as a PFIC.
If we are a PFIC for any taxable year and any of our foreign subsidiaries is also a PFIC, a
United States Holder would be treated as owning a proportionate amount (by value) of the shares of
the lower-tier PFIC for purposes of the application of these rules. You are urged to consult your
tax advisors about the application of the PFIC rules to any of our subsidiaries.
In certain circumstances, in lieu of being subject to the excess distribution rules discussed
above, you may make an election to include gain on the stock of a PFIC as ordinary income under a
mark-to-market method, provided that such stock is regularly traded on a qualified exchange. Under
current law, the mark-to-market election may be available to holders of ADSs because the ADSs will
be listed on the Nasdaq National Market which constitutes a qualified exchange, although there can
be no assurance that the ADSs will be “regularly traded” for purposes of the mark-to-market
election.
If you make an effective mark-to-market election, you will include in each year as ordinary
income the excess of the fair market value of your ADSs at the end of the year over your adjusted
tax basis in the ADSs. You will be entitled to deduct as an ordinary loss each year the excess of
your adjusted tax basis in the ADSs over their fair market value at the end of the year, but only
to the extent of the net amount previously included in income as a result of the mark-to-market
election.
Your adjusted tax basis in the ADSs will be increased by the amount of any income inclusion
and decreased by the amount of any deductions under the mark-to-market rules. If you make a
mark-to-market election it will be effective for the taxable year for which the election is made
and all subsequent taxable years unless the ADSs are no longer regularly traded on a qualified
exchange or the Internal Revenue Service consents to the revocation of the election. You are urged
to consult your tax advisor about the availability of the mark-to-market election, and whether
making the election would be advisable in your particular circumstances.
Alternatively, you can sometimes avoid the rules described above by electing to treat us as a
“qualified electing fund” under Section 1295 of the Code. This option is not available to you
because we do not intend to comply with the requirements necessary to permit you to make this
election.
You are urged to consult your tax advisors concerning the United States federal income tax
consequences of holding ADSs if we are considered a PFIC in any taxable year.
Taxation of Capital Gains
For United States federal income tax purposes and subject to the discussion under “Passive
Foreign Investment Company” above, you will recognize taxable gain or loss on any sale or exchange
of ADSs in an amount equal to the difference between the amount realized for the ADSs and your tax
basis in the ADSs. Such gain or loss will generally be capital gain or loss. Capital
gains of individuals derived with respect to capital assets held for more than one year are
eligible for reduced rates of taxation. The deductibility of capital losses is subject to
limitations. Any gain or loss recognized by you will generally be treated as United States source
gain or loss.
Information reporting and backup withholding
In general, information reporting will apply to dividends in respect of our ADSs and the
proceeds from the sale, exchange or redemption of our ADSs that are paid to you within the United
States (and in certain cases, outside the United States), unless you are an exempt recipient such
as a corporation. A backup withholding tax may apply
to such payments if you fail to provide a taxpayer identification number or certification of
other exempt status or fail to report in full dividend and interest income.
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Any amounts withheld under the backup withholding rules will be allowed as a refund or a
credit against your United States federal income tax liability provided the required information is
furnished to the Internal Revenue Service.
F. DIVIDENDS AND PAYING AGENTS
Not applicable
G. STATEMENTS BY EXPERTS
Not applicable
H. DOCUMENTS ON DISPLAY
We have filed with the SEC a registration statement on Form F-1, a registration statement on
Form F-6, a registration statement on Form F-3, and a registration statement on Form 8-A, including
relevant exhibits and schedules under the Securities Act, covering the ordinary shares represented
by the ADSs, as well as the ADSs. You should refer to our registration statements and their
exhibits and schedules if you would like to find out more about us and about the ADSs and the
ordinary shares represented by the ADSs. This annual report summarizes material provisions of
contracts and other documents to which we refer you. Since the annual report may not contain all
the information that you may find important, you should review a full text of these documents.
The SEC also maintains a website that contains reports, proxy statements and other information
about issuers, such as us, who file electronically with the SEC. The address of that site is
http://www.sec.gov. The information on that website is not a part of this annual report.
We will furnish to The Bank of New York, as depositary of our ADSs, our annual reports. When
the depositary receives these reports, it will upon our request promptly provide them to all
holders of record of ADSs. We will also furnish the depositary with all notices of shareholders’
meetings and other reports and communications in English that we make available to our
shareholders. The depositary will make these notices, reports and communications available to
holders of ADSs and will upon our request mail to all holders of record of ADSs the information
contained in any notice of a shareholders’ meeting it receives.
We are subject to periodic reporting and other informational requirements of the Exchange Act
as applicable to foreign private issuers. Accordingly, we will be required to file reports,
including annual reports on Form 20-F, and other information with the SEC. As a foreign private
issuer, we are exempt from the rules of the Exchange Act prescribing the furnishing and content of
proxy statements to shareholders. The registration statements, reports and other information so
filed can be inspected and copied at the public reference facilities maintained by the SEC at Room
1024, Judiciary Plaza, 450 Fifth Street, N.W., Washington, D.C. 20549. You can request
copies of these documents upon payment of a duplicating fee, by writing to the SEC. Please call the
SEC at 1-800-SEC-0330 for further information on the operation of the public reference rooms.
I. SUBSIDIARY INFORMATION
Not applicable
Item 11. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Interest Rate Risk
Our exposure to interest rate risk primarily relates to the interest income generated by
excess cash invested in demand deposits, investments in fixed deposits with maturity over three
months, PRC government and PRC
corporate bonds, and interest expenses to be incurred, if we seek to obtain a credit facility
to satisfy our cash requirement for repurchase of our convertible notes. We have not used
derivative financial instruments in our investment portfolio in
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order to reduce interest rate risk.
Interest earning instruments carry a degree of interest rate risk. However, our future interest
income may change, subject to market interest rate movement.
Foreign Currency Risk
Our business is operated in the PRC, and its value is effectively denominated in Renminbi,
while our ADSs will be traded in U.S. dollars. The fluctuation of foreign exchange rate between
U.S. dollars and Renminbi affects the value of your investment in our ADSs. All our revenues and
most of expenses are substantially denominated in Renminbi, their exposure to foreign exchange
risks should generally be limited. However, as at the release date of our annual report, we do have
material monetary assets and liabilities denominated in U.S. dollars, which mainly consist of the
investments in marketable securities and affiliated companies and the convertible notes payable.
The fluctuation of foreign exchange rate affects the value of these monetary assets and liabilities
denominated in U.S. dollars. Generally, appreciation of Renminbi against U.S. dollars will
devaluate the assets and liabilities denominated in U.S. dollar, while devaluation of Renminbi
again U.S. dollars will appreciate the assets and liabilities denominated in U.S. dollar. In 2006,
a foreign exchange gain of RMB59.8 million (US$7.7 million) incurred as a result of revaluation of
monetary assets and liabilities denominated in US dollar following the appreciation of Renminbi
against the U.S. dollar. Effective from January 1, 2007, Shanda Interactive Entertainment Limited,
our listed company incorporated in Cayman Islands, changed its functional currency from Renminbi to
US dollars due to changes in its economic facts and circumstances, including an active plan to
explore overseas market. Going forward, the exchange gain or losses from revaluation of the
monetary assets and liabilities denominated in US dollars of Shanda Interactive Entertainment
Limited will not be recorded in the statement of operations, but instead will be treated as a
cumulative translation adjustment under shareholders’ equity in the balance sheet.
In China, very limited hedging transactions are available to reduce our exposure to exchange
rate fluctuations. To date, we have not entered into any hedging transactions in an effort to
reduce our exposure to foreign currency exchange risk. While we may decide to enter into hedging
transactions in the future, the availability and effectiveness of these hedges may be limited and
we may not be able to successfully hedge our exposure at all. See “Exchange Controls” in Item 10,
“Additional Information”.
Item 12. DESCRIPTION OF SECURITIES OTHER THAN EQUITY SECURITIES
Not applicable
Part II
Item 13. DEFAULTS, DIVIDEND ARREARAGES AND DELINQUENCIES
Not applicable
Item 14. MATERIAL MODIFICATIONS TO THE RIGHTS OF SECURITY HOLDERS AND USE OF PROCEEDS
A. — D. MATERIAL MODIFICATIONS TO THE RIGHTS OF SECURITY HOLDERS
Not applicable
E. USE OF PROCEEDS
Not applicable
Item 15T. CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
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As of the end of the period covered by this report, our principal executive officer and
principal financial officer have performed an evaluation of the effectiveness of our disclosure
controls and procedures within the meaning of Rules 13a-15(e) and 15d-15(e) of the Securities
Exchange Act of 1934, as amended. Based upon that evaluation, they have concluded that our
disclosure controls and procedures were effective in ensuring that the information required to be
disclosed by us in the reports that we file and furnish under the Securities Exchange Act of 1934,
as amended, is recorded, processed, summarized and reported, within the time periods specified in
by the Securities and Exchange Commission’s rules and regulations.
Management’s Report on Internal Control over Financial Reporting
Management of Shanda Interactive Entertainment Limited (together with its consolidated
subsidiaries, the “Group”) is responsible for establishing and maintaining adequate internal
control over financial reporting as defined in Rules 13a-15(f) and 15d-15(f) under the Securities
Exchange Act of 1934, as amended. The Group’s internal control over financial reporting is a
process designed to provide reasonable assurance regarding the reliability of financial reporting
and the preparation of financial statements for external purposes in accordance with applicable
generally accepted accounting principles. The Group’s internal control over financial reporting
includes those policies and procedures that:
| • | pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets and liabilities of the Group; | ||
| • | provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with the applicable generally accepted accounting principles, and that receipts and expenditures of the Group are being made only in accordance with authorizations of management and directors of the Group; and | ||
| • | provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the Group’s assets that could have a material effect on the financial statements. |
Because of its inherent limitations, internal control over financial reporting may not prevent
or detect misstatements. Also, projections of any evaluation of effectiveness to future periods
are subject to the risk that controls may become inadequate because of changes in conditions, or
that the degree of compliance with the policies or procedures may deteriorate.
Management assessed the effectiveness of the Group’s internal control over financial reporting
as of December 31, 2006. In making this assessment, management used the criteria set forth by the
Committee of Sponsoring Organizations of the Treadway Commission (“COSO”) in Internal
Control—Integrated Framework. Based on this assessment, management determined that the Group’s
internal control over financial reporting was effective as of December 31, 2006.
This Form 20-F annual report does not include an attestation report of the Group’s registered
public accounting firm, PricewaterhouseCoopers Zhong Tian CPAs Limited Company, regarding internal
control over financial reporting. Management’s report was not subject to attestation by the
Group’s registered public accounting firm pursuant to the temporary rules of the Securities and
Exchange Commission (the “SEC”) that permit the Group to provide only management’s report in this
Form 20-F.
Changes in Internal Control over Financial Reporting
In its 2005 Form 20-F, the Group reported the following material weaknesses in its internal
control over financial reporting including: (1) lack of an enterprise risk management system,
including internal audit or similar functions to address enterprise risk and lack of formalization
of internal policies over company level controls; (2) lack of sufficient personnel with
appropriate knowledge, experience and training in the application of accounting principles
generally accepted in the United States of America (“US GAAP”), commensurate with the financial
reporting requirements; and (3) lack of policies to select and evaluate the design and
implementation with regards to US GAAP accounting policies and critical accounting estimates.
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In response to the above outlined material weaknesses identified in our 2005 filing, in
cooperation with our Board and under the supervision of our Audit Committee, we have taken a number
of actions to remediate the material weaknesses including:
| • | standardized internal policies over the design and implementation of company level controls including the formalization of internal audit roles and responsibilities; | ||
| • | introduction of an anonymous hotline for the purpose of establishing additional means for whistleblower activities; | ||
| • | arranged training for financial and accounting personnel on a periodic basis to furnish them with adequate knowledge of US GAAP and SEC rules and disclosure requirements; | ||
| • | acquired additional resources in the financial accounting function with appropriate knowledge and experience in the application of US GAAP including the appointment of a new financial controller so as to enhance monitoring controls over the implementation of significant US GAAP accounting policies and estimates; | ||
| • | standardized periodic review procedures in connection with the selection and evaluation of significant US GAAP accounting policies, critical accounting judgments and estimates by the Audit Committee; and | ||
| • | implemented additional monitoring controls that are designed to improve upon the accuracy and timely preparation of our financial statements and related SEC filings. |
As of December 31, 2006, management of the Group determined that the applicable controls were
effectively designed and operating so as to enable management to conclude that the above described
material weaknesses have been remediated.
Item 16A. AUDIT COMMITTEE FINANCIAL EXPERT
Our board of directors has determined that Mr. Jingsheng Huang qualifies as an Audit Committee
Financial Expert as defined by the applicable rules of the SEC.
Our board of directors has determined that Mr. Jingsheng Huang is independent as such term is
defined by Rule 4200 of the NASD Marketplace Rules.
Item 16B. CODE OF ETHICS
Our board of directors has adopted a code of ethics, which is applicable to our senior
executive and financial officers. In addition, our board of directors has adopted a code of
conduct, which is applicable to all of our directors, officers and employees. We have made our code
of ethics and our code of conduct publicly available on our website at www.snda.com.
Item 16C. PRINCIPAL ACCOUNTANT FEES AND SERVICES
Note: As above.
The following table sets forth the aggregate fees by categories specified below in connection
with certain professional services rendered by our principal external auditors for the periods
indicated. We did not pay any other fees to our principal external auditors during the periods
indicated below.
102
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| For the year ended December 31, | ||||||||||||||||
| 2004 | 2005 | 2006 | ||||||||||||||
| RMB | RMB | RMB | US$ | |||||||||||||
| (in thousands) | ||||||||||||||||
Audit fees(1) |
9,327.6 | 5,084.2 | 7,418.3 | 950.0 | ||||||||||||
Audit-related fees(2) |
1,858.1 | 2,679.3 | 2,417.0 | 309.5 | ||||||||||||
Other fees(3) |
703.5 | 2,001.4 | 2,320.7 | 297.2 | ||||||||||||
| (1) | Audit fees means the aggregate fees billed in each of the fiscal years listed for professional services rendered by our principal auditors for the audit of our annual financial statements or services that are normally provided by the auditors in connection with statutory and regulatory filings or engagements. | |
| (2) | Audit-related fees means the aggregate fees billed in each of the fiscal years listed for assurance and related services by our principal auditors that are reasonably related to the performance of the audit or review of our financial statements and are not reported under “Audit fees”. Services comprising the fees disclosed under the category of “Audit-related fees” involve principally limited reviews performed on our consolidated financial statements and the audits of the annual financial statements of our subsidiaries and affiliated companies. . | |
| (3) | Other fees means the aggregate fees billed for (i) the issuance of agreed-upon procedures reports by our principal auditors as part of the due diligence work relating to our merger and acquisition projects and (ii) compliance, advisory and other tax related service. |
Item 16D. EXEMPTIONS FROM THE LISTING STANDARDS FOR AUDIT COMMITTEES
We have not been granted an exemption from the applicable listing standards for the audit
committee of our board of directors.
Item 16E. PURCHASES OF EQUITY SECURITIES BY THE ISSUER AND AFFILIATED PURCHASERS
| (d) Maximum | ||||||||||||||||
| (c) Total | Approximate | |||||||||||||||
| Number of ADS | US Dollar | |||||||||||||||
| (b) Average | Purchased as | Value of ADS | ||||||||||||||
| (a) Total | Price Paid | Part of Publicly | that May Yet | |||||||||||||
| Number of ADS | per ADS in | Announced | Be Purchased | |||||||||||||
| Period | Purchased | US$ | Plan(1) | Under the Plan | ||||||||||||
November 1 – November 30, 2005 |
260,000 | $ | 19.14 | 260,000 | $ | 45,023,600 | ||||||||||
December 1 – December 31, 2005 |
110,000 | $ | 16.57 | 110,000 | $ | 43,200,900 | ||||||||||
March 1 – March 31, 2007 |
738,275 | $ | 21.73 | 738,275 | $ | 16,041,710 | ||||||||||
| (1) | On October 24, 2005, we announced a share repurchase plan, which expired on October 23, 2006. Under the plan, we were approved to repurchase up to US$50 million worth of our outstanding ADS from time to time over the 12 month period following the plan’s approval date. On March 9, 2007, we announced a share repurchase plan, under the plan, we are approved to repurchase up to US$50 million worth of our outstanding ADS from time to time over the next 12 months. |
Item 17. FINANCIAL STATEMENTS
Not applicable
Item 18. FINANCIAL STATEMENTS
The consolidated financial statements for the Company and its subsidiaries are included at the
end of this annual report.
As of June 22, 2007, we owned approximately 49.48% of Actoz Soft Co., Ltd., and pursuant to
Rule 3-09 of SEC Regulation S-X, we have included the financial statements of Actoz Soft Co., Ltd.
at the end of this annual report.
103
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Item 19. EXHIBITS
| Exhibit | ||
| Number | Description | |
1.1
|
Amended and Restated Memorandum and Articles of Association of Shanda Interactive Entertainment Limited (incorporated by reference to Exhibit 3.1 to our Registration Statement on Form F-1 (file no. 333-114177) filed with the Securities and Exchange Commission on May 7, 2004). | |
2.1
|
Specimen Ordinary Share Certificate (incorporated by reference to Exhibit 4.1 to our Registration Statement on Form F-1 (file no. 333-114177) filed with the Securities and Exchange Commission on May 7, 2004). | |
2.2
|
Specimen of American Depositary Receipts (incorporated by reference to Exhibit A to Exhibit 1 to our Registration Statement on Form F-6 POS (file no. 333-114759) filed with the Securities and Exchange Commission on June 9, 2004). | |
2.3
|
Form of Deposit Agreement (incorporated by reference to Exhibit 1 to our Post-Effective Amendment No. 1 to the Form F-6 (file no. 333-114759) filed with the Securities and Exchange Commission on June 9, 2004). | |
2.4
|
Registration Rights Agreement, dated October 20, 2004, between Shanda Interactive Entertainment Limited and the parties named herein (incorporated by reference to Exhibit 4.7 to our Registration Statement on Form F-1 (file no. 333-122029) filed with the Securities and Exchange Commission on January 13, 2005). | |
2.5
|
Indenture, dated October 20, 2004, between Shanda Interactive Entertainment Limited, and The Bank of New York, as Trustee, relating to the Company’s Zero Coupon Senior Convertible Notes due 2014 (incorporated by reference to Exhibit 4.6 to our Registration Statement on Form F-1 (file no. 333-122029) filed with the Securities and Exchange Commission on January 13, 2005). | |
2.6
|
Shareholders Agreement of Shanda Interactive Entertainment Limited among Shanda Interactive Entertainment Limited, Shanghai Shanda Internet Development Co., Ltd., Shanda Media Limited, Shanda Investment International Limited, Tianqiao Chen, Danian Chen and SB Asia Infrastructure Fund L.P., dated December 19, 2003, (incorporated by reference to Exhibit 4.2 to our Registration Statement on Form F-1 (file no. 333-114177) filed with the Securities and Exchange Commission on April 2, 2004). | |
2.7
|
Sale and Purchase Agreement, among Shanda Interactive Entertainment Limited, Jong Hyun Lee, Il Wang Park, Byung Chan Park, Jin Ho Lee, Sang Jun Roh, Sung Gon Bae and Yong Sung Cho, dated November 29, 2004 in connection with the sale of shares of Actoz Soft Co., Ltd. to Shanda Interactive Entertainment Limited (incorporated by reference to Exhibit 2.7 to our 2004 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on May 31, 2005). | |
4.1
|
Employee Stock Option Plan and form of share option agreement (incorporated by reference to Exhibit 10.1 to our Registration Statement on Form F-1 (file no. 333-114177) filed with the Securities and Exchange Commission on April 2, 2004). | |
4.2
|
Employee Equity Compensation Plan (incorporated by reference to Exhibit 99.2 to our press release on Form 6-K (file no.000-50705) filed with the Securities and Exchange Commission on September 22, 2005) | |
4.3
|
Share Purchase Agreement among Shanda Media Limited, Shanda Investment International Limited, SB Asia Infrastructure Fund L.P., Shanda Interactive Entertainment Limited and Shanda Holdings Limited, dated December 19, 2003, (incorporated by reference to Exhibit 4.3 to our Registration Statement on Form F-1 (file no. 333-114177) filed with the Securities and Exchange Commission on April 2, 2004). |
104
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| Exhibit | ||
| Number | Description | |
4.4
|
Purchase Option and Cooperation Agreement among Shengqu Information Technology (Shanghai) Co., Ltd., Shanghai Shanda Networking Co., Ltd., Tianqiao Chen and Danian Chen, dated December 30, 2003, (incorporated by reference to Exhibit 10.2 to our Registration Statement on Form F-1 (file no. 333-114177) filed with the Securities and Exchange Commission on April 2, 2004). | |
4.5
|
Share Pledge Agreement among Tianqiao Chen, Danian Chen and Shengqu Information Technology (Shanghai) Co., Ltd., dated December 30, 2003, (incorporated by reference to Exhibit 10.3 to our Registration Statement on Form F-1 (file no. 333-114177) filed with the Securities and Exchange Commission on April 2, 2004). | |
4.6
|
Amended and Restated Equipment Leasing Agreement between Shanghai Shanda Networking Co., Ltd. and Shengqu Information Technology (Shanghai) Co., Ltd., dated December 9, 2003, (incorporated by reference to Exhibit 10.8 to our Registration Statement on Form F-1 (file no. 333-114177) filed with the Securities and Exchange Commission on April 2, 2004). | |
4.7
|
Amended and Restated Technical Support Agreement between Shanghai Shanda Networking Co., Ltd. and Shengqu Information Technology (Shanghai) Co., Ltd., dated December 9, 2003, (incorporated by reference to Exhibit 10.9 to our Registration Statement on Form F-1 (file no. 333-114177) filed with the Securities and Exchange Commission on April 2, 2004). | |
4.8
|
Arena Software I License Agreement between Grandpro Information Technology (Shanghai) Co., Ltd. and Shanghai Haofang Online Information Technology Co., Ltd. with respect to Arena Software I, dated May 1, 2006 (incorporated by reference to Exhibit 4.8 to our 2005 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on June 29, 2006). | |
4.9
|
Arena Software II License Agreement between Grandpro Information Technology (Shanghai) Co., Ltd. and Shanghai Haofang Online Information Technology Co., Ltd. with respect to Arena Software II, dated May 1, 2006 (incorporated by reference to Exhibit 4.9 to our 2005 annual report on Form 20-F (file no. 000-50705). | |
4.10
|
Software Licensing Agreement among Shanghai Shanda Networking Co., Ltd., Shengqu Information Technology (Shanghai) Co., Ltd., Nanjing Shanda Networking Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. with respect to Shanda Xintianyou 1.0 software system, dated January 1, 2006 (Incorporated by reference to Exhibit 4.10 to our 2005 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on June 29, 2006). | |
4.11
|
Software Licensing Agreement among Shanghai Shanda Networking Co., Ltd., Shengqu Information Technology (Shanghai) Co., Ltd., Nanjing Shanda Networking Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. with respect to E-sales System 2.0 Software, dated December 9, 2005 (Incorporated by reference to Exhibit 4.11 to our 2005 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on June 29, 2006). | |
4.12
|
Software Licensing Agreement among Shanghai Shanda Networking Co., Ltd., Shengqu Information Technology (Shanghai) Co., Ltd., Nanjing Shanda Networking Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. with respect to Shanda Xintianyou 1.0 software system, dated December 28, 2004, (incorporated by reference to Exhibit 4.11 to our 2004 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on May 31, 2005). | |
4.13
|
Software Licensing Agreement among Shanghai Shanda Networking Co., Ltd., Shengqu Information Technology (Shanghai) Co., Ltd., Nanjing Shanda Networking Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. with respect to E-sales System 2.0 Software, dated December 28, 2004, (incorporated by reference to Exhibit 4.12 to our 2004 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on May 31, 2005). |
105
Table of Contents
| Exhibit | ||
| Number | Description | |
4.14
|
Sample of Provincial General Distribution and City-level Distribution Agreement (incorporated by reference to Exhibit 10.16 to our Registration Statement on Form F-1 (file no. 333-114177) filed with the Securities and Exchange Commission on April 2, 2004). | |
4.15
|
Software Licensing Agreement among Shanghai Shanda Internet Development Co., Ltd., Shanghai Pudong New Area Imp. & Exp. Corp. and Actoz Soft Co., Ltd., dated June 29, 2001, (incorporated by reference to Exhibit 10.17 to our Registration Statement on Form F-1 (file no. 333-114177) filed with the Securities and Exchange Commission on April 20, 2004). | |
4.16
|
Supplemental Agreement among Shanghai Shanda Networking Development Co., Ltd., Actoz Soft Co., Ltd. and Wemade Entertainment Co., Ltd., dated July 14, 2002, (incorporated by reference to Exhibit 10.18 to our Registration Statement on Form F-1 (file no. 333-114177) filed with the Securities and Exchange Commission on April 2, 2004). | |
4.17
|
Pre-lease Contract between Shengqu Information Technology (Shanghai) Co., Ltd. and Shanghai Zhangjiang Micro-electronics Harbor Co., Ltd., dated August 29, 2003, for offices located at No. 1 (temporary) Building, No. 690 Bibo Road, Zhangjiang High-Tech Area, Shanghai, PRC (incorporated by reference to Exhibit 10.20 to our Registration Statement on Form F-1 (file no. 333-114177) filed with the Securities and Exchange Commission on April 2, 2004). | |
4.18
|
Articles of Association of Shengqu Information Technology (Shanghai) Co., Ltd. (incorporated by reference to Exhibit 10.21 to our Registration Statement on Form F-1 (file no. 333-114177) filed with the Securities and Exchange Commission on April 2, 2004). | |
4.19
|
Settlement Agreement between Shanghai Shanda Internet Development Co., Ltd. and Actoz Soft Co., Ltd., dated August 19, 2003, (incorporated by reference to Exhibit 10.22 to our Registration Statement on Form F-1 (file no. 33-114177) filed with the Securities and Exchange Commission on April 20, 2004). | |
4.20
|
Amendment Agreement among Shanghai Shanda Internet Development Co., Ltd., Actoz Soft Co., Ltd, Shanghai Pudong Import & Export Co., Ltd. and Shengqu Information Technology (Shanghai) Co., Ltd., dated August 19, 2003, (incorporated by reference to Exhibit 10.23 to our Registration Statement on Form F-1 (file no. 333-114177) filed with the Securities and Exchange Commission on April 20, 2004). | |
4.21
|
Extension Agreement among Actoz Soft Co., Ltd, Shanghai Shanda Internet Development Co., Ltd. and Shanghai Pudong Imp.& Exp. Co., Ltd., dated September 22, 2005 (Incorporated by reference to Exhibit 4.21 to our 2005 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on June 29, 2006). | |
4.22
|
Form of Indemnification Agreement for Directors and Officers (incorporated by reference to Exhibit 10.24 to our Registration Statement on Form F-1 (file no. 333-114177) filed with the Securities and Exchange Commission on April 2, 2004). | |
4.23
|
Form of Employment Contract of Shengqu Information Technology (Shanghai) Co., Ltd. (incorporated by reference to Exhibit 10.25 to our Registration Statement on Form F-1 (file no. 333-114177) filed with the Securities and Exchange Commission on April 2, 2004). | |
4.24
|
Research and Development Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Shanghai Shengjin Software Development Co., Ltd. with respect to Shanda Richman, dated October 31, 2005 (Incorporated by reference to Exhibit 4.24 to our 2005 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on June 29, 2006). |
106
Table of Contents
| Exhibit | ||
| Number | Description | |
4.25
|
Online Game Distribution and License Agreement among Shengqu Information Technology (Shanghai) Co., Ltd., Shanghai Shanda Networking Co., Ltd., Nanjing Shanda Networking Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. with respect to Legend of Mir II, dated September 28, 2005 (Incorporated by reference to Exhibit 4.25 to our 2005 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on June 29, 2006). | |
4.26
|
Online Game Distribution and License Agreement among Shengqu Information Technology (Shanghai) Co., Ltd., Shanghai Shanda Networking Co., Ltd., Nanjing Shanda Networking Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. with respect to BNB, dated October 1, 2005 (Incorporated by reference to Exhibit 4.26 to our 2005 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on June 29, 2006). | |
4.27
|
Online Game Distribution and License Agreement among Shengqu Information Technology (Shanghai) Co., Ltd., Shanghai Shanda Networking Co., Ltd., Nanjing Shanda Networking Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. with respect to Woool, dated January 1, 2006. | |
4.28
|
Online Game Distribution and License Agreement among Shengqu Information Technology (Shanghai) Co., Ltd., Shanghai Shanda Networking Co., Ltd., Nanjing Shanda Networking Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. with respect to The Age, dated January 1, 2006 (Incorporated by reference to Exhibit 4.28 to our 2005 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on June 29, 2006). | |
4.29
|
Online Game Distribution and License Agreement among Shengqu Information Technology (Shanghai) Co., Ltd., Shanghai Shanda Networking Co., Ltd., Nanjing Shanda Networking Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. with respect to The Sign, dated January 1, 2006 (Incorporated by reference to Exhibit 4.29 to our 2005 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on June 29, 2006). | |
4.30
|
Online Game Distribution and License Agreement among Shengqu Information Technology (Shanghai) Co., Ltd., Shanghai Shanda Networking Co., Ltd., Nanjing Shanda Networking Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. with respect to R.O., dated September 1, 2005 (Incorporated by reference to Exhibit 4.30 to our 2005 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on June 29, 2006). | |
4.31
|
Online Game Distribution and License Agreement among Shengqu Information Technology (Shanghai) Co., Ltd., Shanghai Shanda Networking Co., Ltd., Nanjing Shanda Networking Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. with respect to 3G Hero, dated September 1, 2005 (Incorporated by reference to Exhibit 4.31 to our 2005 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on June 29, 2006). | |
4.32
|
Online Game Distribution and License Agreement among Shengqu Information Technology (Shanghai) Co., Ltd., Shanghai Shanda Networking Co., Ltd., Nanjing Shanda Networking Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. with respect to Shanda Richman, dated December 8, 2005 (Incorporated by reference to Exhibit 4.32 to our 2005 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on June 29, 2006). | |
4.33
|
Online Game Distribution and License Agreement among Shengqu Information Technology (Shanghai) Co., Ltd., Shanghai Shanda Networking Co., Ltd., Nanjing Shanda Networking Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. with respect to Crazy Kart, dated March 18, 2006 (Incorporated by reference to Exhibit 4.33 to our 2005 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on June 29, 2006). |
107
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| Exhibit | ||
| Number | Description | |
4.34
|
Online Game Distribution and License Agreement between Grandpro and Haofang Online with respect to Doudizhu, dated May 1, 2006 (Incorporated by reference to Exhibit 4.34 to our 2005 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on June 29, 2006). | |
4.35
|
Online Game Distribution and Service Agreement among Shengqu Information Technology (Shanghai) Co., Ltd., Shanghai Shanda Networking Co., Ltd., Nanjing Shanda Networking Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. with respect to The Age, dated December 28, 2004, (incorporated by reference Exhibit 4.22 to our 2004 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on May 31, 2005). | |
4.36
|
Online Game Distribution and Service Agreement among Shengqu Information Technology (Shanghai) Co., Ltd. Shanghai Shanda Networking Co., Ltd., Nanjing Shanda Networking Co., Ltd. and Hangzhou Bianfeng Networking Co. Ltd. with respect to The Sign, dated December 28, 2004, (incorporated by reference to Exhibit 4.23 to our 2004 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on May 31, 2005). | |
4.37
|
Online Game Software Distribution and License Agreement among Shengqu Information Technology (Shanghai) Co., Ltd., Shanghai Shanda Networking Co., Ltd. Nanjing Shanda Networking Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. with respect to Woool, dated December 28, 2004, (incorporated by reference to Exhibit 4.24 to our 2004 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on May 31, 2005). | |
4.38
|
Online Game Software Distribution and License Agreement among Shengqu Information Technology (Shanghai) Co., Ltd., Shanghai Shanda Networking Co., Ltd. Nanjing Shanda Networking Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. with respect to D.O., dated December 28, 2004, (incorporated by reference to Exhibit 4.25 to our 2004 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on May 31, 2005). | |
4.39
|
Online Game Software Distribution and License Agreement among Shengqu Information Technology (Shanghai) Co., Ltd., Shanghai Shanda Networking Co., Ltd. Nanjing Shanda Networking Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. with respect to Maple Story, dated December 28, 2004, (incorporated by reference to Exhibit 4.26 to our 2004 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on May 31, 2005). | |
4.40
|
Online Game Software Distribution and License Agreement among Shengqu Information Technology (Shanghai) Co., Ltd., Shanghai Shanda Networking Co., Ltd. Nanjing Shanda Networking Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. with respect to Legend of Mir II, dated December 28, 2004, (incorporated by reference to Exhibit 4.27 to our 2004 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on May 31, 2005). | |
4.41
|
Online Game Software Distribution and License Agreement among Shengqu Information Technology (Shanghai) Co., Ltd., Shanghai Shanda Networking Co., Ltd. Nanjing Shanda Networking Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd., Shanda Networking with respect to BNB dated December 28, 2004 (incorporated by reference to Exhibit 4.28 to our 2004 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on May 31, 2005) . | |
4.42
|
Online Game Software Distribution and License Agreement among Shengqu Information Technology (Shanghai) Co., Ltd., Shanghai Shanda Networking Co., Ltd., Nanjing Shanda Networking Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. with respect to GetAmped dated December 28, 2004 (incorporated by reference to Exhibit 4.29 to our 2004 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on May 31, 2005). |
108
Table of Contents
| Exhibit | ||
| Number | Description | |
4.43
|
Online Game Software Distribution and License Agreement among Shengqu Information Technology (Shanghai) Co., Ltd., Shanghai Shanda Networking Co., Ltd., Nanjing Shanda Networking Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. with respect to Buzzer Beater dated December 28, 2004 (incorporated by reference to Exhibit 4.32 to our 2004 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on May 31, 2005). | |
4.44
|
Billing Technology License Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Shanghai Shanda Networking Co., Ltd. dated January 1, 2006 (Incorporated by reference to Exhibit 4.44 to our 2005 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on June 29, 2006). | |
4.45
|
Billing Technology License Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Nanjing Shanda Networking Co., Ltd. dated January 1, 2006 (Incorporated by reference to Exhibit 4.45 to our 2005 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on June 29, 2006). | |
4.46
|
Billing Technology License Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. dated January 1, 2006 (Incorporated by reference to Exhibit 4.46 to our 2005 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on June 29, 2006). | |
4.47
|
Amendment to Billing Technology License Agreement between Shanghai Shanda Networking Co., Ltd. and Shengqu Information Technology Co., Ltd., dated December 28, 2004 (incorporated by reference to Exhibit 4.33 to our 2004 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on May 31, 2005) . | |
4.48
|
Billing Technology License Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Nanjing Shanda Networking Co., Ltd. dated December 28, 2004 (incorporated by reference to Exhibit 4.34 to our 2004 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on May 31, 2005) . | |
4.49
|
Billing Technology License Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. dated December 28, 2004 (incorporated by reference to Exhibit 4.35 to our 2004 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on May 31, 2005). | |
4.50
|
Equipment Lease Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Nanjing Shanda Networking Co., Ltd. dated December 28, 2004 (incorporated by reference to Exhibit 4.36 to our 2004 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on May 31, 2005). | |
4.51
|
Equipment Lease Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. dated December 28, 2004 (incorporated by reference to Exhibit 4.37 to our 2004 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on May 31, 2005). | |
4.52
|
Amendment to Strategic Consulting Service Agreement between Shanghai Shanda Networking Co., Ltd. and Shengqu Information Technology Co., Ltd. dated December 28, 2004 (incorporated by reference to Exhibit 4.38 to our 2004 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on May 31, 2005). |
109
Table of Contents
| Exhibit | ||
| Number | Description | |
4.53
|
Amendment II to Strategic Consulting Service Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Shanghai Shanda Networking Co., Ltd. dated December 28, 2004 (Incorporated by reference to Exhibit 4.53 to our 2005 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on June 29, 2006). | |
4.54
|
Amendment III to Strategic Consulting Service Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Shanghai Shanda Networking Co., Ltd. dated December 28, 2005 (Incorporated by reference to Exhibit 4.54 to our 2005 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on June 29, 2006). | |
4.55
|
Technology Transfer Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Shanghai Shengpin Networking, dated November 30, 2004 (incorporated by reference to Exhibit 10.30 to our Registration Statement on Form F-1 (file no. 333-122029) filed with the Securities and Exchange Commission on January 13, 2005). | |
4.56
|
Entrusted Loan Agreement between Nanjing Shanda Networking Co., Ltd. and China Merchants Bank Dongfang Branch with respect to a loan of RMB38,000,000 dated March 19, 2006 (Incorporated by reference to Exhibit 4.56 to our 2005 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on June 29, 2006). | |
4.57
|
Loan Agreement between China Merchants Bank Dongfang Branch and Shanda Computer (Shanghai) Co., Ltd. with respect to a loan of RMB38,000,000 dated March 19, 2006 (Incorporated by reference to Exhibit 4.57 to our 2005 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on June 29, 2006). | |
4.58
|
Entrusted Loan Agreement between Hangzhou Bianfeng Networking Co., Ltd. and China Merchants Bank Dongfang Branch with respect to a loan of RMB27,000,000 dated March 19, 2006 (Incorporated by reference to Exhibit 4.58 to our 2005 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on June 29, 2006). | |
4.59
|
Loan Agreement between China Merchants Bank Dongfang Branch and Shanda Computer (Shanghai) Co., Ltd. with respect to a loan of RMB27,000,000 dated March 19, 2006 (Incorporated by reference to Exhibit 4.59 to our 2005 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on June 29, 2006). | |
4.60
|
Entrusted Loan Agreement between Shanghai Shanda Networking Co., Ltd. and China Industrial and Commercial Bank Pudong Branch with respect to a loan of RMB35,000,000 dated March 24, 2006 (Incorporated by reference to Exhibit 4.60 to our 2005 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on June 29, 2006). | |
4.61
|
Loan Agreement among Shanghai Shanda Networking Co., Ltd., China Industrial and Commercial Bank Pudong Branch and Shanda Computer (Shanghai) Co., Ltd. with respect to a loan of RMB35,000,000 dated March 24, 2006 (Incorporated by reference to Exhibit 4.61 to our 2005 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on June 29, 2006). | |
4.62
|
Loan Agreement among Shanghai Shanda Networking Co., Ltd., Shanghai Bank Xujiahui Branch and Shengqu Information Technology (Shanghai) Co., Ltd. with respect to a loan of RMB100,000,000 dated January 4, 2006 (Incorporated by reference to Exhibit 4.62 to our 2005 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on June 29, 2006). |
110
Table of Contents
| Exhibit | ||
| Number | Description | |
4.63
|
Entrusted Loan Agreement between Shanghai Shanda Networking Co., Ltd. and China Merchants Bank Dongfang Branch with respect to a loan of RMB100,000,000 dated January 4, 2006 (Incorporated by reference to Exhibit 4.63 to our 2005 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on June 29, 2006). | |
4.64
|
Loan Agreement between China Merchants Bank Dongfang Branch and Shengqu Information Technology (Shanghai) Co., Ltd. with respect to a loan of RMB100,000,000 dated January 4, 2006 (Incorporated by reference to Exhibit 4.64 to our 2005 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on June 29, 2006). | |
4.65
|
Entrusted Loan Agreement between Nanjing Shanda Networking Co., Ltd. and China Merchants Bank Dongfang Branch with respect to a loan of RMB100,000,000 dated January 4, 2006 (Incorporated by reference to Exhibit 4.65 to our 2005 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on June 29, 2006). | |
4.66
|
Loan Agreement between China Merchants Bank Dongfang Branch and Shengqu Information Technology (Shanghai) Co., Ltd. with respect to a loan of RMB100,000,000 dated January 4, 2006 (Incorporated by reference to Exhibit 4.66 to our 2005 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on June 29, 2006). | |
4.67
|
Cooperation Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Shanghai Shengyue Advertisement Co., Ltd. dated January 1, 2005 (Incorporated by reference to Exhibit 4.67 to our 2005 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on June 29, 2006). | |
4.68
|
Stock Purchase Agreement between Shanda Interactive Entertainment Limited and SB Asia Infrastructure Fund L.P. dated October 15, 2004 (incorporated by reference to Exhibit 10.31 to our Registration Statement on Form F-1 (file no. 333-122029) filed with the Securities and Exchange Commission on January 13, 2005). | |
4.69*
|
Online Game Software Sublicense Agreement on game Woool between Shengqu Information Technology (Shanghai) Co., Ltd., Shanghai Shanda Networking Co., Ltd., Nanjing Shanda Networking Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. dated January 1, 2007. | |
4.70*
|
Online Game Software Sublicense Agreement on game “the Age” between Shengqu Information Technology (Shanghai) Co., Ltd., Shanghai Shanda Networking Co., Ltd., Nanjing Shanda Networking Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. dated January 1, 2007. | |
4.71*
|
Online Game Software Sublicense Agreement on game “3G Hero” between Shengqu Information Technology (Shanghai) Co., Ltd., Shanghai Shanda Networking Co., Ltd., Nanjing Shanda Networking Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. dated September 1, 2007. | |
4.72*
|
Online Game Software Sublicense Agreement on game “Shanda Richman” between Shengqu Information Technology (Shanghai) Co., Ltd., Shanghai Shanda Networking Co., Ltd., Nanjing Shanda Networking Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. dated December 8, 2006. | |
4.73*
|
Online Game Software Sublicense Agreement on game “Getamped” between Shengqu Information Technology (Shanghai) Co., Ltd., Shanghai Shanda Networking Co., Ltd., Nanjing Shanda Networking Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. dated February 18, 2006 | |
4.74*
|
Online Game Software Sublicense Agreement on game “LaTale” between Shengqu Information Technology (Shanghai) Co., Ltd., Shanghai Shanda Networking Co., Ltd., Nanjing Shanda Networking Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. dated April 2, 2007. |
111
Table of Contents
| Exhibit | ||
| Number | Description | |
4.75*
|
Arena Software III Licensing Agreement between Grandpro Information Technology (Shanghai) Co., Ltd. and Shanghai Haofang Online Information Technology Co., Ltd. dated May 1, 2006. | |
4.76*
|
Unified Platform Verification System Software Licensing Agreement between Shanda Computer (Shanghai) Co., Ltd. and Shanghai Shanda Networking Co., Ltd. dated January 1, 2007. | |
4.77*
|
Unified Platform Verification System Software Licensing Agreement between Shanda Computer (Shanghai) Co., Ltd. and Nanjing Shanda Networking Co., Ltd. dated January 1, 2007. | |
4.78*
|
Unified Platform Certification System Software Licensing Agreement between Shanda Computer (Shanghai) Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. dated January 1, 2007. | |
4.79*
|
Jingling System Software Licensing Agreement between Shanda Computer (Shanghai) Co., Ltd. and Shanghai Shanda Networking Co., Ltd. dated January 1, 2007. | |
4.80*
|
Jingling System Software Licensing Agreement between Shanda Computer (Shanghai) Co., Ltd. and Nanjing Shanda Networking Co., Ltd. dated January 1, 2007. | |
4.81*
|
Jingling System Software Licensing Agreement between Shanda Computer (Shanghai) Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. dated January 1, 2007. | |
4.82*
|
Physical Card Online-Sales System Software Licensing Agreement between Shanda Computer (Shanghai) Co., Ltd. and Shanghai Shanda Networking Co., ltd. dated January 1, 2007 | |
4.83*
|
Physical Card Online-Sales System Software Licensing Agreement between Shanda Computer (Shanghai) Co., Ltd. and Nanjing Shanda Networking Co., ltd. dated January 1, 2007 | |
4.84*
|
Physical Card Online-Sales System Software Licensing Agreement between Shanda Computer (Shanghai) Co., Ltd. and Hangzhou Bianfeng Networking Co., ltd. dated January 1, 2007 | |
4.85*
|
Virtual Card Online-Sales System Software Licensing Agreement between Shanda Computer (Shanghai) Co., Ltd. and Shanghai Shanda Networking Co., Ltd. dated January 1, 2007. | |
4.86*
|
Virtual Card Online-Sales System Software Licensing Agreement between Shanda Computer (Shanghai) Co., Ltd. and Nanjing Shanda Networking Co., Ltd. dated January 2007. | |
4.87*
|
Virtual Card Online-Sales System Software Licensing Agreement between Shanda Computer (Shanghai) Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. dated January 1, 2007. | |
4.88*
|
Debit Card and Credit Card Online-Sales System Software Licensing Agreement between Shanda Computer (Shanghai) Co., Ltd. and Shanghai Shanda Networking Co., Ltd. dated January 1, 2007. | |
4.89*
|
Debit Card and Credit Card Online-Sales System Software Licensing Agreement between Shanda Computer (Shanghai) Co., Ltd. and Nanjing Shanda Networking Co., Ltd. dated January 1, 2007. | |
4.90*
|
Debit Card and Credit Card Online-Sales System Software Licensing Agreement between Shanda Computer (Shanghai) Co., Ltd. and Hangzhou Bianfeng Shanda Networking Co., Ltd. dated January 1, 2007. | |
4.91*
|
Equipment Management Platform Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Shanghai Shanda Networking Co., Ltd. dated January 1, 2007. | |
4.92*
|
Equipment Management Platform Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Nanjing Shanda Networking Co., Ltd. dated January 1, 2007. |
112
Table of Contents
| Exhibit | ||
| Number | Description | |
4.93*
|
Equipment Management Platform Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. dated January 1, 2007. | |
4.94*
|
Octopod System Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Shanghai Shanda Networking Co., Ltd. dated January 1, 2007. | |
4.95*
|
Octopod System Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Nanjing Shanda Networking Co., Ltd. dated January 1, 2007. | |
4.96*
|
Octopod System Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. dated January 1, 2007. | |
4.97*
|
User Platform Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Shanghai Shanda Networking Co., Ltd. dated January 1, 2007. | |
4.98*
|
User Platform Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Nanjing Shanda Networking Co., Ltd. dated January 1, 2007. | |
4.99*
|
User Platform Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. dated January 1, 2007. | |
4.100*
|
Remote Desktop System Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Shanghai Shanda Networking Co., Ltd. dated January 1, 2007. | |
4.101*
|
Remote Desktop System Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Nanjing Shanda Networking Co., Ltd. dated January 1, 2007. | |
4.102*
|
Remote Desktop System Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. dated January 1, 2007. | |
4.103*
|
Graph Supervision System Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Shanghai Shanda Networking Co., Ltd. dated January 1, 2007. | |
4.104*
|
Graph Supervision System Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Nanjing Shanda Networking Co., Ltd. dated January 1, 2007. | |
4.105*
|
Graph Supervision System Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. dated January 1, 2007. | |
4.106*
|
Server Local Verification System Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Shanghai Shanda Networking Co., Ltd. dated January 1, 2007. | |
4.107*
|
Server Local Verification System Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Nanjing Shanda Networking Co., Ltd. dated January 1, 2007. | |
4.108*
|
Server Local Verification System Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. dated January 1, 2007. | |
4.109*
|
External Application Supervision System Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Shanghai Shanda Networking Co., Ltd. dated January 1, 2007. |
113
Table of Contents
| Exhibit | ||
| Number | Description | |
4.110*
|
External Application Supervision System Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Nanjing Shanda Networking Co., Ltd. dated January 1, 2007. | |
4.111*
|
External Application Supervision System Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. dated January 1, 2007. | |
4.112*
|
Hids System Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Shanghai Shanda Networking Co., Ltd. dated January 1, 2007. | |
4.113*
|
Hids System Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Nanjing Shanda Networking Co., Ltd. dated January 1, 2007. | |
4.114*
|
Hids System Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. dated January 1, 2007. | |
4.115*
|
Gamemaster System Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Shanghai Shanda Networking Co., Ltd. dated January 1, 2007. | |
4.116*
|
Gamemaster System Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Nanjing Shanda Networking Co., Ltd. dated January 1, 2007. | |
4.117*
|
Gamemaster System Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. dated January 1, 2007. | |
4.118*
|
Kangaroo System Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Shanghai Shanda Networking Co., Ltd. dated January 1, 2007. | |
4.119*
|
Kangaroo System Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Nanjing Shanda Networking Co., Ltd. dated January 1, 2007. | |
4.120*
|
Kangaroo System Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. dated January 1, 2007. | |
4.121*
|
Cobweb System Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Shanghai Shanda Networking Co., Ltd. dated January 1, 2007. | |
4.122*
|
Cobweb System Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Nanjing Shanda Networking Co., Ltd. dated January 1, 2007. | |
4.123*
|
Cobweb System Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. dated January 1, 2007. | |
4.124*
|
Netview System Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Shanghai Shanda Networking Co., Ltd. dated January 1, 2007. | |
4.125*
|
Netview System Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Nanjing Shanda Networking Co., Ltd. dated January 1, 2007. | |
4.126*
|
Netview System Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. dated January 1, 2007. |
114
Table of Contents
| Exhibit | ||
| Number | Description | |
4.127*
|
Event Platform Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Shanghai Shanda Networking Co., Ltd. dated January 1, 2007. | |
4.128*
|
Event Platform Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Nanjing Shanda Networking Co., Ltd. dated January 1, 2007. | |
4.129*
|
Event Platform Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. dated January 1, 2007. | |
4.130*
|
Network Log Supervision System Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Shanghai Shanda Networking Co., Ltd. dated January 1, 2007. | |
4.131*
|
Network Log Supervision System Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Nanjing Shanda Networking Co., Ltd. dated January 1, 2007. | |
4.132*
|
Network Log Supervision System Software Licensing Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. dated January 1, 2007. | |
4.133*
|
Business Support System License Agreement between Shanda Computer (Shanghai) Co., Ltd. and Shanghai Shanda Networking Co., Ltd. dated January 1, 2007. | |
4.134*
|
Business Support System License Agreement between Shanda Computer (Shanghai) Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. dated January 1, 2007. | |
4.135*
|
Business Support System License Agreement between Shanda Computer (Shanghai) Co., Ltd. and Nanjing Shanda Networking Co., Ltd. dated January 1, 2007. | |
4.136*
|
Termination Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Shanghai Shanda Networking Co., Ltd. dated December 1, 2006 (to terminate the Billing Technology License Agreement entered into by Shengqu and Shanghai Shanda on January 1, 2006 filed with 2005 Form 20-F as Exhibit 4.44). | |
4.137*
|
Termination Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Nanjing Shanda Networking Co., Ltd. dated December 1, 2006 (to terminate the Billing Technology License Agreement entered into by Shengqu and Nanjing Shanda on January 1, 2006 filed with 2005 Form 20-F as Exhibit 4.45). | |
4.138*
|
Termination Agreement between Shengqu Information Technology (Shanghai) Co., Ltd. and Hangzhou Bianfeng Networking Co., Ltd. dated December 1, 2006 (to terminate the Billing Technology License Agreement entered into by Shengqu and Bianfeng Networking on January 1, 2006 filed with 2005 Form 20-F as Exhibit 4.46). | |
4.139*
|
Strategic Consulting Service Agreement between Shanghai Shanda Networking Co., Ltd. and Shengqu Information Technology (Shanghai) Co., Ltd. dated January 1, 2007. | |
4.140*
|
Strategic Consulting Service Agreement between Nanjing Shanda Networking Co., Ltd. and Shengqu Information Technology (Shanghai) Co., Ltd. dated January 1, 2007. | |
4.141*
|
Strategic Consulting Service Agreement between Hangzhou Bianfeng Networking Co., Ltd. and Shengqu Information Technology (Shanghai) Co., Ltd. dated January 1, 2007. | |
4.142*
|
Technical Support Agreement between Shanghai Shanda Networking Co., Ltd. and Shanda Computer (Shanghai) Co., Ltd. dated January 1, 2007. |
115
Table of Contents
| Exhibit | ||
| Number | Description | |
4.143*
|
Technical Support Agreement between Nanjing Shanda Networking Co., Ltd. and Shanda Computer (Shanghai) Co., Ltd. dated January 1, 2007. | |
4.144*
|
Technical Support Agreement between Hangzhou Bianfeng Networking Co., Ltd. and Shanda Computer (Shanghai) Co., Ltd. dated January 1, 2007. | |
4.145*
|
Website Development Agreement between Shanghai Shanda Networking Co., Ltd. and Shengqu Information Technology (Shanghai) Co., Ltd. dated January 1, 2007. | |
8.1*
|
List of Subsidiaries. | |
11.1
|
Code of Ethics (incorporated by reference to Exhibit 11.1 to our 2004 annual report on Form 20-F (file no. 000-50705) filed with the Securities and Exchange Commission on May 31, 2005). | |
12.1*
|
Certification of Chief Executive Officer Required by Rule 13a-14(a). | |
12.2*
|
Certification of Chief Financial Officer Required by Rule 13a-14(a). | |
13.1*
|
Certification of Chief Executive Officer Required by Rule 13(a)-14(b) and Section 1350 of Chapter 63 of Title 18 of the United States Code. | |
13.2*
|
Certification of Chief Financial Officer Required by Rule 13(a)-14(b) and Section 1350 of Chapter 63 of Title 18 of the United States Code. |
| * | filed herewith |
116
Table of Contents
SIGNATURE
The registrant hereby certifies that it meets all of the requirements for filing its annual
report on Form 20-F and that it has duly caused and authorized the undersigned to sign this annual
report on its behalf.
| SHANDA INTERACTIVE | ||||
| ENTERTAINMENT LIMITED | ||||
| /s/ Tianqiao Chen | ||||
| Name: Tianqiao Chen | ||||
| Title: Chairman and Chief Executive Officer |
Date: June 26, 2007
Table of Contents
SHANDA INTERACTIVE ENTERTAINMENT LIMITED
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
| Page | ||||
Report of Independent Registered Public Accounting Firm |
F-2 | |||
Consolidated Statements of Operations and Comprehensive Income for the years ended
December 31, 2004, 2005 and 2006 |
F-3 | |||
Consolidated Balance Sheets as of December 31, 2005 and 2006 |
F-4 | |||
Consolidated Statements of Changes in Stockholders’ Equity for the years ended December
31, 2004, 2005 and 2006 |
F-5 | |||
Consolidated Statements of Cash Flows for the years ended December 31, 2004, 2005 and 2006 |
F-6 | |||
Notes to Consolidated Financial Statements |
F-7 | |||
ACTOZ SOFT COMPANY LIMITED
INDEX TO FINANCIAL STATEMENTS
INDEX TO FINANCIAL STATEMENTS
| Page | ||||
Balance Sheets as of December 31, 2005 and 2006 |
F-53 | |||
Statements of Income for the years ended December 31, 2005 and 2006 |
F-55 | |||
Statements of Appropriations of Retained Earnings for the years ended December 31, 2005 and 2006 |
F-56 | |||
Statements of Cash Flows for the years ended December 31, 2004, 2005 and 2006 |
F-57 | |||
Notes to Financial Statements |
F-59 | |||
F-1
Table of Contents
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
TO THE BOARD OF DIRECTORS AND SHAREHOLDERS OF
SHANDA INTERACTIVE ENTERTAINMENT LIMITED:
SHANDA INTERACTIVE ENTERTAINMENT LIMITED:
In our opinion, the accompanying consolidated balance sheets and the related consolidated
statements of operations and comprehensive income, of changes in shareholders’ equity and of cash
flows expressed in Renminbi present fairly, in all material respects, the financial position of
Shanda Interactive Entertainment Limited (the “Company”) and its subsidiaries as of December 31,
2005 and 2006, and the results of their operations and their cash flows for each of the three years
ended December 31, 2006 in conformity with accounting principles generally accepted in the United
States of America. In addition, in our opinion, the related Financial Statement Schedule I
presents fairly, in all material respects, the information set forth therein when read in
conjunction with the related consolidated financial statements. These financial statements and
Financial Statement Schedule I are the responsibility of the Company’s management. Our
responsibility is to express an opinion on these financial statements and Financial Statement
Schedule I based on our audits. We conducted our audits of these statements in accordance with the
standards of the Public Company Accounting Oversight Board (United States). Those standards
require that we plan and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit includes examining, on a test
basis, evidence supporting the amounts and disclosures in the financial statements, assessing the
accounting principles used and significant estimates made by management and evaluating the overall
financial statement presentation. We believe that our audits provide a reasonable basis for our
opinion.
As discussed in Note 2(24) to the consolidated financial statements, the Company changed the manner
in which it accounts for share-based compensation in 2006.
/s/ PricewaterhouseCoopers Zhong Tian CPAs Limited Company
Shanghai, People’s Republic of China
June 25, 2007
Shanghai, People’s Republic of China
June 25, 2007
F-2
Table of Contents
SHANDA INTERACTIVE ENTERTAINMENT LIMITED
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME
| For the years ended December 31 | ||||||||||||||||||
| Note | 2004 | 2005 | 2006 | 2006 | ||||||||||||||
| RMB | RMB | RMB | US$ | |||||||||||||||
| (Note 2(3)) | ||||||||||||||||||
Net revenues: |
2(18) | |||||||||||||||||
Online MMORPGs game revenue |
994,663,760 | 1,255,340,380 | 1,240,095,933 | 158,809,524 | ||||||||||||||
Online casual game revenue |
214,513,007 | 402,968,774 | 302,800,432 | 38,777,317 | ||||||||||||||
Other revenues |
5 | 89,548,104 | 238,301,952 | 111,563,960 | 14,287,136 | |||||||||||||
Total net revenues |
1,298,724,871 | 1,896,611,106 | 1,654,460,325 | 211,873,977 | ||||||||||||||
Cost of revenue |
2(21) | (471,183,798 | ) | (614,427,273 | ) | (689,805,061 | ) | (88,338,015 | ) | |||||||||
Gross profit |
827,541,073 | 1,282,183,833 | 964,655,264 | 123,535,962 | ||||||||||||||
Operating expenses: |
||||||||||||||||||
Product development |
2(22) | (71,838,477 | ) | (164,756,024 | ) | (167,792,398 | ) | (21,487,879 | ) | |||||||||
Sales and marketing |
2(23) | (91,175,636 | ) | (235,437,664 | ) | (181,084,551 | ) | (23,190,102 | ) | |||||||||
General and administrative |
(153,564,436 | ) | (260,091,615 | ) | (238,146,205 | ) | (30,497,548 | ) | ||||||||||
Total operating expenses |
(316,578,549 | ) | (660,285,303 | ) | (587,023,154 | ) | (75,175,529 | ) | ||||||||||
Income from operations |
510,962,524 | 621,898,530 | 377,632,110 | 48,360,433 | ||||||||||||||
Interest income |
19,676,978 | 29,025,897 | 24,742,314 | 3,168,557 | ||||||||||||||
Amortization of convertible debt issuance cost |
2(14) | (3,523,935 | ) | (18,492,523 | ) | (17,490,851 | ) | (2,239,918 | ) | |||||||||
Investment income (loss) |
13 | 43,494,032 | (5,898,971 | ) | 72,362,284 | 9,266,880 | ||||||||||||
Other income, net |
6 | 83,655,918 | 174,904,598 | 133,912,758 | 17,149,174 | |||||||||||||
Income before income tax expenses, equity in loss
of affiliated companies, and minority interests |
654,265,517 | 801,437,531 | 591,158,615 | 75,705,126 | ||||||||||||||
Income tax expenses |
7 | (38,940,924 | ) | (96,711,992 | ) | (36,488,915 | ) | (4,672,854 | ) | |||||||||
Equity in loss of affiliated companies |
12 | (4,180,283 | ) | (544,268,271 | ) | (26,226,708 | ) | (3,358,652 | ) | |||||||||
Minority interests |
(1,661,422 | ) | 4,825,541 | 766,886 | 98,209 | |||||||||||||
Net income |
609,482,888 | 165,282,809 | 529,209,878 | 67,771,829 | ||||||||||||||
Income attributable to Series A and Series A-1
Preferred Shareholders |
18 | (82,478,882 | ) | — | — | — | ||||||||||||
Net income attributable to ordinary shareholders |
527,004,006 | 165,282,809 | 529,209,878 | 67,771,829 | ||||||||||||||
Other comprehensive income: |
||||||||||||||||||
Unrealized appreciation (depreciation) of
marketable securities |
2(6) | 133,698,934 | (102,482,869 | ) | 168,270,960 | 21,549,164 | ||||||||||||
Cumulative currency translation adjustments of an
affiliated company |
2(3) | — | (1,150,365 | ) | 6,629,305 | 848,964 | ||||||||||||
Comprehensive income |
660,702,940 | 61,649,575 | 704,110,143 | 90,169,957 | ||||||||||||||
Earnings per share |
2(29), 8 | |||||||||||||||||
Basic |
4.32 | 1.17 | 3.71 | 0.48 | ||||||||||||||
Diluted |
4.05 | 1.13 | 3.66 | 0.47 | ||||||||||||||
Earnings per ADS |
||||||||||||||||||
Basic |
8.64 | 2.34 | 7.42 | 0.96 | ||||||||||||||
Diluted |
8.10 | 2.26 | 7.32 | 0.94 | ||||||||||||||
Weighted average ordinary shares outstanding |
8 | |||||||||||||||||
Basic |
122,136,580 | 141,338,480 | 142,598,398 | 142,598,398 | ||||||||||||||
Diluted |
130,167,656 | 146,347,595 | 144,605,703 | 144,605,703 | ||||||||||||||
Weighted average ADS outstanding |
||||||||||||||||||
Basic |
61,068,290 | 70,669,240 | 71,299,199 | 71,299,199 | ||||||||||||||
Diluted |
65,083,828 | 73,173,798 | 72,302,852 | 72,302,852 | ||||||||||||||
* Share-based compensation was related to the |
2(24), 21 | |||||||||||||||||
associated operating expense categories as follows: |
||||||||||||||||||
Product development |
(6,899,138 | ) | (4,038,525 | ) | (1,074,650 | ) | (137,622 | ) | ||||||||||
Sales and marketing |
(633,421 | ) | (370,787 | ) | (98,665 | ) | (12,635 | ) | ||||||||||
General and administrative |
(16,479,254 | ) | (8,122,615 | ) | (38,388,924 | ) | (4,916,173 | ) | ||||||||||
Share-based compensation expense included in cost
of revenue |
(4,816,015 | ) | (1,165,950 | ) | (454,783 | ) | (58,241 | ) | ||||||||||
The accompanying notes are an integral part of these financial statements.
F-3
Table of Contents
SHANDA INTERACTIVE ENTERTAINMENT LIMITED
CONSOLIDATED BALANCE SHEETS
CONSOLIDATED BALANCE SHEETS
| December 31, | December 31, | December 31, | ||||||||||||
| Note | 2005 | 2006 | 2006 | |||||||||||
| RMB | RMB | US$ | ||||||||||||
| (Note 2(3)) | ||||||||||||||
ASSETS |
||||||||||||||
Current assets: |
||||||||||||||
Cash and cash equivalents |
2(4), 9 | 949,621,601 | 1,291,901,253 | 165,443,832 | ||||||||||
Restricted cash |
12 | 150,778,672 | — | — | ||||||||||
Short-term investments |
2(5) | 126,360,137 | 407,399,094 | 52,172,461 | ||||||||||
Marketable securities |
2(6), 13 | 1,933,673,748 | 1,844,966,179 | 236,270,593 | ||||||||||
Accounts receivable, net of allowance for doubtful accounts |
2(7), 10 | 81,127,164 | 31,685,173 | 4,057,676 | ||||||||||
Inventories |
2(8), 11 | 28,480,970 | 8,972,212 | 1,149,002 | ||||||||||
Deferred licensing fees and related costs |
2(20) | 24,067,061 | 27,432,410 | 3,513,057 | ||||||||||
Prepayments and other current assets |
41,085,629 | 51,707,824 | 6,621,822 | |||||||||||
Deferred tax assets |
7 | 17,124,664 | 17,421,334 | 2,231,016 | ||||||||||
Total current assets |
3,352,319,646 | 3,681,485,479 | 471,459,459 | |||||||||||
Investment in affiliated companies |
2(9), 12 | 328,581,623 | 334,692,621 | 42,861,503 | ||||||||||
Property and equipment |
2(10), 14 | 258,352,452 | 349,153,310 | 44,713,372 | ||||||||||
Intangible assets |
2(11), 15 | 212,314,772 | 186,062,069 | 23,827,535 | ||||||||||
Goodwill |
2(12), 16 | 245,092,242 | 493,563,626 | 63,206,888 | ||||||||||
Long-term deposits |
2,862,802 | — | — | |||||||||||
Long-term prepayments |
2(13), 14 | 18,157,950 | 100,159,566 | 12,826,664 | ||||||||||
Other long-term assets |
2(14) | 52,771,434 | — | — | ||||||||||
Total assets |
4,470,452,921 | 5,145,116,671 | 658,895,421 | |||||||||||
LIABILITIES |
||||||||||||||
Current liabilities: |
||||||||||||||
Accounts payable |
65,390,260 | 91,183,943 | 11,677,224 | |||||||||||
Licensing fees payable |
18,157,692 | 14,135,376 | 1,810,209 | |||||||||||
Taxes payable |
37,044,920 | 80,253,193 | 10,277,408 | |||||||||||
Deferred revenue |
2(19) | 172,455,470 | 201,649,436 | 25,823,688 | ||||||||||
Licensing fees payable to a related party |
23 | 13,830,197 | 46,090,032 | 5,902,395 | ||||||||||
Due to related parties |
23 | 3,040,380 | 3,043,783 | 389,794 | ||||||||||
Acquisition related obligation |
4(2), 12 | 158,430,162 | 3,046,866 | 390,189 | ||||||||||
Other payables and accruals |
141,551,334 | 138,017,272 | 17,674,808 | |||||||||||
Convertible debt redeemable within one year |
2(16), 17 | — | 2,147,392,500 | 275,000,000 | ||||||||||
Total current liabilities |
609,900,415 | 2,724,812,401 | 348,945,715 | |||||||||||
Convertible debt |
17 | 2,219,305,000 | — | — | ||||||||||
Total liabilities |
2,829,205,415 | 2,724,812,401 | 348,945,715 | |||||||||||
Minority interests |
3,388,896 | 2,910,010 | 372,662 | |||||||||||
Commitments and contingencies |
25 | — | — | — | ||||||||||
Shareholders’ equity |
||||||||||||||
Ordinary shares (US$0.01 par value, 186,000,000 shares
authorized, 141,982,766 issued and outstanding as of
December 31, 2005; and 143,208,848 issued and outstanding as
of December 31, 2006) |
19 | 11,751,186 | 11,848,995 | 1,517,409 | ||||||||||
Additional paid-in capital |
1,397,092,348 | 1,468,824,697 | 188,101,054 | |||||||||||
Statutory reserves |
2(27) | 87,619,085 | 142,019,159 | 18,187,299 | ||||||||||
Deferred share-based compensation |
(3,595,349 | ) | — | — | ||||||||||
Accumulated other comprehensive gain |
30,181,706 | 205,081,971 | 26,263,267 | |||||||||||
Retained earnings |
114,809,634 | 589,619,438 | 75,508,015 | |||||||||||
Total shareholders’ equity |
1,637,858,610 | 2,417,394,260 | 309,577,044 | |||||||||||
Total liabilities and shareholders’ equity |
4,470,452,921 | 5,145,116,671 | 658,895,421 | |||||||||||
The accompanying notes are an integral part of these financial statements.
F-4
Table of Contents
SHANDA INTERACTIVE ENTERTAINMENT LIMITED
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY
| Ordinary shares | Series A and Series A-1 | |||||||||||||||||||||||||||||||||||||||
| Convertible Preferred Shares | ||||||||||||||||||||||||||||||||||||||||
| (US$0.01 par value) | (US$0.01 par value) | Additional | Deferred | Total | ||||||||||||||||||||||||||||||||||||
| Number | Par | Number | Par | paid-in | Statutory | share-based | Accumulated other | Retained | shareholders’ | |||||||||||||||||||||||||||||||
| of shares | value | of shares | value | capital | reserves | compensation | Comprehensive gain | earnings | Equity | |||||||||||||||||||||||||||||||
| RMB | RMB | RMB | RMB | RMB | RMB | RMB | RMB | |||||||||||||||||||||||||||||||||
Balance as of January 1, 2004 |
89,728,818 | 7,426,853 | 30,060,100 | 2,488,074 | 425,560,660 | 27,312,573 | (51,571,508 | ) | 116,006 | 211,268,495 | 622,601,153 | |||||||||||||||||||||||||||||
Issuance of common share upon IPO (Note 19) |
21,381,586 | 1,769,754 | — | — | 873,737,944 | — | — | — | — | 875,507,698 | ||||||||||||||||||||||||||||||
Exercise of share option (Note 21) |
4,116,074 | 340,687 | — | — | 52,296,796 | — | — | — | — | 52,637,483 | ||||||||||||||||||||||||||||||
Conversion of Series A and A-1 Preferred
Shares upon completion of the IPO |
30,060,100 | 2,488,074 | (30,060,100 | ) | (2,488,074 | ) | — | — | — | — | — | — | ||||||||||||||||||||||||||||
Repurchase of shares (Note 20) |
(5,326,250 | ) | (440,853 | ) | — | — | (49,021,195 | ) | — | — | — | (571,312,952 | ) | (620,775,000 | ) | |||||||||||||||||||||||||
Dividends to ordinary shareholders |
— | — | — | — | — | — | — | — | (143,869,619 | ) | (143,869,619 | ) | ||||||||||||||||||||||||||||
Dividends to preferred shareholders |
— | — | — | — | — | — | — | — | (48,212,650 | ) | (48,212,650 | ) | ||||||||||||||||||||||||||||
Forfeited share option (Note 21) |
— | — | — | — | (2,120,648 | ) | — | 2,120,648 | — | — | — | |||||||||||||||||||||||||||||
Amortization of deferred share-based
compensation |
— | — | — | — | — | — | 28,827,828 | — | — | 28,827,828 | ||||||||||||||||||||||||||||||
Unrealized net appreciation of marketable
securities (Restated) |
— | — | — | — | — | — | — | 133,698,934 | — | 133,698,934 | ||||||||||||||||||||||||||||||
Net income |
— | — | — | — | — | — | — | — | 609,482,888 | 609,482,888 | ||||||||||||||||||||||||||||||
Appropriations to statutory reserves (Note
2(27)) |
— | — | — | — | — | 12,712,906 | — | — | (12,712,906 | ) | — | |||||||||||||||||||||||||||||
Balance as of December 31, 2004 (Restated) |
139,960,328 | 11,584,515 | — | — | 1,300,453,557 | 40,025,479 | (20,623,032 | ) | 133,814,940 | 44,643,256 | 1,509,898,715 | |||||||||||||||||||||||||||||
Exercise of share option (Note 21) |
2,762,438 | 227,917 | — | — | 61,257,423 | — | — | — | — | 61,485,340 | ||||||||||||||||||||||||||||||
Repurchase of shares (Note 20) |
(740,000 | ) | (61,246 | ) | — | — | (7,277,215 | ) | — | — | — | (47,522,825 | ) | (54,861,286 | ) | |||||||||||||||||||||||||
Forfeited share option (Note 21) |
— | — | — | — | (3,329,806 | ) | — | 3,329,806 | — | — | — | |||||||||||||||||||||||||||||
Amortization of deferred share-based
compensation |
— | — | — | — | — | — | 13,697,877 | — | — | 13,697,877 | ||||||||||||||||||||||||||||||
Unrealized net depreciation of marketable
securities |
— | — | — | — | — | — | — | (102,482,869 | ) | — | (102,482,869 | ) | ||||||||||||||||||||||||||||
Cumulative currency translation
adjustments of an affiliated company |
— | — | — | — | — | — | — | (1,150,365 | ) | — | (1,150,365 | ) | ||||||||||||||||||||||||||||
Net income |
— | — | — | — | — | — | — | — | 165,282,809 | 165,282,809 | ||||||||||||||||||||||||||||||
Shareholder’s contribution (Note 13) |
— | — | — | — | 45,988,389 | — | — | — | — | 45,988,389 | ||||||||||||||||||||||||||||||
Appropriations to statutory reserves (Note
2(27)) |
— | — | — | — | — | 47,593,606 | — | — | (47,593,606 | ) | — | |||||||||||||||||||||||||||||
Balance as of December 31, 2005 |
141,982,766 | 11,751,186 | — | — | 1,397,092,348 | 87,619,085 | (3,595,349 | ) | 30,181,706 | 114,809,634 | 1,637,858,610 | |||||||||||||||||||||||||||||
Exercise of share option (Note 21) |
1,226,082 | 97,809 | — | — | 34,732,972 | — | — | — | — | 34,830,781 | ||||||||||||||||||||||||||||||
Write-off deferred share-based compensation |
— | — | — | — | (3,595,349 | ) | — | 3,595,349 | — | — | — | |||||||||||||||||||||||||||||
Recognize share-based compensation under
FAS123R |
— | — | — | — | 40,017,022 | — | — | — | — | 40,017,022 | ||||||||||||||||||||||||||||||
Unrealized net appreciation of marketable
securities |
— | — | — | — | — | — | — | 191,833,841 | — | 191,833,841 | ||||||||||||||||||||||||||||||
Realized net appreciation of marketable
securities |
— | — | — | — | — | — | — | (23,562,881 | ) | — | (23,562,881 | ) | ||||||||||||||||||||||||||||
Cumulative currency translation
adjustments of an affiliated company |
— | — | — | — | — | — | — | 6,629,305 | — | 6,629,305 | ||||||||||||||||||||||||||||||
Equity pick-up adjustment of an affiliated
company |
— | — | — | — | 577,704 | — | — | — | — | 577,704 | ||||||||||||||||||||||||||||||
Net income |
— | — | — | — | — | — | — | — | 529,209,878 | 529,209,878 | ||||||||||||||||||||||||||||||
Appropriations to statutory reserves (Note
2(27)) |
— | — | — | — | — | 54,400,074 | — | — | (54,400,074 | ) | — | |||||||||||||||||||||||||||||
Balance as of December 31, 2006 |
143,208,848 | 11,848,995 | — | — | 1,468,824,697 | 142,019,159 | — | 205,081,971 | 589,619,438 | 2,417,394,260 | ||||||||||||||||||||||||||||||
The accompanying notes are an integral part of these financial statements.
F-5
Table of Contents
SHANDA INTERACTIVE ENTERTAINMENT LIMITED
CONSOLIDATED STATEMENTS OF CASH FLOWS
CONSOLIDATED STATEMENTS OF CASH FLOWS
| For the years ended December 31, | ||||||||||||||||
| 2004 | 2005 | 2006 | 2006 | |||||||||||||
| RMB | RMB | RMB | US$ | |||||||||||||
| Restated | (Note2(3)) | |||||||||||||||
Cash flows from operating activities: |
||||||||||||||||
Net income |
609,482,888 | 165,282,809 | 529,209,878 | 67,771,829 | ||||||||||||
Adjustments for: |
||||||||||||||||
Share-based compensation costs |
28,827,828 | 13,697,877 | 40,017,022 | 5,124,671 | ||||||||||||
Depreciation of property and equipment |
29,059,685 | 46,671,567 | 72,149,184 | 9,239,590 | ||||||||||||
Amortization of intangible assets |
52,843,104 | 67,460,912 | 81,768,130 | 10,471,414 | ||||||||||||
Amortization of land use right |
— | — | 907,898 | 116,267 | ||||||||||||
Provision for losses on receivables |
842,270 | 55,675,931 | 26,365,478 | 3,376,423 | ||||||||||||
Provision for losses on inventories |
— | 10,794,286 | 12,833,241 | 1,643,454 | ||||||||||||
Loss from disposal of fixed assets |
803,217 | 662,160 | 3,419,794 | 437,947 | ||||||||||||
Investment loss(income) |
(43,494,032 | ) | 5,898,971 | (72,362,284 | ) | (9,266,880 | ) | |||||||||
Interest income on loan receivable |
(730,678 | ) | — | — | — | |||||||||||
Interest income on restricted cash |
— | (2,750,995 | ) | — | — | |||||||||||
Purchased in-progress research and development |
— | 4,147,000 | — | — | ||||||||||||
Foreign exchange gain |
— | (46,254,419 | ) | (59,484,139 | ) | (7,617,675 | ) | |||||||||
Amortization of convertible debt issuance cost |
3,523,935 | 18,492,523 | 17,490,851 | 2,239,918 | ||||||||||||
Other income |
(1,222,699 | ) | — | — | — | |||||||||||
Deferred tax assets |
(7,544,269 | ) | 12,660,475 | (296,670 | ) | (37,992 | ) | |||||||||
Equity in loss of affiliated companies |
4,180,283 | 544,268,271 | 26,226,708 | 3,358,652 | ||||||||||||
Minority interests |
1,661,422 | (4,825,541 | ) | (766,886 | ) | (98,209 | ) | |||||||||
Changes in assets and liabilities, net of acquisitions: |
||||||||||||||||
Accounts receivable |
(32,372,698 | ) | (84,098,143 | ) | 29,076,513 | 3,723,605 | ||||||||||
Inventories |
(6,039,188 | ) | (33,189,092 | ) | 6,675,517 | 854,882 | ||||||||||
Due from related parties |
1,349,893 | — | (4,000,000 | ) | (512,249 | ) | ||||||||||
Deferred licensing fees and related costs |
4,425,964 | 24,893,734 | (3,365,349 | ) | (430,974 | ) | ||||||||||
Prepayments and other current assets |
(3,387,526 | ) | (23,446,948 | ) | 11,313,765 | 1,448,867 | ||||||||||
Upfront licensing fee paid |
(11,587,800 | ) | (42,107,260 | ) | (17,789,460 | ) | (2,278,159 | ) | ||||||||
Prepayment for upfront license fee |
— | (22,523,080 | ) | — | — | |||||||||||
Other long-term deposits |
(14,464 | ) | (499,398 | ) | — | — | ||||||||||
Accounts payable |
10,802,808 | 21,204,583 | (15,310,787 | ) | (1,960,734 | ) | ||||||||||
Licensing fees payable |
(28,958,855 | ) | 65,101 | (4,022,317 | ) | (515,107 | ) | |||||||||
Taxes payable |
26,817,958 | (4,487,054 | ) | 42,811,523 | 5,482,542 | |||||||||||
Deferred revenue |
49,801,190 | (87,664,935 | ) | 29,193,966 | 3,738,646 | |||||||||||
License fee payable to a related party |
52,272,515 | (38,442,318 | ) | 32,259,836 | 4,131,268 | |||||||||||
Due to related parties |
1,757,572 | (7,491,973 | ) | 3,403 | 436 | |||||||||||
Other payables and accruals |
64,230,449 | 55,692,882 | (4,258,199 | ) | (545,315 | ) | ||||||||||
Net cash provided by operating activities |
807,330,772 | 649,787,926 | 780,066,616 | 99,897,117 | ||||||||||||
Cash flows from investing activities: |
||||||||||||||||
Increase of short-term investments |
— | (126,360,137 | ) | (281,038,957 | ) | (35,990,492 | ) | |||||||||
Purchase of marketable securities |
(432,524,942 | ) | (1,574,695,967 | ) | (464,308,360 | ) | (59,460,392 | ) | ||||||||
Proceeds from disposal of marketable securities |
196,221,753 | 7,661,458 | 788,774,864 | 101,012,315 | ||||||||||||
Proceeds from income of other investment |
2,130,935 | 989,677 | 5,582,574 | 714,917 | ||||||||||||
Proceeds from interest income of restricted cash |
— | — | 2,750,995 | 352,299 | ||||||||||||
Increase in loan receivable |
58,352,761 | — | — | — | ||||||||||||
Purchase of property and equipment |
(74,025,031 | ) | (160,318,006 | ) | (122,542,521 | ) | (15,693,076 | ) | ||||||||
Prepayment for purchase of land use right |
— | (18,157,950 | ) | (82,909,514 | ) | (10,617,582 | ) | |||||||||
Proceeds from disposal of fixed assets |
269,095 | 469,193 | 357,457 | 45,777 | ||||||||||||
Purchase of intangible assets |
(23,379,233 | ) | (40,450,554 | ) | (14,572,071 | ) | (1,866,133 | ) | ||||||||
Net cash paid for purchase of subsidiaries and VIE subsidiaries |
(182,444,474 | ) | (161,517,636 | ) | (256,187,213 | ) | (32,807,921 | ) | ||||||||
Proceeds from disposal of other long-term assets |
— | 453,103 | — | — | ||||||||||||
Proceeds from disposal of a VIE subsidiary, net |
— | (129,265 | ) | — | — | |||||||||||
Investment in affiliated companies |
(160,275,860 | ) | (759,404,237 | ) | (25,130,698 | ) | (3,218,295 | ) | ||||||||
Net cash used in investing activities |
(615,674,996 | ) | (2,831,460,321 | ) | (449,223,444 | ) | (57,528,583 | ) | ||||||||
Cash flows from financing activities: |
||||||||||||||||
Proceeds from issuance of common stock upon IPO, net of IPO
issuance costs |
875,507,698 | — | — | — | ||||||||||||
Proceeds from issuance of common stock under stock option plan |
41,587,542 | 72,516,739 | 23,576,841 | 3,019,304 | ||||||||||||
Proceeds from issuance of convertible debt, net of issuance cost |
2,225,430,331 | — | — | — | ||||||||||||
Repurchase of stock |
(620,775,000 | ) | (54,861,286 | ) | — | — | ||||||||||
Cash injection in VIE subsidiaries by minority shareholders |
3,724,650 | 245,000 | 288,000 | 36,882 | ||||||||||||
Dividends to ordinary shareholders |
(143,869,619 | ) | — | — | — | |||||||||||
Dividends to preferred shareholders |
(48,212,650 | ) | — | — | — | |||||||||||
Net cash provided by financing activities |
2,333,392,952 | 17,900,453 | 23,864,841 | 3,056,186 | ||||||||||||
Effect of exchange rate changes on cash |
— | (10,577,630 | ) | (12,428,361 | ) | (1,591,604 | ) | |||||||||
Net increase (decrease) in cash and cash equivalents |
2,525,048,728 | (2,174,349,572 | ) | 342,279,652 | 43,833,116 | |||||||||||
Cash, beginning of year |
598,922,445 | 3,123,971,173 | 949,621,601 | 121,610,716 | ||||||||||||
Cash, end of year |
3,123,971,173 | 949,621,601 | 1,291,901,253 | 165,443,832 | ||||||||||||
Supplemental disclosure of cash flow information: |
||||||||||||||||
Cash paid during the year for income tax |
33,121,613 | 101,307,276 | 25,867,784 | 3,312,688 | ||||||||||||
Supplemental disclosure of investing activities: |
||||||||||||||||
Total consideration for purchase of subsidiaries |
198,580,000 | 246,539,225 | 249,286,500 | 31,924,200 | ||||||||||||
Consideration paid in previous year |
— | (41,384,900 | ) | — | — | |||||||||||
Acquisition related obligation at December 31, 2005 |
— | (10,402,485 | ) | 7,355,619 | 941,977 | |||||||||||
Contingent consideration paid for the acquisitions in 2004 |
— | 6,600,000 | — | — | ||||||||||||
Cash paid for purchase of subsidiaries |
198,580,000 | 201,351,840 | 256,642,119 | 32,866,177 | ||||||||||||
Cash acquired |
(16,135,526 | ) | (39,834,204 | ) | (454,906 | ) | (58,256 | ) | ||||||||
Cash paid for business acquisition, net |
182,444,474 | 161,517,636 | 256,187,213 | 32,807,921 | ||||||||||||
Supplemental disclosure of non-cash investing and financing activities: |
||||||||||||||||
Accrual related to purchase of property and equipment |
20,469,415 | 25,671,372 | 66,775,841 | 8,551,467 | ||||||||||||
Conversion of Series A and A-1 Preferred Shares to ordinary shares |
2,488,074 | — | — | — | ||||||||||||
The accompanying notes are an integral part of these financial statements.
F-6
Table of Contents
SHANDA INTERACTIVE ENTERTAINMENT LIMITED
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(AMOUNTS EXPRESSED IN Renminbi (RMB) UNLESS OTHERWISE STATED)
(AMOUNTS EXPRESSED IN Renminbi (RMB) UNLESS OTHERWISE STATED)
1. ORGANIZATION AND NATURE OF OPERATIONS
The accompanying consolidated financial statements include the financial statements of Shanda
Interactive Entertainment Limited (the “Company” or “Shanda Interactive”), its subsidiaries, which
mainly include Shanda Holdings Limited(the “Shanda BVI”) and Shengqu Information Technology
(Shanghai) Co., Ltd. (“Shengqu”) and certain variable interest entities (“VIEs” or “VIE
subsidiaries”), which include Shanghai Shanda Networking Co., Ltd. (“Shanda Networking”) and its
subsidiaries. The Company, its subsidiaries and the VIE subsidiaries are collectively referred to
as the “Group”.
Shanda BVI, formerly known as Spirit High Ventures Ltd., was incorporated in British Virgin
Islands as a limited liability company on July 2, 2002. Shengqu and Shanda Networking were
incorporated in the PRC on January 21, 2003 and December 29, 1999, respectively. Shanda Interactive
was incorporated in the Cayman Islands on November 17, 2003 and became the holding company of the
Group through a share purchase agreement in December 2003.
The Group is principally engaged in the development and operation of online games and related
businesses in the People’s Republic of China (the “PRC”). The Group develops and operates online
games primarily through Shengqu, Shanda Networking, Nanjing Shanda Networking Co., Ltd. (“Nanjing
Shanda”) and Hangzhou Bianfeng Networking Co., Ltd. (“Bianfeng Networking”), which are subsidiaries
of Shanda Networking.
Shanda Networking was the predecessor of the Group and operated substantially all of the
businesses of the Group prior to March 2003. It is wholly owned by Tianqiao Chen and Danian Chen,
the Company’s Chief Executive Officer and Senior Vice President, respectively, who are PRC
citizens. Tianqiao Chen and Danian Chen, together with Qianqian Luo, a director of the Company and
spouse of Tianqiao Chen, also own all of the shares of Skyline Media Limited (“Skyline”), the
Company’s controlling shareholder.
In March 2003, the Group undertook a restructuring and reorganization (the “Reorganization”)
immediately prior to the issuance of Series A and A-1 Preferred Shares (Note 18) to a foreign
investor. The Reorganization was necessary to comply with PRC law and regulations that limit
foreign ownership of companies that provide Internet content services, which includes operating
online games.
As part of the Reorganization, Shanda BVI established Shengqu, a wholly foreign owned
enterprise, and Shengqu entered into a series of agreements with Shanda Networking. Pursuant to
these agreements, Shanda Networking transferred substantially all of its operating assets to
Shengqu, except for certain assets that an online game operator must own to qualify to be an
Internet content provision license holder, and Shengqu provides services, software licenses and
equipment to Shanda Networking in exchange for fees. As a result of these agreements, the Company
is considered the primary beneficiary of Shanda Networking (Note 2(2)) and accordingly Shanda
Networking’s results are consolidated in the financial statements of the Company.
In December 2003, Shanda Interactive entered into a share purchase agreement with Shanda BVI
and the preferred and ordinary shareholders of Shanda BVI (the “Share Swap”), pursuant to which
Shanda Interactive
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purchased all of the preferred and ordinary shares of Shanda BVI. As consideration for the
purchase, Shanda Interactive issued the same number of preferred and ordinary shares to the selling
preferred and ordinary shareholders of Shanda BVI. The rights of the preferred and ordinary shares
issued by Shanda Interactive are the same as those originally issued by Shanda BVI. As the
Reorganization and the Share Swap were among common shareholders, the accompanying consolidated
financial statements have been prepared as if the Group had been in operation since the
incorporation of Shanda Networking, which was the predecessor of the Group. Prior to the
Reorganization, Shanda BVI was an investment holding company with no other operations.
In May 2004, Shanda Interactive completed an initial public offering of American Depository
Shares (ADSs). ADSs of the Company are traded from May 13, 2004 on NASDAQ National Market under the
symbol “SNDA” in the United States.
2. PRINCIPAL ACCOUNTING POLICIES
(1) Basis of presentation
The accompanying consolidated financial statements have been prepared in accordance with
generally accepted accounting principles in the United States of America (“US GAAP”).
The preparation of financial statements in conformity with US GAAP requires management to make
estimates and assumptions that affect the reported amounts of assets and liabilities, disclosures
of contingent assets and liabilities at the balance sheet dates and the reported amounts of
revenues and expenses during the reporting periods. Actual results could materially differ from
those estimates.
(2) Consolidation
The consolidated financial statements include the financial statements of the Company, its
subsidiaries and VIE subsidiaries for which the Company is the primary beneficiary. All
transactions and balances among the Company, its subsidiaries and VIE subsidiaries have been
eliminated upon consolidation. Investments in equity securities which the Company can exercise
significant influence are accounted for by the equity method of accounting.
The Group has adopted FASB Interpretation No. 46R, “Consolidation of Variable Interest
Entities, an Interpretation of ARB No. 51” (“FIN 46R”). FIN 46R requires certain variable interest
entities to be consolidated by the primary beneficiary of the entity if the equity investors in the
entity do not have the characteristics of a controlling financial interest or do not have
sufficient equity at risk for the entity to finance its activities without additional subordinated
financial support from other parties.
To comply with PRC laws and regulations that restrict foreign ownership of companies that
operate online games, the Company operates its online games mainly through Shanda Networking, which
is wholly owned by Tianqiao Chen and Danian Chen, and Nanjing Shanda and Bianfeng Networking, which
are subsidiaries of Shanda Networking. These three companies hold the license and approvals to
operate online games in the PRC.
Pursuant to the contractual arrangements with Shanda Networking, Nanjing Shanda and Bianfeng
Networking, Shengqu provides services, software licenses and equipment to Shanda Networking,
Nanjing Shanda and Bianfeng Networking, in exchange for fees, determined according to certain
agreed formulas. During the years ended
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December 31, 2004, 2005 and 2006, the total amount of such fees was approximately RMB646.1
million, RMB1,034.5 million and RMB938.0 million, which represented the substantial majority
operating profit of Shanda Networking, Nanjing Shanda and Bianfeng Networking. Shengqu has also
undertaken to provide financial support to Shanda Networking to the extent necessary for its
operations. The principal services, software license and equipment lease agreements that Shengqu
has entered into with Shanda Networking, Nanjing Shanda and Bianfeng Networking are:
| • | Equipment leasing agreements, pursuant to which Shanda Networking, Nanjing Shanda and Bianfeng Networking lease a substantial majority of their operating assets from Shengqu; | ||
| • | A technical support agreement, pursuant to which Shengqu provides technical support for Shanda Networking’s operations; | ||
| • | Technology licensing agreements, pursuant to which Shengqu licenses certain billing technology to Shanda Networking, Nanjing Shanda and Bianfeng Networking; | ||
| • | Software license agreements, pursuant to which Shengqu licenses certain software to Shanda Networking, Nanjing Shanda and Bianfeng Networking; | ||
| • | A strategic consulting agreement, pursuant to which Shengqu provides strategic consulting services to Shanda Networking; and | ||
| • | Online game distribution and service agreements, pursuant to which Shanda Networking, Nanjing Shanda and Bianfeng Networking distribute and service certain online games that are licensed or owned by Shengqu. |
In addition, Shengqu has entered into agreements with Shanda Networking and its equity owners
with respect to certain shareholder rights and corporate governance matters that provide Shengqu
with the substantial ability to control Shanda Networking. Pursuant to these contractual
arrangements:
| • | The equity owners of Shanda Networking have granted an irrevocable proxy to individuals designated by Shengqu to exercise the right to appoint directors, general manager and other senior management of Shanda Networking; | ||
| • | Shanda Networking will not enter into any transaction that may materially affect its assets, liabilities, equity or operations without the prior written consent of Shengqu; | ||
| • | Shanda Networking will not distribute any dividend; | ||
| • | Shengqu may purchase the entire equity interest in, or all the assets of, Shanda Networking for a purchase price equal to the lower of RMB10 million or the lowest price permitted under PRC law when and if such purchase is permitted by PRC law or the current equity owners of Shanda Networking cease to be directors or employees of Shanda Networking or desire to transfer their interest in Shanda Networking to a third party; | ||
| • | The equity owners of Shanda Networking have pledged their equity interest in Shanda Networking to |
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| Shengqu to secure the payment obligations of Shanda Networking under all of the agreements between Shanda Networking and Shengqu; and | |||
| • | The equity owners of Shanda Networking will not transfer, sell, pledge or dispose of their equity interest in Shanda Networking without the prior written consent of Shengqu. |
As a result of these agreements, the Company is considered the primary beneficiary of Shanda
Networking and accordingly Shanda Networking’s results are consolidated in the Company’s financial
statements.
(3) Foreign currency translation
The Company’s reporting currency is the Renminbi (“RMB”). The functional currency of the
Company, its subsidiaries and VIE subsidiaries is RMB. Transactions denominated in currencies other
than RMB are translated into RMB at the exchange rates quoted by the People’s Bank of China
prevailing at the dates of the transactions. Gains and losses resulting from foreign currency
transactions are included in the consolidated statements of operations and comprehensive income.
Monetary assets and liabilities denominated in foreign currencies are translated into RMB using the
applicable exchange rates quoted by the People’s Bank of China at the balance sheet dates. All such
exchange gains and losses are included in the statements of operations and comprehensive income.
The exchange differences for translation of group companies’ balances where RMB is not their
functional currency are included in cumulative translation
adjustments, which is included within Shareholder’s Equity under
Accumulated Other Comprehensive Gain. From January 1, 2007, the
Company changed its functional currency from RMB to USD given the
significant change in the nature of the Company’s operations
from that date.
Translations of amounts from RMB into United States dollars (“US$” or “U.S. dollars”) are
solely for the convenience of the reader and were calculated at the rate of US$1.00 = RMB7.8087,
representing the noon buying rate in the City of New York for cable transfers of RMB, as certified
for customs purposes by the Federal Reserve Bank of New York, on December 31, 2006. This
convenient translation is not intended to imply that the RMB amounts could have been, or could be,
converted, realized or settled into U.S. dollars at that rate on December 31, 2006, or at any other
rate.
(4) Cash and cash equivalents
Cash and cash equivalents represent cash on hand, demand deposits and highly liquid
investments placed with banks or other financial institutions, which have original maturities less
than three months.
(5) Short-term investments
Short-term investments represent the bank time deposits with the maturities between three
months and six months.
(6) Marketable securities
Marketable securities primarily consist of available-for-sale marketable equity securities,
marketable corporate bonds, or mutual funds. Marketable securities are classified as short-term
based on their liquid nature and because such securities are available for current operations.
Marketable securities are carried at fair market value with unrealized appreciation (depreciation)
reported as a component of accumulated other comprehensive gain (loss) in
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shareholders’ equity. The specific identification method is used to determine the cost of
securities. Realized gains and losses are reflected as investment
income or losses.
During the years ended December 31, 2004, 2005 and 2006, the Company recorded unrealized
gains/(losses) on its marketable securities of approximately, RMB 133.7 million and RMB(102.5)
million and RMB 168.3 million, respectively, as a component of comprehensive income.
(7) Allowances for doubtful accounts
The Group determines the allowance for doubtful accounts when facts and circumstances indicate
that the receivable is unlikely to be collected. If the financial condition of the Group’s
customers were to deteriorate, resulting in an impairment of their ability to make payments,
additional allowances may be required.
(8) Inventories
Inventories are valued at the lower of cost or market value. The value of inventories is
determined using the weighted average method. The Group provides estimated inventory allowance for
excessive, slow moving and obsolete inventories as well as inventory whose carrying value is in
excess of net realizable value.
(9) Investment in affiliated companies
Affiliated companies are entities over which the Company has significant influence, but which
it does not control. Investments in affiliated companies are accounted for by the equity method of
accounting. Under this method, the Company’s share of the post-acquisition profits or losses of
affiliated companies is recognized in the income statement and its share of post-acquisition
movements in reserves is recognized in reserves. Unrealized gains on transactions between the
Company and its affiliated companies are eliminated to the extent of the Company’s interest in the
affiliated companies; unrealized losses are also eliminated unless the transaction provides
evidence of an impairment of the asset transferred. When the Company’s share of losses in an
affiliated company equals or exceeds its interest in the affiliated company, the Company does not
recognize further losses, unless the Company has incurred obligations or made payments on behalf of
the affiliated company.
The Company continually reviews its investments in affiliated companies to determine whether a
decline in fair value below the carrying value is other than temporary. The primary factors the
Company considers in its determination are the length of time that the fair value of the investment
is below the Company’s carrying value; and the financial condition, operating performance and near
term prospects of the investee. In addition, the Company considers the reason for the decline in
fair value, be it general market conditions, industry specific or investee specific; analysts’
ratings and estimates of 12 month share price targets for the investee; changes in stock market
price or valuation subsequent to the balance sheet date; and the Company’s intent and ability to
hold the investment for a period of time sufficient to allow for a recovery in fair value. If the
decline in fair value is deemed to be other than temporary, the carrying value of the security is
written down to fair value. During the years ended December 31, 2004, 2005 and 2006, the Company
recorded impairment loss of approximately Nil, RMB521,486,000 and Nil, respectively. These
write-downs for equity method investments are included in equity in loss of affiliated companies.
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(10) Property and equipment
Property and equipment are stated at cost less accumulated depreciation. Depreciation is
computed using the straight-line method over the following estimated useful lives:
| Computer equipment | 5 years | |
| Leasehold improvements | Lesser of the term of the lease or
the estimated useful lives of the assets |
|
| Furniture and fixtures | 5 years | |
| Motor vehicles | 5 years | |
| Office buildings | 20 years |
(11) Intangible assets
Online game product development costs
The Group recognizes costs to develop its online game products in accordance with SFAS No. 86,
“Accounting for Costs of Computer Software to be Sold, Leased or Otherwise Marketed” (“SFAS
No.86”). Costs incurred for the development of online game products prior to the establishment of
technological feasibility are expensed when incurred and are included in product development
expense. Once an online game product has reached technological feasibility, all subsequent online
game product development costs are capitalized until the product is available for marketing.
Technological feasibility is evaluated on a product-by-product basis, but typically encompasses
both technical design and game design documentation and only occurs when the online game has a
proven ability to operate in online game environment in the PRC market. During the years ended
December 31, 2004, 2005 and 2006, the cost incurred for development of on-line game products was
not capitalized because of the uncertainty in technological feasibility.
Website and internally used software development costs
The Group recognizes website and internally used software development costs in accordance with
Statement of Position (“SOP”) No. 98-1, “Accounting for the Costs of Computer Software Developed or
Obtained for Internal Use". As such, the Group expenses all costs that are incurred in connection
with the planning and implementation phases of development and costs that are associated with
repair or maintenance of the existing websites and software. Costs incurred in the development
phase are capitalized and amortized over the estimated product life. Since the inception of the
Group, the amount of costs qualifying for capitalization has been immaterial and as a result all
website and internally used software development costs have been expensed as incurred.
Upfront licensing fees
Upfront licensing fees paid to third party licensors are capitalized and amortized on a
straight-line basis over the shorter of the useful economic life of the relevant online game or
license period, which is usually 3 to 5 years.
Software and copyrights
Software and copyrights purchased from third parties are initially recorded at cost and
amortized on a straight-line basis over the shorter of the useful economic life or stipulated
period in the contract, which is usually 1 to 5 years.
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Software technology, game engine, non-compete agreements and customer base acquired through
business combinations
An intangible asset is required to be recognized separately from goodwill based on its
estimated fair value if such asset arises from contractual or legal right or if it is separable as
defined by SFAS No. 141 “Business Combinations” (“SFAS No. 141”). Software technology, game engine,
non-compete agreements and customer base arising from the acquisitions of subsidiaries and VIE
subsidiaries are initially recognized and measured at estimated fair value upon acquisition.
Amortization is computed using the straight-line method over the following estimated useful lives:
| Software technology | 3 to 5.5 years | |
| Game engine | 3 years | |
| Non-compete agreements | 2 years | |
| Customer base | 5 or 5.5 years |
(12) Goodwill
Goodwill is measured as the excess of the purchase price over the fair value assigned to the
individual assets acquired and liabilities assumed. In a business combination, any acquired
intangible assets that do not meet separate recognition criteria as specified in SFAS No. 141
should be recognized as goodwill.
In accordance with SFAS No.142 “Goodwill and other intangible assets” (“SFAS No. 142”), no
amortization is recorded for goodwill. Goodwill is tested for impairment annually or more
frequently if events or changes in circumstances indicate that it might be impaired. In October of
each year, the Company tests impairment of goodwill at the reporting unit level and recognizes
impairment in the event that the carrying value exceeds the fair value of each reporting unit.
(13) Long-term prepayments
Long-term prepayments represent the prepayments for usage of the parcels of land where the
office buildings are located. Long-term prepayments are recorded at cost, and are amortized over
the lease period of 50 years.
(14) Other long-term assets
Other long-term assets include the issuance costs, amounting to RMB52.1 million, of the
Company’s Zero Coupon Senior Convertible Notes due 2014 (“Convertible Notes”). The issuance costs
of its Convertible Notes is deferred and being amortized on a straight-line basis over a period of
three years from the date of issuance, which is October 15, 2004, to the first date when the
Company may be required to repurchase all or any portion of their principal amount. The
amortization expense for the years ended December 31, 2004, 2005 and 2006 was RMB3.5 million,
RMB18.5 million and RMB 17.5 million, respectively. The unamortized issuance cost, amounting to
RMB12.6 million, is reclassified to prepayments and other current assets as of December 31, 2006
and will be amortized within one year. Other long-term assets as of December 31, 2005 also includes
a prepayment in respect of the upfront license fees paid for a new game of Rmb 22.5 million.
(15) Impairment of long-lived assets and intangible assets
Long-lived assets and intangible assets are reviewed for impairment whenever events or changes
in
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circumstances indicate that the carrying amount of an asset may not be recoverable. The
Company assesses the recoverability of the long-lived assets and intangible assets (other than
goodwill) by comparing the carrying amount to the estimated future undiscounted cash flow
associated with the related assets. The Company recognizes impairment of long-lived assets and
intangible assets in the event that the net book value of such assets exceeds the estimated future
undiscounted cash flows attributable to such assets. No material impairment of long-lived assets and
intangible assets was recognized for any of the years presented.
(16) Convertible debt
The Company applies SFAS No. 78, “Classification of Obligations That Are Callable by the
Creditor” to determine the classification of its convertible debt. In accordance with SFAS 78,
obligations such as convertible notes are required to be classified as a current liability if they
are or will be callable within one year from the balance sheet date.
(17) Financial instruments
Financial instruments of the Company primarily comprise of cash and cash equivalents,
short-term investments, marketable securities, accounts receivable, prepayments and other current
assets, amount due from/to related parties, accounts payable, other payables which includes
convertible debt payable. As of December 31, 2005 and 2006, their carrying values approximated
their fair values.
(18) Revenue recognition
Online game revenue
Prior to November 28, 2005, the Group operated all Massively Multiplayer Online Role-Playing
Games (“MMORPGs”) under a pay-to-play model. Under this model, the Group receives subscription fees
from distributors for the sale of time units, which allow end users to access its online game
products. The distribution of time units to the end users typically is made by sales of pre-paid
game cards, in physical or virtual form. The pre-paid game cards entitle the end users to access
the Group’s online game products for a specified period of time in accordance with the Group’s
published expiration policy. All subscription fees are deferred when received and revenue is
recognized based upon the actual usage of time units by the end users, or when the end users are no
longer entitled to access the online game products in accordance with the Group’s published
expiration policy.
Starting from November 28, 2005, the Group changed the operation of certain MMORPGs from the
pay-to-play model to a free-to-pay model. Under the new model, players can access the games free of
charges but may purchase points for in-game premium features. The distribution of points to the end
users typically is made by sales of pre-paid game cards, in physical or virtual forms. The unused
time units as of November 28, 2005 were converted into point units immediately. Subscription fees
are deferred when received and revenue is recognized over the life of the premium features or as
the premium features are consumed.
For casual online games, which are typically less complex and have shorter play duration than
MMORPGs, the Group receives subscription fee from distributors for the sales of points, which allow
end users to purchase premium features. Casual games can be accessed and played by end users free
of charge and without the purchase of premium features. Subscription fee is deferred when received
and revenue is recognized over the life of the premium features or as the premium features are consumed.
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Other Revenues
Other
revenues principally comprise of revenue from sale of EZ series, subscription fees from
online literature portal, advertising revenues, fees from technical services and cooperation,
service fees from rendering management software to internet cafe, mobile valued-added services
revenue, sale of E-Key and other online game related auxiliary products.
The
EZ series product includes products such as EZ Play, EZ Pod, EZ
station etc. By using EZ series products, users can have access to
the Shanda Home Entertainment Platform (“the Platform”) and pay subscription fee to subscribe various online
contents, such as games, music and films. As of December 31, 2006, the Platform was in operation
but no subscription fee was charged to users. Revenue from sale of EZ
series was recognized upon
delivery as the EZ series had separate value of working as a substitute of the traditional keyboard,
mouse and joystick to the users and the Company had no future legal or constructive obligation
related to the sale of EZ series.
The
Group operated an online literature portal, www.cmfu.com. Some of the contents is free to
view, for premium contents, readers have to pay subscription fees to get access. Subscription fee
is collected by the Group via sale of pre-paid card, in physical or virtual form, and charged to
readers per thousand characters they read. Subscription fees are deferred when received and revenue
is recognized based upon the number of characters read by the readers.
Advertising revenues are derived principally from online advertising arrangements, sponsorship
arrangements, or a combination of both. Online advertising arrangements allow advertisers to place
advertisements on particular areas of the Group’s websites, in particular formats and over
particular period of time. Advertising revenues from online advertising arrangements are recognized
ratably over the displayed period of the contract when the collectibility is reasonably assured.
Revenue from advertisement was reported as other revenues for all periods presented.
The Group renders technical service and cooperation on its network PC platform. Revenue is
recognized when the services or cooperation are rendered and fee collection is reasonably assured.
The Group licenses a software it developed to internet café for their daily operation and
management. Fixed licensing fees, as stipulated in license agreements, are charged to internet café
on a monthly basis. Licensing revenue is recognized based on the usage of the software and when the
fee collection is reasonably assured.
Mobile value-added services revenue are derived from providing mobile phone users with
services for recharging value of their prepaid cards and subscribing other game related content via
short messaging services, or SMS. Revenues from SMS are charged based on usage and recognized in
the period in which the service is performed, provided that collection of the receivables is
reasonably assured, the amounts can be accurately estimated, and there are no future service
obligations by the Company.
The Group sells E-Key, a secure ID product and other on-line game auxiliary products to
customers. Revenues derived from the sale of E-Key and other on-line game auxiliary products are
recognized when the titles of such products are transferred to the customers and collections are
reasonably assured.
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The Group’s subsidiaries and its VIE subsidiaries are subject to business tax and related
surcharges and value added tax on the revenues earned for services provided and products sold in
the PRC. The applicable business tax rate varies from 3% to 5% and the rate of value added tax
varies from 4% to 17%. In the accompanying statements of operations and comprehensive income,
business tax and related surcharges for revenues derived from on-line games, advertisement, mobile
valued-added services are deducted from gross receipts to arrive at net revenues.
(19) Deferred revenue
Deferred revenue primarily represents subscription fees received from customers that cover
online game services to be rendered in the future. Deferred revenue is stated at the amount of
subscription fees received less the amount previously recognized as revenue upon the rendering of
online game services or expiration of the time units or expiration of game cards in accordance with
the Group’s published expiration policy.
(20) Deferred licensing fees and related costs
Upon the receipt of subscription fees from the distributors, the Group is obligated to pay
on-going licensing fees and other costs related to such subscription fees, including business tax
and related surcharges. As subscription fees are deferred (Note 2(19)), the related on-going
licensing fees and costs are also deferred. The deferred licensing fees and related costs are
recognized in the statements of operations and comprehensive income in the period in which the
related online game subscription fees are recognized as revenue.
(21) Cost of revenue
Cost of services rendered
Cost of services rendered consists primarily of online game licensing fees, server leasing
charges, depreciation, maintenance and rental of computer equipment, amortization of upfront
licensing fees, manufacturing costs for prepaid game cards and other overhead expenses directly
attributable to the provision of online game services. Cost of services rendered amounted to
approximately RMB443,558,000, RMB567,267,000 and RMB642,799,000 during the years ended December 31,
2004, 2005 and 2006, respectively.
Cost of goods sold
Cost
of goods sold primarily consists of direct of EZ series, E-Key and other on-line game
auxiliary products, as well as the corresponding shipping and handling costs for the products sold.
Cost of goods sold amounted to approximately RMB27,626,000, RMB47,160,000 and RMB47,006,000, during
the years ended December 31, 2004, 2005 and 2006, respectively.
(22) Product development
Product development costs consist primarily of payroll, depreciation expense and other
overhead expenses incurred by the Group to develop, maintain, monitor and manage the Group’s online
gaming products, software and websites, and are recorded on an accrual basis.
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(23) Sales and marketing
Sales and marketing costs consist primarily of advertising and market promotion expenses,
payroll and other overhead expenses incurred by the Group’s sales and marketing personnel, and are
recorded on an accrual basis. Advertising expenses amounted to approximately RMB16,015,000,
RMB66,248,000 and RMB66,950,000 during the years ended December 31, 2004, 2005 and 2006,
respectively.
(24) Share-based compensation
Effective January 1, 2006, the Company adopted the fair value recognition provisions of
Statement of Financial Accounting Standards (“SFAS”) No. 123 (revised 2004), “Share-Based Payment”
(“SFAS 123R”), which supersedes SFAS No. 123, “Accounting-Based Compensation” (“SFAS 123”) and
Accounting Principles Board (“APB”) Opinion No. 25, “Accounting for Stock Issued to Employees”
(“APB 25”). Under the fair value recognition provisions of SFAS 123R, the Company is required to
measure the cost of employee services received in exchange for share-based compensation measured at
the grant date fair value, or minimal value, of the award.
The Company recognizes the compensation costs, net of a forfeiture rate, on a straight-line
basis over the requisite service period of the award, which is usually the vesting term. In March
2005, the Securities & Exchange Commission (“SEC”) issued Staff Accounting Bulletin (“SAB”) No. 107
(“SAB 107”) relating to SFAS 123R. The Company has applied the provisions of SAB 107 in its
adoption of SFAS 123R.
The Company elected the modified prospective method and therefore has not restated results for
prior periods. Had the Company determined the share-based compensation expense for the Company’s
share options based upon the fair value at the grant date for share options awards in 2004 and
2005, as prescribed by SFAS 123, the Company’s net income attributable to ordinary shareholders and
earnings per share for these two years would have been reduced to the pro forma amounts indicated
below.
| 2004 | 2005 | |||||||
| RMB | RMB | |||||||
Net income attributable to ordinary shareholders as reported |
527,004,006 | 165,282,809 | ||||||
Add: Share-based compensation expenses under APB No. 25 |
28,827,828 | 13,697,877 | ||||||
Less: Share-based compensation expenses under SFAS No. 123 |
(67,612,681 | ) | (50,192,400 | ) | ||||
Add: Allocation to participating shareholders |
3,184,018 | — | ||||||
Pro forma net income attributable to ordinary shareholders |
491,403,171 | 128,788,286 | ||||||
Basic earnings per share |
||||||||
As reported |
4.32 | 1.17 | ||||||
Pro forma |
4.02 | 0.91 | ||||||
Basic earnings per ADS |
||||||||
As reported |
8.64 | 2.34 | ||||||
Pro forma |
8.04 | 1.82 | ||||||
Diluted earnings per share |
||||||||
As reported |
4.05 | 1.13 | ||||||
Pro forma |
3.78 | 0.88 | ||||||
Diluted earnings per ADS |
||||||||
As reported |
8.10 | 2.26 | ||||||
Pro forma |
7.56 | 1.76 | ||||||
The valuation provisions of SFAS 123R apply to new grants and unvested grants that were
then outstanding. Estimated compensation for unvested grants that were outstanding as of the
effective date is recognized over the remaining service period using the fair value estimated under
the SFAS 123 pro forma disclosures.
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The effects of application of SFAS 123R on the consolidated statements of operations and
comprehensive income for the year ended December 31, 2006 are summarized as follows (in thousands,
except per share data):
| Year ended | ||||
| December 31, 2006 | ||||
Decrease in Net income from continuing operations |
36,422 | |||
Decrease in income before income tax expense |
36,422 | |||
Decrease in net income |
36,422 | |||
Decrease in basic net income per share |
0.26 | |||
Decrease in diluted net income per share |
0.25 | |||
During the years ended December 31, 2004, 2005 and 2006, the Company calculated the fair value
of each option granted on the date of grant using the Black-Scholes pricing model, which is
consistent with the valuation techniques previously utilized for options in footnote disclosures
required under SFAS 123, as amended by FASB Statement No. 148, “Accounting for Stock-Based
Compensation—Transition and Disclosure.” The determination of the fair value of share-based
compensation awards on the date of grant using an option-pricing model is affected by the Company’s
stock price as well as assumptions regarding a number of complex and subjective variables,
including the expected volatility of the Company’s share price over the term of the awards, actual
and projected employee stock option exercise behaviors, risk-free interest rate and expected
dividends. The assumptions used to value stock-based compensation awards for the years ended
December 31, 2004, 2005 and 2006 are presented as follows:
| 2004 | 2005 | 2006 | ||||||||||
Risk-free interest rate |
2.8-4.0 | % | 3.9-4.2 | % | 5.2 | % | ||||||
Term of share option/Expected life (in years) |
5 years | 6.25 years | 6.25 years | * | ||||||||
Expected dividend yield |
0 | % | 0 | % | 0 | % | ||||||
Volatility |
58%-71 | % | 58%-60 | % | 61 | % | ||||||
Fair value per option at grant date |
RMB23.66-RMB49.26 | RMB73.39-RMB82.59 | RMB32.00 | |||||||||
| * | The Company’s historical share option exercise experience does not provide a reasonable basis upon which to estimate expected term. As a result, according to SAB 107, considering the Company’s stock option awards have the characteristics of “plain vanilla” option, the Company uses a “simplified” method to determine the expected term of the options granted in 2006. |
SFAS 123R requires forfeitures to be estimated at the time of grant and revised in
subsequent periods if actual forfeitures differ from those estimates. Compensation cost estimated
for the SFAS 123 pro forma disclosures accounted for forfeitures as they occur.
(25) Leases
Leases where substantially all the rewards and risks of ownership of assets remain with the
leasing company are accounted for as operating leases. Other leases are accounted for as capital
leases. Payments made under operating leases, net of any incentives received by the Group from the
leasing company, are charged to the statements of operations and comprehensive income on a
straight-line basis over the lease periods or based on certain formulas, as specified in the lease
agreements, with reference to the actual number of users of the leased assets, as appropriate.
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(26) Taxation
Deferred income taxes are provided using the liability method. Under this method, deferred
income taxes are recognized for the tax consequences of temporary differences by applying enacted
statutory rates applicable to future years to differences between the financial statement carrying
amounts and the tax bases of existing assets and liabilities. The tax base of an asset or liability
is the amount attributed to that asset or liability for tax purposes. The effect on deferred taxes
of a change in tax rates is recognized in income in the period of change. A valuation allowance is
provided to reduce the amount of deferred tax assets if it is considered more likely than not that
some portion of, or all of, the deferred tax assets will not be realized.
(27) Statutory reserves
Shengqu, Shanda Computer (Shanghai) Co., Ltd., Grandpro Technology (Shanghai) Co., Ltd. and
the Group’s VIE subsidiaries incorporated in the PRC are required on an annual basis to make
appropriations of retained earnings set at certain percentage of after-tax profit determined in
accordance with PRC accounting standards and regulations (“PRC GAAP”) to statutory reserve fund and
statutory welfare fund. The statutory reserve fund can be used to increase the registered capital
and eliminate future losses of the companies, it cannot be distributed to shareholders except in
the event of a solvent liquidation of the companies. The statutory welfare fund can only be used
for the collective benefits and facilities of the employees. The Group’s VIE subsidiaries are
required to make an appropriations of retained earnings equal to, at least, 10% and 5%, of the PRC
GAAP after-tax profit, to the statutory reserve fund and the statutory welfare fund, respectively.
Shengqu, Shanda Computer (Shanghai) Co., Ltd. and Grandpro Technology (Shanghai) Co., Ltd., as
wholly foreign owned enterprises incorporated in the PRC, is required to make appropriation of
retained earnings equal to at least 10% of the PRC GAAP after-tax profit to the statutory reserve
fund. Once the level of these funds reaches 50% of the registered capital of the respective
companies, further appropriations are discretionary.
Appropriations to these funds are classified in the consolidated balance sheets as statutory
reserves. During the year ended December 2004, 2005 and 2006, the Group made total appropriations
to these statutory reserves of approximately RMB12,713,000, RMB47,594,000 and RMB 54,400,000
repectively.
There are no legal requirements in the PRC to fund these reserves by transfer of cash to any
restricted accounts, and the Group does not do so.
(28) Dividends
Dividends are recognized when declared.
On March 5, 2004, a cash dividend of US$23 million (equivalent to RMB192 million) was declared
by the Company to its holders of ordinary shares and preferred shares in proportion to their
respective share ownership, on an as-converted basis, which is approximately 74.9% and 25.1%,
respectively.
Relevant PRC laws and regulations permit payments of dividends by the PRC subsidiaries and
affiliated companies only out of their retained earnings, if any, as determined in accordance with
PRC accounting standards and regulations (see Note 2(27)).
In addition, since a significant amount of the Group’s future revenues will be denominated in
RMB, the existing and any future restrictions on currency exchange may limit the Group’s ability to
utilize revenues generated in RMB to fund the Group’s business activities outside China, if any, or expenditures denominated in
foreign currencies.
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Table of Contents
(29) Earnings per share
In accordance with SFAS No. 128, “Computation of Earnings Per Share” (“SFAS No. 128”) and EITF
Issue 03-06, “Participating Securities and the Two-Class Method under FASB Statement No. 128”,
basic earnings per share is computed by dividing net income attributable to common shareholders by
the weighted average number of unrestricted ordinary shares outstanding during the year using the
two-class method. Under the two class method, net income is allocated between ordinary shares and
other participating securities based on their participating rights. The Company’s Series A and
Series A-1 Convertible Redeemable Preferred Shares (Note 18) are participating securities. Diluted
earnings per share is calculated by dividing net income attributable to common shareholders as
adjusted for the effect of dilutive ordinary equivalent shares, if any, by the weighted average
number of ordinary and dilutive ordinary equivalent shares outstanding during the year. Ordinary
equivalent shares consist of the ordinary shares issuable upon the conversion of the Convertible
Redeemable Preferred Shares and Convertible Debt (using the as-converted method) and ordinary
shares issuable upon the exercise of outstanding share options (using the treasury share method).
(30) Segment reporting
The Group operates and manages its business as a single segment. As the Group primarily
generates its revenues from customers in the PRC, no geographical segments are presented.
(31) Reclassifications
Certain reclassifications have been made to all years presented in the consolidated financial
statements to conform to the current year presentation.
3. Recent accounting pronouncements
In September 2006, the SEC released SAB No. 108, “Considering the Effects of Prior Year
Misstatements when Quantifying Misstatements in Current Year Financial Statements” (“SAB 108”). SAB
108 provides interpretive guidance on the SEC’s views on how the effects of the carryover or
reversal of prior year misstatements should be considered in quantifying a current year
misstatement. The provisions of SAB 108 is effective for the Company in the current fiscal year
ended December 31, 2006. The adoption of SAB 108 did not have a significant impact on its financial
statements.
In September 2006, the FASB issued Statement of Financial Accounting Standards No.157, “Fair
Value Measurements” (“SFAS 157”), which defines fair value, establishes guidelines for measuring
fair value and expands disclosures regarding fair value measurements. SFAS 157 does not require any
new fair value measurements but rather eliminates inconsistencies in guidance found in various
prior accounting pronouncements. SFAS 157 will be effective for the Company starting January 1,
2008. Earlier adoption is permitted, provided the company has not yet issued financial statements,
including for interim periods, for that fiscal year. The Company is still assessing the impact of
the adoption of SFAS 157 on its financial statements.
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Table of Contents
In July 2006, the FASB issued FASB Interpretation No. 48, “Accounting for Uncertainty in
Income Taxes — an Interpretation of FASB Statement No. 109” (“FIN 48”), which clarifies the accounting for
uncertainty in tax positions. This Interpretation requires that the Group recognize and disclose in
its financial statements the impact of a tax position if that position is more likely than not of
being sustained on audit, based on the technical merits of the position. The provisions of FIN 48
became effective for the Group on January 1, 2007, with the cumulative effect of the change in
accounting principle, if any, recorded as an adjustment to opening retained earnings. The Group
adopted FIN 48 as of January 1, 2007 and based on the assessment completed by the Group, the
adoption of FIN 48 did not result in any material items being recognized.
In June 2006, the FASB ratified the provisions of the Emerging Issue Task Force Issue No. 06-3
“How Sales Taxes Collected from Customers and Remitted to Governmental Authorities Should Be
Presented in the Income Statement” (“EITF 06-3”), which requires the Company to disclose how it
accounts for taxes imposed on and concurrent with a specific revenue-producing transaction. EITF
06-3 will be effective for the Company starting January 1, 2007.
The Group presents revenue net of business taxes of RMB1,298,725,000,
RMB1,896,611,000 and RMB1,654,460,000 for the years ended
December 31, 2004, 2005 and 2006 respectively.
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4. BUSINESS COMBINATIONS
The Group accounts for its business combinations using the purchase method of accounting. This
method requires that the acquisition cost to be allocated to the assets, including separately
identifiable intangible assets, and liabilities the Group acquired based on their estimated fair
values. The Company makes estimates and judgments in determining the fair value of the acquired
assets and liabilities based on independent appraisal reports as well as its experience with
similar assets and liabilities in similar industries. If different judgments or assumptions were
used, the amounts assigned to the individual acquired assets or liabilities could be materially
different.
Acquisition completed in 2006
There were
no significant acquisitions completed in 2006.
Acquisition completed in 2005
| (1) | Shanghai Haofang Online Information Technology Co., Ltd. and Grandpro Technology Limited (collectively “Haofang”) |
Subsequent to the acquisition of 17.86% equity interest for the consideration of US$5.0
million in cash (equivalent to RMB41.4 million) in Haofang, the operator of the largest network PC
game platform, in China in October 2005, the Group further acquired its remaining 82.14% equity
interest in May 2005 for the consideration of US$20.0 million in cash (equivalent to RMB 165.5
million). As a result, Haofang changed from an associated company in 2004, accounted for using
equity method of accounting, to a wholly-owned subsidiary of the Group. Pursuant to the purchase
agreement, the Group was initially required to make contingent payment to the selling shareholders
if 2005 earnings of Haofang exceeded a pre-set target. A supplemental agreement was signed in
February 2006 to change the contingent payment arrangement to a fixed additional payment; as a
result, a final payment of US$31.0 million (equivalent to Rmb249.3 million) was paid and recorded
as an adjustment to goodwill by the Group in February 2006.
The purchase price was allocated as follows:
| RMB | ||||
Cash |
39,399,000 | |||
Other assets |
17,359,000 | |||
Identifiable intangible assets |
75,614,000 | |||
Purchased in-progress research and
development |
4,147,000 | |||
Goodwill |
346,583,000 | |||
Current liabilities |
(26,887,000 | ) | ||
Purchase price |
456,215,000 | |||
Identifiable intangible assets acquired, including software technology of RMB46.0 million and
customer base of
F-22
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RMB29.6 million, have estimated useful lives of 5.5 years. Purchased in-progress research and
development of RMB4.1 million were written off at the date of acquisition in accordance with FASB
Interpretation No.4 “Applicability of FASB Statement No. 2 to Business Combinations Accounted for
by the Purchase Method” (“FIN 4”) because the technological feasibility of the in-progress
technology has not yet been established and that the technology has no alternative future use.
Those write-offs are included in product development expenses.
Goodwill
of RMB346,583,000 represents the excess of the purchase price over the estimated fair
value of the net tangible and identifiable intangible assets acquired, and is not deductible for
tax purposes. In accordance with SFAS No. 142, goodwill is not amortized but is tested for
impairment. The purchase price allocation for Haofang acquisition is primarily based on an
appraisal performed by an independent appraisal firm together with the management assessment based
on their experience in online game business in the PRC.
The following unaudited pro forma consolidated financial information reflects the results of
operations for the year ended December 31, 2004 and 2005, as if the acquisition of Haofang had
occurred on January 1, 2004 and 2005, and after giving effect to purchase accounting adjustments.
These pro forma results have been prepared for comparative purposes only and do not purport to be
indicative of what operating results would have been had the acquisition actually taken place on
the beginning of the periods presented, and may not be indicative of future operating results.
| 2004 | 2005 | |||||||
| Unaudited in RMB | Unaudited in RMB | |||||||
Net revenue |
1,305,724,000 | 1,930,396,000 | ||||||
Net income |
555,004,000 | 180,130,000 | ||||||
Net income
attributable to ordinary shareholders |
472,525,000 | 180,130,000 | ||||||
Earnings per share |
||||||||
Basic |
3.87 | 1.27 | ||||||
Diluted |
3.63 | 1.23 | ||||||
The pro forma net income for 2004 and 2005 includes RMB13.7 million in each year for the
amortization of identifiable intangible assets, and was determined using at the actual effective
income tax rate of Haofang in each year.
(2) Gametea
In November 2005, the Group acquired 100% equity interest of Wenzhou Chuangjia Technology Co.,
Ltd. and Shanghai Qipai Computer Technology Co., Ltd. (collectively “Gametea”), a leading online
casual game platform that develops and operates chess and board games in China. Pursuant to the
acquisition agreement, the total purchase consideration was US$4.9 million (equivalent to RMB39.6
million), of which US$3.6 million (equivalent to RMB29.1 million) and US$0.9 million (equivalent to
RMB7.4 million) were paid in 2005 and 2006, respectively, and the remaining purchase consideration
will be paid in one installment in 2007.
The purchase price of Gametea was allocated as follows:
F-23
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| RMB | ||||
Cash |
435,000 | |||
Other assets |
2,059,000 | |||
Identifiable intangible assets |
20,213,000 | |||
Goodwill |
17,387,000 | |||
Current liabilities |
(484,000 | ) | ||
Purchase price |
39,610,000 | |||
Identifiable intangible assets acquired, including software technology of RMB14.7 million and
customer base of RMB5.5 million, have estimated useful lives of 5 years. Goodwill of RMB17.4
million represents the excess of the purchase price over the estimated fair value of the net
tangible and identifiable intangible assets acquired, and is not deductible for tax purposes. In
accordance with SFAS No. 142, goodwill is not amortized but is tested for impairment.
5. OTHER NET REVENUES
| 2004 | 2005 | 2006 | ||||||||||
| RMB | RMB | RMB | ||||||||||
EZ series |
— | 22,533,424 | 28,882,189 | |||||||||
Online literature |
659,902 | 10,073,993 | 20,787,012 | |||||||||
Advertising |
12,044,832 | 80,105,525 | 18,762,869 | |||||||||
Technical service and cooperation |
— | 12,622,838 | 9,635,519 | |||||||||
License of management software to internet café |
1,514,407 | 5,551,026 | 9,159,984 | |||||||||
Mobile value-added services |
19,078,242 | 15,512,057 | 8,734,996 | |||||||||
Mobile game |
883,953 | 4,396,200 | 4,456,854 | |||||||||
Game content related goods |
26,592,011 | 405,394 | 3,194,397 | |||||||||
E-Keys |
25,479,708 | 76,838,512 | 645,809 | |||||||||
Others |
3,295,049 | 10,262,983 | 7,304,331 | |||||||||
| 89,548,104 | 238,301,952 | 111,563,960 | ||||||||||
6. OTHER INCOME
| 2004 | 2005 | 2006 | ||||||||||
| RMB | RMB | RMB | ||||||||||
Government financial incentives |
88,083,411 | 137,282,361 | 83,907,206 | |||||||||
Foreign exchange gain (Note 24) |
43,804 | 48,943,965 | 59,807,857 | |||||||||
Others |
(4,471,297 | ) | (11,321,728 | ) | (9,802,305 | ) | ||||||
| 83,655,918 | 174,904,598 | 133,912,758 | ||||||||||
The government financial incentives are granted by the municipal government upon the
qualification of a company as a new-high technology enterprise. These government financial
incentives are calculated with reference to either the group companies’ taxable income or revenue,
as the case may be. Eligibility for the government financial incentives the group companies receive
requires that the group companies continue to meet a number of government financial and
non-financial criteria to continue to qualify for these government financial incentives and its
continued qualification is further subject to the discretion of the municipal government. Moreover,
the central government or municipal government could determine at any time to immediately eliminate
or reduce these financial incentives. There is no guarantee that the Group will continue to receive
these government financial incentives in the future. Accordingly, government financial incentives
are recognized as other income when received.
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Table of Contents
7. TAXATION
Cayman Islands
Under the current laws of Cayman Islands, the Group is not subject to tax on its income or
capital gains. In addition, upon payments of dividends by the Group to its shareholders, no Cayman
Islands withholding tax will be imposed.
British Virgin Islands
Under the current laws of British Virgin Islands, the Group is not subject to tax on its
income or capital gains. In addition, upon payments of dividends by the Group to its shareholders,
no British Virgin Islands withholding tax will be imposed.
China
The Group’s subsidiaries and VIE subsidiaries that are incorporated in the PRC are subject to
Enterprise Income Tax (“EIT”) on the taxable income as reported in their respective statutory
financial statements adjusted in accordance with the Enterprise Income Tax Law and the Income Tax
Law of the People’s Republic of China concerning Foreign Investment Enterprise and Foreign
Enterprises (collectively the “PRC Income Tax Laws”), respectively. Pursuant to the PRC Income Tax
Laws, the Group is generally subject to EIT at a statutory rate of 33%. Group companies that are
registered in the Pudong New District of Shanghai are, however, subject to a 15% preferential EIT
rate pursuant to the local tax preferential treatment. Shengqu, as a software development
enterprise, has been granted a two year EIT exemption and followed by a three year 50% EIT
reduction on its taxable income, commencing the year ended December 31, 2003 (“tax holiday”).
Shengqu’s qualifications as a software development enterprise or a technology advanced enterprise
are required to be reassessed on an annual basis. Nanjing Shanda, as a result of receiving
government’s recognition as a technology advanced enterprise, has been entitled to a full income
tax exemption for two years effective from January 1, 2005 and will be subject to a preferential
tax rate of 15% after January 1, 2007. In April 2006, government recognition in October 2005 of
Bianfeng Networking as a technologically advanced enterprise was acknowledged by the local tax
authority, which was previously subject to income taxes at a statutory rate of 33%. As a result of
the acknowledgement, Bianfeng Networking is entitled to a two-year exemption from income taxes
commencing from 2004, which was deemed to be its first cumulative profit-making year by the local
tax authority, and thus reversed the income tax expense and defer tax assets RMB10.3 million and
RMB3.7 million previously recognized in the years ended December 31, 2004 and 2005. Starting from
January 1, 2006, Bianfeng Networking is subject to a preferential tax rate of 15%.
Composition of income tax expense
The current and deferred portion of income tax expense included in the consolidated statements
of operations and comprehensive income for the years ended December 31, 2004, 2005 and 2006 are as
follows:
| 2004 | 2005 | 2006 | ||||||||||
| RMB | RMB | RMB | ||||||||||
Current income tax expenses |
46,485,395 | 84,204,730 | 50,826,715 | |||||||||
Changes of tax status |
— | — | (14,041,130 | ) | ||||||||
Change in deferred tax assets |
(8,690,988 | ) | 9,365,576 | (7,486,266 | ) | |||||||
Change in valuation allowance |
1,146,517 | 3,141,686 | 7,189,596 | |||||||||
Income tax expenses |
38,940,924 | 96,711,992 | 36,488,915 | |||||||||
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Table of Contents
Reconciliation of the differences between statutory tax rate and the effective tax rate
The reconciliation between the statutory EIT rate and the Group’s effective tax rate for the
years ended December 31, 2004, 2005 and 2006 is as follows:
| 2004 | 2005 | 2006 | ||||||||||
Statutory income tax rate |
33 | % | 33 | % | 33 | % | ||||||
Tax differential from statutory rate
applicable to
the subsidiaries and the VIE subsidiaries in
the PRC |
(20 | %) | (18 | %) | (15 | %) | ||||||
Effect of tax holidays |
(11 | %) | (7 | %) | (10 | %) | ||||||
Others |
4 | % | 4 | % | (2 | %) | ||||||
Effective EIT rate |
6 | % | 12 | % | 6 | % | ||||||
The aggregate amount and per share effect of the tax holiday are as follows:
| 2004 | 2005 | 2006 | ||||||||||
The aggregate effect |
71,969,207 | 58,825,515 | 57,886,654 | |||||||||
Per share effect-basic |
0.59 | 0.42 | 0.41 | |||||||||
Per share
effect-diluted |
0.55 | 0.40 | 0.40 | |||||||||
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Table of Contents
Significant components of deferred tax assets
| December 31, | December 31, | |||||||
| 2005 | 2006 | |||||||
| RMB | RMB | |||||||
Licensing fees and related costs and revenue deferred |
14,857,898 | 10,792,046 | ||||||
Tax losses carried forward |
6,973,630 | 14,163,226 | ||||||
Other temporary differences |
2,266,766 | 6,629,288 | ||||||
Less: Valuation allowance |
(6,973,630 | ) | (14,163,226 | ) | ||||
Deferred tax assets |
17,124,664 | 17,421,334 | ||||||
Movement of valuation allowances
| 2005 | 2006 | |||||||
| RMB | RMB | |||||||
At beginning of year |
3,831,944 | 6,973,630 | ||||||
Current year addition |
6,318,048 | 8,725,564 | ||||||
Current year reversal |
(3,176,362 | ) | (1,535,968 | ) | ||||
At end of year |
6,973,630 | 14,163,226 | ||||||
Valuation allowances have been provided on the net deferred tax assets due to the uncertainty
surrounding their realization. As of December 31, 2005 and 2006, valuation allowances were provided
because it was more likely than not that the Group will not be able to utilize certain tax losses
carryforwards generated by certain VIE subsidiaries. If events occur in the future that allow the
Group to realize more of its deferred tax assets than the presently recorded amount, an adjustment
to the valuation allowances will increase income when those events occur. Tax losses carry forward
in the amount of approximately RMB1,867,000 and RMB31,696,000 and RMB34,170,000 incurred in 2004,
2005 and 2006 will expire in the year ending December 31, 2010, 2011 and 2012, respectively.
F-27
Table of Contents
8. EARNINGS PER SHARE
Basic earnings per share and diluted earnings per share have been calculated in accordance
with SFAS No. 128 and EITF No. 03-06 for the years ended December 31 2004, 2005 and 2006 as
follows:
| 2004 | 2005 | 2006 | ||||||||||
| RMB | RMB | RMB | ||||||||||
Numerator: |
||||||||||||
Net income |
609,482,888 | 165,282,809 | 529,209,878 | |||||||||
Dividends to Series A and Series
A-1Prefer Shareholders (Note
18) |
(48,212,650 | ) | — | — | ||||||||
Earnings allocated to participating
Preferred Shareholders |
(34,266,232 | ) | — | — | ||||||||
Numerator for basic and diluted
earnings per share |
527,004,006 | 165,282,809 | 529,209,878 | |||||||||
Denominator: |
||||||||||||
Denominator for basic earnings per
share |
||||||||||||
Weighted-average ordinary shares
outstanding |
122,136,580 | 141,338,480 | 142,598,398 | |||||||||
Dilutive effect of share options |
8,031,076 | 5,009,115 | 2,007,305 | |||||||||
Denominator for diluted earnings per
share |
130,167,656 | 146,347,595 | 144,605,703 | |||||||||
Basic earnings per share |
4.32 | 1.17 | 3.71 | |||||||||
Diluted earnings per share |
4.05 | 1.13 | 3.66 | |||||||||
Net income, after deducting accretion and dividends to holders of Preferred Shareholders,
has been allocated to the ordinary share and Preferred Shares based on their respective rights to
share in dividends.
Potential dilutive securities, consisted of Series A and A-1 Preferred Shares in 2003 and
Series A and A-1 Preferred Shares and Convertible Notes in 2004, were not included in the
computation of earnings per share for 2004, 2005 and 2006 because of their anti-dilutive effects.
9. CASH AND CASH EQUIVALENTS
Cash and cash equivalents as of December 31, 2006 include cash balances held by the Company’s
VIE subsidiaries of approximately RMB486,413,000. These cash balances cannot be transferred to the
Company by dividend, loan or advance according to existing PRC laws and regulations (Note 27).
However, these cash balances can be utilized by the Company for its normal operations pursuant to
various agreements which enable the Company to substantially control these VIE subsidiaries as
described in Note 2(2) for its normal operations.
Included in the cash and cash equivalents are cash balances denominated in U.S. dollars of
approximately US$20,749,000 and US$73,095,000 (equivalent to approximately RMB167,449,000 and
RMB570,810,000) as of December 31, 2005 and 2006, respectively.
10. ACCOUNTS RECEIVABLE
| December 31, | December 31, | |||||||
| 2005 | 2006 | |||||||
| RMB | RMB | |||||||
Accounts receivable |
131,553,747 | 67,727,576 | ||||||
Less: Allowance for doubtful accounts |
(50,426,583 | ) | (36,042,403 | ) | ||||
| 81,127,164 | 31,685,173 | |||||||
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Table of Contents
The movement of the allowance for doubtful accounts during the years is as follow:
| 2005 | 2006 | |||||||
| RMB | RMB | |||||||
Balance as beginning of year |
547,857 | 50,426,583 | ||||||
Add: Current year additions |
53,849,939 | 20,365,478 | ||||||
Less: Current year write-offs |
(3,971,213 | ) | (34,749,658 | ) | ||||
Balance at end of year |
50,426,583 | 36,042,403 | ||||||
11. INVENTORIES
| December 31, | December 31, | |||||||
| 2005 | 2006 | |||||||
| RMB | RMB | |||||||
Finished goods |
18,857,526 | 7,955,015 | ||||||
Raw materials |
9,623,444 | 1,017,197 | ||||||
Total inventories |
28,480,970 | 8,972,212 | ||||||
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Table of Contents
12. INVESTMENTS IN AFFILIATED COMPANIES
The following table includes the Group’s carrying amount and percentage ownership of the
investments in affiliated companies at December 31, 2006 and the carrying amount at December 31,
2005:
| December 31, | December 31, | |||||||||||
| 2005 | 2006 | |||||||||||
| Percentage | ||||||||||||
| ownership | ||||||||||||
| RMB | RMB | % | ||||||||||
Actoz Soft Co., Ltd. |
328,274,787 | 329,273,333 | 40.48 | % | ||||||||
Shanghai
Orient Youth Culture Co., Ltd. |
306,836 | 353,688 | 30.00 | % | ||||||||
Shanghai Shana Modern Family Magazine
Co., Ltd (“Shanda Family”) |
— | 5,065,600 | 49.00 | % | ||||||||
Total |
328,581,623 | 334,692,621 | ||||||||||
The movement of the investments in affiliated companies is as follows:
| Shanghai Orient | ||||||||||||||||||||
| Actoz Soft | Youth Culture | Shanda | ||||||||||||||||||
| Co., Ltd. | Co., Ltd. | Haofang | Family | Total | ||||||||||||||||
| RMB’000 | RMB’000 | RMB’000 | RMB’000 | RMB’000 | ||||||||||||||||
Balances at
December 31,
2004 |
118,891 | — | 37,045 | — | 155,936 | |||||||||||||||
Investments |
759,105 | 300 | 165,543 | — | 924,948 | |||||||||||||||
Share of profit on
affiliated
companies
investments |
10,710 | 7 | 4,416 | — | 15,133 | |||||||||||||||
Other equity
movement |
(1,296 | ) | — | — | — | (1,296 | ) | |||||||||||||
Amortization of
identifiable
intangible assets,
net of
tax |
(22,189 | ) | — | (266 | ) | — | (22,455 | ) | ||||||||||||
Immediate write off
of purchased
in-progress
research and
development |
(15,460 | ) | — | — | — | (15,460 | ) | |||||||||||||
Other-than-temporary
impairment |
(521,486 | ) | — | — | — | (521,486 | ) | |||||||||||||
Transferred out for
consolidation |
— | — | (206,738 | ) | — | (206,738 | ) | |||||||||||||
Balances at
December 31, 2005
(Note 4) |
328,275 | 307 | — | — | 328,582 | |||||||||||||||
Investments |
17,290 | — | — | 7,840 | 25,130 | |||||||||||||||
Share of profit /
(loss) on
affiliated
companies
investments |
1,022 | 47 | — | (2,774 | ) | (1,705 | ) | |||||||||||||
Other equity
movement |
7,207 | — | — | — | 7,207 | |||||||||||||||
Amortization of
identifiable
intangible assets,
net of
tax |
(24,521 | ) | — | — | — | (24,521 | ) | |||||||||||||
Balances at
December 31,
2006 |
329,273 | 354 | — | 5,066 | 334,693 | |||||||||||||||
F-30
Table of Contents
Investment in Actoz Soft Co., Ltd.
Actoz Soft Co., Ltd., or Actoz, is a Korean developer, operator and publisher of online games
listed on the KOSDAQ. As the result of acquisition of approximately 29% of the stake from its then
shareholders in November 2004 and approximately 9% of its stake in the open market in December
2004, at an aggregate cost of US$106.1 million, equivalent to approximately RMB878 million, the
Company owned approximately 38% of Actoz’ stake as at December.31, 2005, and thus accounted for the
investment using equity method of accounting.
Pursuant to the share purchase agreement, an escrow amount of US$18.3 million (equivalent to
RMB148.0 million) was required to be set aside in an escrow account which would be released against
the remaining portion of purchase consideration in 365 calendar days after the completion date of
the acquisition. As at December 31, 2005, the escrow amount was recorded as restricted cash in the
financial statements, and was subsequently released in February 2006.
The purchase price of Actoz was allocated as follows:
| RMB | ||||
Fair value of net assets acquired |
128,419,000 | |||
Identified intangible assets |
183,884,000 | |||
Purchased in-progress research and development |
15,460,000 | |||
Deferred tax liabilities arising from the acquisition |
(50,567,000 | ) | ||
Goodwill |
600,800,000 | |||
Total |
877,996,000 | |||
Identifiable intangible assets acquired include trademarks of RMB54.5 million that was
determined to have infinite life and thus not subject to amortization. The remaining identifiable
intangible assets acquired include completed technology of RMB63.7 million with estimated
weighted-average useful life of 6.3 years, core technology of RMB35.7 million with estimated useful
life of 4 years, customer database of RMB23.2 million with estimated useful life of 2 years, and
non-compete agreement of RMB6.8 million with estimated useful life of 2.5 years. Purchased
in-progress research and development of RMB15.5 million was written off at the date of acquisition
in accordance with FIN 4 because the technological feasibility of the in-progress technology has
not yet been established and the technology has no alternative future use. Those write-offs are
included in equity in loss of affiliated companies.
In December 2006, the Company additionally purchased 2.3% of Actoz’ stake in the open market,
and increased its share percentage in Actoz to 40.48%.
In the fourth quarter of 2005, the Company recognized an other-than-impairment charge of US$
64.6 million, equivalent to RMB 521.5 million, on its investment in Actoz based on the quoted
market price. The impairment charge was made primarily as a result of (1) the continued decline in
Actoz’s quoted market price on the KOSDAQ; (2) a continued decline in royalties generated for Actoz
by Shanda’s operation of Mir II, a MMORPG licensed from Actoz, in the PRC, which was mainly due to
the continued aging of Mir II and adoption of the free-to-play model (Note 2(18)) for Mir II; and
(3) intensified competition. As of December 31, 2005, the value of the investment in Actoz based on
the quoted market price was RMB328.3 million, which is equal to its carrying amount.
In the year ended December 31, 2006, the investment in Actoz was not further impaired based on
an assessment of the conditions and circumstances existing as of December 31, 2006 including
consideration of the Actoz quoted market price.
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The financial information for Actoz as of and for the years ended December 31, 2005 and 2006
is disclosed below:
| 2005 | 2006 | |||||||
Current assets |
232,708,000 | 226,045,000 | ||||||
Non-current assets |
188,483,000 | 241,134,000 | ||||||
Current Liabilities |
43,789,000 | 72,344,000 | ||||||
Non-current liabilities |
16,015,000 | 11,873,000 | ||||||
Net assets |
361,387,000 | 382,962,000 | ||||||
Net income |
33,394,000 | 2,679,000 | ||||||
The net assets of Actoz as of December 31, 2005 and 2006 are reconciled to the Group’s
carrying amount of the investments in Actoz as at the same balance sheet dates as below:
| 2005 | 2006 | |||||||
Net assets of Actoz as of December 31 |
361,387,000 | 382,962,000 | ||||||
The Group’s approximate percentage ownership of the
investments in Actoz |
38 | % | 40.48 | % | ||||
Net assets of Actoz shared by the Group as of December 31 |
137,833,000 | 155,023,000 | ||||||
Add: Purchase price allocation |
190,442,000 | 174,250,000 | ||||||
| 328,275,000 | 329,273,000 | |||||||
The purchase price allocation includes identified intangible assets, deferred tax liabilities
arising from the acquisition and goodwill, netting off against the amortization of identified
intangible assets and deferred tax liabilities, and the recognition of an other-than-impairment
charge.
Shanda Modern Family Magazine
On November 2005, Shanda Networking entered into a joint venture agreement with Modern Family
Magazine, the parent company of Shanda Family. According to the agreement, Shanda Networking
contributed RMB 7.84 million in cash to Shanda Family in January 2006 in exchange for 49% of its
equity interest, and the investment was accounted for using equity method of accounting in 2006.
According to an option agreement signed on the same day, Shanda Networking is granted to purchase
additional 2% of its equity interest at a cost of RMB 320,000.
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Table of Contents
13. MARKETABLE SECURITIES
Marketable securities as of December 31, 2005 and 2006 comprised of:
| 2005 | ||||||||||||
| Cost | Unrealized gain | Fair value | ||||||||||
| RMB | RMB | RMB | ||||||||||
Mutual funds
|
18,102,028 | 546,681 | 18,648,709 | |||||||||
Listed securities |
||||||||||||
– SINA Corporation (“SINA”)
|
1,884,084,977 | 30,930,712 | 1,915,015,689 | |||||||||
– Others
|
9,350 | — | 9,350 | |||||||||
Total
|
1,902,196,355 | 31,477,393 | 1,933,673,748 | |||||||||
| 2006 | ||||||||||||
| Cost | Unrealized gain/(loss) | Fair value | ||||||||||
| RMB | RMB | RMB | ||||||||||
Mutual funds |
474,198,954 | (406,831 | ) | 473,792,123 | ||||||||
Listed
securities |
||||||||||||
– SINA Corporation
(“SINA”) |
1,171,010,202 | 200,155,184 | 1,371,165,386 | |||||||||
– Others |
8,670 | — | 8,670 | |||||||||
Total |
1,645,217,826 | 199,748,353 | 1,844,966,179 | |||||||||
Investment in SINA
During the year of 2004, the Group purchased shares in SINA, a NASDAQ listed online media
company and value-added information service provider for China and the global Chinese communities,
in the open market. A portion of the shares were disposed of in 2004 with realized gain of
approximately RMB40.6 million.
On February 18, 2005, the Company; Skyline, the holder of 60.4% of the outstanding ordinary
shares of the Company; Skyline Capital International Limited (“SCIL”), a British Virgin Islands
limited company and the sole shareholder of Skyline; Shanda Media Limited (“SML”), a British Virgin
Islands limited company and holder of 40% of the outstanding share capital of SCIL and Mr. Tianqiao
Chen (“Mr. Chen”), the sole shareholder of SML, made series of purchases of shares of SINA, an
online media company and value-added information service provider for China and the global Chinese
communities, listed on NASDAQ, in open market transactions.
Pursuant to an Agency Purchase Agreement the Company signed on February 14, 2005 with Skyline,
SCIL and SML (collectively referred as “Agents”), the Agents agreed to purchase the shares of SINA
respectively on behalf of the Company, and the Company agrees to purchase the shares held by the
Agents, after it has allocated appropriate funds, at a purchase price equal to the price paid by
the Agents for the acquisition of such shares less any past profits realized by the Agents from any
transactions of SINA shares made after August 31, 2004. In addition, each of the Agents has granted
to Shanda an irrevocable proxy with respect to the voting and disposition of any shares held by
them on behalf of the Company. The difference of US$5.6 million (equivalent to RMB46.0 million)
between the
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Table of Contents
market value of SINA’s shares of US$16.3 million (equivalent to RMB134.8 million) as of the
date of the Agency Purchase Agreement and the purchase price of US$10.7 million (equivalent to
RMB88.8 million) was recognized as capital contribution in 2005.
After
the series of acquisition of the shares in SINA, a NASDAQ listed online media company
and value-added information service provider for China and the global Chinese communities, in the
open market in 2004 and 2005, as at December 31, 2005, the Group held approximately 19.5% of the
issued and outstanding shares of SINA at an aggregate cost of approximately US$227.6 million,
equivalent to RMB1,884.1 million. The investment was recorded in marketable securities and carried
at fair market value with unrealized appreciation of approximately RMB30.9 million reported as a
component of accumulated other comprehensive gain in shareholders’ equity as at December 31, 2005.
In
November 2006, the Group sold approximately 3.7 million
shares in SINA under Rule 144,
with net proceeds of approximately US$99.1 million, or equivalent to approximately RMB779.9
million. Realized appreciation of approximately RMB23.6 million was transferred out from
accumulated other comprehensive gain in shareholders’ equity. The net gain from disposal of SINA’s
stake, amounting to US$8.6 million, or equivalent to approximately RMB66,900,000, was recorded as
investment income in the consolidated statement of operations and comprehensive income. As at
December 31, 2006, the Group still held approximately 11.4% of SINA’s stake, and the unrealized
appreciation of RMB200,155,184 was reported as a component of accumulated other comprehensive gain
in shareholders’ equity. Refer to Note 26 for further disposal of the shares in SINA subsequent to
December 31, 2006.
14. PROPERTY AND EQUIPMENT
Property and equipment and its related accumulated depreciation as of December 31, 2005 and 2006
are as follows:
| 2005 | 2006 | |||||||
| RMB | RMB | |||||||
Computer equipment |
274,359,255 | 307,643,212 | ||||||
Leasehold improvements |
27,000,475 | 24,317,563 | ||||||
Furniture and fixtures |
6,195,430 | 7,382,554 | ||||||
Motor vehicles |
8,610,393 | 8,688,045 | ||||||
Office buildings |
34,607,050 | 158,045,849 | ||||||
Less: Accumulated depreciation |
(92,420,151 | ) | (156,923,913 | ) | ||||
Net book value |
258,352,452 | 349,153,310 | ||||||
Land use right, associated with the purchase of office buildings, was recorded in
long-term prepayments.
Depreciation expense for the years ended December 31, 2004, 2005 and 2006 was approximately
RMB29,060,000, RMB46,672,000 and RMB72,149,000 respectively.
15. INTANGIBLE ASSETS
Intangible assets consist of upfront licensing fees paid to online game licensors, software
and copyrights, and intangible assets arising from business combinations. Gross carrying amount,
accumulated amortization and net book value of the Group’s intangible assets as of December 31,
2005 and 2006 are as follows:
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Table of Contents
| 2005 | 2006 | |||||||
| RMB | RMB | |||||||
Gross carrying amount: |
||||||||
Upfront licensing fee paid |
106,264,384 | 146,576,924 | ||||||
Software, copyrights and others |
81,436,559 | 96,008,630 | ||||||
Intangible assets arising from business combinations |
||||||||
- Software technology |
112,360,179 | 112,360,179 | ||||||
- Game engine |
14,898,060 | 14,898,060 | ||||||
- Non-compete arrangement |
2,626,000 | 2,626,000 | ||||||
- Customer base |
35,054,504 | 35,054,504 | ||||||
- Other |
5,332 | 636,148 | ||||||
| 352,645,018 | 408,160,445 | |||||||
Less: accumulated amortizations |
||||||||
Upfront licensing fee paid |
(60,345,243 | ) | (83,112,971 | ) | ||||
Software, copyrights and others |
(46,671,228 | ) | (71,379,241 | ) | ||||
Intangible assets arising from business combinations |
(33,313,775 | ) | (67,606,164 | ) | ||||
| (140,330,246 | ) | (222,098,376 | ) | |||||
Net book value |
212,314,772 | 186,062,069 | ||||||
Amortization expense for the years ended December 31, 2004, 2005 and 2006 amounted to
approximately RMB52,683,000, RMB 67,461,000 and RMB81,768,000, respectively.
The estimated aggregate amortization expense for each of the five succeeding fiscal years is
as follows:
| Amortization | ||||
| RMB | ||||
2007 |
63,874,418 | |||
2008 |
46,745,276 | |||
2009 |
26,293,940 | |||
2010 |
16,778,365 | |||
2011 |
314,488 | |||
| 154,006,487 | ||||
16. GOODWILL
The changes in the carrying amount of goodwill from significant acquisition are as follows:
| Haofang | Bianfeng | Gametea | Others | Total | ||||||||||||||||
| RMB’000 | RMB’000 | RMB’000 | RMB’000 | RMB’000 | RMB’000 | |||||||||||||||
Balance as of December 31, 2004 |
— | 106,170 | — | 27,789 | 133,959 | |||||||||||||||
Acquisitions |
97,296 | — | 17,387 | — | 114,683 | |||||||||||||||
Disposal of a subsidiary |
— | — | — | (4,193 | ) | (4,193 | ) | |||||||||||||
Others |
— | — | — | 643 | 643 | |||||||||||||||
Balance as of December 31, 2005 |
97,296 | 106,170 | 17,387 | 24,239 | 245,092 | |||||||||||||||
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Table of Contents
| Haofang | Bianfeng | Gametea | Others | Total | ||||||||||||||||
| RMB’000 | RMB’000 | RMB’000 | RMB’000 | RMB’000 | RMB’000 | |||||||||||||||
Acquisitions |
249,287 | — | — | — | 249,287 | |||||||||||||||
Others |
— | — | — | (815 | ) | (815 | ) | |||||||||||||
Balance as of December 31, 2006 |
346,583 | 106,170 | 17,387 | 23,424 | 493,564 | |||||||||||||||
In October 2006, the Company performed a goodwill impairment test at reporting unit level
relating to goodwill arising from its acquisition and concludes that there was no impairment as to
the carrying value of goodwill as of December 31, 2006.
17. CONVERTIBLE DEBT
In October 2004, the Company issued US$200 million in aggregate principal amount of Zero
Coupon Senior Convertible Notes due 2014 (“Convertible Notes” or “Notes”). The offering size was
increased to US$275 million when the underwriters exercised in full their option to purchase
additional notes. The Notes were issued at par and bears no interest. The Notes will be convertible
into ordinary shares of the Company, upon satisfaction of certain conditions, subject to
adjustments for certain events. The terms of the Notes are further described in Convertible Notes
Offering Memorandum dated October 15, 2004.
The notes will mature on October 15, 2014. The notes will not accrue interest unless specified
events of default under the registration rights agreement occur.
The notes may be converted at any time prior to maturity (unless earlier redeemed, repurchased
or exchanged) at the option of the holder into the consideration described below at the initial
conversion rate of 50.3816 ordinary shares per US$1,000 principal amount of notes, which is equal
to an initial conversion price of US$19.85 per ordinary share (or US$39.70 per ADS). The initial
conversion price is higher as compared to the market price of the Company’s ADS at the date of
issuance. In respect of each US$1,000 in principal amount of notes, the conversion consideration
will consist of (a) cash in an amount equal to the principal amount of each note, subject to
certain limitation; and (b) a number of the holder’s ordinary shares based on market value of the
five consecutive trading days beginning on the third trading day following the conversion date.
The Company will have the right to redeem the Notes in whole or in part, at any time or from
time to time, on or after October 15, 2007 at a redemption price equal to 100% of the principal
amount of the Notes to be redeemed, plus accrued and unpaid interest and liquidated damages, if
any, to the redemption date.
The holders have the right to require the Company to repurchase all or a portion of their
notes on October 15, 2007 at a repurchase price equal to 100% of the principal amount of Notes to
be repurchased, plus accrued and unpaid interest and liquidated damages, if any, to the repurchase
date. Accordingly, the convertible debt is classified as a current liability as at December 31,
2006.
The Company has filed its registration statement with U.S. Securities and Exchange Commission
under the Security Act of 1933 in Form F-3 on July 8, 2005 to cause the shelf registration
statement declared effective.
18. SERIES A AND A-1 CONVERTIBLE REDEEMABLE PREFERRED SHARES
In 2003, the Group issued certain convertible preferred shares to strategic investors. Such
preferred shares were converted on a 1:1 basis to ordinary shares upon the completion of the
Company’s initial public offering in May 2004.
F-36
Table of Contents
In February 2003, Shanda BVI entered into the Plan of Restructuring and Securities Purchase
Agreement (“February Purchase Agreement”), whereby the Company authorized 30,000,000 preferred
shares and issued 19,788,918 Series A Convertible Redeemable Preferred Shares (“Series A Preferred
Shares”) and 4,947,230 Series A-1 Convertible Redeemable Preferred Shares (“Series A-1 Preferred
Shares”) to an investor. The purchase closed in March 2003. The stated per share issuance prices of
the Series A Preferred Shares and Series A-1 Preferred Shares were US$1.5160 and US$0.6064,
respectively. The issuance of the Series A Preferred Shares and the Series A-1 Preferred Shares are
collectively referred to as the “February Issuance”.
As part of the February Issuance, the shareholders of Shanda BVI, namely Tianqiao Chen, Danian
Chen and Qianqian Luo (“Shanda BVI shareholders”), sold 4,947,230 ordinary shares to the investor
for total proceeds of US$3 million or US$0.6060 per share. Immediately following the sale of the
ordinary shares and pursuant to the February Purchase Agreement, Shanda BVI issued Series A-1
Convertible Preferred Shares to the investor in exchange for the ordinary shares purchased from
Shanda BVI shareholders on a 1:1 basis. The US$3 million (RMB 24.8 million) was recognized as a
deemed dividend to the ordinary shareholders.
The Series A Preferred Shares were convertible into ordinary shares on a 1:1 basis, subject to
Shanda BVI achieving certain performance goals in 2003. The Series A-1 Preferred Shares were
convertible into ordinary shares on a 1:1 basis, and such conversion ratio was not subject to any
contingent terms.
In addition, as part of the February Issuance, the preferred shareholder received a warrant to
purchase an additional 5,074,082 Series A Preferred Shares at an exercise price of $1.9708 per
share. Under the terms of the February Purchase Agreement, the warrant would have expired upon the
earlier of (i) March 4, 2007, (ii) the consummation of an initial public offering meeting minimum
conditions as to offering proceeds to the Group and market capitalization, or (iii) the redemption
of all of the issued and outstanding Series A and Series A-1 Preferred Shares. The estimated fair
value of the warrant was determined to be RMB 3.6 million using the Black-Scholes valuation method.
Total consideration paid by the investor for the February Issuance was US$33 million, which
was allocated between the estimated fair value of the warrant and the Series A and Series A-1
Preferred Shares.
In August 2003, Shanda BVI increased its authorized preferred shares to 30,060,100 and entered
into an additional securities purchase agreement (“August Purchase Agreement”) with the same
investor, whereby the investor acquired from Shanda BVI shareholders 5,323,952 ordinary shares for
US$7 million. Immediately following the sale of the ordinary shares and pursuant to the August
Purchase Agreement, Shanda BVI issued Series A Convertible Preferred Shares to the investor in
exchange for the ordinary shares purchased from Shanda BVI shareholders on a 1:1 basis. The US$7
million (RMB57.9 million) was recognized as a deemed dividend to the ordinary shareholders. The
subsequent issuance of Series A Preferred Shares is referred to as the “August Issuance”.
In addition to the US$7 million cash consideration, as part of the August Issuance, the
investor agreed to cancel the warrant issued in connection with the February Issuance and to waive
the right to adjust the conversion ratio of the Series A Preferred Shares.
All of the Series A Preferred Shares and the Series A-1 Preferred Shares issued are
collectively referred to as the “Preferred Shares” of the Company. While the Series A Preferred
Shares and the Series A-1 Preferred Shares are
F-37
Table of Contents
legally distinct securities, they have essentially the same features with the exception of
their stated issuance price. Accordingly, the Preferred Shares are presented in aggregate on the
Consolidated Balance Sheets and the related accretion charges are presented in aggregate on the
Consolidated Statements of Operations and Comprehensive Income.
The holders of the Preferred Shares were entitled to receive, when and as declared, a
cumulative dividend per share at a rate equal to the 6% of the Preferred Shares’ stated issuance
price of US$1.5160, US$1.3148 and US$0.6064 for the February Series A Preferred Shares, August
Series A Preferred Shares and the Series A-1 Preferred Shares, respectively, per annum, prior to
and in preference to the ordinary shareholders.
Each Preferred Share was convertible into one ordinary share at the option of the holders of
the Preferred Shares. Each Preferred Share automatically converted into one ordinary share, upon
the closing of the Company’s first qualified public offering. No beneficial conversion feature
charge was recognized in connection with the February Issuance as the estimated fair value of the
ordinary share was less than the effective conversion price of each class of preferred shares based
upon the allocation of the proceeds received on the commitment date. No beneficial conversion
feature charge was recognized for the August Issuance as the consideration surrendered by the
investor, including the cancellation of the warrants and the forfeiture of the right to adjust the
conversion ratio of the Series A Preferred Shares, was in excess of the estimated fair value of the
ordinary shares on the commitment date.
At any time on or after the fourth anniversary date on which Preferred Share was first
allotted and issued, the Company would have been required, at the election of the holders of the
Preferred Shares, to redeem all or part of the Preferred Shares. The redemption price was equal to
150% of the stated issuance price of US$1.5160, US$1.3148 and US$0.6064 for the February Series A
Preferred Shares, August Series A Preferred Shares and the Series A-1 Preferred Shares,
respectively. Accordingly, the carrying value of the respective series of Preferred Shares was
being accreted to their redemption value through charges to retained earnings based on the interest
method over a four-year period from the date of issuance. In November 2003, the preferred
shareholder forfeited its redemption rights for no consideration in anticipation of the public
offering of the Company’s ordinary shares. As a result, no accretion charge will be recognized for
any period after the date on which the redemption right was waived.
All the Series A and A-1 Preferred Shares of 30,060,100 shares were converted to ordinary
shares upon the completion of the company’s initial public offering as at May 12, 2004.
19. SHAREHOLDERS’ EQUITY
Upon incorporation, Shanda BVI issued 50,000 ordinary shares at a par value of US$1.00 per
share. In March 2003, Shanda BVI split its ordinary shares at a ratio of 1:100 resulting in
5,000,000 ordinary shares outstanding with a par value of US$0.01 per share. The share split has
been reflected as if it occurred upon incorporation of Shanda BVI. Subsequent to the share split
and prior to the Reorganization as described in Note 1, Shanda BVI issued an additional 95,000,000
ordinary shares at par value. In November 2003, a special dividend of RMB8,277,000 (US$1,000,000)
was distributed by the Company to its ordinary shareholders and the amount was immediately used to
settle the promissory notes, recorded as subscription receivables, owed by the ordinary
shareholders to Shanda BVI. Upon the Reorganization, paid in capital of the VIE subsidiaries
recognized as group equity was transferred to represent the Group’s additional paid-in capital.
During the year ended December 31, 2003, as a result of regulatory requirements, a dividend of
RMB10,625,000
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Table of Contents
was distributed to the equity owners and the amount, net of income taxes paid by Shanda BVI on
behalf of the equity owners, at an amount of RMB8,500,000 was immediately used to reinvest into
Shanda Networking.
On May 13, 2004, the Company completed an underwritten initial public offering of 13,854,487
American Depositary Shares (ADSs), consisting of 9,642,857 ADSs offered by the Company and
4,211,630 ADSs offered by its selling shareholders, which was priced at US$11 per ADS. Each ADS
represents two ordinary shares, and has par value of US$0.01 per share. Subsequent to the initial
public offering and on June 2, 2004, the Company held the closing for the over-allotment option in
connection with its initial public offering. At this closing, an additional 1,047,936 ADSs were
purchased from the Company and 457,698 ADSs were purchased from its selling shareholders. Total
proceeds, net of direct offering expenses, of approximately RMB875.5 million were received as a
result of the initial public offering and subsequent over-allotment.
20. REPURCHASE OF SHARES
In October 2004, the Company entered into a repurchase agreement with SB Asia Infrastructure
Fund L.P., or SAIF, and had used US$75 million, equivalent to RMB620.7 million, to purchase
5,326,250 ordinary shares (which was equal to 2,663,125 ADSs) from SAIF. The purchase price of
US$14.08 per share was lower than the then market price of the Company’s shares. After the
repurchase, those shares were retired. The excess of US$74.9 million of purchase price over par
value, equivalent to RMB620.3 million, was allocated between additional paid-in capital and
retained earnings of US$5.9 million and US$69.0 million, respectively (equivalent to RMB49.0
million and RMB571.3 million, respectively), based on the pro rata portion of additional paid-in
capital on the ordinary shares.
In October 2005, the Board of Directors approved a share repurchase plan, under which the
Company is authorized to repurchase up to US$50.0 million worth of outstanding ADSs from time to
time over the next 12 months. As of December 31, 2005, the Company used US$6.8 million, equivalent
to RMB54.9 million, to purchase 740,000 ordinary shares (which was equal to 370,000 ADSs) from the
open market. After the repurchase, those shares were retired. The excess of US$6.8 million of
purchase price over par value, equivalent to RMB54.8 million, was allocated between additional
paid-in capital and retained earnings of US$0.9million and US$5.9 million, respectively (equivalent
to RMB7.3 million and RMB47.5 million, respectively), based on the pro rata portion of additional
paid-in capital on the ordinary shares.
21. SHARE OPTION PLAN
2003 Share Incentive Plan
On March 31, 2003, Shanda BVI authorized a share option plan (the “2003 Share Incentive Plan”)
that provides for the issuance of options to purchase up to 13,309,880 ordinary shares. Under the
2003 Share Incentive Plan, the directors may, at their discretion, grant any officers (including
directors) and employees of Shanda BVI and/or its subsidiaries, and individual consultant or
advisor (i) options to subscribe for ordinary shares, (ii) share appreciation rights to receive
payment, in cash and/or the Company’s ordinary shares, equals to the excess of the fair market
value of the Company’s ordinary shares, or (iii) other types of compensation based on the
performance of the Company’s ordinary shares. On March 31, 2003, Shanda BVI granted options to
purchase 7,320,436 ordinary shares under the 2003 Share Incentive Plan at an exercise price of
US$1.5160 per share. On December 18, 2003, the Company granted additional options to purchase
1,537,367 ordinary shares to certain executive officers under the 2003 Share Incentive Plan at an
exercise price of US$1.5160. The options can be exercised within 10 years from the award date.
These
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awards vest over a three year period, with 25% of the options to vest immediately upon
granting, and an additional 25% to vest on each of the first, second and third anniversaries of the
award date as stipulated in the share option agreement. The exercise price for the share options
granted on December 18, 2003 was not determined based on the fair value of the Company’s ordinary
shares. Accordingly, compensation expense will be recognized over vesting terms of the options
based on the difference between the estimated fair value of the Company’s ordinary shares and the
exercise price of the options granted. The estimated fair value of the Company’s ordinary shares
was determined with reference to the Company’s expected initial public offering price. The total
share-based compensation expense of approximately RMB69,730,000 relating to the options granted on
December 18, 2003 will be recognized based on the vesting terms. Accordingly, share-based
compensation expense of approximately RMB28,828,000 and RMB13,698,000 were recognized in the
consolidated statements of operations and comprehensive income in 2004 and 2005, respectively.
Following the Share Swap, pursuant to the share purchase agreement, Shanda Interactive has
undertaken to assume all obligations for share options, whether vested or unvested, previously
granted by Shanda BVI subject to the same terms and conditions as the 2003 Share Incentive Plan as
adopted by Shanda BVI.
From January 1, 2004 through May 12, 2004, the Company has issued additional options, under
the 2003 Share Incentive Plan to purchase 4,170,853 ordinary shares, at an exercise price that was
equal to the price per ordinary share of US$5.50 in the Company’s initial public offering, to
certain officers of the Company. Of the total options granted, options to purchase 2,661,976
ordinary shares were vested over a four year period, with 40% of the options to vest on the first
anniversary of the date of grant, and an additional 20% to vest on each of the second, third and
fourth anniversaries of the date of grant. Options to purchase 215,000 ordinary shares were vested
over a three year period, with 25% of the options to vest immediately upon granting and an
additional 25% to vest on each of the first, second and third anniversaries of the date of grant.
The rest of options to purchase 1,293,877 ordinary shares will vest in four year installments on
the first, second, third and fourth anniversaries of the date of grant.
On July 26, 2004 and August 17, 2004, the Company has issued additional options under the 2003
Share Incentive Plan to purchase 87,650 ordinary shares, at an exercise price that was equal to the
market price per ordinary share at the date of grant, to certain officers of the Company.
During the year ended December 31, 2005, the Company issued additional options under the 2003
Share Incentive Plan to purchase 567,731 ordinary shares, at an exercise price that was equal to
the market price per ordinary share at the date of grant, to certain officers of the Company. These
awards will vest in four year installments on the first, second, third and fourth anniversaries of
the date of grant.
2005 Equity Compensation Plan
In October 2005, the Company authorized an equity compensation plan (the “2005 Equity
Compensation Plan”) that provides for the issuance of options to purchase up to 7,449,235 ordinary
shares, plus ordinary shares reserved for issuance, but not yet issued, under the Company’s 2003
Share Incentive Plan. Under the 2005 Equity Compensation Plan, the directors may, at their
discretion, grant any officers (including directors) and employees of the Company and/or its
subsidiaries, and individual consultant or advisor (i) options to subscribe for ordinary shares,
(ii) share appreciation rights to receive payment, in cash and/or the Company’s ordinary shares,
equals to the excess of the fair market value of the Company’s ordinary shares, or (iii) other
types of compensation based on the performance of the Company’s ordinary shares. On June 28, 2006,
the Company granted options under the 2005 Equity Compensation
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plan to purchase 3,000,000 ordinary shares of the Company to some of its directors and
officers and other employees at an exercise price equal to the average market value in the previous
three months. The options can be exercised within 10 years from the award date. These awards vest
over a four year period, with 25% of the options to vest on each of the first, second, third and
fourth anniversaries of the award date as stipulated in the share option agreement.
Activities of share options
The Company’s share option activities as of and for the years ended December 31, 2004, 2005
and 2006 are set out below:
| Weighted averaged | ||||||||||||||||
| Options | Weighted Average | remaining | Aggregate Intrinsic | |||||||||||||
| Outstanding | Exercise Price | contractual life | value | |||||||||||||
| US$ | US$ | |||||||||||||||
December 31, 2003 |
8,857,803 | 1.516 | ||||||||||||||
Granted |
4,258,503 | 5.57 | ||||||||||||||
Exercised |
(4,116,074 | ) | 1.55 | |||||||||||||
Forfeited |
(116,830 | ) | 3.51 | |||||||||||||
December 31, 2004 |
8,883,402 | 3.42 | ||||||||||||||
Granted |
567,731 | 15.63 | ||||||||||||||
Exercised |
(2,762,438 | ) | 2.70 | |||||||||||||
Forfeited |
(467,920 | ) | 5.33 | |||||||||||||
December 31,2005 |
6,220,775 | 4.71 | ||||||||||||||
Granted |
3,000,000 | 6.85 | ||||||||||||||
Exercised |
(1,226,082 | ) | 3.57 | |||||||||||||
Forfeited |
(406,671 | ) | 7.88 | |||||||||||||
Expired |
(20,785 | ) | 13.87 | |||||||||||||
December 31,2006 |
7,567,237 | 5.55 | 7.90 | 41,911,461 | ||||||||||||
Vested and expected
to vest as of
December 31,2006 |
6,545,264 | 5.33 | 7.69 | 37,808,285 | ||||||||||||
Vested and
exercisable as of
December 31,2006 |
2,907,096 | 3.18 | 6.58 | 22,719,984 | ||||||||||||
The aggregate intrinsic value is calculated as the difference between the market value of
US$10.84 as of December 31, 2006 and the exercise price of the shares. The total intrinsic value of
options exercised during the three years ended December 31, 2004, 2005 and 2006 was RMB 671.3
million, RMB 112.4 million and RMB 73.7 million.
The weighted average estimated fair value of options granted during fiscal years 2004, 2005 and
2006 was US$2.97, US$9.32, US$4.00 respectively. The total fair value of options vested during the
three years ended December 31, 2004, 2005 and 2006 was RMB 26.3 million, RMB 55.6 million and RMB
48.3 million.
As of December 31, 2006, there was RMB 88.0 million of unrecognized compensation cost, adjusted for
the estimated forfeitures, related to non-vested stock-based awards granted to the Company’s
employees. This cost is expected to be recognized over a weighted averaged period of 2.8 years.
Total compensation cost may be adjusted for future changes in estimated forfeitures. As of year
ended December 31, 2006, total cash received from the exercise of stock options amounted to RMB
23,576,841.
A summary of unvested stock option activity as of December 31, 2006, and changes during the year
ended December 31, 2006 is presented below:
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| Weighted Average | ||||||||
| Unvested Stock Option | Number of Options | Grant-date Fair Value US$ | ||||||
Unvested at January 1, 2006 |
5,055,922 | 2.80 | ||||||
Granted |
3,000,000 | 4.00 | ||||||
Vested |
(2,989,110 | ) | 1.95 | |||||
Forfeited |
(406,671 | ) | 3.94 | |||||
Unvested at December 31, 2006 |
4,660,141 | 4.02 | ||||||
Expected to vest at December 31, 2006 |
3,638,168 | 4.02 | ||||||
Information regarding the stock options outstanding at December 31, 2006 is summarized as
below:
| Options Outstanding at | Options Exercisable at | |||||||||||
| December 31, 2006 | December 31, 2006 | |||||||||||
| Weighted Average Remaining | ||||||||||||
| Exercise Prices US$ | Number Outstanding | Contractual Life (years) | Number Outstanding | |||||||||
1.516 |
1,967,966 | 6.25 | 1,967,966 | |||||||||
5.50 |
2,158,452 | 7.14 | 802,037 | |||||||||
6.85 |
3,000,000 | 9.50 | — | |||||||||
8.00 |
35,850 | 7.58 | 35,850 | |||||||||
15.33 |
163,078 | 8.07 | 40,770 | |||||||||
15.55 |
171,940 | 8.08 | 42,985 | |||||||||
14.89 |
40,295 | 8.13 | 10,074 | |||||||||
16.86 |
29,656 | 8.42 | 7,414 | |||||||||
| 7,567,237 | 2,907,096 | |||||||||||
22. EMPLOYEE BENEFITS
The full-time employees of the Company’s subsidiaries and VIE subsidiaries that are
incorporated in the PRC are entitled to staff welfare benefits, including medical care, welfare
subsidies, unemployment insurance and pension benefits. These companies are required to accrue for
these benefits based on certain percentages of the employees’ salaries in accordance with the
relevant regulations, and to make contributions to the state-sponsored pension and medical plans
out of the amounts accrued for medical and pension benefits. The total amounts charged to the
statements of operations and comprehensive income for such employee benefits amounted to
approximately RMB13,741,000, RMB24,234,000 and RMB 33,477,000 for the years ended December 31,
2004, 2005 and 2006, respectively. The PRC government is responsible for the medical benefits and
ultimate pension liability to these employees.
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23. RELATED PARTY TRANSACTIONS
During the years ended December 31, 2004, 2005 and 2006, significant related party
transactions were as follows:
| 2004 | 2005 | 2006 | ||||||||||
| RMB | RMB | RMB | ||||||||||
Online game licensing fees
paid to Actoz, an affiliated
company |
173,855,652 | 167,593,961 | 207,188,362 | |||||||||
Online game upfront
licensing fee paid to
Actoz |
— | 24,299,400 | 968,424 | |||||||||
Bad debt recognized for the
loan to a subsidiary of
Actoz |
— | — | 4,000,000 | |||||||||
Purchase of SINA shares from
related parties (Note
13) |
— | 88,797,021 | — | |||||||||
Purchase of game content
related merchandise from
minority shareholder of a
VIE subsidiary |
1,900,118 | 1,359,333 | — | |||||||||
Provision of advertising and
promotion services to an
affiliated
company |
4,900,000 | — | — | |||||||||
Technical service fees from
minority shareholders of VIE
subsidiaries |
1,100,000 | — | — | |||||||||
Total |
181,755,770 | 282,049,715 | 212,156,786 | |||||||||
As of December 31, 2005 and 2006, the Group had licensing fees payable to Actoz of
approximately RMB13,830,000 and RMB 46,090,000 respectively.
As of December 31, 2005 and 2006, the Group had amounts due to related parties of
approximately RMB3,040,000 and RMB3,044,000 respectively, mainly arising from purchase of game
related merchandise from certain minority shareholders of VIE subsidiaries.
All amounts due to related parties are unsecured, interest-free and have no definite terms.
24. CERTAIN RISKS AND CONCENTRATIONS
Financial instruments that potentially subject the Group to significant concentrations of
credit risk consist primarily of cash and cash equivalents, short-term investments, marketable
securities, accounts receivable, due from/to related parties and prepayments and other current
assets. As of December 31, 2005 and 2006 substantially all of the Group’s cash and cash
equivalents, short-term investments and marketable securities were held by major financial
institutions located in the PRC, in Hong Kong and in the Switzerland, which management believes are
of high credit quality.
No individual customer accounted for more than 10% of net revenues during the years ended
December 31, 2004, 2005 and 2006.
On July 21, 2005, the People’s Bank of China, or PBOC, announced an adjustment of the exchange
rate of the US dollar to RMB from 1:8.27 to 1:8.11 and modified the system by which the exchange
rates are determined. This adjustment has resulted in an appreciation of the RMB against the US
dollar. While the international reaction to the RMB revaluation has generally been positive, there
remains significant international pressure on the PRC government to adopt an even more flexible
currency policy, which could result in a further revaluation and a significant fluctuation of the
exchange rate of RMB against the US dollar.
25. COMMITMENTS AND CONTINGENCIES
Operating lease agreements
The Group has entered into leasing arrangements relating to office premises and computer
equipment that are classified as operating leases. Future minimum lease payments for non-cancelable
operating leases as of December, 31, 2006 are as follows:
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| Computer | ||||||||||||
| Office premise | equipment | Total | ||||||||||
| RMB | RMB | RMB | ||||||||||
2007 |
6,891,492 | 1,649,620 | 8,541,112 | |||||||||
2008 |
692,917 | 292,200 | 985,117 | |||||||||
2009 |
224,806 | — | 224,806 | |||||||||
2010 |
37,468 | — | 37,468 | |||||||||
2011 |
— | — | — | |||||||||
| 7,846,683 | 1,941,820 | 9,788,503 | ||||||||||
As of December 31, 2006, the Group had leased servers under operating lease arrangements
where the lease payments are calculated based on certain formulas, as specified in the agreements,
with reference to the actual number of users of the leased assets. The server leasing rental
expenses under these operating leases amounted to approximately RMB55,699,000, RMB43,909,000 and
RMB40,949,000 during the years ended December 31, 2004, 2005 and 2006, respectively. As the future
lease payments for these arrangements are based on the actual number of users and thus cannot be
reasonably estimated, they are not included in the minimum lease payments as disclosed above.
Total rental expenses including server leasing rental, office rental and server maintenance
were approximately RMB94,665,000, RMB115,975,000 and RMB129,781,000 during the years ended December
31, 2004, 2005 and 2006, respectively, and were charged to the statements of operations and
comprehensive income when incurred.
As of December 31, 2006, the Group also has commitments in respect of the maintenance
contracts in relation to the servers owned by the Group amounting to
RMB30,301,000 and RMB16,009,000 by the years ended December 31,
2007 and 2008 respectively.
Capital commitment
Capital commitments for purchase of land use right, property and equipment, and game license
as of December 31, 2006 were approximately RMB27,361,000.
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Contingencies
The Group accounts for loss contingencies in accordance with SFAS 5 “Accounting for Loss
Contingencies”, and other related guidance. Set forth below is a description of certain loss
contingencies as well as the opinion of management as to the likelihood of loss in respect of each
loss contingency.
| a. | PRC regulations currently limit foreign ownership of companies that provide Internet content services, which include operating online games, to 50%. In addition, foreigners or foreign invested enterprises are currently not able to apply for the required licenses for operating online games in the PRC. The Company is incorporated in the Cayman Islands and accordingly Shengqu is considered as a foreign invested enterprise under PRC law. In order to comply with foreign ownership restrictions, the Group operates its online games business in the PRC through Shanda Networking, which is wholly owned by Tianqiao Chen and Danian Chen, both of whom are PRC citizens. Shanda Networking holds the licenses and approvals that are required to operate the online games business and to sell online advertising on Shanda’s web pages and Shengqu owns the substantial majority of the physical assets required to operate the online games business. Shengqu has entered into a series of contractual arrangements with Shanda Networking, Nanjing Shanda and Bianfeng Networking, pursuant to which Shengqu provides Shanda Networking, Nanjing Shanda and Bianfeng Networking with services, software licenses and equipment in exchange for fees, and Shengqu undertakes to provide financial support to Shanda Networking, Nanjing Shanda and Bianfeng Networking to the extent necessary for their operations. In addition, Shengqu has entered into agreements with Shanda Networking and its shareholders that provide it with the substantial ability to control Shanda Networking. In the opinion of management and the Company’s PRC legal counsel, (i) the ownership structure of the Company, Shengqu and Shanda Networking are in compliance with existing PRC laws and regulations; (ii) the contractual arrangements with Shanda Networking and its shareholders are valid and binding, and will not result in any violation of PRC laws or regulations currently in effect; and (iii) the Group’s business operations are in compliance with existing PRC laws and regulations in all material respects. However, there are substantial uncertainties regarding the interpretation and application of current and future PRC laws and regulations. Accordingly, the Company cannot be assured that PRC regulatory authorities will not ultimately take a contrary view to its opinion. If the current ownership structure of the Group and its contractual arrangements with Shanda Networking were found to be in violation of any existing or future PRC laws and regulations, the Group may be required to restructure its ownership structure and operations in the PRC to comply with the changing and new PRC laws and regulations. In the opinion of management, the likelihood of loss in respect of the Group’s current ownership structure or the contractual arrangements with Shanda Networking is remote. | ||
| b. | On October 8, 2003, Wemade Entertainment Co., Ltd., (“Wemade”) and Actoz, the developers of the Group’s online game — “The Legend of Mir II”, or Mir II, filed claims against the Group in the Beijing First Intermediate People’s Court (the “Beijing Court”) with respect to the Group’s development and operation of an online game — “Woool”. Wemade and Actoz alleged, among other things, that Woool which was developed by the Group internally copied certain elements of games owned by the developers, thereby infringing upon the copyrights of these games. In addition, Wemade and Actoz alleged that the operation of Woool violates the PRC Anti-Unfair Competition Law. Wemade and Actoz requested that the Beijing Court order the Group to stop operation of Woool and to pay to them legal fees and related costs incurred in connection with this litigation. Wemade and Actoz did not made any claim for damages against the Group. |
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| On February 5, 2007, the Group entered into an agreement with Wemade and Actoz, to fully settle copyright infringement and unfair competition claims brought them in 2003 with respect to Shanda’s development and operation of Woool. Under the terms of the settlement, Wemade and Actoz agree to recognize the Group’s copyright for Woool. In addition, the Group agrees to recognize Wemade and Actoz’s jointly-owned copyright of Mir II, the online game which they license to the Group to exclusively operate in mainland China and Hong Kong. |
| c. | On April 25, 2006, China Cyber Port Co., Ltd. (“China Cyber Port”) filed a lawsuit against Shanghai Haofang Online Technology Co. Ltd. (“Shanghai Haofang”) in the Shanghai No.1 Intermediate People’s Court (the “Shanghai Court”) with respect to a dispute regarding the alleged copyright infringement of the certain Internet games exclusively distributed by China Cyber Port in the PRC. China Cyber Port has requested that the Shanghai Court order Shanghai Haofang to stop infringing the copyright of the games and to pay China Cyber Port the damage, legal fees and related costs incurred in connection with this litigation. The Shanghai Court accepted the case, and Shanghai Haofang received the Notice of Litigation on, April 27, 2006. On February 2, 2007, Shanghai First Intermediate People’s Court held a hearing on the Haofang case. As of the report date, the case is still pending for the final judgment. | ||
| In the opinion of management, it is reasonably possible that the Group could incur a loss with respect to this litigation, whether through reaching a final judgment on the merits or through settlement. However, as of the date of the report, it is not possible to estimate the range of such loss, if any. Accordingly, no provision has been made as of December 31, 2006. |
26. SUBSEQUENT EVENTS
Except as disclosed in Note 25, the Group had the following significant events occurred
subsequent to December 31, 2006:
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Beginning January 1, 2007, the functional currency of Shanda Interactive Entertainment
Limited (“Shanda Interactive”), the Group's parent company incorporated in the Cayman
Islands, was changed from Renminbi to US dollars due to the changes in the economic
facts and circumstances of Shanda Interactive, including the implementation of its
international game licensing operation. Accordingly, exchange gains and losses from the
remeasurement of Shanda Interactive’s assets and liabilities into Renminbi are no longer
recorded in the statement of operations instead they are treated as a translation adjustment
under the shareholders’ equity.
On February 2, 2007, the Group entered into an exclusive licence agreement with Wemade
Entertainment, Co., Ltd. (“Wemade”), to operate the MMORPG game, Changchun Online in mainland
China. The up-front licence fee payable to Wemade in respect of the initial five year term of the
agreement was US$20 million. Additional amounts may be payable if certain performance targets are
met.
On February 2, 2007, the Group entered into an agreement with Wemade and Actoz to fully settle the
copyright infringement and unfair competition case before the Beijing Court. Under the terms of
this settlement, Wemade and Actoz agreed to recognize the Company’s copyright for World of Legends
and the Company agreed to recognize Wemade and Actoz’s joint ownership over the copyright of Mir
II. In addition, no additional costs would be required to be incurred by any of the three parties
and each party would bear its own legal costs in connection with the
case.
On February 2, 2007, Actoz entered into an agreement with Wemade for the sale of its 40% equity
interest in Wemade back to Wemade for a total consideration of US$20 million. The resulting net
gain recorded by Actoz was approximately US$6.5 million. However, a net loss on disposal of
approximately US$0.8 million was recorded by the Group due to the higher carrying value of the
Group’s associated investment in Wemade.
On March 9, 2007, our Board of Directors approved a share repurchase program that took effect on
that date. Under the program, the Group is authorized to repurchase up to US$50 million worth of
outstanding American Depositary Shares, or ADSs, representing our ordinary shares from time to time
over the following 12 month period, depending on market conditions, share price and other factors,
subject to the relevant rules under the United States’ securities regulations. The share
repurchases may be made on the open market, in block trades or otherwise and may include derivative
transactions. The program may be suspended or discontinued at any time. As of March 31, 2007, the
Group has repurchased 1,476,550 ordinary shares (which was equal to 738,275 ADSs) from the open
market at a cost of approximately US$ 16.0 million (RMB
124.9 million).
A new taxation law was enacted on March 16, 2007 by the National People’s Congress (China’s top
legislature) representing a comprehensive overhaul of the Chinese taxation system effective from 1
January 2008. The key impact of the new taxation law would be a change in the Chinese corporate tax
rate to 25%. However, at this point it is unclear as to how tax rates would be increased to 25%
over the 5 year implementation period commencing 2009. The Group has made a preliminary assessment in relation to the potential impact on
adoption of the new Chinese taxation law taking into account currently available information in
relation to the new taxation legislation in China and believes that
the impact of adoption of the new Chinese Taxation Law on the
Group’s deferred tax balance as of December 31, 2006 would
not be significant.
On April 24, 2007, the Group granted options to certain of our executives and other employees under
the 2005 option plan to purchase 655,000 of our ordinary shares. The key terms and conditions of
these options are largely similar to those issued in the
2006 year.
On June 6, 2007, based on a consideration of the evidence presented by the parties, the Shanghai
First Intermediate People’s Court dismissed the claim filed by China Cyberport Co., Ltd. against
Haofang. China Cyberport Co., Ltd. has since appealed against the ruling handed down. The Group
considers the likelihood of China Cyberport Co., Ltd. being able to launch a successful appeal to
not be high.
Subsequent to the end of the 2006 financial year, the Group has disposed of all its remaining
shareholding in SINA Corporation (“SINA”) in three separate transactions. On February 8, 2007, the
Group sold 4,000,000 shares of SINA in accordance with Rule 144 of the Securities Act 1933, as
amended, with net proceeds of approximately US$129.6 million (RMB1.0 billion). On May 11, 2007 and
May 15, 2007, the Group sold 1,066,344 and 1,051,934 shares of SINA in the open market, for
approximately US$38.1 million (RMB297.5 million) and US$38.4 million (RMB299.9 million),
respectively.
During the period from January 1, 2007 to June 22, 2007, the Group acquired additional Actoz shares
from on market transactions. Consequently, the total equity interest in Actoz has been increased to
approximately 49.48% as of June 22, 2007.
27. RESTRICTED NET ASSETS
Relevant PRC laws and regulations permit PRC companies to pay dividends only out of their
retained earnings, if any, as determined in accordance with PRC accounting standards and
regulations., Additionally, the Company’s VIE subsidiaries can only distribute dividends upon
approval of the shareholders after they have met the PRC requirements for appropriation to
statutory reserve. The statutory general reserve fund requires annual appropriations of 10% of net
after-tax income should be set aside prior to payment of any dividends. As a result of these and
other restrictions under PRC laws and regulations, the PRC subsidiaries and affiliates are
restricted in their ability to transfer a portion of their net assets to the Company either in the
form of dividends, loans or advances, which restricted portion amounted to approximately RMB1,588.6
million, or 65.7% of the Company total consolidated net assets as of December 31, 2006. Even though
the Company currently does not require any such dividends, loans or advances from the PRC
subsidiaries and affiliates for working capital and other funding purposes, the Company may in the
future require additional cash resources from our PRC subsidiaries and affiliates due to changes in
business conditions, to fund future acquisitions and developments, or merely declare and pay
dividends to or distributions to the Company shareholders. See “Financial Statement Schedule I”.
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Table of Contents
ADDITIONAL INFORMATION – FINANCIAL STATEMENT SCHEDULE I
SHANDA INTERACTIVE ENTERTAINMENT LIMITED
CONDENSED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME
SHANDA INTERACTIVE ENTERTAINMENT LIMITED
CONDENSED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME
| For the years ended December 31 | ||||||||||||||||||||
| Note | 2004 | 2005 | 2006 | 2006 | ||||||||||||||||
| RMB | RMB | RMB | US$ | |||||||||||||||||
| (Note 3) | ||||||||||||||||||||
Net revenues |
— | — | — | — | ||||||||||||||||
Cost of services |
— | — | — | — | ||||||||||||||||
Gross profit |
— | — | — | — | ||||||||||||||||
Total operating expenses |
(37,565,204 | ) | (50,557,257 | ) | (54,831,727 | ) | (7,021,877 | ) | ||||||||||||
Loss from operations |
(37,565,204 | ) | (50,557,257 | ) | (54,831,727 | ) | (7,021,877 | ) | ||||||||||||
Interest
income |
11,877,054 | 9,244,779 | 3,314,699 | 424,488 | ||||||||||||||||
Amortization of convertible debt issuance cost |
(3,523,935 | ) | (18,492,523 | ) | (17,490,851 | ) | (2,239,918 | ) | ||||||||||||
Foreign exchange gain |
— | 63,337,152 | 77,935,174 | 9,980,557 | ||||||||||||||||
Other income, net |
— | — | (2,045,978 | ) | (262,013 | ) | ||||||||||||||
Investment income |
40,579,577 | 596,100 | 71,469,808 | 9,152,587 | ||||||||||||||||
Income before income tax expense and equity in
profit of subsidiaries and equity in loss of
affiliated companies |
11,367,492 | 4,128,251 | 78,351,125 | 10,033,824 | ||||||||||||||||
Income tax expense |
— | — | — | — | ||||||||||||||||
Equity in profit of subsidiaries |
1 | 598,115,396 | 709,579,577 | 474,357,914 | 60,747,361 | |||||||||||||||
Equity in loss of affiliated companies |
— | (548,425,019 | ) | (23,499,161 | ) | (3,009,356 | ) | |||||||||||||
Net income |
609,482,888 | 165,282,809 | 529,209,878 | 67,771,829 | ||||||||||||||||
Accretion for Series A and Series A-1 Preferred
Shares |
— | — | — | — | ||||||||||||||||
Income attributable to Series A and Series A-1
Preferred Shareholders |
(82,478,882 | ) | — | — | — | |||||||||||||||
Net income attributable to ordinary shareholders |
527,004,006 | 165,282,809 | 529,209,878 | 67,771,829 | ||||||||||||||||
F-48
Table of Contents
ADDITIONAL INFORMATION – FINANCIAL STATEMENT SCHEDULE I
SHANDA INTERACTIVE ENTERTAINMENT LIMITED
CONDENSED BALANC SHEETS
SHANDA INTERACTIVE ENTERTAINMENT LIMITED
CONDENSED BALANC SHEETS
| 2005 | 2006 | 2006 | ||||||||||
| RMB | RMB | US$ | ||||||||||
| (Note 3) | ||||||||||||
ASSETS |
||||||||||||
Current assets: |
||||||||||||
Cash and cash equivalents |
59,405,976 | 443,160,574 | 56,752,158 | |||||||||
Restricted cash |
150,778,672 | — | — | |||||||||
Marketable securities |
1,871,632,968 | 1,784,683,557 | 228,550,662 | |||||||||
Prepayments and other current assets |
2,480,414 | 25,884,420 | 3,314,818 | |||||||||
Total current assets |
2,084,298,030 | 2,253,728,551 | 288,617,638 | |||||||||
Investment in subsidiaries |
1,820,041,365 | 2,181,687,152 | 279,391,852 | |||||||||
Investment in affiliate
companies |
328,274,788 | 329,273,333 | 42,167,497 | |||||||||
Other long-term assets |
30,248,354 | — | — | |||||||||
Total assets |
4,262,862,537 | 4,764,689,036 | 610,176,987 | |||||||||
LIABILITIES |
||||||||||||
Current liabilities: |
||||||||||||
Due to subsidiaries |
239,486,587 | 191,730,333 | 24,553,425 | |||||||||
Acquisition related
obligation |
148,027,677 | — | — | |||||||||
Other payable and accruals |
18,184,663 | 8,171,943 | 1,046,517 | |||||||||
Convertible debt redeemable within one year |
— | 2,147,392,500 | 275,000,000 | |||||||||
Convertible debt |
2,219,305,000 | — | — | |||||||||
Total liabilities |
2,625,003,927 | 2,347,294,776 | 300,599,942 | |||||||||
Shareholders’ equity |
||||||||||||
Ordinary shares (US$0.01 par value,
186,000,000 shares authorized,
141,982,766 issued and outstanding as of
December 31, 2005, and 143,208,848 issued
and outstanding as of December 31,
2006) |
11,751,186 | 11,848,995 | 1,517,409 | |||||||||
Additional paid-in capital |
1,397,092,348 | 1,468,824,697 | 188,101,054 | |||||||||
Deferred share-based compensation |
(3,595,349 | ) | — | — | ||||||||
Accumulated other comprehensive gain |
30,181,706 | 205,081,971 | 26,263,267 | |||||||||
Retained earnings |
202,428,719 | 731,638,597 | 93,695,314 | |||||||||
Total shareholders’ equity |
1,637,858,610 | 2,417,394,260 | 309,577,044 | |||||||||
Total liabilities and shareholders’ equity |
4,262,862,537 | 4,764,689,036 | 610,176,986 | |||||||||
F-49
Table of Contents
ADDITIONAL
INFORMATION – FINANCIAL STATEMENT SCHEDULE
SHANDA
INTERACTIVE ENTERTAINMENT LIMITED
CONDENSED CASH FLOW STATEMENT
| For the years ended December 31 | ||||||||||||||||
| 2004 | 2005 | 2006 | 2006 | |||||||||||||
| RMB | RMB | RMB | US$ | |||||||||||||
| (Note 3) | ||||||||||||||||
Net cash provided by (used in) operating activities |
3,790,095 | (5,561,372 | ) | (7,473,144 | ) | (957,028 | ) | |||||||||
Net cash used in investing activities |
(236,896,202 | ) | (2,172,229,862 | ) | 5,902,772 | 755,922 | ||||||||||
Net cash provided by financing activities |
2,329,668,302 | 17,655,453 | 392,029,424 | 50,204,186 | ||||||||||||
Effect of foreign exchange rate changes on cash |
— | (4,446,227 | ) | (6,704,454 | ) | (858,588 | ) | |||||||||
Net increase (decrease) in cash |
2,096,562,195 | (2,164,582,008 | ) | 383,754,598 | 49,144,492 | |||||||||||
Cash, beginning of year |
127,425,789 | 2,223,987,984 | 59,405,976 | 7,607,666 | ||||||||||||
Cash, end of year |
2,223,987,984 | 59,405,976 | 443,160,574 | 56,752,158 | ||||||||||||
F-50
Table of Contents
ADDITIONAL INFORMATION – FINANCIAL STATEMENT SCHEDULE I
SHANDA INTERACTIVE ENTERTAINMENT LIMITED
NOTES TO THE CONDENSED FINANCIAL STATEMENTS
(AMOUNTS EXPRESSED IN Renminbi (RMB) UNLESS OTHERWISE STATED)
(AMOUNTS EXPRESSED IN Renminbi (RMB) UNLESS OTHERWISE STATED)
1. BASIS OF PRESENTATION
The condensed financial statements of Shanda Interactive Entertainment Limited (the “Company”)
have been prepared in accordance with accounting principles generally accepted in the United States
of America except for accounting of the Company’s subsidiaries and certain footnote disclosures as
described below.
Shanda Holding Limited, formerly known as Spirit High Ventures Ltd., was incorporated in
British Virgin Islands as a limited liability company on July 2, 2002. Shanda Interactive
Entertainment Limited was incorporated in Cayman Islands on November 17, 2003 and became the
holding company through a share purchase agreement in December 2003. Shanda Holding Limited was
considered the predecessor of the Company. The Company is generally a holding company of certain
subsidiaries and variable interest entities (collectively “subsidiaries”).
The Company records its investment in subsidiaries under the equity method of accounting as
prescribed in APB Opinion No. 18, “The Equity Method of Accounting for Investments in Common
Stock”. Such investment is presented on the balance sheet as “Investment in subsidiaries” and the
subsidiaries’ profit or loss are recognized based on the effective shareholding percentage as
“Equity in profit of subsidiary companies” on the statement of operations and comprehensive income.
The beginning retained earnings for the periods presented include equity in earnings of all
subsidiaries from their respective date of incorporation or date of purchase, as the case maybe.
Certain information and footnote disclosures normally included in financial statements
prepared in accordance with accounting principles generally accepted in the United States have been
condensed or omitted. The footnote disclosures contain supplemental information relating to the
operations of the Company and, as such, these statements should be read in conjunction with the
notes to the consolidated financial statements of the Company.
Operating expenses for the Company for the years ended December 31, 2004, 2005 and 2006
include share-based compensation expense as a result of the options granted to employees in
December 2003. Total share-based compensation expense for the years ended December 31, 2004, 2005
and 2006 was approximately RMB28,828,000, RMB13,698,000 and RMB40,017,000, respectively.
2. COMMITMENTS
The Company has long term obligations arising from the issuance of Zero Coupon Senior
Convertible Notes due 2014 in October 2004 (See Note 17 of the notes to the consolidated financial
statements). There are no other long-term obligations or significant commitments.
F-51
Table of Contents
3. FOREIGN CURRENCIES
The unaudited United States dollar (“US$”) amounts disclosed in the financial statement are
presented solely for the convenience of the readers. Translations of amounts from RMB into United
States dollars for the convenience of the reader were calculated at the noon buying rate of US$1.00
= RMB7.8087 on December 31, 2006 in The City of New York for cable transfers of RMB as certified
for customs purposes by the Federal Reserve Bank of New York. No representation is made that the
RMB amounts could have been, or could be, converted into US$ at that rate on December 31, 2006, or
at any other certain rate.
F-52
Table of Contents
ACTOZ SOFT CO., LTD.
BALANCE SHEETS
DECEMBER 31, 2006 and 2005
BALANCE SHEETS
DECEMBER 31, 2006 and 2005
| Thousands of Korean won | ||||||||
| 2006 | 2005 | |||||||
ASSETS |
||||||||
CURRENT ASSETS : |
||||||||
Cash and cash equivalents(Notes 2 and 3) |
642,460 | 801,378 | ||||||
Short-term financial instruments(Notes 2 and 3) |
17,000,000 | 22,000,000 | ||||||
Accounts receivable — trade, net of allowance for
doubtful accounts of |
6,479,382 | 2,634,880 | ||||||
Accounts receivable — other, net of allowance for
doubtful accounts of |
299 | 12,270 | ||||||
Short-term loans, net of allowance for doubtful
accounts of |
7,650 | 89,850 | ||||||
Prepayments |
135,649 | 322,791 | ||||||
Prepaid value added taxes |
517,468 | 315,589 | ||||||
Prepaid expenses |
1,387,715 | 2,249,520 | ||||||
Short-term deferred income tax assets(Notes 2 and 15) |
348,625 | 463,276 | ||||||
Accrued income and other current assets |
309,938 | 213,772 | ||||||
Total Current Assets |
26,829,186 | 29,103,326 | ||||||
NON-CURRENT ASSETS : |
||||||||
Marketable securities(Notes 2 and 4) |
463,011 | 713,011 | ||||||
Investment securities(Notes 2 and 5) |
12,404,545 | 12,116,354 | ||||||
Rental deposits |
8,106,356 | 4,914,800 | ||||||
Deferred income tax asset(Notes 2 and 15) |
5,954,297 | 3,505,273 | ||||||
Other investments |
975,047 | |||||||
Property and equipment, net(Notes 2, 6 and 9) |
709,724 | 872,841 | ||||||
Intangible assets(Notes 2 and 7) |
7,743,636 | 6,999,713 | ||||||
Total Non-Current Assets |
35,381,569 | 30,097,039 | ||||||
TOTAL ASSETS |
62,210,755 | 59,200,365 | ||||||
(Continued)
F-53
Table of Contents
ACTOZ SOFT CO., LTD.
BALANCE SHEETS (CONTINUED)
DECEMBER 31, 2006 and 2005
BALANCE SHEETS (CONTINUED)
DECEMBER 31, 2006 and 2005
| Thousands of Korean won | ||||||||
| 2006 | 2005 | |||||||
LIABILITIES AND SHAREHOLDERS’ EQUITY |
||||||||
CURRENT LIABILITIES : |
||||||||
Accrued expenses(Notes 8 and 10) |
6,263,920 | 3,386,721 | ||||||
Income taxes payable |
— | |||||||
Withholdings |
118,670 | 80,801 | ||||||
Advance receipts |
2,074,897 | 3,376,093 | ||||||
Total Current Liabilities |
8,457,487 | 6,843,615 | ||||||
LONG-TERM LIABILITIES : |
— | — | ||||||
Total Liabilities |
8,457,487 | 6,843,615 | ||||||
COMMITMENTS AND CONTINGENCIES(Note 20) |
||||||||
SHAREHOLDERS’ EQUITY : |
||||||||
Common stock, par value |
||||||||
Authorized: 50,000,000 shares
Issued: 8,914,500 shares |
4,457,250 | 4,457,250 | ||||||
Capital surplus(Note 11): |
||||||||
Paid-in capital in excess of par |
19,169,186 | 19,169,186 | ||||||
Retained earnings(Note 12)
|
||||||||
Reserve for business rationalization(Note 12) |
170,000 | 170,000 | ||||||
Reserve for technology development(Note 12) |
— | — | ||||||
Change in retained earnings of valuation(Note 12) |
(503,558 | ) | (166,285 | ) | ||||
Unappropriated retained earnings |
29,301,883 | 27,648,409 | ||||||
Capital adjustments(Note 13) |
1,158,507 | 1,078,190 | ||||||
Total Shareholders’ Equity |
53,753,268 | 52,356,750 | ||||||
TOTAL LIABILITIES AND SHAREHOLDERS’ EQUITY |
62,210,755 | 59,200,365 | ||||||
See accompanying Notes to Financial Statements.
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Table of Contents
ACTOZ SOFT CO., LTD.
STATEMENTS OF INCOME
YEARS ENDED DECEMBER 31, 2006 AND 2005
STATEMENTS OF INCOME
YEARS ENDED DECEMBER 31, 2006 AND 2005
| Thousands of Korean won | ||||||||
| 2006 | 2005 | |||||||
Sales(Noote 8) |
29,838,521 | 29,168,255 | ||||||
Cost of sales(Note 8) |
(19,726,866 | ) | (19,843,130 | ) | ||||
Gross profit |
10,111,655 | 9,325,125 | ||||||
Selling and administrative expenses(Note 14) |
(14,070,837 | ) | (6,816,010 | ) | ||||
Operating income |
(3,959,182 | ) | 2,509,115 | |||||
Other income(expenses): |
||||||||
Interest income |
884,627 | 817,055 | ||||||
Gain on disposal of investment securities |
197,782 | 360,431 | ||||||
Reversal of allowance for doubtful accounts |
12,101 | 180,393 | ||||||
Reversal of Stock option cost |
169,768 | |||||||
Refund of income taxes(Note 15) |
— | 116,475 | ||||||
Gain on foreign exchange transactions and translation, net |
— | 62,143 | ||||||
Loss on foreign exchange transactions and translation, net |
(99,650 | ) | — | |||||
Equity in earnings of investees, net(Note 5) |
148,766 | — | ||||||
Equity in losses of investees, net(Note5) |
— | (1,683,890 | ) | |||||
Gain on disposal of property and equipments |
326 | — | ||||||
Loss on disposal of property and equipments |
— | (568,332 | ) | |||||
Loss on disposal of investments |
(2,727 | ) | — | |||||
Impairment loss on investments |
— | (103,011 | ) | |||||
Impairment loss on intangible assets |
— | — | ||||||
Other bad debt |
— | (102,411 | ) | |||||
Contribution(Note 18) |
(64,938 | ) | (30,000 | ) | ||||
Other, net |
86,228 | 438,256 | ||||||
| 1,332,283 | (512,891 | ) | ||||||
Income before income taxes |
(2,626,899 | ) | 1,996,224 | |||||
Extraordinery Gain/Loss(Note 21) |
3,792,826 | — | ||||||
Income tax expenses (benefits) (Note 15) |
(150,274 | ) | (166,729 | ) | ||||
Net income(Note 16) |
1,316,201 | 2,162,953 | ||||||
Net income per share in Korean won(Note 16) |
148 | 243 | ||||||
See accompanying Notes to Financial Statements.
F-55
Table of Contents
ACTOZ SOFT CO., LTD.
STATEMENTS OF APPROPRIATIONS OF RETAINED EARNINGS
YEARS ENDED DECEMBER 31, 2006 AND 2005
STATEMENTS OF APPROPRIATIONS OF RETAINED EARNINGS
YEARS ENDED DECEMBER 31, 2006 AND 2005
| Thousands of Korean won | ||||||||
| 2006 | 2005 | |||||||
RETAINED EARNINGS BEFORE APPROPRIATIONS |
||||||||
Unappropriated retained earnings carried over
from prior year |
27,648,409 | 25,485,456 | ||||||
Prior period adjustments |
— | — | ||||||
Net income for the year |
1,316,201 | 2,162,953 | ||||||
| 28,964,610 | 27,648,409 | |||||||
TRANSFER OF VOLUNTARY RESERVES |
||||||||
Reserve for technology development(Note 12) |
— | — | ||||||
| 28,964,610 | 27,648,409 | |||||||
UNAPPROPRIATED RETAINED EARNINGS
TO BE CARRIED FORWARD TO
NEXT YEAR |
28,964,610 | 27,648,409 | ||||||
See accompanying Notes to Financial Statements.
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Table of Contents
ACTOZ SOFT CO., LTD.
STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31, 2006 AND 2005
STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31, 2006 AND 2005
| Thousands of Korean won | ||||||||
| 2006 | 2005 | |||||||
CASH FLOWS FROM OPERATING ACTIVITIES |
||||||||
Net income |
1,316,201 | 2,162,953 | ||||||
Addition of expenses not involving cash outflows : |
||||||||
Depreciation |
698,612 | 411,656 | ||||||
Amortization of intangible assets |
1,443,067 | 542,592 | ||||||
Loss on disposal of property and equipment |
568,332 | |||||||
Stock compensation |
239,745 | 169,768 | ||||||
Other bad debts |
102,411 | |||||||
Loss on disposal of investment |
2,727 | |||||||
Loss on Impairment of investment |
103,011 | |||||||
Loss on impairment of intangible assets |
— | |||||||
Equity in losses of investees |
115,561 | 2,351,917 | ||||||
| 2,499,712 | 4,249,687 | |||||||
Deduction of revenues not involving cash inflows : |
||||||||
Reversal of allowance for doubtful accounts |
(2,000 | ) | (3,400 | ) | ||||
Gain on disposal of investment securities |
(197,782 | ) | (360,431 | ) | ||||
Gain on disposal of Property & Equipments |
(326 | ) | ||||||
Reversal of Stock option cost |
(169,768 | ) | ||||||
Retrun of shorterm insider trading gain |
(3,792,826 | ) | ||||||
Equity in earnings of investees |
(264,327 | ) | (668,026 | ) | ||||
| (4,427,029 | ) | (1,031,857 | ) | |||||
Changes in assets and liabilities resulting from operations: |
||||||||
Decrease(increase) in accounts receivable-trade |
(3,844,502 | ) | 5,419,839 | |||||
Decrease(increase) in prepayments |
187,142 | (98,765 | ) | |||||
Decrease(increase) in prepaid value added taxes |
(201,879 | ) | 181,827 | |||||
Decrease(increase) in accrued income and other current assets |
(96,166 | ) | (122,164 | ) | ||||
Decrease in prepaid income taxes |
— | — | ||||||
Decrease(increase) in prepaid expenses |
861,804 | (2,246,375 | ) | |||||
Decrease(increase) in deferred income tax asset |
(2,334,373 | ) | (6,357,354 | ) | ||||
Increase in withholdings |
37,869 | 9,572 | ||||||
Increase(decrease) in accrued expenses |
2,877,199 | (3,371,935 | ) | |||||
Increase in income taxes payable |
— | (182,442 | ) | |||||
Increase(decrease) in advance receipts |
(1,301,195 | ) | 3,347,809 | |||||
Decrease in deferred income tax liability |
— | 2,438,755 | ||||||
| (3,814,101 | ) | (981,233 | ) | |||||
Net cash provided by(used in) operating activities |
( |
4,425,217 | ) | 4,399,550 | ||||
(Continued)
F-57
Table of Contents
ACTOZ SOFT CO., LTD.
STATEMENTS OF CASH FLOWS(CONTINUED)
YEARS ENDED DECEMBER 31, 2006 AND 2005
STATEMENTS OF CASH FLOWS(CONTINUED)
YEARS ENDED DECEMBER 31, 2006 AND 2005
| Thousands of Korean won | ||||||||
| 2006 | 2005 | |||||||
CASH FLOWS FROM INVESTING ACTIVITIES |
||||||||
Cash inflows from investing activities : |
||||||||
Decrease in short-term financial instruments |
58,500,000 | 69,500,000 | ||||||
Decrease in short-term loans |
134,200 | 608,000 | ||||||
Decrease in accounts receivable-other |
154,447 | 4,830,604 | ||||||
Disposal of marketable securities |
250,000 | 150,000 | ||||||
Disposal of equity method valued investment securities |
— | — | ||||||
Disposal of other investment |
452,273 | — | ||||||
Return of Foreign advance payments |
520,500 | — | ||||||
Dividend
income from equity method valuation of investment securities |
68,245 | 2,000,000 | ||||||
Retrun of shorterm insider trading gain |
3,792,826 | — | ||||||
Decrease in rental deposits |
— | 2,100,550 | ||||||
Disposal of property and equipment |
409 | 4,210,737 | ||||||
| 63,872,900 | 83,399,891 | |||||||
Cash outflows from investing activities : |
||||||||
Acquisition of short-term financial instruments |
53,500,000 | 75,000,000 | ||||||
Acquisition of marketable securities |
— | 610,000 | ||||||
Increase in short-term loans |
50,000 | 110,336 | ||||||
Increase in accounts receivable-other |
142,477 | 2,275,723 | ||||||
Acquisition of equity method valued investment securities |
— | — | ||||||
Increase in other investment |
— | 975,500 | ||||||
Increase in rental deposits |
3,191,556 | 4,932,300 | ||||||
Acquisition of property and equipment |
535,578 | 687,693 | ||||||
Disbursement of development cost |
— | 2,818,477 | ||||||
Acquisition of other intangible assets |
2,186,990 | 398,482 | ||||||
| 59,606,601 | 87,808,511 | |||||||
Net cash used in investing activities |
4,266,299 | (4,408,620 | ) | |||||
CASH FLOWS FROM FINANCING ACTIVITIES : |
||||||||
Cash inflows from financing activities : |
||||||||
Increase in short-term borrowings |
— | — | ||||||
| — | — | |||||||
Cash outflows from financing activities : |
||||||||
Repayment of short-term borrowings |
— | — | ||||||
| — | — | |||||||
Net cash used in financing activities |
— | — | ||||||
NET INCREASE(DECREASE) IN CASH AND CASH EQUIVALENTS |
(158,918 | ) | (9,070 | ) | ||||
CASH AND CASH EQUIVALENTS AT BEGINNING OF YEAR |
801,378 | 810,448 | ||||||
CASH AND CASH EQUIVALENTS AT END OF YEAR |
642,460 | 801,378 | ||||||
See accompanying Notes to Financial Statements.
F-58
Table of Contents
ACTOZ
SOFT CO., LTD.
NOTES
TO FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2006 AND 2005
| 1. | General | |
| Actoz Soft Co., Ltd. (the “Company”) was incorporated on October 29, 1996 under the laws of the
Republic of Korea. The Company is engaged in developing and distributing online game software
products. The Company is registered as a venture business at the Korean Small and Medium
Enterprise Service in accordance with the special law for the promotion of venture businesses.
The Company’s capital stock as of December 31, 2006 amounts
to |
||
| 2. | Summary of Significant Accounting Policies |
| a. | Basis of Presentation of Financial Statements | ||
| The Korean Accounting Standards Board has published a series of Statements of Korean Financial Accounting Standards (SKFAS), which will gradually replace the existing financial accounting standards established by the Korean Financial Supervisory Commission. As SKFAS Nos. 15 through 17 became applicable to the Company on January 1, 2005, the Company adopted these Standards in its financial statements covering periods beginning January 1, 2005. | |||
| And as SKFAS Nos. 18 through 20 became effective for the Company on January 1, 2006, the Company adopted these Standards in its financial statements for the year ended December 31, 2006. | |||
| Certain information attached to the Korean language financial statements, but not required for a fair presentation of the Company’s financial position, results of operations or cash flows, is not presented in the accompanying financial statements. | |||
| The accounts of Online-works Co., Ltd., a wholly owned subsidiary, were not consolidated into the accounts of the Company as allowed under the financial accounting standards generally accepted in the Republic of Korea Financial. The investment in the subsidiary was accounted under the equity method (see note 5) | |||
| b. | Cash and Cash Equivalents | ||
| Cash and cash equivalents include cash on hand, cash in banks, and highly liquid temporary cash |
F-59
Table of Contents
| investments with original maturities of three months or less. | |||
| c. | Financial Instruments | ||
| Investments which are readily convertible into cash within four to 12 months of purchase are classified in the balance sheet as short-term financial instruments. Long-term financial instruments are financial instruments not classified as short-term financial instruments. | |||
| d. | Allowance for Doubtful Accounts | ||
| The Company provides an allowance for doubtful accounts and notes receivable based on the estimated recoverable amount of the individual receivables | |||
| e. | Marketable Securities | ||
| Marketable securities bought and held for the purpose of selling them in the near term are classified as short-term trading securities and debt securities which repayment amounts are fixed or can be fixed and which the Company has the intent and ability to hold to maturity are classified as held-to-maturity securities and marketable securities not classified as either short-term trading securities or held-to-maturity securities are classified as available- for- sale securities. | |||
| Marketable securities are initially carried at cost, using the moving average method. The following paragraphs describe the subsequent accounting for securities by the type of security. | |||
| Held-to-maturity securities are carried at cost, adjusted for the amortization or accretion of premiums or discounts. Short-term trading securities and available- for-sale securities are reported at fair value. Available-for-sale equity securities that do not have readily determinable market or fair values are reported at cost. | |||
| Unrealized gains or losses arising from the differences between the fair value and the acquisition cost are recorded in current operations for short-term trading securities, and are reported as a capital adjustment in shareholders’ equity for available-for-sale securities which accumulated amounts in shareholders’ equity are reflected in current operations when disposing the securities or recognizing impairment losses. | |||
| When estimated recoverable values from marketable securities are less than acquisition costs of equity securities or debt securities adjusted for the amortization or accretion of premiums or discounts, impairment losses are recorded in current operation Subsequent recoveries are also recorded in current operations up to the original cost of the securities. |
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Table of Contents
| f. | Investment Securities Valued Using the Equity Method of Accounting | ||
| Investments in equity securities of companies, over which the Company exercises significant influence, are reported using the equity method of accounting. | |||
| Under the equity method of accounting, the Company records changes in its proportionate equity of the book value of the investee as current operations, capital adjustments or adjustments to retained earnings, depending on the nature of the underlying change in book value of the investee. | |||
| Differences between the purchase cost and the Company’s proportionate equity in net asset value of the investee are amortized over five years using the straight-line method. Unrealized profits arising from sales by the Company to equity-method investees are eliminated. The Company’s proportionate unrealized profits arising from sales by equity-method investees to the Company or transactions between equity-method investees are also eliminated. | |||
| Foreign currency financial statements of equity method investees are translated into Korean won using the exchange rates in effect as of the balance sheet date for assets and liabilities, and annual average exchange rates for income and expenses. Any resulting translation gain or loss is included under the capital adjustment account, a component of shareholders’ equity | |||
| g. | Property and Equipment | ||
| Property and equipment are stated at acquisition cost. Routine maintenance and repairs are charged to expense as incurred. Expenditures, which enhance the value or extend the useful life of the related assets, are capitalized. | |||
| Depreciation is computed using the declining balance method over the following useful lives: |
| Description | Useful lives (years) | |||
Machinery and equipment |
4 | |||
Furniture and fixtures |
4 | |||
Vehicles |
4 | |||
| h. | Intangible Assets | ||
| Development costs resulting from developing new products in which the elements of costs satisfy the certain conditions required and future economic benefits are clearly expected, are capitalized and amortized over a five year period beginning in the year the related products are first saleable or usable. When the recoverable amount is significantly less than the carrying value of development costs due to |
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| the uncertainty of their future economic benefits, an impairment loss in the amount of the difference between the recoverable amount and the carrying value is recorded in the current operations with the carrying amount of the asset adjusted reflecting the impairment. | |||
| Other intangible assets including industrial property rights are stated at cost and amortized on a straight-line basis over a five year period. |
| i. | Deferred Income Taxes | ||
| Deferred tax assets and liabilities are recorded for future tax consequences of operating loss carryforwards, tax credits and temporary differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets are recognized to the extent that they are expected to be realizable. Deferred income tax assets and liabilities are classified into current and non-current portions, and are presented in their net amounts. | |||
| j. | Accrued Severance Benefits | ||
| In accordance with the Company’s policy, Employees with at least one year of service are entitled to receive severance benefits. The Company pays out accrued severance benefits to its employees annually. | |||
| k. | Foreign Currency Transactions and Translation | ||
| Transactions denominated in foreign currencies are recorded in Korean won translated at the exchange rate prevailing on the transaction date. Monetary assets and liabilities denominated in foreign currency are translated into Korean won at the Base Rates announced by Seoul Money Brokerage Services Limited on the balance sheet date. Gains or losses arising from the settlement of foreign currency transactions and the translation of foreign currency assets and liabilities are charged or credited to current operations. | |||
| l. | Revenue Recognition | ||
| Service revenue is recognized by reference to the stage of completion of the transaction at the balance sheet date. The percentage of completion method for the service revenue can be employed when the following conditions are met: (a) the amount of revenue can be measured reliably; (b) it is probable that the economic benefits will flow to the Company; (c) the stage of completion of the transaction at the balance sheet date can be measured reliably; and (d) the costs incurred for the transaction and the costs to complete the transaction and be measured reliably. For sales of merchandises and finished goods, revenue is recognized based on the delivery of goods for domestic sales and on the shipping dates for export. |
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| m. | Stock Options | ||
| The stock option program allows the Company’s officers to acquire shares of the Company. The option exercise price is generally fixed at above the market price of underlying shares at the date of the grant. The Company values stock options based upon an option-pricing model (Black-Scholes model) under the fair value method and recognizes this value as an expense over the period in which the options vest. | |||
| n. | Earnings Per Share | ||
| Basic earnings per share is calculated by dividing net income allocated to common stock by the weighted-average number of shares of common stock outstanding during each period. | |||
| o | Use of Estimates | ||
| The preparation of financial statements in accordance with accounting principles generally accepted in the Republic of Korea requires management to make estimates and assumptions that affect the amounts reported in the financial statements and related notes to financial statements. Actual results could differ from those estimates. | |||
| p. | Contingent Liabilities | ||
| Contingent losses are recorded in liabilities if it is probable and the loss amount can be reasonably estimated. | |||
| q. | Reclassification of Certain Accounts | ||
| Certain amounts in the financial statements as of and for the year ended December 31, 2005, have been reclassified to conform to the December 31, 2006 financial statement presentation. These reclassifications have no effect on previously reported net income or shareholders’ equity. |
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3. Cash and Cash Equivalents and Short-term Financial Instruments
Details of cash and cash equivalents and short-term financial instruments as of December 31,
2006 and 2005 are as follows:
| Thousands of Korean won | ||||||||||||
| Annual interest | ||||||||||||
| rate(%) | 2006 | 2005 | ||||||||||
<Cash and cash equivalents > |
||||||||||||
Cash |
— | 1,000 | 1,000 | |||||||||
Ordinary deposit |
0.1 | 43,837 | 86,862 | |||||||||
Cash Management Account(“CMA”) |
3.85 | 597,623 | 713,516 | |||||||||
Total |
642,460 | 801,378 | ||||||||||
<Short-term financial instruments> |
||||||||||||
Time deposits |
4.1 ~ 5.0 | 17,000,000 | 22,000,000 | |||||||||
Total |
17,000,000 | 22,000,000 | ||||||||||
4. Marketable Securities
Marketable securities of the Company at December 31, 2006 and 2005 are classified as
available-for-sale securities according to its purpose of acquisition and intent of holding and
consist of the following :
<2006>
| Thousands of Korean won | ||||||||||||||||
| Percentage of | Acquisition | Fair value or | Book | |||||||||||||
| Investee | ownership | cost | net asset value | value | ||||||||||||
<Equity securities> |
||||||||||||||||
Joyspell Co., Ltd. |
3.67 | % | 206,023 | 44,194 | 103,011 | |||||||||||
<Debt securities> |
||||||||||||||||
Online-works Co.,
Ltd. -convertible
debenture(1st
series non-guaranteed
privately placed) |
— | 200,000 | 200,000 | 200,000 | ||||||||||||
Online-works Co.,
Ltd.- convertible
debenture(2st
series non-guaranteed
privately placed) |
— | 160,000 | 160,000 | 160,000 | ||||||||||||
Total |
566,023 | 404,194 | 463,011 | |||||||||||||
The
company recognized an impairment loss amounting to
W103,011 thousand on marketable securities
relating to Joyspell due to the decrease of the net asset of
Joyspell. No further impairment was recognized in 2006 based on
the analysis as of December 31, 2006.
F-64
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<2005>
| Thousands of Korean won | ||||||||||||||||
| Percentage of | Acquisition | Fair value or | Book | |||||||||||||
| Investee | ownership | cost | net asset value | value | ||||||||||||
<Equity securities> |
||||||||||||||||
Joyspell Co., Ltd. |
5.08 | % | 206,023 | 49,252 | 103,011 | |||||||||||
<Debt securities> |
||||||||||||||||
Online-works Co.,
Ltd. -convertible
debenture(1st
series non-guaranteed
privately placed) |
— | 350,000 | 350,000 | 350,000 | ||||||||||||
Online-works Co.,
Ltd.- convertible
debenture(2st
series non-guaranteed
privately placed) |
— | 260,000 | 260,000 | 260,000 | ||||||||||||
Total |
816,023 | 659,252 | 713,011 | |||||||||||||
5. Investment Securities
Investment securities stated by the equity method of accounting at December 31, 2006 and 2005
are as follows:
(1) Detail of investment securities
| Percentage | Thousands of Korean won | |||||||||||||||||||||||
| No. of | of | Acquisition | Net asset | Book value | ||||||||||||||||||||
| Investee | shares | ownership | cost | value | 2006 | 2005 | ||||||||||||||||||
Wemade Entertainment
Co., Ltd. |
56,000 | 40.0 | % | 280,000 | 10,858,722 | 10,858,722 | 10,697,586 | |||||||||||||||||
Anipark Co., Ltd. |
900,000 | 15.65 | % | 563,850 | 925,674 | 925,673 | 896,028 | |||||||||||||||||
Onlineworks Co., Ltd. |
60,000 | 100.0 | % | 300,000 | 495,295 | 497,013 | 522,740 | |||||||||||||||||
Beijing Oriental
Interactive Science and
Technology Development
Co., Ltd. |
— | 44.31 | % | 2,201,150 | 123,137 | 123,137 | — | |||||||||||||||||
Total |
3,345,000 | 12,402,828 | 12,404,545 | 12,116,354 | ||||||||||||||||||||
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Table of Contents
(2) Detail of valuation by the equity method
<2006>
| Thousands of Korean won | ||||||||||||||||||||||||
| Capital | Retained | Other | ||||||||||||||||||||||
| Beginning | Earnings | adjustments | earnings of | increase | Balance at end | |||||||||||||||||||
| Investee | balance | (loss) P/L | of valuation | valuation | (decrease) | of 2006 | ||||||||||||||||||
Wemade Entertainment
Co., Ltd. |
10,697,586 | 234,682 | ( |
5,301 | ) | — | ( |
68,245 | ) | 10,858,722 | ||||||||||||||
Anipark Co., Ltd. |
896,028 | 29,645 | — | — | — | 925,673 | ||||||||||||||||||
Onlineworks Co., Ltd. |
522,740 | (25,727 | ) | — | — | — | 497,013 | |||||||||||||||||
Beijing Oriental
Interactive Science and
Technology Development
Co., Ltd. |
— | (90,286 | ) | 15,640 | — | 197,783 | 123,137 | |||||||||||||||||
Total |
12,116,354 | 148,314 | 10,339 | — | 129,538 | 12,404,545 | ||||||||||||||||||
For Wemade entertainment Co., Ltd., other decrease was a result of dividends receipts.
For Beijing Oriental Interactive Science and Technology Development Co., Ltd., other increase
was recorded as a gain on disposal of investment securities for the change in the equity
interest arising from the capital increases.
For
Beijing Oriental Interactive Science and Technology Development Co., Ltd., W453 thousand
of a valuation loss was recorded as allowance for doubtful accounts.
<2005>
| Thousands of Korean won | ||||||||||||||||||||||||
| Capital | Retained | Other | ||||||||||||||||||||||
| Beginning | Earnings | adjustments of | earnings of | increase | Balance at end | |||||||||||||||||||
| Investee | balance | (loss) P/L | valuation | valuation | (decrease) | of 2005 | ||||||||||||||||||
Wemade Entertainment
Co., Ltd. |
12,043,171 | 668,026 | ( |
13,611 | ) | — | ( |
2,000,000 | ) | 10,697,586 | ||||||||||||||
Anipark Co., Ltd. |
989,244 | (460,298 | ) | 22,675 | (16,024 | ) | 360,431 | 896,028 | ||||||||||||||||
Onlineworks Co., Ltd. |
1,437,841 | (783,609 | ) | 18,769 | (150,261 | ) | — | 522,740 | ||||||||||||||||
Beijing Oriental
Interactive Science and
Technology Development
Co., Ltd. |
1,107,401 | (1,108,009 | ) | 156 | — | 452 | — | |||||||||||||||||
Total |
15,577,657 | (1,683,890 | ) | 27,989 | (166,285 | ) | (1,639,117 | ) | 12,116,354 | |||||||||||||||
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6. Property and Equipment
Property and equipment as of December 31, 2006 and 2005 are as follows:
| Thousands of Korean won | ||||||||
| 2006 | 2005 | |||||||
Land |
— | — | ||||||
Machinery |
2,636,353 | 2,365,713 | ||||||
Furniture and fixture |
1,159,997 | 1,301,143 | ||||||
Vehicles |
31,349 | 31,349 | ||||||
Total acquisition cost |
3,827,699 | 3,698,205 | ||||||
Less accumulated depreciation |
(3,117,975 | ) | (2,825,364 | ) | ||||
Property and equipment, net |
709,724 | 872,841 | ||||||
7. Intangible Assets
Details of development cost and other intangible assets for the years ended December 31, 2006
and 2005 are as follows:
<2006>
| Thousands of Korean won | ||||||||||||||||
| Development | Industrial | |||||||||||||||
| Description | cost | property right | Others | Total | ||||||||||||
Beginning balance |
6,408,233 | 12,602 | 578,878 | 6,999,713 | ||||||||||||
Increase in the year |
1,938,349 | 5,642 | 242,999 | 2,186,990 | ||||||||||||
Amortization |
(1,212,956 | ) | (4,013 | ) | (226,098 | ) | (1,443,067 | ) | ||||||||
Ending balance |
7,133,626 | 14,231 | 595,779 | 7,743,636 | ||||||||||||
<2005>
| Thousands of Korean won | ||||||||||||||||
| Development | Industrial | |||||||||||||||
| Description | cost | property right | Others | Total | ||||||||||||
Beginning balance |
3,929,807 | 5,275 | 390,263 | 4,325,345 | ||||||||||||
Increase in the year |
2,818,478 | 10,232 | 388,249 | 3,216,959 | ||||||||||||
Amortization |
(340,052 | ) | (2,905 | ) | (199,634 | ) | (542,591 | ) | ||||||||
Ending balance |
6,408,233 | 12,602 | 578,878 | 6,999,713 | ||||||||||||
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Table of Contents
8. Transactions with Related Parties
Major transactions and account balances with related parties as of and for the years ended
December 31, 2006 and 2005 are as follows:
<2006>
| Thousands of Korean won | ||||||||||||||||||||||||
| Commission | Related | Related | ||||||||||||||||||||||
| Company | Sales | Investment | Outsourcing | paid | receivables | payables | ||||||||||||||||||
Wemade
Entertainment Co.,
Ltd. |
927,458 | — | 17,995,844 | — | 206,053 | 5,702,923 | ||||||||||||||||||
Anipark Co., Ltd. |
— | 397,008 | — | 406,879 | ||||||||||||||||||||
Shanda
Interactive
Entertainment Ltd. |
26,260,031 | — | — | — | 5,812,681 | — | ||||||||||||||||||
Total |
27,187,489 | — | 18,392,852 | — | 6,018,734 | 6,109,802 | ||||||||||||||||||
<2005>
| Thousands of Korean won | ||||||||||||||||||||||||
| Commission | Related | Related | ||||||||||||||||||||||
| Company | Sales | Investment | Outsourcing | paid | receivables | payables | ||||||||||||||||||
Wemade
Entertainment Co.,
Ltd. |
481,070 | — | 18,272,535 | — | 397,327 | 2,746,291 | ||||||||||||||||||
Anipark Co., Ltd. |
77,500 | — | 1,017,173 | — | 496,365 | |||||||||||||||||||
Shanda
Interactive
Entertainment Ltd. |
22,386,381 | — | — | — | 1,729,671 | — | ||||||||||||||||||
Beijing Oriental
Interactive Science
and Technology
Development Co.,
Ltd. |
— | 520,500 | — | — | 520,500 | — | ||||||||||||||||||
Total |
22,944,951 | 520,500 | 19,289,708 | — | 2,647,498 | 3,242,656 | ||||||||||||||||||
Short-term housing loan to shareholders, officers and employees at December 31, 2006 and 2005
amounted to W126,066 thousand and W210,266 thousand, respectively, and the related
interest income recognized in 2006 and 2005 amounted to W5,972 thousand and 14,089
thousand, respectively.
There is no collateral or guarantee provided by the Company or received from the related
parties as of December 31, 2006.
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Table of Contents
9. Insurance
As of December 31, 2006 the Company has fire insurance for its machinery with LIG Fire
Insurance Co., Ltd. with the coverage amount totaling W2,338,027 thousand.
In addition, the Company’s vehicles are insured for comprehensive coverage.
10. Assets and Liabilities Denominated in Foreign Currencies
Details of assets and liabilities denominated in foreign currencies as of December 31, 2006 and
2005 are as follows:
| (In U.S. dollars, JPY, EUR, GBP and thousands of Korean won) | ||||||||||||||||||||||||
| Foreign currency | Korean won equivalent | |||||||||||||||||||||||
| Account | 2006 | 2005 | 2006 | 2005 | ||||||||||||||||||||
Assets: |
||||||||||||||||||||||||
Accounts receivable |
USD | 7,958,500.09 | USD | 3,804,690 | 7,601,823 | |
3,854,151 | |||||||||||||||||
| JPY | 6,150.00 | JPY | — | 48 | — | |||||||||||||||||||
| EUR | 12,673.52 | EUR | 16,317 | 15,490 | 19,583 | |||||||||||||||||||
| GBP | GBP | 3,720 | — | 6,492 | ||||||||||||||||||||
| |
7,617,361 | |
3,880,226 | |||||||||||||||||||||
Liabilities: |
||||||||||||||||||||||||
Accrued expenses |
USD | 6,527,381.91 | USD | 1,586,613 | |
6,068,057 | |
1,607,239 | ||||||||||||||||
| EUR | 13,765.66 | EUR | 11,422 | 16,825 | 13,708 | |||||||||||||||||||
| JPY | 2,706.00 | JPY | — | 21 | — | |||||||||||||||||||
| |
6,084,903 | |
1,620,947 | |||||||||||||||||||||
11. Capital Stock
Capital stock of the Company as of December 31, 2006 and 2005 is as follows;
| 2006 | 2005 | |||||||
Number of shares authorized |
50,000,000 | 50,000,000 | ||||||
Number of shares issued: |
||||||||
Common stock |
8,914,500 | 8,914,500 | ||||||
Par value |
|
500 | |
500 | ||||
There was no change in capital stock or capital surplus in 2006.
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Table of Contents
12. Retained Earnings
(1) Reserve for business rationalization
Pursuant to the Regulation of Tax Reduction and Exemption Act (RTREA), the Company is required
to appropriate, as a reserve for business rationalization, an amount equal to the tax reduction
arising under the RTREA. This reserve is not available for dividends, but may be transferred to
common stock, or may be used to reduce accumulated deficit, if any, with the ratification of
the Company’s majority shareholders.
(2) Other reserve
Pursuant to the Special Tax Treatment Control Law, the Company appropriates retained earnings as
a reserve for technology development. This reserve is not available for dividends, but may be
transferred to capital stock, or used to reduce accumulated deficit, if any, with the
ratification of the Company’s majority shareholders.
13. Capital Adjustments
(1) Treasury stock
In 2003, the Company purchased its own stock consisting of 480 shares of common stock in
relation to increasing its capital. The Company intends to sell the treasury stock in the
future.
(2) Stock options
The Company granted stock options to its representative director as follows.
| Grantee | Exercise period | Number of shares | Exercise price | |||||
Director
|
Within 7 years from grant date | |||||||
| (the vesting period : 2 years) | 140,000 | 9,100Won | ||||||
Employees
|
Within 7 years from grant date | |||||||
| (the vesting period : 2 years) | 127,420 | 8,300Won | ||||||
The Company values stock options based upon an option-pricing model (Black-Scholes model) under the
fair value method and recognizes this value as an expense over the period in which the options
vest. The expense for 2006 amounted to W 239,745 thousand.
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Table of Contents
14. Selling and Administrative Expenses
Selling and administrative expenses in 2006 and 2005 consist of the following:
| Thousands of Korean won | ||||||||
| 2006 | 2005 | |||||||
Salaries and wages |
|
2,996,657 | |
1,787,499 | ||||
Severance benefits |
208,393 | 141,387 | ||||||
Stock compensation |
239,745 | 169,768 | ||||||
Employee benefits |
436,249 | 208,430 | ||||||
Travel |
183,470 | 62,474 | ||||||
Entertainment |
166,143 | 73,490 | ||||||
Communications |
29,789 | 13,709 | ||||||
Utilities |
12,621 | 27,731 | ||||||
Taxes and dues |
138,877 | 59,991 | ||||||
Depreciation |
211,248 | 159,094 | ||||||
Rent |
50,462 | 111,042 | ||||||
Repairs |
11,964 | 5,612 | ||||||
Vehicles |
19,542 | 8,419 | ||||||
Books and printing |
7,115 | 6,345 | ||||||
Supplies |
29,402 | 13,070 | ||||||
Education and training |
88,047 | 24,149 | ||||||
Bad debt |
12,115 | 1,057,467 | ||||||
Commissions |
966,470 | 1,347,665 | ||||||
Advertising |
2,829,857 | 727,192 | ||||||
Insurance |
79,276 | 43,094 | ||||||
Amortization |
1,443,067 | 542,592 | ||||||
Ordinary R&D |
3,598,515 | 204,241 | ||||||
Others |
311,813 | 21,549 | ||||||
Total |
|
14,070,837 | |
6,816,010 | ||||
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Table of Contents
15. Income Taxes
| (1) | Components of income tax expense(benefit) for the year ended December 31, 2006 are as follows; |
| Thousands of Korean won | ||||
| Description | Amount | |||
Current |
|
2,184,099 | ||
Deferred: |
||||
Change in cumulative temporary differences |
296,292 | |||
Change in tax credit carryforwards |
(2,630,665 | ) | ||
Income tax expense(benefit) |
|
(150,274 | ) | |
| (2) | Reconciliations of accounting income and taxable income for the year ended December 31, 2006 are as follows; |
| Thousands of Korean won | ||||||||
| Temporary differences | Permanent differences | |||||||
Additions: |
||||||||
Accrued income recorded in prior year |
|
96,845 | ||||||
Allowance for doubtful accounts |
1,353,584 | |||||||
Investment securities |
184,258 | |||||||
Entertainment expense in excess of limit |
|
135,196 | ||||||
Stock compensation |
239,745 | |||||||
Taxes & dues |
52,750 | |||||||
Contribution |
64,938 | |||||||
Capital
adjustments relating to equity method |
10,339 | |||||||
Total |
|
1,634,687 | |
502,968 | ||||
Deductions: |
||||||||
Accrued income in current year |
|
194,810 | ||||||
Allowance for doubtful accounts |
1,672,533 | |||||||
Investment securities |
472,449 | |||||||
Development cost |
372,322 | |||||||
Dividend income |
|
20,473 | ||||||
Refund of income taxes |
169,768 | |||||||
Income tax expense |
150,274 | |||||||
Total |
|
2,712,114 | |
340,515 | ||||
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Table of Contents
| (3) | Changes in temporary differences during the year ended December 31, 2006 and deferred tax assets as of December 31, 2006 are as follows; |
| Thousands of Korean won | ||||||||||||||||
| January 1, | December 31, | |||||||||||||||
| Description | 2006 | Decrease | Increase | 2006 | ||||||||||||
Allowance for doubtful accounts |
1,672,533 | 1,672,533 | 1,353,584 | 1,353,584 | ||||||||||||
Bad debt |
108,954 | 108,954 | ||||||||||||||
Development cost |
988,248 | 372,322 | 615,926 | |||||||||||||
Available-for-sale securities |
303,011 | 303,011 | ||||||||||||||
Accrued income |
(96,845 | ) | (96,845 | ) | (194,810 | ) | (194,810 | ) | ||||||||
Investment securities |
(8,771,354 | ) | (184,258 | ) | (472,449 | ) | (9,059,545 | ) | ||||||||
Sub-total |
(5,795,453 | ) | 1,763,752 | 686,325 | (6,872,880 | ) | ||||||||||
Deferred taxes from tax credit
carry-forwards |
8,192,964 | |||||||||||||||
Tax effect of temporary differences: |
(1,890,042 | ) | ||||||||||||||
Short-term deferred income taxes |
348,625 | |||||||||||||||
Deferred income taxes |
|
5,954,297 | ||||||||||||||
The future income tax rate of 27.5% has been used in computing deferred income taxes.
The beginning balances are based on the previous year’s amendment tax return and the
difference in amount between the tax return and audited financial report of the previous year
was recorded as income tax refunds in current year.
16. Income Per Share
Net income per share amounts for the years ended December 31, 2006 and 2005 are as follows:
(1) Basic income per share
| Korean won(in thousands except for income per share) | ||||||||
| 2006 | 2005 | |||||||
Net income |
|
1,316,201 | |
2,162,953 | ||||
Extraordinary gains |
3,792,826 | — | ||||||
Extraordinary losses |
— | — | ||||||
Income taxes relating to extraordinary items |
1,043,027 | — | ||||||
Ordinary income(loss) |
(1,433,598 | ) | 2,162,953 | |||||
Weighted average number of shares outstanding |
8,914,020 | 8,914,020 | ||||||
Basic ordinary income(loss) per share in Korean won |
|
(161 | ) | |
243 | |||
Basic earnings per share in Korean won |
|
148 | |
243 | ||||
As there are no diluted securities outstanding as of December 31, 2006, diluted earnings per shares is
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Table of Contents
identical to basic earnings per share and diluted ordinary income per share to the
basic ordinary income per share.
(2) Weighted average number of shares outstanding
<2006>
| Numbers | Weighted number | |||||||||||
| of shares | Days | of shares | ||||||||||
Beginning balance |
8,914,500 | |||||||||||
Treasury stock |
(480 | ) | ||||||||||
Total |
8,914,020 | 365 | 3,253,617,300 | |||||||||
| ÷365 | ||||||||||||
Weighted average number of shares |
8,914,020 | |||||||||||
<2005>
| Numbers | Weighted number | |||||||||||
| of shares | Days | of shares | ||||||||||
Beginning balance |
8,914,500 | |||||||||||
Treasury stock |
(480 | ) | ||||||||||
Total |
8,914,020 | 365 | 3,253,617,300 | |||||||||
| ÷365 | ||||||||||||
Weighted average number of shares |
8,914,020 | |||||||||||
17. Value Added Information
Details of value added information for the years ended December 31, 2006 and 2005 are as follows:
<2006>
| Thousands of Korean won | ||||||||||||||||
| Selling and | Development cost | |||||||||||||||
| administrative | and its impairment | |||||||||||||||
| Cost of sales | expense | loss | Total | |||||||||||||
Salaries |
|
796,542 | |
5,195,539 | |
1,288,809 | |
7,280,890 | ||||||||
Provision for retirement
and severance benefits |
83,234 | 469,564 | 92,994 | 645,792 | ||||||||||||
Employee benefits |
86,182 | 695,370 | 147,779 | 929,331 | ||||||||||||
Rent |
25,607 | 124,021 | 42,860 | 192,488 | ||||||||||||
Depreciation |
91,759 | 462,534 | 144,318 | 698,611 | ||||||||||||
Taxes and dues |
138,877 | 138,877 | ||||||||||||||
Total |
|
1,083,324 | |
7,085,905 | |
1,716,760 | |
9.885,989 | ||||||||
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<2005>
| Thousands of Korean won | ||||||||||||||||
| Selling and | Development cost | |||||||||||||||
| administrative | and its impairment | |||||||||||||||
| Cost of sales | expense | loss | Total | |||||||||||||
Salaries |
|
355,930 | |
1,787,499 | |
1,762,769 | |
3,906,198 | ||||||||
Provision for retirement
and severance benefits |
24,304 | 141,387 | 108,002 | 273,693 | ||||||||||||
Employee benefits |
33,840 | 208,430 | 189,203 | 431,473 | ||||||||||||
Rent |
20,618 | 111,042 | 116,599 | 248,259 | ||||||||||||
Depreciation |
36,916 | 179,478 | 195,262 | 411.656 | ||||||||||||
Taxes and dues |
— | 59,991 | — | 59,991 | ||||||||||||
Total |
|
471,608 | |
2,487,827 | |
2,371,835 | |
5,331,270 | ||||||||
18. Employees’ Benefits and Contribution to Society
The Company provides various employee benefits such as a national pension, a medical
insurance, workmen’s accident compensation and a paid vacation. The Company paid W929,332
thousand for such employee benefits in 2006.
The Company contributed W64,938 thousand to the Korea Game Industry Association in 2006.
19. Supplementary Cash Flow Information
Major transactions not involving the inflow or outflow of cash for the years ended December
31, 2006 and 2005 are as follows:
| Thousands of Korean won | ||||||||
| Description | 2006 | 2005 | ||||||
Transfer of marketable
securities into intangible
assets |
— | 150,000 | ||||||
20. Commitments and Contingencies
At February 12, 2007, the Company disposed Share of Wemade (56,000 shares) to Wemade with USD
20,000,000.00.
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21. Extraordinary gain
In 2006, the former CEO sold his stocks in Actoz within six months after his purchase which
violated the Korean Securities Regulations. The Company took legal action to collect the former
CEO’s illegal transaction gain of KRW 4,450 million. As a result, the Company received KRW
3,793 million from the former CEO as the juridical decision was in favor of the Company. The
gain was recorded as extra
ordinary gain in the statements of income.
22. Interim Period Information
Interim financial information of the Company for the final(4th) quarter of 2006 and
2005 are summarized as follows:
| Korean won(in thousands | ||||||||
| except for income per share) | ||||||||
| 2006 | 2005 | |||||||
Sales |
|
9,610,305 | |
3,319,088 | ||||
Gross profit(loss) |
3,340,453 | 1,180,014 | ||||||
Operating income(loss) |
259,194 | (1,154,896 | ) | |||||
Quarterly net income(loss) |
620,483 | (2,200,312 | ) | |||||
Quarterly net income(loss) per
share in Korean won |
|
70 | ( |
247 | ) | |||
23. Economic Environment
In response to the overall unstable economic situations, the Korean government and the private
sector have been implementing structural reforms to historical business practices. The Company
may be either directly or indirectly affected by these economic situations and structural
reforms.
The accompanying financial statements reflect management’s current assessment of the impact to
date of the economic situation on the financial position of the Company. Actual results may
differ materially from management’s current assessment.
24. Reconciliation to United States Generally Accepted Accounting Principles
The financial statements are prepared in accordance with Korean GAAP which differ in certain
respects from accounting principles generally accepted in the United States of America (“U.S.
GAAP”). The significant differences between Korean GAAP and U.S. GAAP that affect the Company’s
financial
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statements are described below.
The effects of the significant adjustments to net income and stockholders’ equity which would be
required if U.S. GAAP were to be applied instead of Korean GAAP are summarized as follows:
| Thousands of Korean won | ||||||||
| Description | 2006 | 2005 | ||||||
Net income in accordance with Korean GAAP |
1,316,201 | 2,162,953 | ||||||
Adjustments: |
||||||||
Depreciation(1) |
11,580 | (243,554 | ) | |||||
Stock option(2) |
(20,212 | ) | 79,036 | |||||
Intangible assets(3) |
(725,393 | ) | (2,473,467 | ) | ||||
Revenue(4) |
(728,856 | ) | 1,380,154 | |||||
U.S. GAAP adjustments of equity method
affiliates(5) |
(565,703 | ) | 2,789,911 | |||||
U.S. GAAP adjustments of consolidated
subsidiaries(6) |
359,681 | 41,343 | ||||||
Deferred tax effects of U.S. GAAP adjustments(7) |
529,265 | 345,904 | ||||||
| (1,139,638 | ) | 1,919,327 | ||||||
Net income as adjusted in accordance with U.S. GAAP |
176,563 | 4,082,280 | ||||||
| Thousands of Korean won | ||||||||
| Description | 2006 | 2005 | ||||||
Stockholders’ equity in accordance with Korean
GAAP |
53,753,268 | 52,356,750 | ||||||
Adjustments: |
||||||||
Depreciation(1) |
340,199 | 328,619 | ||||||
Stock option(2) |
— | (90,732 | ) | |||||
Intangible assets(3) |
(7,133,626 | ) | (6,408,233 | ) | ||||
Revenue(4) |
(2,330,260 | ) | (1,601,401 | ) | ||||
U.S. GAAP adjustments of equity method
affiliates(5) |
(1,500,640 | ) | (934,937 | ) | ||||
U.S. GAAP adjustments of consolidated
subsidiaries(6) |
(363,596 | ) | (723,277 | ) | ||||
Deferred tax effects of U.S. GAAP adjustments(7) |
2,666,495 | 2,137,230 | ||||||
| (8,321,428 | ) | (7,292,731 | ) | |||||
Stockholders’ equity as adjusted in accordance
with U.S. GAAP |
45,431,840 | 45,064,019 | ||||||
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(1) The Company depreciates its property and equipment using the declining balance method over
their respective useful lives. To conform to Shanda’s accounting policy, the Company restated
the depreciation expenses using straight-line method.
(2) Under Korean GAAP & US GAAP, The Company values stock options based upon an option-pricing
model (Black-Scholes model) under the fair value method and recognizes stock compensation
expense over the period in which the options are vested. Generally there are no differences between
Korean GAAP and US GAAP in stock option accounting. However, some assumptions, such as expected
exercise period and Volatility of the stock, are differently applied, when measuring the fair
value of stock option.
(3) Under Korean GAAP, the Company capitalizes development costs resulting from developing new
game products in which the elements of costs satisfy the certain conditions required and future
economic benefits are clearly expected, and amortizes it over a five year period beginning in
the year the related products are first saleable or usable. Under US GAAP, The Company accounts
for costs to develop its online game products in accordance with SFAS No. 86, “Accounting for
Costs of Computer Software to be Sold, Leased or Otherwise Marketed” (“SFAS No.86”), which
requires that costs incurred for the development of online game products prior to the
establishment of technological feasibility are expensed when incurred and are included in
product development expense. Once an online game product has reached technological feasibility,
all subsequent online game product development costs are capitalized until the product is
available for marketing. Accordingly, all costs incurred to establish the technological
feasibility of the games are expensed and the recorded amortization expenses under K GAAP are
reversed.
(4) Under Korean GAAP, the Company recognizes the upfront fee as revenue for games licensed to
third parties upon receipt from its licensees when licensed agreement is entered into. Under US
GAAP, in accordance with SAB 101, upfront fee received form licensed games are recorded as
deferred revenue and evenly credited as revenue over the licensed period.
(5) The difference is resulted from the adjustment of development cost incurred as stated in (3)
above by one of the Company’s affiliates. The development costs were expensed off and the
related amortization expenses under Korean GAAP were reversed, which resulted in negative effect
on net income for the affiliate.
(6) The difference is mainly resulted from the additional U.S. GAAP adjustments for the
consolidation of Online-works Co. Ltd.. Additional U.S. GAAP adjustments such as bad debt
adjustment and the expensed-off development costs as stated in (3) are included in this
reconciliation item.
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(7) In general, accounting for deferred income taxes is substantially the same between Korean
GAAP and U.S. GAAP. The Company is also required to recognize the additional deferred tax
effects that result from differences between the reported Korean GAAP and U.S. GAAP amounts.
25.
Subsequent Events
On
February 2, 2007, the Company entered into an agreement with
Wemade for the sale of its 40% equity interest in Wemade back to
Wemade for a total consideration of US$20 million. The resulting
net gain recorded by the Company was approximately
US$6.5 million.
On
February 2, 2007, the Company entered into an agreement with
Wemade and Shanda to fully settle the copyright infringement and
unfair competition case before the Beijing Court. Under the terms of
this settlement, Wemade and the Company agreed to recognize
Shanda’s
copyright for World of Legends and Shanda agreed to recognize Wemade
and the Company’s joint ownership over the copyright of
Mir II. In addition, no additional costs would be required
to be incurred by any of the three parties and each party would bear
its own legal costs in connection with the case.
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