PWRD

I made out well with one of these chinese reverse mergers (FSIN) a few months ago. I know there is some risk, but I still feel like these things are all priced as if 50-60% of these are fradulent which is just not the case.  I'm really liking this one:

Perfect World Co. LTD (As of June 30, 2011)

$615 million market cap

$400 million in cash/short term investments/time deposits

$0 long-term debt

$610 million equity

Estimated forward P/E somewhere around 4 to 5.

Very strong positive cash flows.

Current Share Price - $12.37

This was a $22 stock at the end of August off of record profits through Q2.  They adjusted guidance on Q3 revenue downward by about 7% (this still represents significant revenue growth over prior year), which started the stock on a downward slope.  Coupled with over selling on Chinese stocks, and the overall decline in the market, this dropped to the $11-$12 range.  I think it has been terribly oversold and at these levels, I think it is a real steal. 

If this was a U.S. Company, you'd be looking at a $30/$35 share price easy.  I just don't buy there is a 65% chance this is fradulent. 

It's tough to fake cash.  Not impossible, but with this company, you are not talking about off-balance sheet and VIE's.  From a balance sheet perspective, you are talking primarily cash, and to a lessor extent, costs associated with the development of the Company's online role playing games. 

If this turns out to be a fraud, consider me fooled. However, if its not, the long-term downside risk is really limited here, (unless you think it is reasonable that the Company would sell for less than its cash position, also ignoring the fact that it holds no debt and even with its revised Q3 guidance, it is still strongly cash flow positive with an expected P/E still in the 4-5 range).

Lots of upside potential here.  Not saying this can't drop to the $9-$10 range short-term, but I think that is all it is, short-term downside risk.  A company this profitable, and priced at this much of a discount can't stay at these levels long-term.  If these Chinese stocks ever come back in favor (I don't think it is an "if" as much as a "when"), this is an easy double with potential for even more. 

DYODD however

For anyone looking for a decent option play, take a look at PWRD December $14 calls.  I picked up a few of these contracts on Friday at $0.45, should be able to get maybe even a bit lower on Monday.  Earnings are coming out after market on Monday, and there is usually a pretty high surprise factor.  In both Q1 and Q2, they beat earnings, and the stock took off around 20-25% each time.

Management already lowered guidance for the quarter, so expectations are low.  If they come out and beat earnings, this could take off on Tuesday.  I don't have a strong feel for whether they will beat or not, but seems like just as much chance that they will as they won't as the estimates have proven to just be stabs in the dark historically.  I just don't see that volatility appropriately priced into these options on the day before earnings.

Obviously, a bit of a gamble (figured appropriate for a gambling site) as if earnings aren't great, there is probably not too much value in the options, so be willing to accept the 100% loss if the stock tank after the release.  But for a couple of hundred bucks, figured it was worth taking a shot from the risk/reward perspective as a similar result to Q1 or Q2 could produce 400-500% returns.  I wouldn't bet the farm on it, but from an EV perspectiive, I just think it is a good risk for a small play.

I was correct on the surprise factor with earnings, unfortunately went the complete other direction.  Replace "call" with "put", would have made good money.  Had high hopes for earnings, but even re-reading my own post, based on what I was expecting, I made the mistake of going long instead of just playing the straddle.  You live and learn.  Oh well, on to the next one.