Factors Driving Our $3.67 Price Estimate Of Renren

Renren Inc (NYSE:RENN) operates a social networking site, a professional networking site and an online gaming platform. Besides this, the company also operates a video sharing site. The advertising and online games businesses are heavily dependent upon the popularity of the social network among users.. In this article we take a look at other factors driving our valuation of Renren.

See our complete analysis of Renren here

Renren’s revenues have grown from $112 million in 2011 to $157 million in 2013. However, the company’s operating margins have declined during the same period from 8% to -50%, mainly on account of investments in R&D (related to mobile strategy), and sales expenses. Loss from operations reduced in Q2 2014 to ~$26 million (~60% of revenues) from ~$29 million (~116%  of revenues) in Q1. This was mostly on account of increased revenues, a trend expected not to continue into the rest of the year. Moreover, the sales expenses and R&D expenses have also increased fron Q1 to Q2 by 71% and 29% respectively, further adding to concerns about widening losses.

After a dismal performance in the first quarter of 2014 with revenues of only ~$25 million, Renren managed a strong comeback in Q2 2014 with ~$45.3 million in quarterly revenues. The guidance given by the company for Q3 2014 revenue is between 19 and 21 million dollars, while analyst’s estimates on Bloomberg Businessweek averages out at ~$20 million. Similar estimates for revenues for the year 2014 stand at $91 million, down 42% from 2013. Going ahead, we expect EBITDA margins to be pressurized in the near term as the company continues to spend on R&D and sales related expenses. In our view, margins will turn positive in the long term as the company’s user base expands with rising popularity of its games and social networking site. ^[1]

We have a $3.67 price estimate for Renren’s stock, slightly above its current market price. Our model for Renren breaks down the value of its stock into three segments plus a cash component.

What Are The Key Drivers For Renren’s Business Segments?

1. Online Advertising: Renren’s online advertising business generates about 30% of total company revenues. These revenues are heavily dependent on the reach of the company’s social networking site. Active user base has more than doubled since 2009 and stood at 206 million users in 2013. This rapid growth can be attributed to the increasing penetration of real name social networks and the absence of Facebook in China.

Since 2011, Renren’s user base has increased by about 19% annually while the monthly unique logins has grown only by 9%. ^[2] Slower growth in monthly unique logins suggests low frequency of usage of the service by users. We forecast the user base to continue growing, albeit at a slower pace. This is due to increasing competition from other social networking sites, on account of which the company’s online advertising revenue decreased 23.9% in Q2 2014 versus Q2 2013 (See Our Q2 Earnings Release Analysis of Renren). We estimate that Renren’s user base will cross 260 million by 2020.

While Renren’s user base has grown every year, its revenue earned per user has witnessed heavy declines in the last couple of years. This is owing to reduced spending by advertisers amid a slowing Chinese economy. We estimate revenue per user to fall this year as well owing to low monetization on the mobile platform. Mobile traffic, which the company began monetizing in the final quarter of 2013, accounts for over 80%of the company’s traffic. However, it contributes merely 11% to its advertising revenues. We expect the revenue per user to grow from next year onwards as the company strives to enhance its monetization on mobile devices.

2. Renren Games: Revenues of China’s gaming industry more than quadrupled from $3 billion in 2008 to $13 billion in 2013. ^[3] Due to rising Internet penetration in the country, the market is estimated to attain a worth of $21.7 billion by the end of 2017. Online games account for more than 90% of the Chinese gaming market and dominate the video gaming industry. This phenomenon is helped by the fact that video consoles (such as XBox and Playstation) have been banned in the country since 2000. The Chinese government partially lifted the ban earlier this year.

Online games generate about half of Renren’s revenues. The company has witnessed sharp growth in online gaming revenues driven by the success of Massively Multi-player Online Role Playing Games (MMORPG’s). Gaming revenues increased from $42 million in 2011 to $89 million in 2012, but declined to $85 million in 2013. In Q2 2014, delays in launching successful new titles lowered gaming revenue by a staggering 56.6% annually. The decline was due to a delay in the game pipeline and restructuring activities. We expect the growth to significantly decelerate in the second half of 2014 since the company intends to release only a few games this year. ^[4] Thereafter, we forecast growth to pick up as the company launches new games and leverages its games across multiple platforms, including mobile.

3. Internet Value-Added Services: The division makes money from a virtual talent show on their video sharing website, VIP memberships, virtual gifts and other paid applications. Revenue from these sources approximately doubled from $10 million in 2011 to $21 million in 2013. We expect the growth momentum to continue in the near future and then slow over the forecast period. In our view, revenues will increase with growing popularity of the websites. Growth will also be aided by the company forging more partnerships with third-party developers.

View Interactive Institutional Research (Powered by Trefis):
Global Large Cap | U.S. Mid & Small Cap | European Large & Mid Cap | More Trefis Research

1. Renren Page At Bloomberg Businessweek [↩]
2. Renren Form 20-F, Renren Investor Relations, 2013 [↩]
3. China’s game market took in $13 billion in 2013, PC games generate way more than mobile, Games in Asia, December 2013 [↩]
4. Renren’s CEO Discusses Q4 2013 Results – Earnings Call Transcript, Seeking Alpha, March 2014 [↩]