China Internet - Creating Consumer Value in Digital China

We are initiating coverage of the China Internet industry with an attractive view. We believe Chinese Internet companies that focus on creating consumer value have the highest potential to create shareholder value. China is No. 1 in the world in mobile subscribers and No. 1 in Internet users under the age of 30 - this evolving presence on the world stage should not be underestimated.

We endeavor to find businesses with robust growth potential, high barriers to entry, scalability, network effects and low regulatory interference. We prefer management teams who are consumer-centric and innovative, and stocks whose share prices have overlooked upside plus ‘margins of safety.

We believe the ‘click plus brick’ model may dominate ecommerce in China; content may prove to be king; foreign companies lagging in localization may lag in market penetration; and local companies may need to become savvy acquirers to outgrow rivals.

Online gaming is our favorite segment pick. Local players with self development and distribution capacity may emerge as long-term winners.

We believe competition is breaking out in online brand advertising, which faces inventory oversupply and a secular shift toward performance-centric models. Paid search, on the other hand, is poised for robust expansion.

We view mobile value-added services as an overlooked opportunity. Despite regulatory concerns, entry barriers are rising and a segment recovery is in sight.

We see rising opportunities in online commerce including travel, instant messaging-related services and auctions. Emerging payment mechanisms will be key to more substantive growth.

Our investment concerns include economic slowdown, regulatory risks, dearth of innovation, management quality and excessive capital inflow.

Our top stock picks include: Ctrip (Overweight-V), NetEase (Overweight-V), and Tencent (Overweight-V). See our related reports for these companies, plus Sina (Equal-weight-V), Sohu (Equal-weight-V), TOM Online (Equalweight-
V) and 51job (Equal-weight-V).

See the link below for a slide presentation summarizing this report (also included in the report starting on page 73).

China Internet - Creating Consumer Value in Digital China (118 pages)

Summary Slide Presentation (75 pages)