Confidential  Investor  Update   1  

February  19,  2015    

Dear  Investor:    Please  find  enclosed  a  summary  of  Amalfi  Capital  Fund  I,  Limited’s  (ACFIL)  performance  for  the  quarter  ending  31  January  2015.  

 • Net  return  for  the  quarter  ending  January  31,  2015  was  +4.32%  • Net  return  for  financial  YTD  (beginning  August  1,  2014)  was  +12%  

 Tencent  and  the  “Tencent  universe”   including  Naspers  and  Activision  are  now  our  biggest  holdings.  Tencent’s  stock  plummeted  in  December,  making  for  a  dour  Amalfi  Christmas.  At  time  of  writing  it  had  recovered  and  was  trading  near  record  highs.  The  announcement  of  a  merger  between  Tencent’s  Didi  Dache  taxi  hailing  app  and  Alibaba’s  Kuaidi  Dache  gives  us  comfort  that  neither  company  is  pursuing  a  marketshare-­‐at-­‐any-­‐price  strategy.      Usage   of   Tencent’s   Weixin   was   solid   in   the   fourth   quarter   of   2014,   with   penetration  breaking   through   80%   of   China’s   mobile   internet   users.   Weixin   is   changing   consumer  mobile  internet  usage  in  much  the  same  way  Facebook  changed  -­‐  and  continues  to  change  -­‐  web   usage.   Super-­‐lite   mobile   apps   are   being   built   with   Weixin   users   in   mind.   Anyone  looking  for  fertile  ground  for  HTML5  apps  would  do  well  to  look  at  the  Weixin  ecosystem.    We   covered   our   Cheetah   Mobile   short   position   in   the   quarter   at   a   small   profit.   As  highlighted   in  our  previous   investor  update,  we  think  the  company  is  high  on  metrics   like  installs   and   activations.   We   will   revisit   the   position   after   Cheetah   announces   its   fourth  quarter   result.  We   continue   to   look   at   short   opportunities   in   the   hype-­‐heavy   technology-­‐light  world  of  mobile  applications.      Netdragon   and  Naspers   have   featured   in   our   updates   in   years   past   and   given   the  market  appears   to  be  applying  an  unusually  high  discount   to  both,  we   think   they   represent  great  value.  At  time  of  writing,  Naspers  had  a  market  capitalization  of  $58  billion  and  its  33.75%  stake   in  Tencent   had   a  market   value   of   $53  billion.  Naspers’   other   assets   are  worth   a   lot  more  than  $5  billion.      Netdragon  is  an  entrepreneur-­‐controlled  company  that  has  taken  some  hits  over  the  years.  The   company’s   stake   in   its   online   education   subsidiary   was   valued   at   $425   million   in   a  round  of  financing  announced  in  early  January.  Add  this  to  a  $509  million  net  cash  position  (cash   +   bank   deposits   –   total   liabilities)   and   you   get   the   company’s   core   game   business,  which  generated  a  $23  million  profit  in  the  first  half  of  2014,  for  free.  This  is  a  company  that  paid   out   a   special   dividend   of   HKD   7.77   a   share   (US$510   million)   in   2013   after   it   sold  91.com  to  Baidu.  The  downside,  it  is  headquartered  in  Fuzhou.      Good  fortune  to  you  all  in  the  Year  of  the  Goat.  新年快乐！    Yours  sincerely,    Paul  Waide  &  Tristen  Langley.  Amalfi  Capital  Management  Paul  @  amalficapital.com  |  Tristen  @  amalficapital.com  

 

Confidential  Investor  Update   2  

 Portfolio  Snapshot    Some  of  our  investments  and  short  positions  held  in  the  portfolio  as  at  January  31,  2015,  included:    Company   Sector   Comment  

           

LONG          

Activision  [ATVI]   Gaming   US  based  with  strong  Tencent  &  Netease  exposure      

Ambarella  [AMBA]   Semiconductor  /  Video  

Strong  Asia  foothold.  High  definition  video  &  image  processing.  

Netease  [NTES]   Gaming   China  multi-­‐player  game  developer  &  operator,  World  of  Warcraft.  

Tencent  [0700]   Mobile  /  Internet  /  Gaming  

China  focused  –  leading  gaming,  mobile,  messaging  platform.  

Naspers  [NPSNY]   Internet/Media   Owns  33.73%  Tencent,  29%  mail.ru,  OLX,  and  other  media  properties  

           

SHORT          SFX  Entertainment  [SFXE]  

Entertainment  /  Media   Operates  and  manages  electronic  dance  events.  

Ultratech  [UTEK]   Semiconductor  Equipment   International  customer  focus.  US-­‐based.        

VTech  [0303  HK]   Consumer  Hardware   Asian  contract  manufacturer  

Mobileiron  [MOBL]   Enterprise  software   Weak  player  in  ultra-­‐competitive  mobile  device  management  niche  

   Investment  Overview        Netdragon  (SEHK:  777):  Long    Headquartered:  Fuzhou,  P.R.  China    In  January  Netdragon’s  education  subsidiary  raised  $52.5  million  from  a  syndicate  including  IDG   Capital   Partners,   Vertex   (a   Temasek   subsidiary)   and   Alpha   Animation   (CH:002292),  valuing  the  unit  at  $477.5  million.  IDG  via  several  of  its  funds  remains  Netdragon’s  second  biggest   holder   after   founder   and   CEO   Liu   Dejian.   Vertex   was   an   investor   in   91.com,  Netdragon’s  majority  owned  app  store,  which  was  sold  to  Baidu  in  2013  for  $1.9  billion.  The  91.com  sale  was  not  the  first  time  Netdragon  built  up  a  business  and  then  sold  it  to  a  bigger  Chinese   internet   player.   Back   in   November   of   2003,   Netdragon   sold   online   game   portal  17173   to  Sohu.  The  property  became   the  cornerstone  of  Sohu’s  portal  display  advertising  business  in  much  the  same  way  91.com  has  accelerated  Baidu’s  mobile  growth.      The   external   investment   is   a   vindication   of   Liu   Dejian’s   move   into   mobile   and   online  education.   If  he  and  his  management   team  are  able   to  grow  these  businesses  and  manage  the   existing  online   game  business   for  profitability   –   as   they  have  done   since   the   financial  

 

Confidential  Investor  Update   3  

crisis1  -­‐   then   we   expect   the   company   will   generate   above   market   returns   over   the   next  couple  of  years.  Netdragon’s  main  online  game  is  Eudemons  Online.  The  game  has  taken  hits  over  the  years,  although  in  an  interesting  twist  (and  maybe  one  for  a  case  study  in  guerrilla  marketing)   its   life   has   been   extended   as   result   of   piracy   in   Fujian   province   in   2008.  Netdragon  worked  with   the   local  Public  Security  Bureau   to  shut  down  pirate  servers   that  were  running  the  game  –  players  who  had  been  attracted  to  the  game  because  it  was  “free”  were  forced  to  move  onto  legitimate  servers.  Eudemons  is  getting  a  little  tired  as  it  has  been  operating   since   March   2006.   However,   older   games   are   still   holding   their   users,   with  Netease’s   Fantasy  Westward   Journey   and  Westward   Journey   II   clocking   12   and   13   years  respectively.   With   average   concurrent   users   hovering   above   250,000   for   its   portfolio   of  client-­‐based  online  games,  Netdragon  is  not  an  industry  leader  nor  is  Eudemons  even  a  top  10   game.   It   is   profitable,   has   an   able   manager   at   its   helm,   and   has   proven   itself   able   to  weather  hits.      Once  again,  the  downside  for  Netdragon  is  that  it  is  headquartered  in  Fuzhou.      Opportunities    Still   on   online   game   operators,   Shanda   Games   (Nasdaq:GAME)   and   Perfect   World  (Nasdaq:PWRD)  are  in  the  process  of  going  private.  Shanda  began  the  process  almost  a  year  ago   and   has   substituted   members   of   its   investor   syndicate   along   the   way.   With   private  Shanda’s  parent  owning  70  percent  of  the  company  we  expect  the  transaction  to  close.      Perfect  World   announced   it   received   a   $20  per  ADR  offer   from   its   founder   and   chairman  Michael  Chi  on  January  2.  While  the  operators  of  MMORPGs  are  not  shiny  growth  stories  as  they  once  were,  these  companies  are  prodigious  cash  generators  and  given  that  they  receive  little   love   from  the  market  we  wouldn’t  be  surprised  to  see  similar   transactions  proposed  by  Changyou  and  Netdragon.    Mobile   and  web  games   are   the   shiny  new  growth   story.   Chinese  mobile   game  developers  tapped  mostly  Hong  Kong  investors  over  the  last  two  years.  Feiyu  Technology  (SEHK:1022),  IGG  (SEHK:8002),  and  Forgame  (SEHK:484)  all  face  a  user  acquisition  dilemma:  they  work  with  Tencent  and  enjoy  a  flood  of  users;  or  go  it  alone  and  spend  like  drunken  sailors  on  a  per   install/per   activation   basis.   In   the   former   scenario,   Tencent   captures   most   of   the  economics   and   depending   on   the   strength   of   the   negotiating   party,   caps   the   developer’s  upside.    Currency  disconnects      We  are  always  on  the  lookout  for  a  bargain  and  with  sticky  stock  prices  for  China-­‐exposed  companies,  big  currency  swings  could  nudge  some  quality  companies   into  our  good  value  range.  ASX-­‐listed  Seek  (ASX:SEK)  still  controls  Zhaopin  and  with  the  AUD  at  its  lowest  levels  since  2009  and  no  support  in  sight,  it  could  turn  into  a  great  currency  arbitrage/sum-­‐of-­‐the-­‐parts  story.                                                                                                                        1  Netdragon  had  previously  been  caught  out  investing  in  the  Australian  dollar  via  structured  products  prior  to  the  financial  crisis.  Since  that  episode  the  board  has  limited  its  scope  of  investments.  

 

Confidential  Investor  Update   4  

China  leverage    Once  upon  a  time  China   investors  could   look  at   the  next   five-­‐year  plan  and   invest   in  clear  beneficiaries   –   at   least,   that   was   the   thinking   espoused   in   Jim   McGregor’s   One   Billion  Customers.  We’ll   be   looking   everywhere   for   technology   companies   that   benefit   as   China’s  eastern  and  southern  provinces  continue  to  move  from  export  driven  to  domestic  demand  driven  economies.  Our  commiserations   to   investors   in   luxury  brands  who  have  borne   the  brunt  of  corruption  crackdowns  at  all  levels  of  government.    Speaking  with   our   Australian   investors   the   question  we   often   get   is,   “what   do   you   think  China’s  economy  will  do  next/this  year?”  Depending  on  which  one  of  us  fields  the  question,  the   answer   might   be   along   the   lines   of,   “well   if   you   look   at   the   Pearl   River   Delta  (Guangdong)   then   it’s   going   to   be   challenging   as  manufacturers   seek   cheaper   homes;   the  Yangtze   River   Delta   (Shanghai,   Zhejiang,   Jiangsu)   is   madly   building   infrastructure   to  support   ballooning   demand   for   domestic   fulfilment.   The  wave   of   domestic   ecommerce   is  most  evident  to  investors  through  the  listings  of  Alibaba,  JD.com,  and  VIPS.  To  everyone  else  it   is   just  visible:  packages   sit  next   to   reception  at  nearly  every  office  we  visit.”   Shanghai’s  Pudong  Free  Trade  Zone  port  is  at  capacity  and  Nantong  in  Jiangsu  is  under  development  to  capture  the  spillover  international  sea  and  air  freight.      This  quarter’s  reading  list:    Dead  Companies  Walking  by  Scott  Fearon  Elements  of  Investing  by  Burton  Malkiel  and  Charles  Ellis  How  Adam  Smith  Can  Change  Your  Life  by  Russ  Roberts    We   tend   to   shy   away   from   blogs   just   because   their   link-­‐friendly   format   makes   for   time  wasting.   We   are   fans   of   the   email   newsletter,   and   thanks   to   a   good   friend   of   Amalfi   for  tipping  us  to  Farnam  Street.    Thanks  for  your  faith  and  support  over  the  past  year.    Yours  sincerely,    Paul  Waide  &  Tristen  Langley  Amalfi  Capital  Management    Paul  @  amalficapital.com  |  +86  136  6160  1210    Tristen  @  amalficapital.com  |  +1  415  939  8537    Amalfi  Capital  Management,  Limited  Suite  804  No.  233  Weihai  Road  Shanghai  200040,  China  +86  21  6358  1828  上海市威海路 233 号恒利国际⼤大厦 804 室