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Cheetah Mobile Inc. · IPO:  F-1/A · On 4/25/14

Filed On 4/25/14, 5:14pm ET   ·   Accession Number 1193125-14-160118   ·   SEC File 333-194996

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  As Of                Filer                Filing    For/On/As Docs:Size              Issuer               Agent

 4/25/14  Cheetah Mobile Inc.               F-1/A                  8:4.0M                                   RR Donnelley/FA

Initial Public Offering (IPO):  Pre-Effective Amendment to Registration Statement of a Foreign Private Issuer   —   Form F-1
Filing Table of Contents

Document/Exhibit                   Description                      Pages   Size 

 1: F-1/A       Amendment No.2 to Form F-1                          HTML   1.95M 
 2: EX-1.1      Underwriting Agreement                              HTML    179K 
 3: EX-4.3      Instrument Defining the Rights of Security Holders  HTML    192K 
 4: EX-10.44    Material Contract                                   HTML     45K 
 5: EX-10.48    Material Contract                                   HTML     58K 
 6: EX-10.49    Material Contract                                   HTML     66K 
 7: EX-10.50    Material Contract                                   HTML     60K 
 8: EX-23.1     Consent of Experts or Counsel                       HTML      5K 


F-1/A   —   Amendment No.2 to Form F-1
Document Table of Contents

Page (sequential) | (alphabetic) Top
 
11st Page   -   Filing Submission
"Table of Contents
"Prospectus Summary
"The Offering
"Summary Consolidated Financial Data
"Recent Developments
"Conventions Which Apply to This Prospectus
"Risk Factors
"Special Note Regarding Forward-Looking Statements and Industry Data
"Use of Proceeds
"Dividend Policy
"Capitalization
"Dilution
"Exchange Rate Information
"Enforceability of Civil Liabilities
"Corporate History and Structure
"Selected Consolidated Financial Data
"Management's Discussion and Analysis of Financial Condition and Results of Operations
"Industry
"Business
"Prc Regulation
"Management
"Principal Shareholders
"Related Party Transactions
"Description of Share Capital
"Description of American Depositary Shares
"Shares Eligible for Future Sale
"Taxation
"Underwriting
"Expenses Relating to This Offering
"Legal Matters
"Experts
"Where You Can Find Additional Information
"Index to Consolidated Financial Statements
"Report of independent registered public accounting firm
"Consolidated balance sheets as of December 31, 2012 and 2013
"Consolidated statements of comprehensive income for the years ended December 31, 2011, 2012 and 2013
"Consolidated statements of cash flows for the years ended December 31, 2011, 2012 and 2013
"Consolidated statements of changes in shareholders' equity for the years ended December 31, 2011, 2012 and 2013
"Notes to the consolidated financial statements for the years ended December 31, 2011, 2012 and 2013

This is an HTML Document rendered as filed.  [ Alternative Formats ]



  Amendment No.2 to Form F-1  
Table of Contents

As filed with the Securities and Exchange Commission on April 25, 2014

Registration No. 333-194996

 

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

 

AMENDMENT NO. 2

TO

FORM F-1

REGISTRATION STATEMENT

UNDER

THE SECURITIES ACT OF 1933

 

 

Cheetah Mobile Inc.

(Exact name of Registrant as specified in its charter)

 

 

Not Applicable

(Translation of Registrant’s name into English)

 

 

 

Cayman Islands   7372   Not Applicable

(State or other jurisdiction of

incorporation or organization)

 

(Primary Standard Industrial

Classification Code Number)

 

(I.R.S. Employer

Identification Number)

12/F, Fosun International Center Tower

No. 237 Chaoyang North Road

Chaoyang District, Beijing 100022

People’s Republic of China

Tel: +86-10-6292-7779

(Address, including zip code, and telephone number, including area code, of Registrant’s principal executive offices)

 

 

Law Debenture Corporate Services Inc.

4th Floor, 400 Madison Avenue

New York, New York 10017

(212) 750-6474

(Name, address, including zip code, and telephone number, including area code, of agent for service)

 

 

Copies to:

 

Z. Julie Gao, Esq.

Edward Lam, Esq.

Will H. Cai, Esq.

Skadden, Arps, Slate, Meagher & Flom LLP

c/o 42/F, Edinburgh Tower

The Landmark

15 Queen’s Road Central

Hong Kong

+852-3740-4700

 

James C. Lin, Esq.

Li He, Esq.

Davis Polk & Wardwell LLP

c/o 18th Floor, The Hong Kong Club Building

3A Chater Road

Hong Kong

+852-2533-3300

 

 

Approximate date of commencement of proposed sale to the public: as soon as practicable after the effective date of this registration statement.

If any of the securities being registered on this Form are to be offered on a delayed or continuous basis pursuant to Rule 415 under the Securities Act of 1933, check the following box.  ¨

If this Form is filed to register additional securities for an offering pursuant to Rule 462(b) under the Securities Act, please check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering.  ¨

If this Form is a post-effective amendment filed pursuant to Rule 462(c) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering.  ¨

If this Form is a post-effective amendment filed pursuant to Rule 462(d) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering.  ¨

 

 

CALCULATION OF REGISTRATION FEE

 

 

Title of each class of

securities to be registered

 

Amount of

shares to be
registered(2)(3)

 

Proposed maximum
offering price

per share(2)

 

Proposed maximum
aggregate

offering price(2)(3)

 

Amount of

registration fee

Class A ordinary shares, par value US$0.000025 per share(1)

 

138,000,000

 

US$1.45

  US$200,100,000   US$25,772.88(4)

 

 

(1) American depositary shares issuable upon the deposit of the ordinary shares registered hereby have been registered under a separate registration statement on Form F-6 (Registration No. 333 -195489). Each American depositary share represents ten Class A ordinary shares.
(2) Estimated solely for the purpose of determining the amount of registration fee in accordance with Rule 457(a) under the Securities Act of 1933.
(3) Includes 1,800,000 Class A ordinary shares that may be purchased by the underwriters pursuant to an over-allotment option. Also includes Class A ordinary shares initially offered and sold outside the United States that may be resold from time to time in the United States either as part of their distribution or within 40 days after the later of the effective date of this registration statement and the date the shares are first bona fide offered to the public. These Class A ordinary shares are not being registered for the purpose of sales outside the United States.
(4) Previously paid.

 

 

The Registrant hereby amends this registration statement on such date or dates as may be necessary to delay its effective date until the Registrant shall file a further amendment which specifically states that this registration statement shall thereafter become effective in accordance with Section 8(a) of the Securities Act of 1933, as amended, or until the Registration Statement shall become effective on such date as the Securities and Exchange Commission, acting pursuant to such Section 8(a), may determine.

 

 

 


Table of Contents

The information in this preliminary prospectus is not complete and may be changed. We may not sell these securities until the registration statement filed with the Securities and Exchange Commission is effective. This preliminary prospectus is not an offer to sell these securities and it is not soliciting an offer to buy these securities in any jurisdiction where such offer or sale is not permitted.

 

PROSPECTUS (Subject to Completion)

Issued April 25, 2014

12,000,000 American Depositary Shares

 

LOGO

Cheetah Mobile Inc.

REPRESENTING 120,000,000 CLASS A ORDINARY SHARES

 

 

Cheetah Mobile Inc., formerly known as Kingsoft Internet Software Holdings Limited, is offering 12,000,000 American depositary shares, or ADSs. Each ADS represents ten of our Class A ordinary shares, par value US$0.000025 per share. This is our initial public offering and no public market exists for the ADSs or our shares. We anticipate that the initial public offering price will be between US$12.50 and US$14.50 per ADS.

 

 

Upon the completion of this offering, our outstanding share capital will consist of Class A ordinary shares and Class B ordinary shares. Holders of Class A ordinary shares and Class B ordinary shares have the same rights except for voting and conversion rights. Each Class A ordinary share is entitled to one vote, and each Class B ordinary share is entitled to ten votes and is convertible into one Class A ordinary share at any time by the holder thereof. Class A ordinary shares are not convertible into Class B ordinary shares under any circumstances. The Class B ordinary shares outstanding immediately after the completion of this offering will constitute approximately 88.6% of our total outstanding shares and 98.8% of the voting power, assuming the underwriters do not exercise their option to purchase additional ADSs. Immediately after the completion of this offering, Kingsoft Corporation Limited will continue to be our controlling shareholder and will hold 7,407,407 Class A ordinary shares and 662,806,049 Class B ordinary shares, which together represent 53.6% of our aggregate voting rights, assuming the underwriters do not exercise their option to purchase additional ADSs. We will be a controlled company as defined in the New York Stock Exchange Listed Company Manual. Our other existing shareholders, including our directors and executive officers and their affiliates, as well as our investors, TCH Copper Limited and Matrix Partners Funds, will hold a total of 562,650,603 Class B ordinary shares.

 

 

We are an “emerging growth company” under applicable U.S. federal securities laws and are eligible for reduced public company reporting requirements.

 

 

We have applied to list the ADSs on the New York Stock Exchange, or the NYSE, under the symbol “CMCM”.

 

 

Investing in the ADSs involves risks. See “Risk Factors” beginning on page 17.

 

 

PRICE $             AN ADS

 

 

 

    

Price to Public

    

Underwriting
Discounts and
Commissions

    

Proceeds to
Company

 

Per ADS

   $                            $                            $                        

Total

   $                            $                            $                        

We have granted the underwriters the right to purchase up to an additional 1,800,000 ADSs to cover over-allotments at the initial public offering price less the underwriting discount.

The Securities and Exchange Commission and state securities regulators have not approved or disapproved these securities, or determined if this prospectus is truthful or complete. Any representation to the contrary is a criminal offense.

The underwriters expect to deliver the ADSs to purchasers on or about                     , 2014.

 

 

 

MORGAN STANLEY    J.P. MORGAN    CREDIT SUISSE
MACQUARIE CAPITAL       OPPENHEIMER & CO.

                    , 2014.


Table of Contents

LOGO


Table of Contents

TABLE OF CONTENTS

 

     Page  

PROSPECTUS SUMMARY

     1   

THE OFFERING

     8   

SUMMARY CONSOLIDATED FINANCIAL DATA

     12   

RECENT DEVELOPMENTS

     14   

CONVENTIONS WHICH APPLY TO THIS PROSPECTUS

     15   

RISK FACTORS

     17   

SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS AND INDUSTRY DATA

     59   

USE OF PROCEEDS

     60   

DIVIDEND POLICY

     61   

CAPITALIZATION

     62   

DILUTION

     63   

EXCHANGE RATE INFORMATION

     65   

ENFORCEABILITY OF CIVIL LIABILITIES

     66   

CORPORATE HISTORY AND STRUCTURE

     69   

SELECTED CONSOLIDATED FINANCIAL DATA

     75   
     Page  

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

     77   

INDUSTRY

     104   

BUSINESS

     108   

PRC REGULATION

     126   

MANAGEMENT

     142   

PRINCIPAL SHAREHOLDERS

     151   

RELATED PARTY TRANSACTIONS

     154   

DESCRIPTION OF SHARE CAPITAL

     160   

DESCRIPTION OF AMERICAN DEPOSITARY SHARES

     171   

SHARES ELIGIBLE FOR FUTURE SALE

     178   

TAXATION

     179   

UNDERWRITING

     186   

EXPENSES RELATING TO THIS OFFERING

     192   

LEGAL MATTERS

     193   

EXPERTS

     194   

WHERE YOU CAN FIND ADDITIONAL INFORMATION

     195   

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

     F-1   
 

 

 

You should rely only on the information contained in this prospectus or in any related free-writing prospectus. We have not authorized anyone to provide you with information different from that contained in this prospectus or in any related free writing prospectus. We are offering to sell, and seeking offers to buy, the ADSs only in jurisdictions where offers and sales are permitted. The information contained in this prospectus is current only as of the date of this prospectus, regardless of the time of delivery of this prospectus or of any sale of the ADSs.

We have not taken any action to permit a public offering of the ADSs outside the United States or to permit the possession or distribution of this prospectus outside the United States. Persons outside the United States who come into possession of this prospectus must inform themselves about and observe any restrictions relating to the offering of the ADSs and the distribution of the prospectus outside the United States.

Dealer Prospectus Delivery Obligation

Until             , 2014 (the 25th day after the date of this prospectus), all dealers that buy, sell or trade ADS, whether or not participating in this offering, may be required to deliver a prospectus. This is in addition to the dealers’ obligation to deliver a prospectus when acting as underwriters and with respect to their unsold allotments or subscriptions.

 

i


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PROSPECTUS SUMMARY

The following summary is qualified in its entirety by, and should be read in conjunction with, the more detailed information and financial statements and the related notes appearing elsewhere in this prospectus. In addition to this summary, we urge you to read the entire prospectus carefully, especially the risks of investing in the ADSs discussed under “Risk Factors,” before deciding whether to buy the ADSs.

Overview

Our mission is to make the internet and mobile experience speedier, simpler and safer for users worldwide. To achieve this mission, we have developed a platform that offers mission critical applications for our users and global content distribution channels for our business partners, both of which are powered by our proprietary cloud-based data analytics engines.

For our users, our diversified suite of mission critical applications optimizes internet and mobile system performance and provides real time protection against known and unknown security threats. We had 340.7 million monthly active users for all of our applications in February 2014. Our mobile applications attracted 222.5 million monthly active users in March 2014. Our applications have been installed on 502.1 million mobile devices as of March 31, 2014. See “Conventions Which Apply To This Prospectus” for the definition of “monthly active users.”

Set forth below is a brief description of our core applications for users.

 

    Clean Master, which is a junk file cleaning, memory boosting and privacy protection application, had 237.3 million installations as of March 31, 2014, and 139.9 million monthly active users and 72.9 million average daily active users in March 2014. See “Conventions Which Apply To This Prospectus” for the definition of “average daily active users.” According to App Annie Limited, or App Annie, an app store analytics and market intelligence provider, Clean Master was the No.1 application in the Tools category on Google Play by worldwide monthly downloads in March 2014. It was also the No. 3 mobile utility application in China in terms of monthly active users in February 2014, according to iResearch, a third party market research firm.

 

    CM Security, which is an anti-virus and security application for mobile devices on the Android platform, had 25.6 million installations as of March 31, 2014, and 23.0 million monthly active users and 11.5 million daily active users in March 2014. According to App Annie, CM Security was the No. 2 application in the Tools category on Google Play by worldwide monthly downloads in March 2014.

 

    Battery Doctor, which is a power optimization application, had 201.7 million installations as of March 31, 2014, and 58.6 million monthly active users and 26.2 million average daily active users in March 2014. It was the fifth most downloaded productivity application on Google Play in March 2014, according to App Annie. It was also the No. 1 mobile utility application in China in terms of monthly active users in February 2014, according to iResearch.

 

    Duba Anti-virus, which is an internet security application, had 124.1 million monthly active users and 48.4 million average daily active users in February 2014. We are the second largest provider of internet security applications in China in terms of monthly active users in February 2014, according to iUser Tracker of iResearch.

 

    Cheetah Browser, which is our safe internet browser launched in June 2012 for PCs and June 2013 for mobile devices, had 46.3 million monthly active users and 15.6 million average daily active users in February 2014.

 

 

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    Photo Grid, which is a popular photo collage application, had 62.7 million installations as of March 31, 2014, and 25.2 million monthly active users and 3.3 million average daily active users in March 31, 2014. It ranked No. 1 in the Photography category on Google Play by monthly downloads in the United States in March 2014, according to App Annie.

For our business partners, our platform provides them multiple user traffic entry points and global content distribution channels capable of delivering targeted content to hundreds of millions of people. Our business partners share revenues with us and promote our products and services. We have benefited significantly from our cooperation with over 380 online marketing business partners in 2013, including major Chinese internet companies Alibaba, Baidu and Tencent.

Set forth below is a brief description of our core platform products for business partners.

 

    Duba.com personal start page, which aggregates popular online resources and provides users quick access to most of their online destinations, had 51.7 million monthly active users in February 2014, according to iResearch.

 

    Cheetah personalized recommendation engine, which recommends targeted content and services for users of our Cheetah Browser, had 46.3 million monthly active users in February 2014.

 

    Game centers, through which we have published over 570 games as of March 31, 2014.

 

    Mobile app stores, which include our Mobile Assistant application stores in China and other in-app application stores, have offered approximately one million third party mobile applications as of March 31, 2014.

 

    Kingmobi mobile advertising network, which helps advertisers effectively reach their target audience through our mobile applications.

Our proprietary cloud-based data analytics engines are the core of our platform. For our users, the data analytics engines perform real time analysis of mobile applications, program files and websites on their devices for behavior that may impair system performance or impose security risks. For our business partners, the data analytics engines help create user interest graphs according to a number of dimensions such as online shopping, gaming and frequently used applications, thus facilitating targeted content delivery.

Although substantially all of our applications are free to our users, our massive user base has created ample monetization opportunities for us and our business partners. We generate revenues from our online marketing services by referring traffic from our platform to e-commerce companies and search engine providers and by selling advertisements. We generated 73.8% and 81.7% of our revenues from online marketing services in 2012 and 2013, respectively. We also generate revenues by providing internet value-added services, or IVAS, currently mainly from online games.

We have achieved significant growth in recent years. Our revenues increased from RMB140.1 million in 2011 to RMB287.9 million in 2012, representing a 105.6% growth, and to RMB749.9 million (US$123.9 million) in 2013, representing a 160.5% growth. Our net income was RMB62.0 million (US$10.2 million) in 2013, a 530.0% increase over our net income of RMB9.8 million in 2012, compared to a net loss of RMB30.2 million in 2011.

Our Strengths

We believe the following competitive strengths have contributed to our growth and created significant barriers to entry for our competitors:

 

    massive, highly engaged and fast-growing global user base;

 

    diversified suite of mission critical applications for users;

 

 

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    continuous R&D and innovation focused on optimizing user experience;

 

    cloud-based data analytics engines enhancing platform performance;

 

    proven monetization model driven by platform products and extensive network of business partners; and

 

    experienced management team with strategic vision and a proven execution track record.

Our Strategies

We aim to make the internet and mobile experience speedier, simpler and safer for users worldwide. To achieve this mission, we intend to:

 

    further grow our mobile user base;

 

    deepen our global penetration;

 

    enhance monetization capabilities; and

 

    pursue strategic investment and acquisition opportunities.

Our Industry

The global mobile internet industry is developing rapidly with the continuous enhancement of infrastructure, and the increasing use of smartphones and other mobile devices which have become more affordable. According to IDC, an independent market research firm, global mobile internet users totaled approximately 1.0 billion in 2012, representing a 36.5% increase over the user base in 2009, and are expected to reach approximately 2.3 billion in 2017, representing a five-year CAGR of 15.8%. The Android operating system has become the world’s most commonly used operating system for smartphones. According to IDC, Android-based smartphones are expected to have approximately 78.6% market share of global smartphone shipments in 2013, compared with 15.2% market share for iOS-based smartphones and other mobile devices, and are well positioned to maintain a strong leadership position for the foreseeable future.

Mobile apps have become a popular means of engaging end users and delivering digital content and services. According to App Annie, there were more than 1.1 million apps available on Google Play worldwide and 1.0 million apps available in the Apple App Store as of December 31, 2013. This massive amount of mobile apps creates a challenge for efficient application discovery and distribution in app stores. The lack of application discovery capability calls for an industry wide solution, and gradually alternative application discovery and distribution channels emerge and become popular, including recommendation engines of super apps and mobile browsers. There are only eight non-game applications with over 50 million cumulative downloads on Google Play worldwide in the second half of 2013, including Facebook, WhatsApp and Clean Master. Such applications are commonly referred to as “super apps.” Super apps are ideal channels for application distribution because they have a combination of critical factors that enable an application to identify its potential audience in a targeted way. We believe the global mobile internet industry is still at an early stage and is poised for significant growth and monetization opportunities.

In China, the numbers of internet users is expected to continue to grow in the foreseeable future. According to the China Internet Network Information Center, or CNNIC, a not-for-profit organization, the number of internet users in China reached 618 million as of December 31, 2013, making China the largest internet market in the world based on the number of users. According to iResearch, the number of internet users in China is expected to increase to approximately 850 million in 2017. Meanwhile, the mobile internet population in China has grown substantially. According to CNNIC, the number of mobile internet users in China reached 500 million as of December 31, 2013 and is expected to increase to 745 million in 2017, representing a four-year CAGR of

 

 

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10.5%. As Chinese users have continued to embrace the internet, mobile devices and internet and mobile applications, they have encountered an increasingly complex internet experience. As a result, the internet security and system optimization market in China has grown significantly over the past five years, reaching 493 million users, or 80% of the online population in 2013.

Established internet companies are likely to benefit from the increasing user traffic migration from internet to mobile internet due to multiple competitive advantages in establishing and growing their mobile internet presence, including recognized brand names, large and loyal user base, robust technology infrastructure, as well as proven monetization capabilities and strong connections with other business partners. Therefore, established internet companies are well positioned to offer their products services on both internet and mobile internet platforms to serve their large and loyal user base and monetize their user base.

Our Challenges

Our ability to achieve our goal and execute our strategies is subject to risks and uncertainties, including but not limited to those relating to our ability to:

 

    retain or continue to grow our user base and maintain our level of user engagement;

 

    achieve continued growth in, or successful monetization of, our mobile business operations;

 

    maintain our relationships with our significant business partners;

 

    compete effectively in various aspects of our business; and

 

    successfully penetrate international markets.

In addition, we face risks and uncertainties related to our compliance with applicable PRC regulations and policies, particularly those risks and uncertainties associated with our control over our variable interest entities, which is based on contractual arrangements rather than equity ownership.

Please see “Risk Factors” and other information included in this prospectus for a detailed discussion of the above and other challenges and risks.

Corporate Information

Our principal executive offices are located at 12/F, Fosun International Center Tower, No. 237 Chaoyang North Road, Chaoyang District, Beijing 100022, People’s Republic of China. Our telephone number at this address is +86-10-6292-7779. Our registered office in the Cayman Islands is located at the offices of Maples Corporate Services Limited at PO Box 309, Ugland House, Grand Cayman, KY1-1104, Cayman Islands. Our agent for service of process in the United States is Law Debenture Corporate Services Inc., of 4th Floor, 400 Madison Avenue, New York, New York 10017.

Investors should contact us for any inquiries through the address and telephone number of our principal executive offices. Our website is http://www.ijinshan.com. The information contained on our website is not a part of this prospectus.

Corporate History and Structure

Our company was incorporated in Cayman Islands in July 2009 by Kingsoft Corporation Limited, or Kingsoft Corporation, a company listed on the Hong Kong Stock Exchange (Stock Code: 3888). In August 2009, we established our wholly owned subsidiary in Hong Kong, Kingsoft Internet Security Software Corporation Limited, and renamed it as Cheetah Technology Corporation Limited, or Cheetah Technology, in September 2012. Subsequent to our incorporation, Kingsoft Corporation initiated a series of restructuring transactions in

 

 

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2009 and 2010. As a result of this restructuring, Zhuhai Juntian Electronic Technology Co., Ltd., or Zhuhai Juntian, an entity previously wholly owned by Kingsoft Corporation that was incorporated in China, became wholly and directly owned by Cheetah Technology in December 2009. Beijing Kingsoft Internet Security Software Co., Ltd., or Beijing Security, was incorporated in November 2009 in China as a wholly and directly owned subsidiary of Zhuhai Juntian.

Beike Internet (Beijing) Security Technology Co., Ltd, or Beike Internet, was incorporated in April 2009 and subsequently became a subsidiary of a variable interest entity of Kingsoft Corporation in August 2010. Beike Internet became one of our VIEs in January 2011 through restructuring.

In October 2010, we acquired 100% equity interest in Conew.com Corporation, which was incorporated in the British Virgin Islands. As part of the acquisition, we acquired 100% equity interest in Conew Network Technology (Beijing) Co., Ltd., or Conew Network, and obtained effective control over Beijing Conew Technology Development Co., Ltd., or Beijing Conew, one of our VIEs, through contractual arrangements. Conew Network was incorporated in China in March 2009, and Beijing Conew was incorporated in China in December 2005. Beijing Conew offered internet security services starting in May 2010 but has been dormant since our acquisition of Conew.com corporation.

Our other three VIEs, namely, Beijing Kingsoft Network Technology Co., Ltd., or Beijing Network, Beijing Antutu Technology Co., Ltd., or Beijing Antutu, and Guangzhou Kingsoft Network Technology Co., Ltd., or Guangzhou Network, were incorporated in China in July 2012, June 2013, and September 2013, respectively. Suzhou Jiangduoduo Technology Co., Ltd., a subsidiary of Beike Internet, was incorporated in China in January 2014.

Due to certain restrictions under PRC laws on foreign ownership and investment in value-added telecommunications services in China, we conduct our operations in China principally through contractual arrangements with our VIEs in China and their respective shareholders. Each of our VIEs and their respective shareholders entered into contractual arrangements with either Beijing Security or Conew Network, our wholly owned subsidiaries. See “Corporate History and Structure—Corporate Structure—Contractual Arrangements with Our VIEs” for details. The VIEs contributed 16.2%, 65.3% and 91.0% of our total consolidated revenues for the years ended December 31, 2011, 2012 and 2013, respectively.

Our contractual arrangements with each of our VIEs and their shareholders enable us to:

 

    exercise effective control over our VIEs;

 

    receive substantially all of the economic benefits of our VIEs in consideration for the services provided by Beijing Security and Conew Network, our wholly owned subsidiaries in China; and

 

    have an exclusive option to purchase all of the equity interests in our VIEs, when and to the extent permitted under PRC law, regulations or legal proceedings.

 

 

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The following diagram illustrates our corporate structure as of the date of this prospectus:

 

LOGO

 

Notes:    (1)   See “Principal Shareholders” for the other beneficial owners of our company.
(2)   We exercise effective control over Beijing Network through contractual arrangements with Beijing Network and Mr. Ming Xu and Mr. Wei Liu , who own 50% and 50% of the equity interest in Beijing Network, respectively.
(3)   We exercise effective control over Beijing Conew through contractual arrangements with Beijing Conew and Mr. Sheng Fu and Mr. Ming Xu, who own 62.73% and 37.27% of the equity interest in Beijing Conew, respectively. Beijing Conew has remained dormant since October 2010.
(4)   We exercise effective control over Beijing Antutu through contractual arrangements with Beijing Antutu and Mr. Ming Xu and Mr. Wei Liu, who own 50% and 50% of the equity interest in Beijing Antutu, respectively.
(5)   We exercise effective control over Beike Internet through contractual arrangements with Beike Internet and Mr. Sheng Fu and Ms. Weiqin Qiu, who own 35% and 65% of the equity interest in Beike Internet, respectively.
(6)   We exercise effective control over Guangzhou Network through contractual arrangements with Guangzhou Network and Mr. Ming Xu and Ms. Weiqin Qiu, who own 50% and 50% of the equity interest in Guangzhou Network, respectively.
*   Formerly known as Kingsoft Internet Software Holdings Limited.

 

 

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Our Dual Class Share Structure

Upon completion of this offering, we will have a dual class ordinary share structure. Our ordinary shares will be divided into Class A ordinary shares and Class B ordinary shares. All of our outstanding ordinary shares prior to this offering will be re-designated as Class B ordinary shares and all of our outstanding preferred shares will be automatically converted into Class B ordinary shares immediately prior to the completion of this offering. All share-based compensation awards, including restricted shares, regardless of grant dates, will entitle holders to purchase Class A ordinary shares once the vesting and exercise conditions on such share-based compensation awards are met. Holders of Class A and Class B ordinary shares will have the same rights, including dividend rights, except that holders of Class A ordinary shares will be entitled to one vote per share, while holders of Class B ordinary shares will be entitled to ten votes per share, and Class B ordinary shares may be converted into the same number of Class A ordinary shares by the holders thereof at any time, while Class A ordinary shares cannot be converted into Class B ordinary shares under any circumstances. Upon the transfer of any Class B ordinary share, such Class B ordinary share will be automatically and immediately converted into one Class A ordinary share. Each ADS being sold in this offering represents ten Class A ordinary shares. See “Description of Share Capital—Ordinary Shares” for more details regarding our Class A ordinary shares and Class B ordinary shares.

After the completion of this offering, Kingsoft Corporation will continue to retain a majority of our aggregate voting rights due to its equity interests in our company and our dual-class share structure. Kingsoft Corporation will hold 7,407,407 Class A ordinary shares and 662,806,049 Class B ordinary shares, representing 53.5% of our aggregate voting rights, immediately after the completion of this offering, assuming (i) the underwriters do not exercise their option to purchase additional ADSs and (ii) we will issue and sell a total of 37,037,037 Class A ordinary shares through the Concurrent Private Placement, which number of shares has been calculated based on the mid-point of the estimated initial public offering price range shown on the front cover page of this prospectus. Our directors are not subject to a term of office and hold office until such time as they resign or are removed from office by ordinary resolutions or the unanimous written consent of all shareholders. After the completion of this offering, we will be a controlled company as defined in the NYSE Listed Company Manual, and we intend to rely on the “controlled company” exemption from the corporate governance requirements of NYSE.

Implications of Being an Emerging Growth Company

As a company with less than US$1.0 billion in revenue for our last fiscal year, we qualify as an “emerging growth company” pursuant to the Jumpstart Our Business Startups Act of 2012, or the JOBS Act. An emerging growth company may take advantage of specified reduced reporting and other requirements that are otherwise applicable generally to public companies. These provisions include exemption from the auditor attestation requirement under Section 404 of the Sarbanes-Oxley Act of 2002, or Section 404, in the assessment of the emerging growth company’s internal control over financial reporting. The JOBS Act also provides that an emerging growth company does not need to comply with any new or revised financial accounting standards until such date that a private company is otherwise required to comply with such new or revised accounting standards. However, we have elected to “opt out” of this provision and, as a result, we will comply with new or revised accounting standards as required when they are adopted for public companies. This decision to opt out of the extended transition period under the JOBS Act is irrevocable.

We will remain an emerging growth company until the earliest of (a) the last day of our fiscal year during which we have total annual gross revenues of at least US$1.0 billion; (b) the last day of our fiscal year following the fifth anniversary of the completion of this offering; (c) the date on which we have, during the previous three-year period, issued more than US$1.0 billion in non-convertible debt; or (d) the date on which we are deemed to be a “large accelerated filer” under the Securities Exchange Act of 1934, as amended, or the Exchange Act, which would occur if the market value of the ADSs that are held by non-affiliates exceeds US$700 million as of the last business day of our most recently completed second fiscal quarter. Once we cease to be an emerging growth company, we will not be entitled to the exemptions provided in the JOBS Act discussed above.

 

 

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THE OFFERING

The following information assumes that the underwriters will not exercise their option to purchase additional ADSs in the offering, unless otherwise indicated.

 

Offering price

   We currently estimate that the initial public offering price will be between US$12.50 and US$14.50 per ADS.

ADSs offered by us

   12,000,000 ADSs

Over-allotment option

   We have granted to the underwriters an option, which is exercisable within 30 days from the date of this prospectus, to purchase up to 1,800,000 additional ADSs.

Concurrent Private Placement

   Concurrently with, and subject to, the completion of this offering, we will issue and sell to Kingsoft Corporation Limited, Xiaomi Ventures Limited and Baidu Holdings Limited US$10 million, US$20 million and US$20 million of our Class A ordinary shares, respectively, at a price per share equal to the initial public offering price adjusted to reflect the ADS-to-ordinary share ratio (the “Concurrent Private Placement”). Our proposed Concurrent Private Placement is being made pursuant to an exemption from registration with the U.S. Securities and Exchange Commission under Regulation S promulgated under the Securities Act. Under the subscription agreement executed on April 25, 2014, the completion of this offering is the only substantive closing condition precedent for this private placement. Each of Kingsoft Corporation Limited, Xiaomi Ventures Limited and Baidu Holdings Limited has agreed with the underwriters not to, directly or indirectly, sell, transfer or dispose of any Class A ordinary shares acquired in the private placement for a period of 180 days after the date of this prospectus, subject to certain exceptions.

Ordinary shares outstanding immediately after this offering

   1,382,493,689 ordinary shares (or 1,400,493,689 ordinary shares if the underwriters exercise their over-allotment option in full) will be outstanding immediately upon the completion of this offering, comprised of (i) 157,037,037 Class A ordinary shares, par value US$0.000025 per share (or 175,037,037 Class A ordinary shares in total if the underwriters exercise their over-allotment option in full to purchase additional ADSs), assuming that we will
   issue and sell a total of 37,037,037 Class A ordinary shares through the Concurrent Private Placements, which number of shares has been calculated based on an initial public offering price of US$13.50 per ADS,

 

 

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   the mid-point of the estimated initial public offering price range shown on the front cover page of this prospectus and (ii) 1,225,456,652 Class B ordinary shares, par value US$0.000025 per share. The 157,037,037 Class A ordinary shares and 1,225,456,652 Class B ordinary shares outstanding immediately after the completion of this offering will represent 11.4% and 88.6% of our total outstanding shares, respectively, and 1.3% and 98.7% of our total voting power, respectively.

ADSs outstanding immediately after this offering

   12,000,000 ADSs (or 13,800,000 ADSs if the underwriters exercise their over-allotment option in full)

The ADSs

   Each ADS represents 10 Class A ordinary shares, par value US$0.000025 per share. The ADSs may be evidenced by ADRs.
   The depositary will hold the Class A ordinary shares underlying your ADSs. You will have rights as provided in the deposit agreement. If we declare dividends on our ordinary shares, the depositary will pay you the cash dividends and other distributions it receives on our Class A ordinary shares, after deducting its fees and expenses.
   You may turn in your ADSs to the depositary in exchange for Class A ordinary shares. The depositary will charge you fees for such an exchange.
   We may amend or terminate the deposit agreement for any reason without your consent. If you continue to hold your ADSs, you agree to be bound by the deposit agreement as amended.
   To better understand the terms of the ADSs, you should carefully read the section in this prospectus entitled “Description of American Depositary Shares.” You should also read the deposit agreement entered into among us, the depositary and all registered holders and indirect holders and beneficial owners of ADSs, which is filed as an exhibit to the registration statement that includes this prospectus.

Depositary

   The Bank of New York Mellon

Use of proceeds

   We plan to use the net proceeds we receive from this offering and the Concurrent Private Placement to penetrate selected international markets, invest in technology, infrastructure and research and development capabilities, expand and strengthen our sales and marketing activities, and for other general corporate purposes, including working capital needs and potential acquisitions.

 

 

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   See “Use of Proceeds” for additional information.

Dividend policy

   We declared a special dividend of RMB17.7 million to Kingsoft Corporation in November 2009, which was fully paid in 2013. In addition, we declared a special dividend of RMB43.1 million in August 2011 to Kingsoft Corporation, which was fully paid in 2011. We currently have no plan to declare or pay any dividends in the near future on our shares. We currently intend to retain most, if not all, of our available funds and any future earnings to operate and expand our business.

Lock-up

   We, all of our directors and executive officers, our existing shareholders and certain holders of our restricted shares have agreed with the underwriters, subject to certain exceptions, not to sell, transfer or dispose of, directly or indirectly, any of our ordinary shares or ADSs representing our ordinary shares or securities convertible into or exercisable or exchangeable for the ADSs or our ordinary shares for a period of 180 days after the date of this prospectus. See “Underwriting” for more information.

NYSE symbol

   We have applied to list the ADSs on the NYSE under the symbol “CMCM”.

Payment and settlement

   The underwriters expect to deliver the ADSs against payment therefor through the facilities of The Depository Trust Company, or DTC, on            , 2014.

Directed share program

   At our request, the underwriters have reserved for sale, at the initial public offering price, up to 1,000,000 ADSs offered by this prospectus to some of our directors, officers, employees, business associates and related persons.

Risk factors

   See “Risk Factors” and other information included in this prospectus for a discussion of risks that you should carefully consider before investing in the ADSs.

The number of ordinary shares that will be outstanding immediately after this offering:

 

    assumes re-designation or conversion of all our outstanding ordinary shares and preferred shares as of the date of this prospectus into 1,225,456,652 Class B ordinary shares immediately upon the completion of this offering;

 

    assumes no exercise of the underwriters’ over-allotment option;

 

    excludes 187,043,383 Class A ordinary shares reserved for future issuance under our 2013 equity incentive plan and 2014 restricted shares plan; and

 

 

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    excludes ADSs and Class A ordinary shares that Kingsoft Corporation intends to provide to its eligible shareholders to meet the “assured entitlement” requirement pursuant to Practice Note 15 which Kingsoft Corporation is subject to.

 

 

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SUMMARY CONSOLIDATED FINANCIAL DATA

The following summary consolidated statements of comprehensive income data for the years ended December 31, 2011, 2012 and 2013 and the summary consolidated balance sheets data as of December 31, 2012 and 2013 have been derived from our audited consolidated financial statements included elsewhere in this prospectus. Our consolidated financial statements are prepared and presented in accordance with accounting principles generally accepted in the United States, or U.S. GAAP. Our historical results for any period are not necessarily indicative of results to be expected for any future period. You should read the following summary financial information in conjunction with the consolidated financial statements, the related notes and the information under “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included elsewhere in this prospectus.

 

    Year Ended December 31,  
    2011     2012     2013  
    RMB     RMB     RMB     US$  
    (in thousands, except for number of shares)  

Summary Consolidated Statement of Comprehensive Income (Loss) Data:

       

Revenues

    140,054        287,927        749,911        123,876   

Online marketing services

    23,916        212,443        612,565        101,189   

IVAS

           2,354        83,155        13,736   

Internet security services and others

    116,138        73,130        54,191        8,951   

Cost of revenues(1)

    (53,737     (71,560     (140,526     (23,213
 

 

 

   

 

 

   

 

 

   

 

 

 

Gross profit

    86,317        216,367        609,385        100,663   
 

 

 

   

 

 

   

 

 

   

 

 

 

Operating expenses:

       

Research and development(1)

    (79,105     (114,329     (217,846     (35,986

Selling and marketing(1)

    (28,810     (57,167     (201,504     (33,286

General and administrative(1)

    (15,301     (34,408     (97,817     (16,158
 

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

    (123,216     (205,904     (517,167     (85,430
 

 

 

   

 

 

   

 

 

   

 

 

 

Operating profit/(loss)

    (36,899     10,463        92,218        15,233   
 

 

 

   

 

 

   

 

 

   

 

 

 

Income/(loss) before taxes

    (32,832     14,759        110,688        18,285   
 

 

 

   

 

 

   

 

 

   

 

 

 

Income tax benefit/(expense)

    2,597        (4,915     (48,670     (8,040
 

 

 

   

 

 

   

 

 

   

 

 

 

Net income/(loss)

    (30,235     9,844        62,018        10,245   
 

 

 

   

 

 

   

 

 

   

 

 

 

Earnings/(loss) per share:

       

Basic

    (0.0345     0.0097        0.0567        0.0094   

Diluted

    (0.0345     0.0094        0.0538        0.0089   

Weighted average number of shares used in computation:

       

Basic

    875,944,795        908,457,367        929,119,153        929,119,153   

Diluted

    875,944,795        1,046,982,205        1,135,982,953        1,135,982,953   

 

(1) The amount of share-based compensation costs for the years ended December 31, 2011 and 2012 and 2013 are as follows:

 

     Year Ended December 31,  
     2011      2012      2013  
     RMB      RMB      RMB      US$  
     (in thousands)  

Cost of revenues

     94         21         10         2   

Research and development expenses

     4,313         6,663         14,520         2,399   

Selling and marketing expenses

     47         609         2,835         468   

General and administrative expenses

     1,381         12,994         20,031         3,309   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

     5,835         20,287         37,396         6,178   
  

 

 

    

 

 

    

 

 

    

 

 

 

 

 

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     As of December 31,  
         2012          2013  
     RMB          RMB          US$  
     (in thousands)  

Summary Consolidated Balance Sheets Data:

        

Cash and cash equivalents

     134,376         530,536         87,638   

Short-term investments

     40,376         55,780         9,214   

Total assets

     316,995         909,593         150,253   

Total current liabilities

     152,062         263,968         43,603   

Total liabilities

     156,869         315,525         52,119   

Total mezzanine equity

     119,976         441,941         73,004   

Total shareholders’ equity

     40,150         152,127         25,130   

 

 

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RECENT DEVELOPMENTS

The following is a summary of our selected unaudited financial data for the three months ended March 31, 2014.

Revenues. Our total revenues for the three months ended March 31, 2014 were RMB315.7 million (US$50.8 million). Our total revenues for the three months ended March 31, 2014 comprised revenues from online marketing services of RMB232.2 million (US$37.4 million), revenues from IVAS of RMB71.8 million (US$11.6 million) and revenues from internet security services and others of RMB11.7 million (US$1.8 million). Our mobile revenues as a percentage of our total revenues for the three months ended March 31, 2014 were 17%.

Gross profit. Our gross profit for the three months ended March 31, 2014 was RMB245.3 million (US$39.5 million).

Operating profit. Our estimated operating profit for the three months ended March 31, 2014 was RMB22.4 million (US$3.6 million). Our operating profit for the three months ended March 31, 2014 reflects estimated share-based compensation expenses of RMB10.9 million (US$1.8 million).

Net profit. Our estimated net profit for the three months ended March 31, 2014 was RMB21.9 million (US$3.5 million). Our net profit for the three months ended March 31, 2014 reflects estimated share-based compensation expenses of RMB10.9 million (US$1.8 million).

Translations from Renminbi to U.S. dollar in this “Recent Developments” section were made at a rate of RMB6.2164 to US$1.00, the rate in effect as of March 31, 2014 certified for customs purposes by the Federal Reserve Bank of New York.

Our selected unaudited financial data for the three months ended March 31, 2014 may not be indicative of our results for future periods. Please refer to “Risk Factors—Risks Relating to Our Business and Industry—Our results of operations are subject to seasonal fluctuations due to a number of factors, any of which could adversely affect our business and operating results” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Selected Quarterly Results of Operations” for information regarding trends and other factors that may affect our results of operations.

 

 

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CONVENTIONS WHICH APPLY TO THIS PROSPECTUS

Except where the context otherwise requires and for purposes of this prospectus only:

 

    “Cheetah Mobile Inc.,” “we,” “us,” our company and “our” refer to Cheetah Mobile Inc., formerly known as Kingsoft Internet Software Holdings Limited, its subsidiaries and, in the context of describing our operations and consolidated financial data, also include our variable interest entities, Beijing Antutu, Beike Internet, Guangzhou Network, Beijing Network, and Beijing Conew;

 

    “ADSs” refers to American depositary shares, each of which represents ten of our Class A ordinary shares;

 

    “China” or the “PRC” refers to the People’s Republic of China, excluding, for the purposes of this prospectus, Hong Kong, Macau and Taiwan;

 

    “Ordinary shares” prior to the completion of this offering refers to our ordinary shares, par value US$0.000025 per share and, upon the completion of this offering, to our Class A and Class B ordinary shares, par value US$0.000025 per share;

 

    “RMB” and “Renminbi” refer to the legal currency of China;

 

    “US$,” “U.S. dollars,” “$,” and “dollars” refer to the legal currency of the United States;

 

    “Assured entitlement distribution” refers to the distribution of ADSs or Class A ordinary shares by Kingsoft Corporation to its eligible shareholders pursuant to the requirements of Practice Note 15 of the Hong Kong Listing Rules;

 

    Number of “daily active users,” in reference to all of our products, refers to the number of computers, tablets or smartphones on which one or more of our products have been installed or downloaded and that accessed the internet at least once during a given day; and number of “daily active users,” in reference to an individual product, refers to the number of computers, tablets or smartphones on which such product has been installed or downloaded and that accessed the internet at least once during a given day. A single device with multiple applications installed is counted as one user. A single person with applications installed on multiple devices is counted as multiple users. Multiple persons using a single device are counted as one user. We derive the number of daily active users for our products by combining (i) the number of active users of our mobile applications, which is based on our internal statistics, and (ii) the number of active users of our PC based applications, which is provided by iResearch. The number of daily active users for our products does not include the number of daily active users of CM Security on the Android platform;

 

    Number of “monthly active users,” in reference to all of our products, refers to the number of computers, tablets or smartphones on which one or more of our products have been installed or downloaded and that accessed the internet at least once during the relevant month; and number of “monthly active users,” in reference to an individual product, refers to the number of computers, tablets or smartphone on which such product has been installed or downloaded and that accessed the internet at least once during the relevant month. A single device with multiple applications installed is counted as one user. A single person with applications installed on multiple devices is counted as multiple users. Multiple persons using a single device are counted as one user. We derive the number of monthly active users for our products by combining (i) the number of active users of our mobile applications, which is based on our internal statistics, and (ii) the number of active users of our PC based applications, which is provided by iResearch. The number of monthly active users for our products does not include the number of monthly active users of CM Security on the Android platform;

 

    Number of “installations” of an application or number of applications that have been “installed”, as of a specified date, refers to the cumulative number of installations of that application from the product’s launch date to the date specified. The total number of installations of our applications on mobile devices does not include the number of installations of CM Security on the Android platform; and

 

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    “Hong Kong Listing Rules” refers to the Rules Governing the Listing of Securities on the Stock Exchange of Hong Kong Limited; and

 

    “Variable interest entities,” or “VIEs,” refers to those entities incorporated in PRC consolidated in our financial statements and over which our subsidiaries exercise effective control through a series of contractual arrangements.

Unless the context indicates otherwise, all information in this prospectus assumes no exercise by the underwriters of their over-allotment option.

 

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RISK FACTORS

An investment in the ADSs involves significant risks. You should carefully consider all of the information in this prospectus, including the risks and uncertainties described below, before making an investment in the ADSs. Any of the following risks could have a material adverse effect on our business, financial condition and results of operations. In any such case, the market price of the ADSs could decline, and you may lose all or part of your investment.

Risks Relating to Our Business and Industry

If we fail to retain or grow our user base, or if our users decrease their engagement with our mission critical applications, our business, financial condition and results of operations would be materially and adversely affected.

The size of our user base and our users’ level of engagement are critical to our success. Our business and financial performance have been and will continue to be significantly determined by our success in adding, retaining, and engaging active users. We have been consistently anticipating user demand and developing innovative products and services in an effort to attract and retain users. However, the internet and mobile industries are characterized by constant and rapid technological changes. As a result, users may switch from one set of products to others more quickly than in other sectors. To the extent our user growth rate slows, our success will become increasingly dependent on our ability to increase levels of user engagement and monetization. Our user growth and engagement could be adversely affected if:

 

    we fail to maintain the popularity of our existing mission critical applications among users;

 

    we are unsuccessful in launching new, compelling applications in a cost-effective manner to further diversify our product offerings;

 

    technical or other problems prevent us from delivering our products or services in a rapid and reliable manner or otherwise affect the user experience;

 

    there are user concerns related to privacy and communication, safety, security or other factors;

 

    there are adverse changes in our products or services that are mandated by, or that we elect to make to address, legislation, regulatory authorities or litigation, including settlements or consent decrees;

 

    we fail to provide adequate customer service to users; or

 

    we do not maintain our brand image or our reputation is damaged.

Our efforts to avoid or address any of these events could require us to incur substantial expenditures to modify or adapt our products, services, or infrastructure. If we fail to retain or continue to grow our user base, or if our users decrease their engagement with our mission critical applications, our business, financial condition and results of operations would be materially and adversely affected.

We only began to offer and monetize our mission critical mobile applications recently, and there is uncertainty as to whether we can achieve continued growth in, or successful monetization of, our mobile business operations.

A substantial majority of our revenues have been derived from our PC based applications. Although our mobile applications have proven to be highly popular, we have a short operating history and limited experience in the mobile internet industry. We launched our first mobile application, Battery Doctor, in July 2011. Our Clean Master mobile applications were introduced in 2012, and we acquired the Photo Grid mobile application in 2013. We launched our CM Security mobile application on the Android platform in January 2014. The mobile internet industry is characterized by constant change, including but not limited to rapid technological evolution, shifting user demands, frequent introduction of new products and services and constant emergence of new

 

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industry standards, operating systems and practices. We received and may continue to receive complaints from users regarding our mobile applications primarily regarding privacy settings and certain third-party website promotion activities on our mobile applications. We have not incurred any material costs to address the complaints. If we are unable to address user complaints timely or at all, our reputation may be harmed and our user base may decline. As a result of these factors and our limited mobile internet industry experience, we may not be able to sustain the popularity of our existing mobile applications or introduce new mobile applications that meet the expectations of our users and business partners.

Even if we succeed in continuing to attract a growing user base for our mobile applications, we may not be able to monetize our mobile operations successfully. The mobile internet industry only began to experience rapid growth in recent years, and there are relatively few proven monetization models for us to monetize our mobile traffic. We are currently exploring a number of monetization models for our mobile business. We generate our mobile revenues primarily through mobile advertising and mobile game publishing services. If the mobile advertising and mobile game publishing industries fail to grow as we expect, or if we fail to introduce effective monetization models for our mobile applications, our business, financial condition and results of operations may be materially and adversely affected.

Because a small number of business partners contribute to a significant portion of our revenues, our revenues and results of operations could be materially and adversely affected if we were to lose a significant business partner or a significant portion of its business.

Currently, a small number of business partners contribute a significant portion of our revenues. In 2013, our five largest business partners in aggregate contributed approximately 65% of our revenues, with Alibaba, Baidu and Tencent accounting for 25%, 19% and 14% of our total revenues, respectively. We expect that our top five business partners will continue to contribute a significant portion of our revenues in the near future. If we lose any of these business partners, or if a significant business partner substantially reduces its spending with us, our business, financial condition and results of operations may be materially and adversely affected.

We rely on online marketing for the majority of our revenues, and our profitability and financial prospects may be affected by the revenue sharing and fee arrangement with our business partners.

We generated 17.1%, 73.8% and 81.7% of our revenues, respectively, from online marketing services in 2011, 2012 and 2013. We generate revenues from our online marketing services by referring traffic from our platform to e-commerce companies and search engine providers and by selling advertisements. The revenue sharing and fee arrangement with these business partners are subject to change. For example, our fee arrangement with one of our significant business partners was changed from a pay per click and pay per sale model to pay per sale only model for certain traffic we refer to them, which affected our revenues in 2013. If our business partners reduce or discontinue their advertising spending with us, we fail to attract new advertising customers or the fees we receive for the traffic we refer to our business partners significantly decrease, our business, financial condition and results of operations could be materially and adversely affected.

If we fail to compete effectively, our business, financial condition and results of operations may be materially and adversely affected.

We face intense competition in our businesses. In the internet space, we mainly compete with Qihoo 360 in China’s internet security and anti-virus market. In the mobile space, we compete with other mobile application developers, including those developers offer products purported to perform similar functions as Clean Master and Battery Doctor. In addition, we compete with all major internet companies for user attention and advertising spend.

Some of our competitors have longer operating histories and significantly greater financial, technological and marketing resources than we do and, in turn, have an advantage in attracting and retaining users, advertisers and other business partners. If we are not able to effectively compete in any aspect of our business or if our

 

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reputation is harmed by negative publicity relating to us, our products and services or our key management, our overall user base may decrease, which could make us less attractive to advertisers and other business partners, and our business, financial condition and results of operations may be materially and adversely affected.

If our mission critical applications fail to address security threats and optimize system performance or otherwise do not work properly, we may lose users and our business, financial condition and results of operations may be materially and adversely affected.

Our users rely on our mission critical applications to optimize internet and mobile system performance and provide real time protection against security threats. Our applications are highly technical and complex and, when deployed, may contain defects or security vulnerabilities. Some errors in our products may only be discovered after a product has been installed and used by our users.

Our mission critical applications for users rely on our cloud-based data analytics engines to optimize system performance and protect against security threats. The data analytics engines include our most up-to-date security threats library and application behavior library in the cloud and our mission critical applications only include a subset of these libraries on the users’ end devices. If our data analytics engines do not function properly, or if the infrastructure supporting the data analytics engine malfunctions, our mission critical applications may not achieve optimal results.

Our cloud-based analytics engines employ a heuristic, or experience-based, approach to detect unknown security threats and behavior of unknown mobile applications. However, new malware and malicious applications are continuously appearing and evolving, and our detection technologies may not detect all forms of security threats or malicious applications encountered by our users.

In addition, our mission critical applications may not work properly with the Windows, Android or iOS operating systems if we cannot promptly upgrade our applications following any changes or updates to these operating systems. We previously experienced system disruption due to compatibility issues resulting from an update to the Windows operating system.

Any of these defects, vulnerabilities or failures may cause security breaches and suboptimal internet and mobile system performance, which could result in damage to our reputation, decrease in our user base and loss of advertising customers, and our business, financial condition and results of operations may be materially and adversely affected.

If any system failure, interruption or downtime occurs, our business, financial condition and results of operations may be materially and adversely affected.

Although we seek to reduce the possibility of disruptions and other outages, our mission critical mobile and PC applications may be disrupted by problems with our own cloud-based technology and system, such as malfunctions in our software or other facilities or network overload. Our systems may be vulnerable to damage or interruption caused by telecommunication failures, power loss, human error, computer attacks or viruses, earthquakes, floods, fires, terrorist attacks and similar events. While we locate our servers in multiple data centers across China, as well as in the United States, Hong Kong and Singapore, our system are not fully redundant or backed up, and our disaster recovery planning may not be sufficient for all eventualities. Despite any precautions we may take, the occurrence of natural disasters or other unanticipated problems at our hosting facilities could result in interruptions in the availability of our products and services. Any interruption in the ability of our users to use our applications could damage our reputation, reduce our future revenues, harm our future profits, subject us to regulatory scrutiny and lead users to seek alternative internet mobile products.

Our servers may experience downtime from time to time, which may adversely affect our brands and user perception of the reliability of our systems. Any scheduled or unscheduled interruption in the ability of users to use our servers could result in an immediate, and possibly substantial, loss of revenues.

 

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If major mobile application distribution channels change their standard terms and conditions in a manner that is detrimental to us, or terminate their existing relationship with us, our business, financial condition and results of operations may be materially and adversely affected.

We rely on third party mobile application distribution channels such as Google Play and iOS App Store to distribute most of our mobile applications to users. In China, where Google Play is not available, we collaborate with similar local distribution channels to distribute our mobile applications. We expect a substantial number of downloads of our mobile applications will continue to be derived from these distribution channels. As such, the promotion, distribution and operation of our applications are subject to such distribution platforms’ standard terms and policies for application developers, which are subject to the interpretation of, and frequent changes by, these distribution channels. If Google Play, iOS App Store or any of the major distribution channels change their standard terms and conditions in a manner that is detrimental to us, or terminate their existing relationship with us, our business, financial condition and results of operations may be materially and adversely affected.

As most of our mobile applications are created for Android devices, a decrease in the popularity of the Android ecosystem may materially and adversely affect our mobile business.

Most of our mobile applications are created for Android devices. Any significant downturn in the overall popularity of the Android ecosystem or the use of Android devices could materially and adversely affect the demand for and revenues generated from our mobile applications. Although the Android ecosystem has grown rapidly in recent years, it is uncertain whether it will continue to grow at a similar rate in the future. In addition, due to the constantly evolving nature of the mobile industry, another operating system for mobile devices may eclipse Android and decrease its popularity. To the extent that our mobile applications continue to mainly support Android devices, our mobile business would be vulnerable to any decline in popularity of the Android operating system.

If we fail to source suitable third party products, such as online games, on reasonable terms, our IVAS revenues may be materially and adversely affected.

We derive a portion of our revenues from IVAS, which mainly include game publishing services. The success of our IVAS business depends on our ability to source suitable third party products on reasonable terms. For example, we have exclusive publishing or joint operating arrangements for games we publish on our platform. We may not be able to identify popular and profitable games and license such games on acceptable terms. We may incur significant expenses in exclusive game publishing arrangements with game developers if their products prove to be unpopular. Game developers with popular games may discontinue their cooperation with us. In addition, increased competition in China’s game publishing market may negatively impact the fee sharing between game developers and us. Should any of these occur, our business, financial condition and results of operations may be materially and adversely affected.

We have a limited operating history in international markets. If we fail to meet the challenges presented by our increasingly globalized operations, our business, financial condition and results of operations may be materially and adversely affected.

Our business has rapidly expanded internationally since we released our Clean Master overseas version in September 2012 and established KS Mobile Inc. in the U.S. in the fourth quarter of 2012. In March 2014, approximately 37% of our mobile monthly active users were from China, while the remainder were from overseas markets, mostly the United States, Asia (excluding China) and Europe. One of our key growth strategies is to continue our global expansion, which exposes us to a number of risks, including:

 

    challenges in formulating effective local sales and marketing strategies targeting internet and mobile users from various jurisdictions and cultures, who have a diverse range of preferences and demands;

 

    challenges in identifying appropriate local third party business partners and establishing and maintaining good working relationships with them;

 

    challenges in selecting suitable geographical regions for global expansion;

 

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    fluctuations in currency exchange rates;

 

    compliance with applicable foreign laws and regulations, including but not limited to internet content requirements, foreign exchange controls, cash repatriation restrictions, intellectual property protection rules and data privacy requirements; and

 

    increased costs associated with doing business in foreign jurisdictions.

Our business, financial condition and results of operations may be materially and adversely affected by these and other risks associated with our increasingly globalized operations.

Furthermore, Kingsoft Japan Inc., or Kingsoft Japan, a subsidiary of Kingsoft Corporation, currently operates an information security software business in Japan. We do not control, and do not consolidate the financial results of, Kingsoft Japan. Pursuant to the shareholders’ agreement of Kingsoft Japan, to which Kingsoft Corporation is a party, Kingsoft Corporation agreed that it and its subsidiaries, including us, may not compete with Kingsoft Japan in the area of internet security software within Japan. In addition, if Kingsoft Japan were to suffer reputational damage in Japan in connection with its operations, such damage could adversely affect our reputation and business.

We may not be able to prevent unauthorized use of our intellectual property, which could harm our business and competitive position.

We regard our trademarks, service marks, patents, domain names, trade secrets, proprietary technologies know-how and similar intellectual property as critical to our success, and we rely on trademark and patent law, trade secret protection and confidentiality and invention assignment agreements with our employees and third parties to protect our proprietary rights. As of March 31, 2014, within China, we had registered 135 domain names, including www.ijinshan.com and www.duba.com, 96 copyrights, eight patents and 41 trademarks. In addition, we have filed 489 trademark applications and 445 patent applications in China. We have one registered trademark in the U.S. and have filed a total of 329 trademark applications overseas. There can be no assurance that any of our pending patent, trademark or other intellectual property applications will issue or be registered. Any intellectual property rights we have obtained or may obtain in the future may not be sufficient to provide us with a competitive advantage, and could be challenged, invalidated, circumvented, infringed or misappropriated. Given the potential cost, effort, risks and disadvantages of obtaining patent protection, we have not and do not plan to apply for patents or other forms of intellectual property protection for certain of our key technologies. If some of these technologies are later proven to be important to our business and are used by third parties without our authorization, especially for commercial purposes, our business and competitive position may be harmed.

Monitoring for infringement or other unauthorized use of our intellectual property rights is difficult and costly, and we cannot be certain that we can effectively prevent such infringement or unauthorized use of our intellectual property, particularly in countries where laws may not protect our proprietary rights to the same extent as in the United States. From time to time, we may need to resort to litigation or other proceedings to enforce our intellectual property rights, which could result in substantial cost and diversion of resources. Our efforts to enforce or protect our intellectual property rights may be ineffective and could result in the invalidation or narrowing of the scope of our intellectual property or expose us to counterclaims from third parties, any of which may adversely affect our business and operating results.

In addition, it is often difficult to create and enforce intellectual property rights in China and other countries outside of the United States. Even where adequate, relevant laws exist in China and other countries outside of the United States, it may not be possible to obtain swift and equitable enforcement of such laws, or to enforce court judgments or arbitration awards delivered in another jurisdiction. Accordingly, we may not be able to effectively protect our intellectual property rights in such countries. Additional uncertainty may result from changes to intellectual property laws enacted in the jurisdictions in which we operate, and from interpretations of intellectual property laws by applicable courts and government bodies.

 

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Our confidentiality and invention assignment agreements with our employees and third parties, such as consultants and contractors, may not effectively prevent unauthorized use or disclosure of our confidential information, intellectual property or technology and may not provide an adequate remedy in the event of such unauthorized use or disclosure. Trade secrets and know-how are difficult to protect, and our trade secrets may be disclosed, become known or be independently discovered by others. Despite our efforts to protect our proprietary rights, unauthorized parties may attempt to copy aspects of our website features, software and functionality or obtain and use information that we consider confidential and proprietary. If we are not able to adequately protect our trade secrets, know-how and other confidential information, intellectual property or technology, our business and operating results may be adversely affected.

We may be subject to intellectual property infringement lawsuits which could result in our payment of substantial damages or license fees or adversely affect our product and service offerings.

Third parties may own technology patents, copyrights, trademarks, trade secrets and internet content, which they may use to assert claims against us. Our internal procedures and licensing practices may not be effective in completely preventing the unauthorized use of copyrighted materials or the infringement of other rights of third parties by us or our users. The validity, enforceability and scope of protection of intellectual property rights in internet-related industries, particularly in China, is uncertain and still evolving. For example, as we face increasing competition and as litigation becomes a more common way to resolve disputes in China, we face a higher risk of being the subject of intellectual property infringement claims.

Although we have not been subject to claims or lawsuits outside China, we cannot assure you that we will not become subject to intellectual property laws in other jurisdictions, such as the United States. If a claim of infringement brought against us in the United States or another jurisdiction is successful, we may be required to pay substantial penalties or other damages and fines, enter into license agreements which may not be available on commercially reasonable terms or at all or be subject to injunction or court orders. Even if allegations or claims lack merit, defending against them could be both costly and time consuming and could significantly divert the efforts and resources of our management and other personnel.

Competitors and other third parties may claim that our officers or employees have infringed, misappropriated or otherwise violated their software, confidential information, trade secrets or other proprietary technology in the course of their employment with us. Although we take steps to prevent the unauthorized use or disclosure of such third-party information, intellectual property or technology by our officers and employees, we cannot guarantee that any policies or contractual provisions that we have implemented or may implement will be effective. If a claim of infringement, misappropriation or violation is brought against us or one of our officers or employees, we may suffer reputational harm and may be required to pay substantial damages, subject to injunction or court orders or required to redesign our products or technology, any of which could adversely affect our business, financial condition and results of operations.

Further, we license and use technologies from third parties in our applications. These third-party technology licenses may not continue to be available to us on acceptable terms or at all, and may expose us to liability. Any such liability, or our inability to use any of these third-party technologies, could result in disruptions to our business that could materially and adversely affect our operating and financial results.

Some of our applications contain open source software, which may pose increased risk to our proprietary software.

We use open source software in some of our applications, including our Cheetah Browser, which incorporates Chromium browser technology, and will use open source software in the future. In addition, we regularly contribute source code to open source software projects and release internal software projects under open source licenses, and anticipate doing so in the future. The terms of many open source licenses to which we are subject have not been interpreted by U.S. or foreign courts, and there is a risk that such licenses could be construed in a manner that imposes unanticipated conditions or restrictions on our ability to sell or distribute our applications. Additionally, we may from time to time face threats or claims from third parties claiming ownership

 

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of, or demanding release of, the alleged open source software or derivative works we developed using such software, which could include our proprietary source code, or otherwise seeking to enforce the terms of the applicable open source license. These threats or claims could result in litigation and could require us to make our source code freely available, purchase a costly license or cease offering the implicated applications unless and until we can re-engineer them to avoid infringement. Such a re-engineering process could require significant additional research and development resources, and we may not be able to complete it successfully. In addition to risks related to license requirements, our use of certain open source software may lead to greater risks than use of third party commercial software, as open source licensors generally do not provide warranties or controls on the origin of the software. Additionally, because any software source code we contribute to open source projects is publicly available, our ability to protect our intellectual property rights with respect to such software source code may be limited or lost entirely, and we are unable to prevent our competitors or others from using such contributed software source code. Any of these risks could be difficult to eliminate or manage and, if not addressed, could adversely affect our business, financial condition and results of operations.

Our business depends substantially on the continuing efforts of our management team, key employees and skilled personnel, and our business operations may be severely disrupted if we lose their services.

Our future success depends substantially on the continued efforts of our management team and key employees—in particular, Mr. Sheng Fu, our chief executive officer and Mr. Ming Xu, our chief technology officer. The loss of Mr. Fu, Mr. Xu or any of our management team members could harm our business. In addition, if our key employees were unable or unwilling to continue their services with us, we might not be able to replace them easily, in a timely manner, or at all, which could result in significant disruptions to our business. The integration of any replacement personnel could be time-consuming, expensive and cause additional disruption to our business. If any of our core management team members or key employees joins a competitor or forms a competing company, we may lose customers, know-how and staff.

Each of our executive officers and key employees has agreed to non-competition obligations. However, these agreements may not be enforceable in China, where our executives and key employees reside, in light of uncertainties relating to China’s legal system. See “—Risks Relating to Doing Business in China—Uncertainties in the interpretation and enforcement of Chinese laws and regulations could limit the legal protections available to you and us.” In addition, if one or more of our executives or other key personnel do not act in the best interests of our company when a conflict of interest arises, our business, prospects and reputation may be harmed.

Allegations or lawsuits against us or our management may harm our reputation and have a material and adverse impact on our business, results of operations and cash flows.

We have been, and may become, subject to allegations or lawsuits brought by our competitors, customers or other individuals or entities, including claims of breach of contract or unfair competition. Any such allegation or lawsuits, with or without merit, or any perceived unfair, unethical, fraudulent or inappropriate business practice by us or perceived malfeasance by our management could harm our reputation and user base and distract our management from our daily operations. We cannot assure you that neither we nor our management will be subject to allegations or lawsuits in the future. Allegations or lawsuits against us may also generate negative publicity that significantly harms our reputation, which may materially and adversely affect our user base and our ability to attract advertisers. In addition to the related cost, managing and defending litigation and related indemnity obligations can significantly divert management’s attention. We may also need to pay damages or settle the litigation with a substantial amount of cash. All of these could have a material adverse impact on our business, results of operation and cash flows.

Our chief executive officer, Mr. Sheng Fu, is named in a lawsuit filed by Qihoo 360 Technology Co. Ltd. in Hong Kong; there is uncertainty as to the outcome of this lawsuit and its impact on us.

In September 2011, Mr. Sheng Fu, our chief executive officer, was named as a defendant in a lawsuit filed by Qihoo 360 Technology Co. Ltd., or Qihoo, in the High Court of the Hong Kong Special Administrative Region. The complaint was subsequently amended in May 2012, July 2012 and January 2014. The amended complaint alleges

 

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that Mr. Fu has breached his contractual obligations of confidentiality, non-competition, non-solicitation and non-disparagement under the agreements Mr. Fu had entered into with a subsidiary of Qihoo prior to his resignation from the subsidiary in August 2008. The complaint asserts that Mr. Fu was a product manager of Qihoo and was responsible for, and participated in, product design and research of certain anti-virus products, including 360 Anti-virus and 360 Safe Guard, and had access to the related confidential information, trade secret, technology and know-how.

In connection with the above claims, the complaint specifically alleges that Mr. Fu: (i) used confidential information of Qihoo to develop, by himself or through Beijing Conew Technology Development Co. Ltd., or Beijing Conew, and Conew Network Technology (Beijing) Co., Ltd., or Conew Network, an anti-virus product released around May 2010 that was allegedly substantially similar to Qihoo’s 360 Anti-virus and 360 Safe Guard and infringed upon the confidential information, trade secrets and other rights of Qihoo; (ii) engaged in or dealt with businesses and products that directly competed with the businesses and/or products of Qihoo within the 18-month restricted period; (iii) employed employees of Qihoo within the 18-month restricted period, including Mr. Ming Xu, our chief technology officer, who was the then director of technology of 360 Safe Guard, a division of Qihoo; and (iv) publicly made certain negative statements about Qihoo.

Qihoo is seeking a court declaration that Qihoo’s repurchase of its shares previously granted to Mr. Fu under Qihoo’s share incentive plan at a nominal value was valid, a court order that Mr. Fu cease to use any confidential information or know-how of Qihoo, damages for disparagement, and a court order that Mr. Fu account to Qihoo for any profits that he earned as a result of the alleged breach.

Mr. Fu joined us in October 2010 when we acquired Conew.com Corporation for which Mr. Fu served as the chief executive officer prior to the acquisition. Our product offerings do not include, and are not derived from, the anti-virus products referenced in the complaint. Mr. Fu believes that Qihoo’s allegations are without merit and intends to contest them vigorously. However, it is inherently difficult to predict the length, process and outcome of any court proceedings. Any litigation, regardless of the merits, can be time consuming and can divert Mr. Fu’s attention away from our business. Should Qihoo prevail in the lawsuit against Mr. Fu, Mr. Fu’s reputation may be harmed and he may be ordered to cease using such confidential information. Moreover, although neither we nor Mr. Ming Xu have been named as a defendant in the lawsuit, we cannot guarantee that Qihoo will not initiate proceedings against us or Mr. Ming Xu, in the future, which could adversely affect our reputation, business and results of operations.

Future strategic investments or acquisitions may not be successful and may have a material and adverse effect on our business, reputation and results of operations.

We intend to continue to pursue strategic investments or acquisitions to expand our business. These transactions could subject us to a number of risks, including risks associated with sharing proprietary information, non-performance by third parties and increased expenses in integrating new businesses and personnel, any of which may materially and adversely affect our business, reputation and results of operations. We may fail to select appropriate acquisition targets, negotiate acceptable arrangements (including arrangements to finance acquisitions) or integrate the acquired businesses and their personnel into our own. Likewise, we may have limited ability to monitor or control the actions of our strategic partners and, to the extent any such strategic partner suffers negative publicity or harm to its reputation from events relating to its own business, we may also suffer negative publicity or harm to our reputation by association.

In addition, if appropriate opportunities arise, we may acquire additional assets, products, technologies or businesses that are complementary to our existing business. Future acquisitions and the subsequent integration of new assets and businesses into our own could require significant management attention and could result in a diversion of resources away from our existing business, which in turn could have an adverse effect on our business operations. Acquired assets or businesses may not generate the financial results we expect. Acquisitions could result in the use of substantial amounts of cash, increased leverage, potentially dilutive issuances of equity securities, goodwill impairment charges, amortization expenses for other intangible assets and exposure to potential unknown liabilities of the acquired business. Moreover, the costs of identifying and consummating

 

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acquisitions may be significant. In addition to possible shareholders’ approval, we may also have to obtain approvals and licenses from relevant government authorities for the acquisitions and comply with applicable laws and regulations, which could result in increased costs and delays.

If we fail to effectively manage our growth, our business and operating results could be harmed.

Our revenues and net income have grown significantly in recent years. Our revenues increased from RMB140.1 million in 2011 to RMB287.9 million in 2012, representing a 105.6% growth, and further to RMB749.9 million (US$123.9 million) in 2013, representing a 160.5% growth. Our net income was RMB62.0 million (US$10.2 million) in 2013, a 530.0% increase over our net income of RMB9.8 million in 2012, compared to a loss of RMB30.2 million in 2011.

In recent years, we have reoriented our business model, expanded our product offerings to include a wide array of mission critical applications and rapidly established our market position in China and globally. While we expect our user base for mobile applications to continue to grow, we do not expect our user base for PC based applications will show a similar trend. Accordingly, the growth and successful monetization of our mobile business and the continued monetization of our internet user base are critical for the continued growth of our business. In addition, our ability to grow our online game business will be limited by a non-competition agreement we will enter into with Kingsoft Corporation. For more information, see “Related Party Transactions—Transactions and Agreements with Kingsoft Corporation and its Subsidiaries—Non-compete undertaking.” To manage the further expansion of our business and the growth of our operations and personnel, we need to continuously improve our operational and financial systems, procedures and controls, and expand, train, manage and maintain good relations with our growing employee base. In addition, we must maintain and expand our relationships with a growing number of users and business partners. We operate in a dynamic and rapidly evolving market and investors should not rely on our past results as an indication of our future operating performance.

We rely on certain assumptions to calculate our active user figures, and real or perceived inaccuracies may harm our reputation and adversely affect our business.

We derive the number of daily active users and monthly active users of our applications using a combination of our internal statistics and data provide by a third-party research firm. Our internal statistics have not been independently verified. While we believe third-party data we use are reliable, we have not independently verified such data. Furthermore, there are inherent challenges in measuring usage across our large user base. For example, we calculate number of active users of our mobile applications based on the number of unique devices. We count each device on which one or more of our mobile applications have been installed as a single user. As such, a single individual using our applications on multiple devices is counted as multiple users, while multiple individuals sharing a device on which our applications are installed is counted as a single user. We do not include the number of daily active users and monthly active users of CM Security on the Android platform in our number of daily active users and monthly active users, respectively, of our products. CM Security on the Android platform identifies devices by Android ID, while our other mobile applications for the Android platform identify devices by Device ID. While each Device ID or Android ID identifies a unique device, under certain circumstances, such as a factory reset, the Android ID associated with a given device may change. We are unable to match Device IDs with Android IDs and therefore unable to adjust for double-counting of devices on which CM Security together with one or more of our other mobile applications are installed. Thus, the number of our daily active users and monthly active users may not accurately reflect the actual number of users of our applications.

In addition, the third-party data on which we rely for our daily active user and monthly active user statistics regarding our PC based applications is not yet available for March 2014. Accordingly, while we present daily active user and monthly active user figures for our mobile applications as of March 2014, we present daily active user and monthly active user figures for our PC based applications and total daily active user and monthly active user figures as of February 2014.

 

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Our measures of user base and user activity may differ from estimates published by third parties or from similarly titled metrics used by our competitors due to differences in methodology. If customers, business partners or investors do not perceive our user metrics to be accurate representations of our user base or user activity, or if we discover material inaccuracies in our user metrics, our reputation may be harmed and business partners may be less willing to allocate their spending or resources to us, which could negatively affect our business and operating results.

Our results of operations are subject to seasonal fluctuations due to a number of factors, any of which could adversely affect our business and operating results.

We are subject to seasonality and other fluctuations in our business. Revenues from online marketing services are typically higher in the fourth quarter due to peak shopping season and increased marketing campaigns during the period. We generally experience weaker demands for online marketing services in the first quarter of each year due to the Chinese New Year holidays. Thus, our operating results in one or more future quarters or years may fluctuate substantially or fall below the expectations of securities analysts and investors. In such event, the trading price of the ADSs may fluctuate significantly.

If we fail to build, maintain and enhance our brands, incur excessive expenses in this effort or if there is confusion in the market between our brands and that of Kingsoft Corporation, our business, results of operations and prospects may be materially and adversely affected.

We believe that building, maintaining and enhancing our brands are critical to the success of our business and our ability to compete. Well-recognized brands are important to increasing our number of users and expanding our online marketing business.

Many factors, some of which are beyond our control, are important to maintaining and enhancing our brands and may negatively impact our brands and reputation if not properly managed, such as:

 

    our ability to provide a convenient and reliable user experience as user preferences evolve and we expand into new applications;

 

    our ability to increase brand awareness among existing and potential users, advertisers and business partners through various marketing and promotional activities;

 

    our ability to adopt new technologies or adapt our applications to meet user needs or the expectations of our advertisers and other business partners;

 

    our ability to maintain and enhance our brands in the face of potential challenges from third parties;

 

    actions by the business partners, through whom we collect revenues and perform other business functions, that may affect our reputation;

 

    actions by Kingsoft Corporation, from whom we license the name “Kingsoft,” that may affect the “Kingsoft” brand; and

 

    our ability to differentiate our brands and products from those of Kingsoft Corporation.

In addition, we recently changed our corporate name and company logo as part of our corporate re-branding efforts. The change of our corporate name and logo is to better align our corporate name with the products we offer, and we will continue our efforts to strengthen our key brand assets, including Clean Master, Battery Doctor and Duba Antivirus. However, there is no assurance that we will be able to achieve the same or similar name recognition or status under our new corporate brand as that we have enjoyed. If our customers and business partners do not accept our new brand, our sales, performance and business relationships could be adversely affected.

As we expand, we may conduct various marketing and brand promotion activities. We cannot assure you, however, that these activities will be successful or that we will be able to achieve the outcomes we expect. In addition, any negative publicity in relation to our mission critical applications, regardless of its veracity, could harm our brands and reputation.

 

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Non-compliance on the part of third parties with whom we conduct business could disrupt our business and adversely affect our results of operations.

Our business partners, including our game developers, may be subject to regulatory penalties or punishments because of their regulatory compliance failures, which may disrupt our business. Any legal liabilities of, or regulatory actions against, our business partners may affect our business activities and reputation and, in turn, our results of operations. For example, we cooperate with online game developers to publish their games through our mission critical applications. The online game industry is highly regulated in China and many other jurisdictions, and online game operators are generally required to obtain licenses and permits, to complete filing procedures for specific mobile games and to comply with various requirements when conducting business. We require our partners in the online game industry to provide their licenses, permits or filing documents relating to the relevant online games before entering into cooperation arrangements with them, but we cannot assure you that such commercial partners or other developers will continue to maintain all applicable permits and approvals, and any noncompliance on their part may cause potential liabilities to us and disrupt our operations.

If we fail to obtain and maintain the requisite licenses and approvals required under the complex regulatory environment applicable to our businesses in China, or if we are required to take actions that are time-consuming or costly, our business, financial condition and results of operations may be materially and adversely affected.

The internet and mobile industries in China are highly regulated, as is the online game industry. Our VIEs are required to obtain and maintain applicable licenses and approvals from different regulatory authorities in order to provide their current services. Under the current PRC regulatory scheme, a number of regulatory agencies, including but not limited to the State Administration of Press, Publication, Radio, Film and Television, or SARFT, the Ministry of Culture, or MOC, Ministry of Industry and Information Technology, or MIIT, and the State Council Information Office, or SCIO, jointly regulate all major aspects of the internet industry, including the mobile internet and online games businesses. Operators must obtain various government approvals and licenses for relevant internet or mobile business.

We have obtained Internet Content Provider Licenses, or ICP licenses, for provision of internet information services, Online Culture Operating Licenses for operation of online games and Computer Information System Security Products Sales Licenses for our internet and mobile security applications. These licenses are essential to the operation of our business and are generally subject to regular government review or renewal. However, we cannot assure you that we can successfully renew these licenses in a timely manner or that these licenses are sufficient to conduct all of our present or future business.

We are also required to obtain an Online Culture Operating License from the MOC and an Internet Publishing License from SARFT in order to operate and distribute games through the internet and mobile networks. Each online game is also required to be approved by SARFT prior to the commencement of its operations in China. For domestic online games, within 30 days after the commencement of operation, the operator must finish the registration process with the MOC. Furthermore, an online game operator is required to obtain approval from the MOC in order to distribute virtual currencies for online games such as prepaid value cards, prepaid money or game points. While we endeavor to comply with the registration requirements, some of the developers of the games we publish, who have contractual obligations to procure such approval from SARFT, have not obtained such approval, and certain of the games we published were not registered within 30 days of their commencement of operations. We cannot assure you that we, or our game developers, will be able to obtain all the required permits, approvals or licenses in a timely manner, or at all.

In addition, we recently entered into an agreement to purchase certain assets relating to an online lottery business. After the closing of this transaction, we intend to use the assets acquired to engage in certain online lottery business. Under the Tentative Administrative Measures on Internet Lottery Sale promulgated by the PRC Ministry of Finance, or MOF, on September 26, 2010, an approval from the MOF is required for conducting online lottery business. Moreover, on January 18, 2012, the Implementation Rules of the Lottery Administration Regulations, or the Lottery Implementation Rules, were jointly issued by the MOF, the PRC Ministry of Civil Affairs and the State General Administration of Sport. The Lottery Implementation Rules became effective as of March 1, 2012 and explicitly stipulate that the welfare lotteries and sports lotteries sold without the Ministry of

 

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Finance’s approval and the Lottery Issuing Authority’s and Lottery Sales Office’s commission may be categorized as illegal lotteries. Therefore, in addition to MOF’s approval, the Lottery Implementation Rules further request the online lottery sales agency to obtain proper authorization from the Lottery Issuing Authority and the Lottery Sales Office to conduct lottery business. In December 2012, the MOF issued the Lottery Distribution and Sale Administration Measures, which became effective on January 1, 2013. These new measures expressly allow Internet lottery sales after obtaining an approval from the MOF. However, there are no associated implementation rules. We currently do not have such an approval, and our online lottery business may be suspended by relevant governmental authorities. We plan to apply for this approval if we are required to do so under newly issued rules or regulations or by relevant government authorities. However, if we fail to obtain this approval if and when we are required to do so, we may be subject to regulatory penalties for lack of such approval, our reputation may be harmed and our business may be adversely affected.

Considerable uncertainties exist regarding the interpretation and implementation of existing and future laws and regulations governing our business activities. We cannot assure you that we will not be found in violation of any future laws and regulations or any of the laws and regulations currently in effect due to changes in the relevant authorities’ interpretation of these laws and regulations. If we fail to complete, obtain or maintain any of the required licenses or approvals or make the necessary filings, we may be subject to various penalties, such as confiscation of the net revenues that were generated through the unlicensed internet or mobile activities, the imposition of fines and the discontinuation or restriction of our operations. Any such penalties may disrupt our business operations and materially and adversely affect our business, financial condition and results of operations.

Failure to comply with data privacy and protection laws and regulations could damage our reputation, deter current and potential users from using our applications and subject us to fines and damages, which could have material adverse effects on our business and results of operations.

We are subject to the data privacy and protection laws and regulations adopted by PRC and foreign governmental agencies. Data privacy laws restrict our storage, use, processing, disclosure, transfer and protection of non-public personal information provided to us by our users. In December 2012 and July 2013, new laws and regulations were issued by the standing committee of the PRC National People’s Congress and MIIT to enhance the legal protection of information security and privacy on the internet. The laws and regulations also require internet operators to take measures to ensure confidentiality of user information. In addition, we are also subject to regulation under U.S. state law regarding the publication and dissemination of our privacy policy with respect to user data. It is possible that we may become subject to additional U.S. state or federal legislation or other foreign government’s rules and regulations regarding the use of personal information or privacy-related matters, which may conflict with, or be more stringent than, the regulations to which we are currently subject. Complying with any additional or new regulatory requirements could force us to incur substantial costs or require us to change our business practices.

While we strive to protect our users’ privacy and comply with all applicable data protection laws and regulations, any failure or perceived failure to do so may result in proceedings or actions against us by government entities or others, and could damage our reputation, deter current and potential users from using our applications and subject us to fines and damages. User and regulatory attitudes towards privacy are evolving, and future regulatory or user concerns about the extent to which personal information is used by, accessible to or shared with advertisers or others may adversely affect our ability to share certain data with advertisers, which may limit certain methods of targeted advertising. Concerns regarding the collection, use or disclosure of personal information or other data privacy-related matters, even if unfounded, could damage our reputation and results of operations. Negative publicity in relation to our applications regardless of its veracity, could seriously harm our reputation, which in turn may deter current and potential users from using our applications, which could have material adverse effects on our business and results of operations.

The successful operation of our business depends upon the performance and reliability of the internet infrastructure in China and the safety of our network and infrastructure.

Our business depends on the performance and reliability of the internet infrastructure in China. Almost all access to the internet is maintained through state-owned telecommunication operators under the administrative

 

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control and regulatory supervision of the MIIT. A more sophisticated internet infrastructure may not be developed in China. We may not have access to alternative networks in the event of disruptions, failures or other problems with China’s internet infrastructure. In addition, the internet infrastructure in China may not support the demands associated with continued growth in internet usage. Although we believe we have sufficient controls in place to prevent intentional disruptions, we expect our network and infrastructure may experience attacks specifically designed to impede the performance of our products and services, misappropriate proprietary information or harm our reputation. Because the techniques used by hackers to access or sabotage networks change frequently and may not be recognized until launched against a target, we may be unable to anticipate them effectively. The theft, unauthorized use or publication of our trade secrets and other confidential business information as a result of such an event could adversely affect our competitive position, brand reputation and user base, and our users and customers may assert claims against us related to resulting losses arising from security breaches. Our business could be subject to significant disruption and our results of operations may be affected.

Security breaches or hacking incidents could have a material adverse effect on our reputation, business prospects and results of operations.

Any significant breach of the security of our computer systems could significantly harm our business, reputation and results of operations and expose us to lawsuits brought by our users and business partners and to sanctions by governmental authorities in the jurisdictions in which we operate and may result in significant damage to our internet security brand. We cannot assure you that our IT systems will be completely secure from future security breaches or hacking incidents. Anyone who is able to circumvent our security measures could misappropriate proprietary information, including the personal information of our users, obtain users’ names and passwords and enable hackers to access users’ other online and mobile accounts, if those users use identical user names and passwords. They could also misappropriate other information, including financial information, uploaded by our users in a secure environment. These circumventions may cause interruptions in our operations or damage our brand image and reputation. Our servers may be vulnerable to computer viruses, physical or electronic break-ins and similar disruptions, which could cause system interruptions, website slowdown or unavailability, delays in communication or transactions, or loss of data. We may be required to incur significant additional costs to protect against security breaches or to alleviate problems caused by such breaches. Any significant security breach or attack on our system could result in a material adverse impact on our reputation, business prospects and results of operations.

We may incur net losses and experience negative cash flow from operating activities in the future and may not be able to obtain additional capital in a timely manner or on acceptable terms, or at all.

We have incurred net losses in the past and we may incur net losses in the future as we grow our business. In the first quarter of 2014, we granted a total of 57,148,631 restricted shares to our executive officers and employees pursuant to our 2011 share award scheme, or the 2011 Plan, and our 2013 equity incentive plan, or 2013 Plan, and we expect to incur share-based compensation expenses in an aggregate estimated amount of US$52.2 million over four to five years. In April 2014, we granted an additional 8,165,000 restricted shares in aggregate to certain of our employees and consultants pursuant to our 2011 Plan and 2013 Plan. In addition, we experienced negative cash flow from operating activities of RMB7.2 million in 2011. Although we generated positive cash flow from operating activities in the amount of RMB45.8 million in 2012 and RMB198.2 million (US$32.7 million) in 2013, we may experience negative cash flows again in the future.

We may not be able to achieve or sustain profitability or positive cash flow from operating activities and, if we achieve positive operating cash flow, it may not be sufficient to satisfy our anticipated capital expenditures and other cash needs. Further, we may not be able to fund our operating expenses and expenditures and may be unable to fulfill our financial obligations as they become due, which may result in voluntary or involuntary dissolution or liquidation proceedings and a total loss of your investment.

 

 

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We have granted, and may continue to grant, options, restricted shares and other types of awards under our share incentive plans, which may result in increased share-based compensation expenses.

We adopted a share award scheme in May 2011, or the 2011 Plan, and a 2013 equity incentive plan in January 2014, or the 2013 Plan. Under the 2011 Plan, as amended in September 2013, we are authorized to grant restricted share awards for issuance of up to a maximum of 100,000,000 ordinary shares. Under the 2013 Plan, we are authorized to grant options or other types of awards for issuance of up to a maximum of 64,497,718 ordinary shares. In addition, in April 2014, we adopted a 2014 restricted shares plan, or the 2014 Plan, pursuant to which we are authorized to issue up to 122,545,665 Class A ordinary shares for the grant of restricted shares and restricted share units. See “Management—Share Incentive Plans” for a detailed discussion. In 2011, 2012 and 2013, we recorded RMB5.8 million, RMB20.3 million and RMB37.4 million, respectively, in share-based compensation expenses. The amount of these expenses is based on the fair value of the share-based compensation awards we granted, and the recognition of unrecognized share-based compensation cost will depend on the forfeiture rate of our unvested restricted shares. In the first quarter of 2014, we granted a total of 57,148,631 restricted shares to our executive officers and employees, and we expect to incur share-based compensation expenses in an aggregate estimated amount of US$52.2 million in connection with the first quarter grants over four to five years. In April 2014, we granted an additional 8,165,000 restricted shares in aggregate to certain of our employees and consultants pursuant to our 2011 Plan and 2013 Plan. Expenses associated with share-based compensation have affected our net income and may reduce our net income in the future, and any additional securities issued under share-based compensation schemes will dilute the ownership interests of our shareholders, including holders of the ADSs. We believe the granting of share-based compensation is of significant importance to our ability to attract and retain key personnel, employees and consultants, and we will continue to grant share-based compensation in the future. As a result, our expenses associated with share-based compensation may increase, which may have an adverse effect on our results of operations.

We are a “controlled company” within the meaning of the rules of NYSE Listed Company Manual as well as a foreign private issuer. As a result, we expect to qualify for, and intend to rely on, exemptions from certain corporate governance requirements. You will not have the same protections afforded to shareholders of companies that are subject to such requirements.

After the completion of this offering, Kingsoft Corporation will own 53.5% of the total voting rights in our company, assuming the underwriters do not exercise their option to purchase additional ADSs and we will issue and sell a total of 37,037,037 Class A ordinary shares through the Concurrent Private Placement, which number of shares has been calculated based on the mid-point of the estimated initial public offering price range shown on the front cover page of this prospectus. As a result, we will be a “controlled company” under Section 303A of the NYSE Listed Company Manual. As a controlled company, we intend to rely on certain exemptions that are available to controlled companies from the NYSE corporate governance requirements, including the requirements that:

 

    a majority of our board of directors consist of independent directors;

 

    our compensation committee be composed entirely of independent directors; and

 

    our nominating and corporate governance committee be composed entirely of independent directors.

We are not required to and will not voluntarily meet these requirements. As a result of our use of the “controlled company” exemption, our investors will not have the same protection as they would if we were not a controlled company.

In addition, because Kingsoft Corporation will own 53.5% of the total voting rights in our company, assuming the underwriters do not exercise their option to purchase additional ADSs, it will have decisive influence in determining the outcome of any corporate transaction or other matter submitted to the shareholders

 

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for approval, including mergers, consolidations and the sale of all or substantially all of our assets, election of directors and other significant corporate actions. Without the consent of Kingsoft Corporation, we may be prevented from entering into transactions that could be beneficial to us. The interests of Kingsoft Corporation and our other large shareholders may differ from the interests of our other shareholders.

Furthermore, because we qualify as a foreign private issuer under the Exchange Act, we will be exempt from certain provisions of the Exchange Act that are applicable to U.S. public companies, including (i) the sections of the Exchange Act regulating the solicitation of proxies, consents or authorizations in respect of a security registered under the Exchange Act, (ii) the sections of the Exchange Act requiring insiders to file public reports of their stock ownership and trading activities and liability for insiders who profit from trades made in a short period of time, and (iii) the rules under the Exchange Act requiring the filing with the SEC of quarterly reports on Form 10-Q containing unaudited financial and other specified information, or current reports on Form 8-K, upon the occurrence of specified significant events. As a result, you may not be provided with the same benefits as a shareholder of a U.S. issuer.

We may have conflicts of interest with Kingsoft Corporation and, because of Kingsoft Corporation’s controlling voting interest in our company, we may not be able to resolve such conflicts on favorable terms for us.

Conflicts of interest may arise between Kingsoft Corporation and us in a number of areas relating to our past and ongoing relationships. Potential conflicts of interest that we have identified include the following:

Cooperation framework agreement. Historically, we have entered into various transactions from time to time with Kingsoft Corporation and its subsidiaries. For the years ended December 31, 2011 and 2012 and 2013, we recognized aggregate fees of RMB21.3 million, RMB16.3 million and RMB14.4 million (US$2.4 million), respectively, to Kingsoft Corporation and its subsidiaries for certain promotion services, licensing services, leasing and miscellaneous services they provided to us. For the same aforementioned periods, we recognized aggregate revenue of RMB5.3 million, RMB2.9 million and RMB4.4 million (US$727,000), respectively, from Kingsoft Corporation and its subsidiaries for certain licensing services and technology support services that we provided to Kingsoft Corporation and its subsidiaries. On December 27, 2013, we entered into a cooperation framework agreement with Kingsoft Corporation for the period from January 1, 2014 to December 31, 2016 with respect to such ongoing transactions. So long as Kingsoft Corporation continues to control us, we may not be able to bring a legal claim against them in the event of contractual breach, notwithstanding our contractual rights under the cooperation framework agreement described above and other inter-company agreements entered into from time to time.

Sale of shares in our company. Kingsoft Corporation may decide to sell all or a portion of our shares that it holds to a third party, including to one of our competitors, thereby giving that third party substantial influence over our business and our affairs. Such a sale could be contrary to the interests of certain of our shareholders, including our employees or our public shareholders.

Our board members or executive officers may have conflicts of interest. Our company has certain common directors and officers with Kingsoft Corporation. Mr. Jun Lei, the chairman of our board of directors, also currently serves as the chairman and non-executive director of Kingsoft Corporation. Mr. Hongjiang Zhang, one of our board directors, is currently also the chief executive officer and director of Kingsoft Corporation. Mr. Yuk Keung Ng, one of our board directors, is currently also the chief financial officer and director of Kingsoft Corporation. Mr. Wei Liu, one of our board directors, is also a vice president of Kingsoft Corporation. Mr. Sheng Fu, our chief executive officer and director, also serves as a senior vice president at Kingsoft Corporation. A number of our directors and executive officers also own shares and/or options to purchase shares in Kingsoft Corporation. Kingsoft Corporation may continue to grant incentive share compensation to our board members and executive officers from time to time. These relationships could create perceived or actual conflicts of interest when these persons are faced with decisions with potentially different implications for Kingsoft Corporation and us.

 

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Allocation of business opportunities. Business opportunities may arise that both we and Kingsoft Corporation find attractive, and which would complement or expand our respective businesses. Subject to the non-compete agreement to be entered into between Kingsoft Corporation and us on the date of completion of this offering, Kingsoft Corporation may decide to take the opportunities itself, which would prevent us from taking advantage of the opportunity ourselves.

Developing business relationships with Kingsoft Corporation’s competitors. So long as Kingsoft Corporation remains as our controlling shareholder, we may be limited in our ability to do business with its competitors, such as other Internet based software developers, distributors and service providers in China. This may limit the effectiveness of our online advertisement and not be in the best interests of our company and our other shareholders.

Although our company is a standalone entity, we expect to operate, for as long as Kingsoft Corporation is our controlling shareholder, as part of Kingsoft Group. Kingsoft Corporation may from time to time make strategic decisions that it believes are in the best interests of the Kingsoft Group as a whole. These decisions may be different from the decisions that we would have made on our own. Kingsoft Corporation’s decisions with respect to us or our business may be resolved in ways that favor Kingsoft Corporation and therefore Kingsoft Corporation’s own shareholders, which may not coincide with the interests of our other shareholders. We may not be able to resolve any potential conflicts, and even if we do so, the resolution may be less favorable to us than if we were dealing with an unaffiliated shareholder. Even if both parties seek to transact business on terms intended to approximate those that could have been achieved among unaffiliated parties, this may not succeed in practice.

We may be the subject of anti-competitive, harassing or other detrimental conduct that could harm our reputation and cause us to lose users and customers and adversely affect the price of the ADSs.

In the future we may be the target of anti-competitive, harassing, or other detrimental conduct by third parties. Allegations, directly or indirectly against us or any of our executive officers, may be posted in internet chat-rooms or on blogs or websites by anyone, whether or not related to us, on an anonymous basis. The availability of information on social media platforms and devices is virtually immediate, as is its impact. Social media platforms and devices immediately publish the content their subscribers and participants post, often without filters or checks on the accuracy of the content posted. Information posted may be inaccurate and adverse to us, and it may harm our business, prospectus or financial performance. The harm may be immediate without affording us an opportunity for redress or correction. In addition, such conduct may include complaints, anonymous or otherwise, to regulatory agencies. We may be subject to regulatory or internal investigation as a result of such third-party conduct and may be required to expend significant time and incur substantial costs to address such third-party conduct, and there is no assurance that we will be able to conclusively refute each of the allegations within a reasonable period of time, or at all. Additionally, our reputation could be harmed as a result of the public dissemination of anonymous allegations or malicious statements about our business, which in turn may cause us to lose users and customers and adversely affect the price of the ADSs.

If we fail to implement and maintain an effective system of internal control, we may be unable to accurately report our results of operations, meet our reporting obligations or prevent fraud.

Prior to this offering, we were a private company with limited accounting personnel and other resources with which to address our internal controls and procedures. Our independent registered public accounting firm has not conducted an audit of our internal control over financial reporting. In connection with the preparation and external audit of our consolidated financial statements as of and for the years ended December 31, 2011, 2012 and 2013, we and Ernst & Young Hua Ming LLP, an independent registered public accounting firm, noted a material weakness in our internal control over financial reporting. The material weakness identified was our lack of financial reporting personnel with the requisite U.S. GAAP and SEC financial reporting expertise. We have implemented and are continuing to implement a number of measures to address the material weakness. For example, we have recently appointed a chief financial officer, hired a number of financial reporting and internal control personnel with U.S. GAAP and SEC financial reporting expertise, and have established an internal audit

 

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function. We also plan to hire additional personnel with U.S. GAAP and SEC financial reporting expertise. We have not incurred any material costs to date but we are not able to estimate with reasonable certainty the costs that we will need to incur to remediate the material weakness and improve our internal control over financial reporting in the future. For details about this material weakness, and the steps we have taken and plan to take to remediate this material weakness, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Internal Control Over Financial Reporting.” We intend to remediate this material weakness in our internal control over financial reporting by the end of the first full year after the completion of this offering. However, we cannot assure you that we will be able to continue implementing these measures in the future, or that we will not identify additional material weaknesses or significant deficiencies in the future.

Neither we nor our independent registered public accounting firm undertook a comprehensive assessment of our internal control for the purposes of identifying and reporting material weaknesses, significant deficiencies and control deficiencies in our internal control over financial reporting. It is possible that, had we performed a formal assessment of our internal control over financial reporting or had our independent registered public accounting firm performed an audit of our internal control over financial reporting, additional material weaknesses or significant deficiencies may have been identified.

Upon the completion of this offering, we will become a public company in the United States and will be subject to Section 404 and the applicable rules and regulations thereunder. Section 404 requires that we include a report of management on our internal control over financial reporting in our annual report on Form 20-F beginning with our annual report for the fiscal year ending December 31, 2015. In addition, once we cease to be an “emerging growth company” as such term is defined in the JOBS Act, our independent registered public accounting firm must attest to and report on the effectiveness of our internal control over financial reporting. Our failure to achieve and maintain effective internal control over financial reporting could result in the loss of investor confidence in the reliability of our financial statements, which in turn could harm our business and negatively impact the market price of the ADSs.

We have limited business insurance coverage. Any interruption of our business may result in substantial costs to us and the diversion of our resources, which could have an adverse effect on our financial condition and results of operations.

Insurance products available in China currently are not as extensive as those offered in more developed economies. Consistent with customary industry practice in China, our business insurance is limited and we do not carry real property or business interruption insurance to cover our operations. We have determined that the costs of insuring for related risks and the difficulties associated with acquiring such insurance on commercially reasonable terms make it impractical for us to have such insurance. Any uninsured damage to our systems or disruption of our business operations could require us to incur substantial costs and divert our resources, which could have an adverse effect on our financial condition and results of operations.

Our business, financial condition and results of operations, as well as our ability to obtain financing, may be adversely affected by a downturn in the global or Chinese economy.

The global financial markets have experienced significant disruptions since 2008 and the United States, Europe and other economies have experienced recession. The recovery from the lows of 2008 and 2009 has been uneven and is facing new challenges, including the escalation of the European sovereign debt crisis since 2011 and the slowdown of the Chinese economy in 2012. It is unclear whether the Chinese economy will resume its high growth rate. There is considerable uncertainty over the long-term effects of the expansionary monetary and fiscal policies adopted by the central banks and financial authorities of some of the world’s leading economies, including China’s. There have also been concerns over unrest in the Middle East and Africa, which have resulted in volatility in oil and other markets. There have also been concerns about the economic effect of the tensions in Japan’s relationship with China. The internet industry may be affected by economic downturns. A prolonged slowdown in the global or Chinese economy, may lead to a reduced amount of internet advertising, which could materially and adversely affect our business, financial condition and results of operations.

 

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Moreover, a slowdown or disruption in the global or Chinese economy may have a material and adverse impact on the financing available to us. The weakness in the economy could erode investor confidence, which constitutes the basis of the credit market. The recent financial turmoil affecting the financial markets and banking system may significantly restrict our ability to obtain financing in the capital markets or from financial institutions on commercially reasonable terms, or at all. Although we are uncertain about the extent to which the recent global financial and economic crisis and slowdown of Chinese economy may impact our business in the short-term and long-term, there is a risk that our business, results of operations and prospects would be materially and adversely affected by any global economic downturn or disruption or slowdown of Chinese economy.

Any catastrophe, including natural catastrophes, outbreaks of health pandemics or other extraordinary events, could disrupt our business operations.

Our operations may be vulnerable to interruption and damage from natural or other catastrophes, including earthquakes, fire, floods, hail, windstorms, severe winter weather (including snow, freezing water, ice storms and blizzards), environmental accidents, power loss, communications failures, explosions, man-made events such as terrorist attacks and similar events. We cannot predict the incidence, timing and severity of such events. If any catastrophe or extraordinary event occurs in the future, our ability to operate our business could be seriously impaired. Such events could make it difficult or impossible for us to deliver our services and products to our users and could decrease demand for our products. Because we do not carry property insurance and significant time could be required to resume our operations, our financial position and results of operations could be materially and adversely affected in the event of any major catastrophic event.

In addition, our business could be adversely affected by the outbreak of health pandemics, including influenza A, such as H7N9, severe acute respiratory syndrome (SARS) or other pandemics. Any occurrence of these pandemic diseases or other adverse public health developments in China or elsewhere could severely disrupt our staffing or the staffing of our business partners and otherwise reduce the activity levels of our work force and the work force of our business partners, causing a material and adverse effect on our business operations.

Risks Relating to Our Corporate Structure

If the PRC government finds that the structure we have adopted for our business operations does not comply with PRC governmental restrictions on foreign investment in internet and mobile businesses, or if these laws or regulations or interpretations of existing laws or regulations change in the future, we could be subject to severe penalties, including the shutting down of our platform and our business operations.

Foreign ownership of internet-based and mobile-based businesses is subject to significant restrictions under current PRC laws and regulations. The PRC government regulates internet access, distribution of online information, online advertising, distribution and operation of online games through strict business licensing requirements and other government regulations. These laws and regulations also limit foreign ownership of PRC companies that provide internet information services. Specifically, foreign ownership of an internet information provider may not exceed 50%. In addition, according to the Several Opinions on the Introduction of Foreign Investment in the Cultural Industry promulgated by the MOC, the SARFT, the National Development and Reform Commission and the Ministry of Commerce, or the MOFCOM, in July 2005, foreign investors are prohibited from investing in or operating, among other things, any internet cultural operating entities. Companies providing mobile internet services such as ours are governed by these rules and regulations on internet companies in China.

We are a Cayman Islands company and we conduct our operations in China primarily through our VIEs, including Beijing Antutu, Beike Internet, Guangzhou Network, Beijing Network, and Beijing Conew. We exercise effective control over our VIEs through a series of contractual arrangements that those entities and/or their shareholders signed with two of our wholly-owned PRC subsidiaries, namely, Beijing Security and Conew Network. Our contractual arrangements with our VIEs and their shareholders enable us to exercise effective control over our VIEs and give us the obligation to absorb losses and the right to receive benefits of the VIEs,

 

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requiring us to treat them as our consolidated affiliated entities and to consolidate their operating results. For a detailed description of these contractual arrangements, see “Corporate History and Structure.”

On September 28, 2009, the General Administration of Press and Publication, or the GAPP, which later integrated with the State Administration for Radio, Film and Television to become SARFT effective from March 22, 2013, the National Copyright Administration and the Office of National Work Group for Combating Pornography and Illegal Publications jointly issued a Notice on Implementing the Provisions of the State Council on “Three Determinations” and the Relevant Explanations of the State Commission Office for Public Sector Reform and Further Strengthening the Administration of the Pre-approval of Online Games and Examination and Approval of Imported Online Games, or Circular 13. Circular 13 restates that foreign investors are not permitted to invest in online game-operating businesses in China via wholly-owned, equity joint venture or cooperative joint venture investments and expressly prohibits foreign investors from gaining control over or participating in domestic mobile game operators through indirect ways such as establishing other joint venture companies or entering into contractual or technical arrangements such as the variable interest entity structural arrangements we adopted. As no detailed interpretation of Circular 13 has been issued to date, it is not clear how Circular 13 will be implemented. We are not aware of any companies that have adopted a corporate structure that is the same as or similar to ours having been penalized or having had their arrangements terminated under Circular 13 since the effective date of the circular. Furthermore, as some other primary government regulators, such as the MOFCOM, the MOC, and the MIIT, did not join in issuing Circular 13, the scope of the implementation and enforcement of Circular 13 remains uncertain. In the event that we, our PRC subsidiaries or our VIEs are found to be in violation of the prohibition under Circular 13, the SARFT, in conjunction with the relevant regulatory authorities in charge, may impose applicable penalties, which may include suspension or revocation of relevant licenses and registrations.

Based on the advice of our PRC legal counsel, Han Kun Law Offices, the contractual arrangements among our PRC subsidiaries, our VIEs, their shareholders and us, as described in this prospectus, are valid, legal and binding on each of the above-mentioned parties thereto in accordance with the terms of respective contractual arrangements. However, we were further advised by Han Kun Law Offices that there are substantial uncertainties regarding the interpretation and application of current or future PRC laws and regulations, and that these laws or regulations or interpretations of these laws or regulations may change in the future. Furthermore, the relevant government authorities have broad discretion in interpreting these laws and regulations. Accordingly, we cannot assure you that PRC government authorities will not ultimately take a view contrary to that of our PRC legal counsel.

If our corporate structure, contractual arrangements and businesses of our company, our PRC subsidiaries or our VIEs are found to be in violation of any existing or future PRC laws or regulations, the relevant governmental authorities would have broad discretion in dealing with such violation, including

 

    levying fines or confiscating our income or the income of our PRC subsidiaries or our VIEs;

 

    revoking or suspending the business licenses or operating licenses of our PRC subsidiaries or our VIEs;

 

    shutting down our servers or blocking our platform, discontinuing or placing restrictions or onerous conditions on our operations;

 

    requiring us to discontinue or restrict our operations;

 

    requiring us to undergo a costly and disruptive restructuring, restricting or prohibiting our use of proceeds from this offering to finance our business and operations in China; and

 

    taking other regulatory or enforcement actions that could be harmful to our business.

Any of these actions could cause significant disruption to our business operations and severely damage our reputation, which would in turn materially and adversely affect our business, financial condition and results of operations. Our VIEs contributed most of our consolidated net revenues in the years ended December 31, 2012 and 2013. If the imposition of any of the above penalties were to cause us to lose the rights to direct the activities

 

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of our VIEs or our right to receive their economic benefits, we would no longer be able to consolidate such entities.

We rely on contractual arrangements with our VIEs and their shareholders for the operation of our business, which may not be as effective as direct ownership.

Because of PRC restrictions on foreign ownership of internet businesses in China, we depend on contractual arrangements with our VIEs, in which we have no ownership interest, to conduct our business. These contractual arrangements are intended to provide us with effective control over these entities and allow us to obtain economic benefits from them. Our VIEs are owned directly by Messrs. Sheng Fu, Ming Xu and Wei Liu, who are also our core management and/or director, as well as Ms. Weiqin Qiu, an affiliate of our company. For additional details on these ownership interests, see “Corporate History and Structure.” However, these contractual arrangements may not be as effective in providing control as direct ownership. For example, our VIEs and their shareholders could breach their contractual arrangements with us by, among other things, failing to operate our business in an acceptable manner or taking other actions that are detrimental to our interests. If we were the controlling shareholder of these VIEs with direct ownership, we would be able to exercise our rights as shareholders to effect changes to their board of directors, which in turn could implement changes at the management and operational level. However, under the current contractual arrangements, as a legal matter, if our VIEs or their shareholders fail to perform their obligations under these contractual arrangements, we may have to incur substantial costs to enforce such arrangements, and rely on legal remedies under PRC law, including contract remedies, which may be time-consuming, unpredictable and expensive. If we are unable to enforce these contractual arrangements, or if we suffer significant delay or other obstacles in the process of enforcing them, our business and operations could be severely disrupted, which could materially and adversely affect our results of operations and damage our reputation. See “—Risks Relating to Doing Business in China—Uncertainties in the interpretation and enforcement of Chinese laws and regulations could limit the legal protections available to you and us.”

Our contractual arrangements with our VIEs may result in adverse tax consequences to us.

As a result of our corporate structure and the contractual arrangements among our PRC subsidiaries, our VIEs, their shareholders and us, we are effectively subject to PRC value-added tax and related surcharges on revenues generated by our subsidiaries from our contractual arrangements with our VIEs. The PRC Enterprise Income Tax Law requires every enterprise in China to submit its annual enterprise income tax return together with a report on transactions with its affiliates or related parties to the relevant tax authorities. These transactions may be subject to audit or challenge by the PRC tax authorities within ten years after the taxable year during which the transactions are conducted. We may be subject to adverse tax consequences if the PRC tax authorities were to determine that the contracts between us and our VIEs were not on an arm’s length basis and therefore constituted improper transfer pricing arrangements. If this occurs, the PRC tax authorities could request that our VIEs and any of their respective subsidiaries adjust their taxable income upward for PRC tax purposes. Such a pricing adjustment could adversely affect us by reducing expense deductions recorded by such VIEs and thereby increasing these entities’ tax liabilities, which could subject these entities to late payment fees and other penalties for the underpayment of taxes. Our consolidated net income may be materially and adversely affected if our VIEs’ tax liabilities increase or if they become subject to late payment fees or other penalties.

The shareholders of our VIEs may have potential conflicts of interest with us, which may materially and adversely affect our business.

The shareholders of our VIEs include Messrs. Sheng Fu, Ming Xu and Wei Liu, who are also our core management and/or director, as well as Ms. Weiqin Qiu, an affiliate of our company. Conflicts of interest may arise between the roles of Messrs. Sheng Fu, Ming Xu and Wei Liu as shareholders, directors or officers of our company and as shareholders of our VIEs. We rely on these individuals to abide by the laws of the Cayman Islands, which provide that directors and officers owe a fiduciary duty to our company to act in good faith and in the best interest of our company and not to use their positions for personal gain. The shareholders of our VIEs

 

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have executed shareholder voting proxy agreements to appoint our applicable PRC subsidiary or a person designated by such PRC subsidiary to vote on their behalf and exercise voting rights as shareholders of the VIEs. We cannot assure you that when conflicts arise, shareholders of our VIEs will act in the best interest of our company or that conflicts will be resolved in our favor. If we cannot resolve any conflicts of interest or disputes between us and these shareholders, we would have to rely on legal proceedings, which may be expensive, time-consuming and disruptive to our operations. There is also substantial uncertainty as to the outcome of any such legal proceedings.

We may rely on dividends paid by our PRC subsidiaries to fund any cash and financing requirements we may have. Any limitation on the ability of our PRC subsidiaries to pay dividends to us could have a material adverse effect on our ability to conduct our business and to pay dividends to holders of the ADSs and our ordinary shares.

We are a holding company, and we may rely on dividends to be paid by our wholly-owned PRC subsidiaries for our cash and financing requirements, including the funds necessary to pay dividends and other cash distributions to the holders of the ADSs and our ordinary shares and service any debt we may incur. If our wholly owned PRC subsidiaries incur debt on their own behalf in the future, the instruments governing the debt may restrict their ability to pay dividends or make other distributions to us.

Under PRC laws and regulations, wholly foreign-owned enterprises in the PRC, such as Conew Network and Zhuhai Juntian, may pay dividends only out of its accumulated profits as determined in accordance with PRC accounting standards and regulations. In addition, a wholly foreign-owned enterprise is required to set aside at least 10% of its after-tax profits each year, after making up previous years’ accumulated losses, if any, to fund certain statutory reserve funds, until the aggregate amount of such a fund reaches 50% of its registered capital. At the discretion of the board of director of the wholly foreign-owned enterprise, it may allocate a portion of its after-tax profits based on PRC accounting standards to staff welfare and bonus funds. These reserve funds and staff welfare and bonus funds are not distributable as cash dividends. Any limitation on the ability of our wholly-owned PRC subsidiaries to pay dividends or make other distributions to us could materially and adversely limit our ability to grow, make investments or acquisitions that could be beneficial to our business, pay dividends, or otherwise fund and conduct our business.

Our existing shareholders have substantial influence over our company and their interests may not be aligned with the interests of our other shareholders, which may discourage, delay or prevent a change in control of our company and could deprive our shareholders of an opportunity to receive a premium for their securities.

Currently, our parent company Kingsoft Corporation, and FaX Vision Corporation, which is a company jointly owned by our founders, Mr. Sheng Fu and Mr. Ming Xu, together beneficially own an aggregate of 67.6% of our outstanding shares. Upon the completion of this offering and the Concurrent Private Placement, they will beneficially own an aggregate of 827,806,049 of our Class B ordinary shares and 7,407,407 of our Class A ordinary shares, or 60.4% of our then outstanding shares, and 66.8% of the then total voting power, assuming the underwriters do not exercise their over-allotment option to purchase additional ADSs. This concentration of ownership may discourage, delay or prevent a change in control of our company, which could deprive our shareholders of an opportunity to receive a premium for their shares as part of any contemplated sale of our company and may reduce the price of the ADSs.

In addition, if any of our core management team members violates the terms of their non-competition or other employment agreements with us, or their legal duties by diverting business opportunities from us, it will result in our loss of corporate opportunities. These actions may take place even if they are opposed by our other shareholders, including those who purchase ADSs in this offering. Although, after the completion of this offering, we will adopt a code of business conduct and ethics to help restrict conflicts of interest involving directors and officers, any violation of this code by our existing officers or directors may materially and adversely affect our business operations. For more information regarding the beneficial ownership of our company by our principal shareholders, see “Principal Shareholders.”

 

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We may lose the ability to use and enjoy vital assets held by our VIEs if such entities go bankrupt or become subject to a dissolution or liquidation proceeding.

Some of our VIEs hold certain assets, such as patent applications and software copyrights for the proprietary technology that are essential to the operations of our platform and important to the operation of our business. If any of these VIEs goes bankrupt and all or part of its assets become subject to liens or rights of third party creditors, we may be unable to continue some or all of our business activities, which could materially and adversely affect our business, financial condition and results of operations. If any of such VIEs undergoes a voluntary or involuntary liquidation proceeding, the unrelated third party creditors may claim rights to some or all of these assets, thereby hindering our ability to operate our business, which could materially and adversely affect our business, financial condition and results of operations.

Risks Relating to Doing Business in China

Uncertainties in the interpretation and enforcement of Chinese laws and regulations could limit the legal protections available to you and us.

The PRC legal system is based on written statutes and prior court decisions have limited value as precedents. Since these laws and regulations are relatively new and the PRC legal system continues to rapidly evolve, the interpretations of many laws, regulations and rules are not always uniform and enforcement of these laws, regulations and rules involves uncertainties.

From time to time, we may have to resort to administrative and court proceedings to enforce our legal rights. However, since PRC administrative and court authorities have significant discretion in interpreting and implementing statutory and contractual terms, it may be more difficult to predict the outcome of administrative and court proceedings and the level of legal protection we enjoy than in more developed legal systems. Furthermore, the PRC legal system is based in part on government policies and internal rules (some of which are not published in a timely manner or at all) that may have retroactive effect. As a result, we may not be aware of any violation of these policies and rules until after such violation. Such unpredictability, including uncertainty as to the scope and effect of our contractual, property (including intellectual property) and procedural rights, could materially and adversely affect our business and impede our ability to continue our operations.

Changes in China’s economic, political or social conditions or government policies could have a material adverse effect on our business and operations.

Substantially all of our assets are located in China and a significant number of our users, advertisers, suppliers and business partners are from China. Accordingly, our business, financial condition, results of operations and prospects may be influenced to a significant degree by political, economic and social conditions in China generally, and by continued economic growth in China as a whole.

The Chinese economy differs from the economies of most developed countries in many respects, including the level of government involvement, level of development, growth rate, control of foreign exchange and allocation of resources. Although the Chinese 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 improved corporate governance in business enterprises, a substantial portion of productive assets in China is still owned by the Chinese government. In addition, the Chinese government continues to play a significant role in regulating industrial development through industrial policies. The Chinese government also exercises significant control over the Chinese economic growth through allocating resources, controlling payment of foreign currency-denominated obligations, setting monetary policy, and providing preferential treatment to particular industries or companies.

While the Chinese economy has experienced significant growth in recent decades, growth has been uneven, both geographically and among various sectors of the economy. The Chinese government has implemented

 

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various measures to encourage economic growth and guide the allocation of resources. Some of these measures benefit the overall Chinese economy, but may also have a negative effect on us. The Chinese government has implemented certain measures, including interest rate increases, to control the pace of economic growth. These measures may cause decreased economic activity in China and, since 2012, Chinese economic growth has slowed. Any prolonged slowdown in the Chinese economy may reduce the demand for our applications and adversely affect our business, financial condition and results of operations.

We may be adversely affected by the complexity of, and uncertainties and changes in, PRC regulation on internet and mobile internet businesses and companies.

The PRC government extensively regulates the internet industry, including foreign ownership of, and the licensing and permit requirements pertaining to, companies in the internet industry, including mobile internet companies. These internet-related laws and regulations are relatively new and evolving, and their interpretation and enforcement involve significant uncertainty. As a result, in certain circumstances it may be difficult to determine what actions or omissions may be deemed to be in violations of applicable laws and regulations. Issues, risks and uncertainties relating to PRC regulation of the internet business include, but are not limited to, the following:

 

    There is uncertainty related to the regulation of internet business in China, including evolving licensing practices and the requirement for real-name registrations. Permits, licenses or operations at some of our subsidiaries and our VIEs may be subject to challenge, or we may fail to obtain permits or licenses that may be deemed necessary for our operations or we may not be able to obtain or renew certain permits or licenses. See “—Risks Relating to Our Business and Industry—If we fail to obtain and maintain the requisite licenses and approvals required under the complex regulatory environment applicable to our businesses in China, or if we are required to take actions that are time-consuming or costly, our business, financial condition and results of operations may be materially and adversely affected” and “PRC Regulation.” Except for the bulletin board system services and online game operations that we provide in support of our applications, we are currently not required by PRC law to ask users for their real name and personal information when they register for a user account. We cannot assure you that PRC regulators would not require us to implement compulsory real-name registration in the future.

 

    The evolving PRC regulatory system for the internet industry may lead to the establishment of new regulatory agencies. For example, in May 2011, the State Council announced the establishment of a new department, the State Internet Information Office (with the involvement of the SCIO, the MIIT and the Ministry of Public Security). The primary role of this new agency is to facilitate the policy-making and legislative development in this field to direct and coordinate with the relevant departments in connection with online content administration and to deal with cross-ministry regulatory matters in relation to the internet industry. We are unable to determine what policies this new agency or any new agencies to be established in the future may have or how they may interpret existing laws, regulations and policies and how they may affect us. Further, new laws, regulations or policies may be promulgated or announced that will regulate internet activities, including internet publication and online advertising businesses. If these new laws, regulations or policies are promulgated, additional licenses may be required for our operations. If our operations do not comply with these new regulations after they become effective, or if we fail to obtain any licenses required under these new laws and regulations, we could be subject to penalties.

In July 13, 2006, the MIIT issued the Circular of the Ministry of Information Industry on Strengthening the Administration of Foreign Investment in Value-added Telecommunications Services. This circular prohibits domestic telecommunication service providers from leasing, transferring or selling telecommunication business operating licenses to any foreign investor in any form, or providing any resources, sites or facilities to any foreign investor for their illegal operation of a telecommunication business in China. According to this circular, either the holder of a value-added telecommunication business operating license or its shareholders must directly own the domain names and trademarks used by such license holders in their provision of value-added

 

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telecommunication services. The circular also requires each license holder to have the necessary facilities, including servers, for its approved business operations and to maintain such facilities in the regions covered by its license.

The interpretation and application of existing PRC laws, regulations and policies and possible new laws, regulations or policies relating to the internet industry have created substantial uncertainties regarding the legality of existing and future foreign investments in, and the businesses and activities of, internet and mobile internet businesses in China, including our business. There are also risks that we may be found to have violated existing or future laws and regulations given the uncertainty and complexity of China’s regulation of internet business.

If any of our online games business activities is deemed to be in violation of law, we may have to cease or modify our online game operations, which could have a material and adverse effect on our business and results of operations.

All online games currently offered on our platform are licensed by and operated with game developers. Except for an Internet Publishing License, we have obtained licenses which we believe are sufficient for our online game offerings. However, the MOC or other competent government authorities may reinterpret existing laws, regulations or policies or promulgate and implement new ones, which may require us to cease or modify our online games business. Any such modification to our online games business may result in disruption of our business, diversion of management attention and the incurrence of substantial costs. In addition, we have requested our online game business partners to obtain and maintain all necessary licenses. However, we cannot assure you that all of our business partners have obtained or updated all necessary licenses, permits or registrations, from or with relevant governmental authorities. If any of such business partners fails to do so, we may not be able to continue to operate the affected online games, which may adversely affect our business and results of operations.

Content posted or displayed on our mobile and PC platforms and applications such as duba.com and 9724.com, including advertisements, may be found objectionable by PRC regulatory authorities and may subject us to penalties and other severe consequences.

The PRC government has adopted regulations governing internet and wireless access and the distribution of information over the internet and wireless telecommunication networks. Under these regulations, internet content providers and internet publishers are prohibited from posting or displaying over the internet or wireless networks content that, among other things, violates PRC laws and regulations, impairs the national dignity of China or the public interest, or is obscene, superstitious, fraudulent or defamatory. Furthermore, internet content providers are also prohibited from displaying content that may be deemed by relevant government authorities as “socially destabilizing” or leaking “state secrets” of the PRC. Failure to comply with these requirements may result in the revocation of licenses to provide internet content or other licenses, the closure of the concerned platforms and reputational harm. The operator may also be held liable for any censored information displayed on or linked to their platform. For a detailed discussion, see “PRC Regulation.”

Since our inception, we have worked to monitor the content on our platforms and applications and to make the utmost effort to comply with relevant laws and regulations. However, it may not be possible to determine in all cases the types of content that could result in our liability as a distributor of such content and, if any of the content posted or displayed on our mobile and PC platforms and applications is deemed by the PRC government to violate any content restrictions, we would not be able to continue to display such content and could become subject to penalties, including confiscation of income, fines, suspension of business and revocation of required licenses, which could materially and adversely affect our business, financial condition and results of operations.

We may also be subject to potential liability for any unlawful actions by our users or third party service providers on our platform. It may be difficult to determine the type of content or actions that may result in

 

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liability to us and, if we are found to be liable, we may be prevented from operating our business in China. Moreover, the costs of compliance with these regulations may continue to increase as a result of more content being made available by an increasing number of users and third party business parties on our mobile and PC platforms and applications, which may adversely affect our results of operations. Although we have adopted internal procedures to monitor content and to remove offending content once we become aware of any potential or alleged violation, we may not be able to identify all the content that may violate relevant laws and regulations or third party intellectual property rights. Even if we manage to identify and remove offending third party content, we may still be held liable.

In addition, under PRC advertising laws and regulations, we are obligated to monitor the advertising content shown on our platforms and applications to ensure that such content is true, accurate and in full compliance with applicable laws and regulations. In addition, where a special government review is required for specific types of advertisements prior to internet posting, such as advertisements relating to pharmaceuticals, medical instruments, agrochemicals and veterinary pharmaceuticals, we are obligated to confirm that such review has been performed and approval has been obtained. Violation of these laws and regulations may subject us to penalties, including fines, confiscation of our advertising income, orders to cease dissemination of the advertisements and orders to publish an announcement correcting the misleading information. In circumstances involving serious violations by us, PRC governmental authorities may force us to terminate our advertising operations or revoke our licenses.

While we have made significant efforts to ensure that the advertisements shown on our PC and mobile platforms and applications are in full compliance with applicable PRC laws and regulations, we cannot assure you that all the content contained in such advertisements or offers is true and accurate as required by the advertising laws and regulations, especially given the uncertainty in the interpretation of these PRC laws and regulations. If we are found to be in violation of applicable PRC advertising laws and regulations, we may be subject to penalties and our reputation may be harmed, which may have a material and adverse effect on our business, financial condition, results of operations and prospects.

Under the PRC Enterprise Income Tax Law, we may be classified as a PRC “resident enterprise,” which could result in unfavorable tax consequences to us and our shareholders and have a material adverse effect on our results of operations and the value of your investment.

Under the PRC Enterprise Income Tax Law, or the EIT Law, which became effective on January 1, 2008, an enterprise established outside the PRC with “de facto management bodies” within the PRC is considered a “resident enterprise” for PRC enterprise income tax purposes and is generally subject to a uniform 25% enterprise income tax rate on its worldwide income. On April 22, 2009, the State Administration of Taxation, or the SAT, issued the Notice Regarding the Determination of Chinese-Controlled Overseas Incorporated Enterprises as PRC Tax Resident Enterprise on the Basis of De Facto Management Bodies, or SAT Circular 82, which provides certain specific criteria for determining whether the “de facto management body” of a PRC-controlled enterprise that is incorporated offshore is located in China. Further to SAT Circular 82, on July 27, 2011, the SAT issued the Administrative Measures for Enterprise Income Tax of Chinese-Controlled Offshore Incorporated Resident Enterprises (Trial), or SAT Bulletin 45, to provide more guidance on the implementation of SAT Circular 82; the bulletin became effective on September 1, 2011. SAT Bulletin 45 clarified certain issues in the areas of resident status determination, post-determination administration and competent tax authorities’ procedures.

According to SAT Circular 82, an offshore incorporated enterprise controlled by a PRC enterprise or a PRC enterprise group will be considered as a PRC tax resident enterprise by virtue of having its “de facto management body” in China and will be subject to PRC enterprise income tax on its worldwide income only if all of the following conditions are met: (a) the senior management and core management departments in charge of its daily operations function have their presence mainly in the PRC; (b) its financial and human resources decisions are subject to determination or approval by persons or bodies in the PRC; (c) its major assets, accounting books, company seals, and minutes and files of its board and shareholders’ meetings are located or kept in the PRC; and

 

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(d) more than half of the enterprise’s directors or senior management with voting rights habitually reside in the PRC. SAT Bulletin 45 specifies that when provided with a copy of Chinese tax resident determination certificate from a resident Chinese controlled offshore incorporated enterprise, the payer should not withhold 10% income tax when paying the Chinese-sourced dividends, interest, royalties, etc. to the Chinese controlled offshore incorporated enterprise.

Although SAT Circular 82 and SAT Bulletin 45 only apply to offshore incorporated enterprises controlled by PRC enterprises or PRC enterprise groups and not those controlled by PRC individuals or foreigners, the determination criteria set forth therein may reflect the SAT’s general position on how the term “de facto management body” could be applied in determining the tax resident status of offshore enterprises, regardless of whether they are controlled by PRC enterprises, individuals or foreigners.

If the PRC tax authorities determine that the Company or any of its non-PRC subsidiaries is a PRC resident enterprise for PRC enterprise income tax purposes, then the Company or any such non-PRC subsidiary could be subject to PRC tax at a rate of 25% on its world-wide income, which could materially reduce our net income. In addition, we will also be subject to PRC enterprise income tax reporting obligations.

In that case, although dividends paid by one PRC tax resident to another PRC tax resident should qualify as “tax-exempt income” under the EIT Law, we cannot assure you that dividends by our PRC subsidiaries to our non-PRC holding companies will not be subject to a 10% withholding tax, as the PRC foreign exchange control authorities and the PRC tax authorities have not yet issued guidance with respect to the processing of outbound remittances to entities that are treated as resident enterprises for PRC enterprise income tax purposes.

If the PRC tax authorities determine that the Company is a PRC resident enterprise for PRC enterprise income tax purposes, dividends paid by us to non-PRC holders may be subject to PRC withholding tax, and gains realized on the sale or other disposition of ADSs or ordinary shares may be subject to PRC tax, at a rate of 10% in the case of non-PRC enterprises or 20% in the case of non-PRC individuals (in each case, subject to the provisions of any applicable tax treaty), if such dividends or gains are deemed to be from PRC sources. Any such tax may reduce the returns on your investment in the ADSs.

We face uncertainty with respect to indirect transfer of equity interests in PRC resident enterprises by their non-PRC holding companies.

We face uncertainties regarding the reporting on and consequences of previous private equity financing transactions involving the transfer and exchange of shares in our company by non-resident investors. According to the Notice on Strengthening Administration of Enterprise Income Tax for Share Transfers by Non-PRC Resident Enterprises issued by the PRC State Administration of Taxation on December 10, 2009, with retroactive effect from January 1, 2008, or SAT Circular 698, where a non-resident enterprise transfers the equity interests in a PRC resident enterprise indirectly through a disposition of equity interests in an overseas holding company (other than a purchase and sale of shares issued by a PRC resident enterprise in public securities market), or an Indirect Transfer, and such overseas holding company is located in a tax jurisdiction that: (a) has an effective tax rate less than 12.5% or (b) does not tax foreign income of its residents, the non-resident enterprise, as the seller, shall report such Indirect Transfer to the competent tax authority of the PRC resident enterprise within 30 days of execution of the equity transfer agreement for such Indirect Transfer. The PRC tax authority will examine the true nature of the Indirect Transfer, and if the tax authority considers that the foreign investor has adopted an abusive arrangement without reasonable commercial purposes and for the purpose of avoiding or reducing PRC tax, they will disregard the existence of the overseas holding company that is used for tax planning purposes and re-characterize the Indirect Transfer. As a result, gains derived from such Indirect Transfer may be subject to PRC withholding tax at the rate of up to 10%. SAT Circular 698 also points out that when a non-resident enterprise transfers its equity interests in a PRC resident enterprise to its related parties at a price lower than the fair market value, the competent tax authorities have the power to make a reasonable adjustment on the taxable income of the transaction.

 

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If our preferential tax treatments are revoked, become unavailable or if the calculation of our tax liability is successfully challenged by the PRC tax authorities, we may be required to pay tax, interest and penalties in excess of our tax provisions, and our results of operations could be materially and adversely affected.

The Chinese government has provided various tax incentives to our subsidiaries in China. These incentives include reduced enterprise income tax rates. For example, under the EIT Law and its implementation rules, the statutory enterprise income tax rate is 25%. However, enterprises which obtained the certificate of new software enterprise were entitled to an exemption of enterprise income tax for the first two years and a 50% reduction of enterprise income tax for the subsequent three years, commencing from the first profit-making year. Zhuhai Juntian and Beijing Security became qualified for this benefit starting in 2010. As a result, Zhuhai Juntian was eligible for a 12.5% preferential tax rate from 2011 to 2013. Beijing Security was eligible for a 0% preferential tax rate from 2010 to 2011, followed by a 12.5% preferential tax rate from 2012 to 2014. Each of Beike Internet, Beijing Network and Conew Network has obtained a new software enterprise certification, and, subject to the approval of competent tax authorities in Beijing, will be entitled to a preferential tax rate. Any increase in the enterprise income tax rate applicable to our PRC subsidiaries or VIEs in China, or any discontinuation or retroactive or future reduction of any of the preferential tax treatments currently enjoyed by our PRC subsidiaries or VIEs in China, could adversely affect our business, financial condition and results of operations. In addition, in the ordinary course of our business, we are subject to complex income tax and other tax regulations and significant judgment is required in the determination of a provision for income taxes. Although we believe our tax provisions are reasonable, if the PRC tax authorities successfully challenge our position and we are required to pay tax, interest and penalties in excess of our tax provisions, our financial condition and results of operations would be materially and adversely affected.

China’s M&A Rules and certain other PRC regulations establish complex procedures for some acquisitions of Chinese companies by foreign investors, which could make it more difficult for us to pursue growth through acquisitions in China.

The Regulations on Mergers and Acquisitions of Domestic Enterprises by Foreign Investors, or the M&A Rules, and other recently adopted regulations and rules concerning mergers and acquisitions established additional procedures and requirements that could make merger and acquisition activities by foreign investors more time consuming and complex. For example, the M&A Rules require that MOFCOM be notified in advance of any change-of-control transaction in which a foreign investor takes control of a PRC domestic enterprise, if (i) any important industry is concerned, (ii) such transaction involves factors that impact or may impact national economic security, or (iii) such transaction will lead to a change in control of a domestic enterprise which holds a famous trademark or PRC time-honored brand. Moreover, the Anti-Monopoly Law promulgated by the Standing Committee of the National People’s Congress on August 30, 2007 and effective as of August 1, 2008 requires that transactions which are deemed concentrations and involve parties with specified turnover thresholds (i.e., during the previous fiscal year, (i) the total global turnover of all operators participating in the transaction exceeds RMB10 billion and at least two of these operators each had a turnover of more than RMB400 million within China, or (ii) the total turnover within China of all the operators participating in the concentration exceeded RMB2 billion, and at least two of these operators each had a turnover of more than RMB400 million within China) must be cleared by MOFCOM before they can be completed. In addition, on February 3, 2011, the General Office of the State Council promulgated a Notice on Establishing the Security Review System for Mergers and Acquisitions of Domestic Enterprises by Foreign Investors, or the Circular 6, which officially established a security review system for mergers and acquisitions of domestic enterprises by foreign investors. Further, on August 25, 2011, MOFCOM promulgated the Regulations on Implementation of Security Review System for the Merger and Acquisition of Domestic Enterprises by Foreign Investors, or the MOFCOM Security Review Regulations, which became effective on September 1, 2011, to implement the Circular 6. Under Circular 6, a security review is required for mergers and acquisitions by foreign investors having “national defense and security” concerns and mergers and acquisitions by which foreign investors may acquire the “de facto control” of domestic enterprises with “national security” concerns. Under the MOFCOM Security Review Regulations, MOFCOM will focus on the substance and actual impact of the transaction when deciding whether

 

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a specific merger or acquisition is subject to security review. If MOFCOM decides that a specific merger or acquisition is subject to security review, it will submit it to the Inter-Ministerial Panel, an authority established under the Circular 6 led by the National Development and Reform Commission, or NDRC, and MOFCOM under the leadership of the State Council, to carry out security review. The regulations prohibit foreign investors from bypassing the security review by structuring transactions through trusts, indirect investments, leases, loans, control through contractual arrangements or offshore transactions. There is no explicit provision or official interpretation stating that the merging or acquisition of a company engaged in the mobile games business requires security review, and there is no requirement that acquisitions completed prior to the promulgation of the Security Review Circular are subject to MOFCOM review.

In the future, we may grow our business by acquiring complementary businesses. Complying with the requirements of the above-mentioned regulations and other relevant rules to complete such transactions could be time consuming, and any required approval processes, including obtaining approval from the MOFCOM or its local counterparts may delay or inhibit our ability to complete such transactions. It is unclear whether our business would be deemed to be in an industry that raises “national defense and security” or “national security” concerns. However, MOFCOM or other government agencies may publish explanations in the future determining that our business is in an industry subject to the security review, in which case our future acquisitions in the PRC, including those by way of entering into contractual control arrangements with target entities, may be closely scrutinized or prohibited. Our ability to expand our business or maintain or expand our market share through future acquisitions would as such be materially and adversely affected.

The approval of the China Securities Regulatory Commission may be required in connection with this offering and, if required, we cannot assure you that we will be able to obtain it.

On August 8, 2006, six PRC regulatory agencies, namely, the MOC, the State Assets Supervision and Administration Commission, SAT, the State Administration for Industry and Commerce, the CSRC and SAFE, jointly adopted the 2006 M&A Rules, which became effective on September 8, 2006, and were amended on June 22, 2009. The 2006 M&A Rules purport to require, among other things, offshore special purpose vehicles, or SPVs, formed for the purpose of seeking a public listing on an overseas stock exchange through acquisitions of PRC domestic companies or assets and controlled by PRC companies or individuals, to obtain the approval of the CSRC prior to publicly listing their securities on an overseas stock exchange.

Our PRC counsel has advised that the 2006 M&A Rules do not require us to obtain prior CSRC approval for the listing and trading of the ADSs on the NYSE, given that:

 

    the CSRC approval requirement applies to SPVs that acquired equity interests of any PRC company that are held by PRC companies or individuals controlling such SPV and seek overseas listing; and

 

    our PRC subsidiaries were incorporated as wholly foreign-owned enterprises by means of direct investment rather than by merger or acquisition by our company of the equity interest or assets of any “domestic company” as defined under the 2006 M&A Rules, and no provision in the 2006 M&A Rules classifies the contractual arrangements between our company, our PRC subsidiaries and any of our consolidated affiliated entities, either by each agreement itself or taken as a whole, as a type of acquisition transaction falling under the 2006 M&A Rules.

However, there are uncertainties regarding the interpretation and application of PRC law, and there can be no assurance that the PRC government will ultimately take a view that is not contrary to that of our PRC legal counsel. If it is determined that CSRC approval is required for this offering, we may face sanctions by CSRC or other PRC regulatory agencies for failure to seek the CSRC approval for this offering. These sanctions may include fines and penalties on our operations in the PRC although, to our knowledge, no definitive rules or interpretations have been issued to determine or quantify such fines or penalties, delays or restrictions on the repatriation of the proceeds from this offering into the PRC, restrictions on or prohibition of the payments or remittance of dividends by our PRC subsidiaries, or other actions that may have a material adverse effect on our

 

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business and the trading price of the ADSs. CSRC or other PRC regulatory agencies may also take actions requiring us, or making it advisable to us, to halt this offering before the settlement and delivery of the ADSs that we are offering. Consequently, if you engage in market trading or other activities in anticipation of and prior to the settlement and delivery of the ADSs we are offering, you would be doing so at the risk that settlement and delivery may not occur.

PRC regulations relating to offshore investment activities by PRC residents may limit our PRC subsidiaries’ ability to increase their registered capital or distribute profits to us or otherwise expose us to liability and penalties under PRC law.

The SAFE promulgated the Notice on Relevant Issues Concerning Foreign Exchange Administration for PRC Residents Engaging in Financing and Roundtrip Investments via Overseas Special Purpose Vehicles, or SAFE Circular 75, and other related regulations in October 2005 that require PRC citizens or residents to register with SAFE or its local branch in connection with their establishment or control of an offshore entity established for the purpose of overseas equity financing involving a roundtrip investment whereby the offshore entity acquires or controls onshore assets or equity interests held by the PRC citizens or residents. In addition, such PRC citizens or residents must update their SAFE registrations when the offshore SPV undergoes material events relating to increases or decreases in investment amount, transfers or exchanges of shares, mergers or divisions, long-term equity or debt investments, external guarantees, or other material events that do not involve roundtrip investments. Subsequent regulations further clarified that PRC subsidiaries of an offshore company governed by the SAFE regulations are required to coordinate and supervise the filing of SAFE registrations in a timely manner by the offshore holding company’s shareholders who are PRC citizens or residents. If these shareholders fail to comply, the PRC subsidiaries are required to report to the local SAFE branches. If our shareholders who are PRC citizens or residents do not complete their registration with the local SAFE branches, our PRC subsidiaries may be prohibited from distributing their profits and proceeds from any reduction in capital, share transfer or liquidation to us, and we may be restricted in our ability to contribute additional capital to our PRC subsidiaries. Moreover, failure to comply with the SAFE registration and amendment requirements described above could result in liability under PRC laws for evasion of applicable foreign exchange restrictions.

Mr. Jun Lei, Mr. Sheng Fu and Mr. Ming Xu have completed foreign exchange registration in connection with our financings and share transfer that were completed before the end of 2013. However, we may not be fully informed of the identities of all our beneficial owners who are PRC citizens or residents, and we cannot compel our beneficial owners to comply with SAFE registration requirements. As a result, we cannot assure you that all of our shareholders or beneficial owners who are PRC citizens or residents have complied with, and will in the future make or obtain any applicable registrations or approvals required by, SAFE regulations. Failure by such shareholders or beneficial owners to comply with SAFE regulations, or failure by us to amend the foreign exchange registrations of our PRC subsidiary, could subject us to fines or legal sanctions, restrict our overseas or cross-border investment activities, limit our subsidiaries’ ability to make distributions or pay dividends or affect our ownership structure, which could adversely affect our business and prospects.

Failure to comply with PRC regulations regarding the registration requirements for employee stock ownership plans or share option plans may subject the PRC plan participants or us to fines and other legal or administrative sanctions.

On February 15, 2012, SAFE promulgated the Notices on Issues Concerning the Foreign Exchange Administration for Domestic Individuals Participating in Stock Incentive Plans of Overseas Publicly-Listed Companies, or the Stock Option Rules, which replaced the Application Procedures of Foreign Exchange Administration for Domestic Individuals Participating in Employee Stock Ownership Plans or Stock Option Plans of Overseas Publicly-Listed Companies issued by SAFE on March 28, 2007. Under the Stock Option Rules and other relevant rules and regulations, PRC residents who participate in stock incentive plan in an overseas publicly-listed company are required to register with SAFE or its local branches and complete certain other procedures. Participants of a stock incentive plan who are PRC residents must retain a qualified PRC agent,

 

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which could be a PRC subsidiary of such overseas publicly listed company or another qualified institution selected by such PRC subsidiary, to conduct the SAFE registration and other procedures with respect to the stock incentive plan on behalf of its participants. Such participants must also retain an overseas entrusted institution to handle matters in connection with their exercise of stock options, the purchase and sale of corresponding stocks or interests and fund transfers. In addition, the PRC agent is required to amend the SAFE registration with respect to the stock incentive plan if there is any material change to the stock incentive plan, the PRC agent or the overseas entrusted institution or other material changes. We and our PRC employees who have been granted stock options will be subject to these regulations upon the completion of this offering. Failure of our PRC stock option holders to complete their SAFE registrations may subject these PRC residents to fines and legal sanctions and may also limit our ability to contribute additional capital into our PRC subsidiaries, limit our PRC subsidiaries’ ability to distribute dividends to us, or otherwise materially adversely affect our business.

PRC regulation of loans to, and direct investment in, PRC entities by offshore holding companies and governmental control of currency conversion may restrict or prevent us from using the proceeds of our initial public offering to make loans to our PRC subsidiaries and VIEs or to make additional capital contributions to our PRC subsidiaries, which may materially and adversely affect our liquidity and our ability to fund and expand our business.

We are an offshore holding company conducting our operations in China through our PRC subsidiaries and VIEs. We may make loans to our PRC subsidiaries and VIEs, or we may make additional capital contributions to our PRC subsidiaries, or we may establish new PRC subsidiaries and make capital contributions to these new PRC subsidiaries, or we may acquire offshore entities with business operations in China in an offshore transaction.

Most of these uses are subject to PRC regulations and approvals. For example, loans by us to our wholly owned PRC subsidiaries to finance their activities cannot exceed statutory limits and must be registered with the local counterpart of SAFE. If we decide to finance our wholly owned PRC subsidiaries by means of capital contributions, these capital contributions must be approved by the MOC or its local counterpart. Due to the restrictions imposed on loans in foreign currencies extended to any PRC domestic companies, we are not likely to make such loans to our VIEs, which are PRC domestic companies. Further, we are not likely to finance the activities of our VIEs by means of capital contributions due to regulatory restrictions relating to foreign investment in PRC domestic enterprises engaged in mobile internet services, online advertising, online games and related businesses.

On August 29, 2008, SAFE promulgated the Circular on the Relevant Operating Issues Concerning the Improvement of the Administration of the Payment and Settlement of Foreign Currency Capital of Foreign-Invested Enterprises, or SAFE Circular 142, regulating the conversion by a foreign-invested enterprise of foreign currency registered capital into Renminbi by restricting how the converted Renminbi may be used. SAFE Circular 142 provides that Renminbi capital converted from foreign currency registered capital of a foreign-invested enterprise may only be used for purposes within the business scope approved by the applicable governmental authority and may not be used for equity investments within the PRC. In addition, SAFE strengthened its oversight of the flow and use of the Renminbi capital converted from the foreign currency registered capital of a foreign-invested company. The use of such Renminbi capital may not be altered without SAFE approval, and such Renminbi capital may not in any case be used to repay Renminbi loans if the proceeds of such loans have not been used. Violations of SAFE Circular 142 could result in severe monetary or other penalties. Furthermore, SAFE promulgated a circular on November 9, 2010, known as Circular No. 59, which tightens the examination of the authenticity of settlement of net proceeds from our initial public offering. SAFE further promulgated the Circular on Further Clarification and Regulation of the Issues Concerning the Administration of Certain Capital Account Foreign Exchange Businesses, or Circular 45, on November 9, 2011, which expressly prohibits foreign-invested enterprises from using registered capital settled in Renminbi converted from foreign currencies to grant loans through entrustment arrangements with a bank, repay inter-company loans or repay bank loans that have been transferred to a third party. Circular 142, Circular 59 and

 

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Circular 45 may significantly limit our ability to transfer the net proceeds from this offering to our PRC subsidiaries and to convert such proceeds into Renminbi, which may adversely affect our liquidity and our ability to fund and expand our business in the PRC.

In light of the various requirements imposed by PRC regulations on loans to and direct investment in PRC entities by offshore holding companies, including SAFE Circular 142, we cannot assure you that we will be able to complete the necessary government registrations or obtain the necessary government approvals on a timely basis, for at all, with respect to future loans by us to our PRC subsidiaries or with respect to future capital contributions by us to our PRC subsidiaries. If we fail to complete such registrations or obtain such approvals, our ability to use the proceeds we received from our initial public offering and to capitalize or otherwise fund our PRC operations may be negatively affected, which could materially and adversely affect our liquidity and our ability to fund and expand our business.

Our PRC subsidiaries and VIEs are subject to restrictions on paying dividends or making other payments to us, which may restrict our ability to satisfy our liquidity requirements.

We are a holding company registered in the Cayman Islands. We rely principally on dividends and other distributions from our PRC subsidiaries for our cash and financing requirements, such as the funds necessary to pay dividends and other cash distributions to our shareholders, including holders of the ADSs, and service any debt we may incur. Current PRC regulations permit our PRC subsidiaries to pay dividends to us only out of their accumulated profits, if any, determined in accordance with Chinese accounting standards and regulations. In addition, each of our PRC subsidiaries is required to set aside at least 10% of its after-tax profits after making up previous years’ accumulated losses each year, if any, to fund certain reserve funds until the total amount set aside reaches 50% of its registered capital. These reserves are not distributable as cash dividends. Furthermore, if our PRC subsidiaries incur debt on their own behalf in the future, the instruments governing the debt may restrict their ability to pay dividends or make other payments to us, which may restrict our ability to satisfy our liquidity requirements.

In addition, the EIT Law and its implementation rules provide that withholding tax rate of 10% will be applicable to dividends payable by Chinese companies to non-PRC-resident enterprises unless otherwise exempted or reduced according to treaties or arrangements between the PRC central government and governments of other countries or regions where the non-PRC-resident enterprises are incorporated.

Fluctuations in exchange rates could have a material adverse effect on our results of operations and the value of your investment.

The value of the Renminbi against the U.S. dollar and other currencies is affected by, among other things, changes in China’s political and economic conditions and China’s foreign exchange policies. On July 21, 2005, the PRC government changed its decade-old policy of pegging the value of the Renminbi to the U.S. dollar, and the Renminbi appreciated more than 20% against the U.S. dollar over the following three years. During the period between July 2008 and June 2010, the exchange rate between the Renminbi and the U.S. dollar had been stable and traded within a narrow band. However, the Renminbi fluctuated significantly during that period against other freely traded currencies, in tandem with the U.S. dollar. Since June 2010, the Renminbi has generally appreciated against the U.S. dollar, but there have also been periods, most recently beginning in February 2014, when it depreciated against the U.S. dollar. It is difficult to predict how long the current situation may last and when and how this relationship between the Renminbi and the U.S. dollar may change again. However, the People’s Bank of China regularly intervenes in the foreign exchange market to limit fluctuations in Renminbi exchange rates and achieve policy goals.

There remains significant international pressure on the Chinese government to adopt a flexible currency policy to allow the Renminbi to appreciate against the U.S. dollar. Significant revaluation of the Renminbi may have a material adverse effect on your investment. The majority of our revenues and costs are denominated in

 

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Renminbi. Any significant revaluation of Renminbi may materially and adversely affect our revenues, earnings and financial position, and the value of, and any dividends payable on, the ADSs in U.S. dollars. For example, to the extent that we need to convert U.S. dollars we receive from this initial public offering into Renminbi to pay our operating expenses, appreciation of the Renminbi against the U.S. dollar would have an adverse effect on the Renminbi amount we would receive from the conversion. Conversely, a significant depreciation of the Renminbi against the U.S. dollar may significantly reduce the U.S. dollar equivalent of our earnings, which in turn could adversely affect the price of the ADSs.

Very limited hedging options 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 adequately hedge our exposure or at all. In addition, our currency exchange losses may be magnified by PRC exchange control regulations that restrict our ability to convert Renminbi into foreign currency. As a result, fluctuations in exchange rates may have a material adverse effect on your investment.

Governmental control of currency conversion may limit our ability to utilize our cash balance effectively and affect the value of your investment.

The PRC government imposes control on the convertibility of the Renminbi into foreign currencies and, in certain cases, the remittance of currency out of China. We receive a substantial portion of our revenues in Renminbi. Under existing PRC foreign exchange regulations, payments of current account items, including profit distributions, and trade and service-related foreign exchange transactions, can be made in foreign currencies without prior SAFE approval by complying with certain procedural requirements. Therefore, our PRC subsidiaries are able to pay dividends in foreign currencies to us without prior approval from SAFE. However, approval from or registration with appropriate government authorities is required where Renminbi is to be converted into foreign currency and remitted out of China to pay capital expenses such as the repayment of loans denominated in foreign currencies. The PRC government may also at its discretion restrict access to foreign currencies for current account transactions in the future. If the foreign exchange control system prevents us from obtaining sufficient foreign currencies to satisfy our foreign currency demands, we may not be able to pay dividends in foreign currencies to our shareholders, including holders of the ADSs.

Proceedings instituted recently by the SEC against five PRC-based accounting firms, including our independent registered public accounting firm, could result in financial statements being determined to not be in compliance with the requirements of the Securities Exchange Act of 1934, as amended, or the Exchange Act.

In December 2012, the SEC instituted administrative proceedings under Rule 102(e)(1)(iii) of the SEC’s Rules of Practice against five PRC-based accounting firms, including our independent registered public accounting firm, alleging that these firms had violated U.S. securities laws and the SEC’s rules and regulations thereunder by failing to provide to the SEC the firms’ work papers related to their audits of certain PRC-based companies that are publicly traded in the United States. Rule 102(e)(1)(iii) authorizes the SEC to deny any person, temporarily or permanently, the ability to practice before the SEC if found by the SEC, after notice and opportunity for a hearing, to have willfully violated any such laws or rules and regulations. On January 22, 2014, an initial administrative law decision was issued, sanctioning four of these accounting firms and suspending them from practicing before the SEC for a period of six months. On February 12, 2014, these four PRC-based accounting firms appealed to the SEC against this sanction. Accordingly, the sanction will not become effective until after a full appeal process is concluded and a final decision is issued by the SEC. If the SEC’s final decision is decided against the accounting firms, the accounting firms can then further appeal the final decision in the federal appellate courts. While we cannot predict the outcome of these proceedings, if the accounting firms, including our independent registered public accounting firm, were denied, temporarily or permanently, the ability to practice before the SEC, and we are unable to timely find another registered public accounting firm which can

 

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audit and issue a report on our financial statements, our financial statements could be determined to not be in compliance with the requirements for financial statements in connection with this offering under the Securities Act of 1933, as amended, or the Securities Act, or those of public companies registered under the Exchange Act after our completion of this offering. Such a determination could ultimately lead to the delay or abandonment of this offering, or, after the completion of this offering, delisting of the ADSs from the NYSE or deregistration from the SEC, or both, which would substantially reduce or effectively terminate the trading of the ADSs in the United States.

Increases in labor costs in the PRC may adversely affect our business and our profitability.

The Chinese has experienced increases in labor costs in recent years. China’s overall economy and the average wage in China are expected to continue to grow. The average wage level for our employees has also increased in recent years.

In addition, we have been subject to stricter regulatory requirements in terms of entering into labor contracts with our employees and paying various statutory employee benefits, including pensions, housing allowance, medical insurance, work-related injury insurance, unemployment insurance and maternity insurance to designated government agencies for the benefit of our employees. Pursuant to the PRC Labor Contract Law, or the Labor Contract Law, which became effective in January 2008 and its implementation rules effective as of September 2008, employers are subject to stricter requirements in terms of signing labor contracts, minimum wages, paying remuneration, determining the term of employees’ probation and unilaterally terminating labor contracts. In the event that we decide to terminate some of our employees or otherwise change our employment or labor practices, the Labor Contract Law and its implementation rules may limit our ability to effect those changes in a desirable or cost-effective manner, which could adversely affect our business and results of operations. On October 28, 2010, the Standing Committee of the National People’s Congress promulgated the PRC Social Insurance Law, or the Social Insurance Law, which became effective on July 1, 2011. According to the Social Insurance Law, employees must participate in pension insurance, work-related injury insurance, medical insurance, unemployment insurance and maternity insurance and the employers must, together with their employees or separately, pay the social insurance premiums for such employees.

We expect that our labor costs, including wages and employee benefits, will continue to increase. Unless we are able to pass on these increased labor costs to our users by increasing prices for our products or services, our profitability and results of operations may be materially and adversely affected. Also, as the interpretation and implementation of labor-related laws and regulations are still evolving, we cannot assure you that our employment practices do not and will not violate labor-related laws and regulations in China, which may subject us to labor disputes or government investigations. If we are deemed to have violated relevant labor laws and regulations, we could be required to provide additional compensation to our employees, and our business, financial condition and results of operations could be materially and adversely affected.

If the custodians or authorized users of controlling non-tangible assets of our company, including our corporate chops and seals, fail to fulfill their responsibilities, or misappropriate or misuse these assets, our business and operations could be materially and adversely affected.

Under PRC law, legal documents for corporate transactions are executed using the chops or seals of the signing entity, or with the signature of a legal representative whose designation is registered and filed with the relevant branch of the SAIC.

Although we usually utilize chops to enter into contracts, the designated legal representatives of each of our PRC subsidiaries and VIEs have the apparent authority to enter into contracts on behalf of such entities without chops and bind such entities. Some designated legal representatives of our PRC subsidiaries and VIEs are members of our senior management team who have signed employment undertaking letters with us or our PRC subsidiaries and VIEs under which they agree to abide by various duties they owe to us. In order to maintain the

 

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physical security of our chops and the chops of our PRC entities, we generally store these items in secured locations accessible only by the authorized personnel of each of our subsidiaries and VIEs. Although we monitor such authorized personnel, there is no assurance such procedures will prevent all instances of abuse or negligence. Accordingly, if any of our authorized personnel misuse or misappropriate our corporate chops or seals, we could encounter difficulties in maintaining control over the relevant entities and experience significant disruption to our operations. If a designated legal representative obtains control of the chops in an effort to obtain control over any of our PRC subsidiaries or VIEs, we, our PRC subsidiaries or VIEs would need to pass a new shareholder or board resolution to designate a new legal representative and we would need to take legal action to seek the return of the chops, apply for new chops with the relevant authorities, or otherwise seek legal redress for the violation of the representative’s fiduciary duties to us, which could involve significant time and resources and divert management attention away from our regular business. In addition, the affected entity may not be able to recover corporate assets that are sold or transferred out of our control in the event of such a misappropriation if a transferee relies on the apparent authority of the representative and acts in good faith.

Our auditor, like other independent registered public accounting firms operating in China, is not permitted to be subject to inspection by the Public Company Accounting Oversight Board and, as such, investors may be deprived of the benefits of such inspection.

Our independent registered public accounting firm that issued the audit reports included in this prospectus filed with the SEC, as an auditor of companies that are traded publicly in the United States and a firm registered with the Public Company Accounting Oversight Board (United States), or PCAOB, is required by the laws of the United States to undergo regular inspections by PCAOB to assess its compliance with the laws of the United States and professional standards. Because our auditor is located in China, a jurisdiction where PCAOB is currently unable to conduct inspections without the approval of the PRC authorities, our auditor, like other independent registered public accounting firms operating in China, is currently not inspected by PCAOB.

Inspections of other firms that PCAOB has conducted outside of China have identified deficiencies in those firms’ audit procedures and quality control procedures, which may be addressed as part of the inspection process to improve future audit quality. The inability of PCAOB to conduct inspections of independent registered public accounting firms operating in China makes it more difficult to evaluate the effectiveness of our auditor’s audit procedures or quality control procedures. As a result, investors may be deprived of the benefits of PCAOB inspections and lose confidence in our reported financial information and procedures and the quality of our financial statements.

Risks Relating to the ADSs and this Offering

An active trading market for our shares or the ADSs may not develop and the trading price for the ADSs may fluctuate significantly.

We have applied to list the ADSs on the NYSE. Prior to the completion of this offering, there has been no public market for the ADSs or our ordinary shares underlying the ADSs, and we cannot assure you that a liquid public market for the ADSs will develop. If an active public market for the ADSs does not develop following the completion of this offering, the market price and liquidity of the ADSs may be materially and adversely affected. Even if an active public market for our ordinary shares or the ADSs develops, we cannot assure you that it will continue. The initial public offering price for the ADSs will be determined by negotiation between us and the underwriters based upon several factors, and we can provide no assurance that the trading price of the ADSs after this offering will not decline below the initial public offering price. As a result, investors in the ADSs may experience a significant decrease in the value of their ADSs.

The trading price of the ADSs is likely to be volatile, which could result in substantial losses to investors.

The trading price of the ADSs is likely to be volatile and could fluctuate widely due to factors beyond our control. This may happen because of broad market and industry factors, like the performance and fluctuation in

 

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the market prices or the underperformance or deteriorating financial results of other similarly situated companies in China that have listed their securities in the United States in recent years. The securities of some of these companies have experienced significant volatility since their initial public offerings, including, in some cases, substantial declines in trading price. The trading performance of these Chinese companies’ securities after their offerings, including the securities of companies in the internet and mobile internet businesses, may affect the attitudes of investors toward Chinese companies listed in the United States, which consequently may impact the trading performance of the ADSs, regardless of our actual operating performance. In addition, any negative news or perceptions about inadequate corporate governance practices or fraudulent accounting or other practices at other Chinese companies may also negatively affect the attitudes of investors towards Chinese companies in general, including us, regardless of whether we have engaged in such practices. In addition, securities markets may from time to time experience significant price and volume fluctuations that are not related to our operating performance, such as the large decline in share prices in the United States, China and other jurisdictions in late 2008, early 2009, the third quarter of 2011 and the second quarter of 2012, which may have a material adverse effect on the market price of the ADSs.

In addition to market and industry factors, the price and trading volume for the ADSs may be highly volatile due to factors specific to our own operations, including the following:

 

    variations in our net revenues, earnings and cash flow;

 

    announcements of new investments, acquisitions, strategic partnerships, or joint ventures by us or our competitors;

 

    announcements of new services and expansions by us or our competitors;

 

    changes in financial estimates by securities analysts;

 

    fluctuations in our user or other operating metrics;

 

    fluctuations in the stock price of our parent company, Kingsoft Corporation;

 

    failure on our part to realize monetization opportunities as expected;

 

    changes in revenues generated from our significant business partners;

 

    additions or departures of key personnel;

 

    release of lock-up or other transfer restrictions on our outstanding equity securities or sales of additional equity securities;

 

    detrimental negative publicity about us, our management, our competitors or our industry;

 

    regulatory developments affecting us or our industry; and

 

    potential litigation or regulatory investigations.

Any of these factors may result in large and sudden changes in the trading volume and price of the ADSs.

We are an emerging growth company within the meaning of the Securities Act and may take advantage of certain reduced reporting requirements.

We are an “emerging growth company,” as defined in the JOBS Act, and we may take advantage of certain exemptions from various requirements applicable to other public companies that are not emerging growth companies including, most significantly, not being required to comply with the auditor attestation requirements of Section 404 for so long as we are an emerging growth company until the fifth anniversary from the date of our initial listing.

The JOBS Act also provides that an emerging growth company does not need to comply with any new or revised financial accounting standards until such date that a private company is otherwise required to comply

 

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with such new or revised accounting standards. If we elect not to comply with the abovementioned auditor attestation requirements or to comply with new or revised accounting standards, our investors may not have access to certain information they may deem important.

If securities or industry analysts cease to publish research or reports about our business, or if they adversely change their recommendations regarding the ADSs, the market price for the ADSs and trading volume could decline.

The trading market for the ADSs will be influenced by research or reports that industry or securities analysts publish about our business. If one or more analysts who cover us downgrade the ADSs, the market price for the ADSs would likely decline. If one or more of these analysts cease to cover us or fail to regularly publish reports on us, we could lose visibility in the financial markets, which, in turn, could cause the market price or trading volume for the ADSs to decline.

The sale or availability for sale, or perceived sale or availability for sale, of substantial amounts of our ordinary shares could adversely affect their market price.

Sales of substantial amounts of our ordinary shares in the public market after the completion of this offering, whether directly or represented by ADSs, or the perception that these sales could occur, could adversely affect the market price of the ADSs and could materially impair our ability to raise capital through equity offerings in the future. There will be 1,382,493,689 ordinary shares outstanding immediately after this offering, or 1,400,493,689 ordinary shares if the underwriters exercise their options to purchase additional ADSs in full. The ADSs sold in this offering will be freely tradable without restriction or further registration under the Securities Act of 1933, as amended, or the Securities Act, and ordinary shares held by our existing shareholders may also be sold in the public market in the future subject to the restrictions in Rule 144 and Rule 701 under the Securities Act and the applicable lock-up agreements. In connection with this offering, we and our officers, directors and our shareholders have agreed not to sell any shares or ADSs for 180 days after the date of this prospectus without the prior written consent of the underwriters. However, the underwriters may release the securities subject to lock-up agreements from the lock-up restrictions at any time, subject to applicable regulations of the Financial Industry Regulatory Authority, Inc. In addition, 44,790,000 Class A ordinary shares underlying our outstanding restricted shares as of the closing of this offering will become eligible for sale in the public market to the extent permitted by the provisions of various vesting agreements, the lock-up agreements and Rules 144 and 701 under the Securities Act. We may also issue additional options, restricted shares or other share-based awards in the future which may be exercised for additional Class A ordinary shares. We cannot predict what effect, if any, market sales of securities held by our significant shareholders or any other shareholder or the availability of these securities for future sale will have on the market price of the ADSs. In addition, in connection with the Concurrent Private Placement, we will enter into a registration rights agreement with Kingsoft Corporation, Xiaomi Ventures Limited and Baidu Holdings Limited, pursuant to which we will grant them Form F-3 registration rights and the piggyback registration rights. Registration of these shares under the Securities Act may result in these shares becoming freely tradable without restriction under the Securities Act immediately upon the effectiveness of the registration. Sales of these registered shares in the public market, or the perception that such sales could occur, could cause the price of our ADSs to decline. See “Underwriting” and “Shares Eligible for Future Sale” for a more detailed description of the restrictions on selling our securities after this offering.

Because the initial public offering price is substantially higher than the pro forma net tangible book value per share, you will experience immediate and substantial dilution.

If you purchase ADSs in this offering, you will pay more for each ADS than the corresponding amount paid by existing shareholders for their Class A ordinary shares. As a result, you will experience immediate and substantial dilution of approximately US$11.50 per ADS (assuming that no outstanding options or other share-based awards to acquire Class A ordinary shares are exercised). This number represents the difference between our pro forma as adjusted net tangible book value per ADS of US$0.20 as of December 31, 2013, after giving effect to this offering and the assumed initial public offering price of US$13.50 per ADS, the mid-point of the estimated initial public offering price range set forth on the front cover of this prospectus. See “Dilution” for a

 

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more complete description of how the value of your investment in the ADSs will be diluted upon the completion of this offering.

Our articles of association contain anti-takeover provisions that could have a material adverse effect on the rights of holders of our ordinary shares and ADSs.

We will adopt our fourth amended and restated articles of association that will become effective immediately upon completion of this offering. Our new articles of association contain provisions to limit the ability of others to acquire control of our company or cause us to engage in change-of-control transactions. These provisions could have the effect of depriving our shareholders of an opportunity to sell their shares at a premium over prevailing market prices by discouraging third parties from seeking to obtain control of our company in a tender offer or similar transaction. For example, our board of directors has the authority, without further action by our shareholders, to issue preferred shares in one or more series and to fix their designations, powers, preferences, privileges, and relative participating, optional or special rights, and the qualifications, limitations or restrictions, including dividend rights, conversion rights, voting rights, terms of redemption and liquidation preferences, any or all of which may be greater than the rights associated with our ordinary shares, in the form of ADS or otherwise. Preferred shares could be issued quickly with terms calculated to delay or prevent a change in control of our company or make removal of management more difficult. If our board of directors decides to issue preferred shares, the price of the ADSs may fall and the voting and other rights of the holders of our ordinary shares and the ADSs may be materially and adversely affected.

You may face difficulties in protecting your interests, and your ability to protect your rights through U.S. courts may be limited, because we are incorporated under Cayman Islands law.

We are an exempted company limited by shares incorporated under the laws of the Cayman Islands. Our corporate affairs are governed by our memorandum and articles of association, the Companies Law (2013 Revision) of the Cayman Islands and the common law of the Cayman Islands. The rights of shareholders to take action against the directors, actions by minority shareholders and the fiduciary responsibilities of our directors to us under Cayman Islands law are to a large extent governed by the common law of the Cayman Islands. The common law of the Cayman Islands is derived in part from comparatively limited judicial precedent in the Cayman Islands as well as from the common law of England, the decisions of whose courts are of persuasive authority, but are not binding, on a court in 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 precedent in some jurisdictions in the United States. In particular, the Cayman Islands has a less developed body of securities laws than the United States. Some U.S. states, such as Delaware, have more fully developed and judicially interpreted bodies of corporate law than the Cayman Islands. In addition, Cayman Islands companies may not have standing to initiate a shareholder derivative action in a federal court of the United States.

Shareholders of Cayman Islands exempted companies like us have no general rights under Cayman Islands law to inspect corporate records or to obtain copies of lists of shareholders of these companies. Our directors have discretion under our existing articles of association to determine whether or not, and under what conditions, our corporate records may be inspected by our shareholders, but are not obliged to make them available to our shareholders. This may make it more difficult for you to obtain the information needed to establish any facts necessary for a shareholder motion or to solicit proxies from other shareholders in connection with a proxy contest.

Certain corporate governance practices in the Cayman Islands, which is our home country, differ significantly from requirements for companies incorporated in other jurisdictions such as the U.S. Currently, we do not plan to rely on home country practice with respect to any corporate governance matter. However, if we choose to follow home country practice in the future, our shareholders may be afforded less protection than they otherwise would under rules and regulations applicable to U.S. domestic issuers.

As a result of all of the above, public shareholders may have more difficulty in protecting their interests in the face of actions taken by management, members of the board of directors or controlling shareholders than they

 

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would as public shareholders of a company incorporated in the United States. For a discussion of significant differences between the provisions of the Companies Law of the Cayman Islands and the laws applicable to companies incorporated in the United States and their shareholders, see “Description of Share Capital—Differences in Corporate Law.”

Judgments obtained against us by our shareholders may not be enforceable in our home jurisdiction.

We are a Cayman Islands company and a substantial majority of our assets are located outside of the United States. A significant percentage of our current operations are conducted in China. In addition, a significant majority of our current directors and officers are nationals and residents of countries other than the United States. As a result, it may be difficult or impossible for you to bring an action against us or against these individuals in the United States in the event that you believe that your rights have been infringed under the United States federal securities laws or otherwise. Even if you are successful in bringing an action of this kind, the laws of the Cayman Islands and of China may render you unable to enforce a judgment against our assets or the assets of our directors and officers.

There are uncertainties as to whether Cayman Islands courts would:

 

    recognize or enforce against us judgments of courts of the United States based on certain civil liability provisions of U.S. securities laws; and

 

    impose liabilities against us, in original actions brought in the Cayman Islands, based on certain civil liability provisions of U.S. securities laws that are penal in nature.

There is no statutory recognition in the Cayman Islands of judgments obtained in the United States, although the courts of the Cayman Islands will in certain circumstances recognize and enforce a non-penal judgment of a foreign court of competent jurisdiction without retrial on the merits. For more information regarding the relevant laws of the Cayman Islands and China, see “Enforceability of Civil Liabilities.”

We have not determined a specific use for a portion of the net proceeds from this offering and the Concurrent Private Placement, and we may use these proceeds in ways with which you may not agree, and such use may not produce income or increase our ADS price.

We have not determined a specific use for a portion of the net proceeds of this offering, and our management will have considerable discretion in deciding how to apply them. You will not have the opportunity to assess whether the proceeds are being used appropriately before you make your investment decision. You must rely on the judgment of our management regarding the application of the net proceeds of this offering. We cannot assure you that the net proceeds will be used in a manner that would improve our results of operations or increase the ADS price, or that these net proceeds will be placed only in investments that generate income or appreciate in value.

The voting rights of holders of ADSs are limited by the terms of the deposit agreement, and you may not be able to exercise your right to vote your Class A ordinary shares.

As a holder of the ADSs, you will only be able to exercise the voting rights with respect to the underlying Class A ordinary shares in accordance with the provisions of the deposit agreement. Under the deposit agreement, you must vote by giving voting instructions to the depositary. Upon receipt of your voting instructions, the depositary will endeavor to vote the underlying Class A ordinary shares in accordance with those instructions. You will not be able to directly exercise your right to vote with respect to the underlying shares unless you withdraw the shares. Under our fourth amended and restated memorandum and articles of association which will be effective immediately prior to the completion of this offering, the minimum notice period required for convening a general meeting is 14 calendar days. When a general meeting is convened, you may not receive sufficient advance notice to withdraw the shares underlying your ADSs to allow you to vote with respect to any

 

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specific matter. If we ask for your instructions, the depositary will notify you of the upcoming vote and will arrange to deliver our voting materials to you. 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. In addition, the depositary and its agents are not responsible for failing to carry out voting instructions or for their manner of carrying out your voting instructions. This means that you may not be able to exercise your right to vote and you may have no legal remedy if the shares underlying your ADSs are not voted as you requested.

The depositary for the ADSs will give us a discretionary proxy to vote our Class A ordinary shares underlying your ADSs if you do not vote at shareholders’ meetings, except in limited circumstances, which could adversely affect your interests.

Under the deposit agreement for the ADSs, if you do not vote, the depositary will give us a discretionary proxy to vote our Class A ordinary shares underlying your ADSs at shareholders’ meetings unless:

 

    we have failed to timely provide the depositary with notice of meeting and related voting materials;

 

    we have instructed the depositary that we do not wish a discretionary proxy to be given;

 

    we have informed the depositary that there is substantial opposition as to a matter to be voted on at the meeting;

 

    a matter to be voted on at the meeting would have a material adverse impact on shareholders; or

 

    the voting at the meeting is to be made on a show of hands.

The effect of this discretionary proxy is that if you do not vote at shareholders’ meetings, you cannot prevent our Class A ordinary shares underlying your ADSs from being voted, except under the circumstances described above. This may make it more difficult for shareholders to influence the management of our company. Holders of our Class A ordinary shares are not subject to this discretionary proxy.

Because we do not expect to pay dividends in the foreseeable future after this offering, you must rely on price appreciation of the ADSs for return on your investment.

We currently intend to retain most, if not all, of our available funds and any future earnings after this offering to fund the development and growth of our business. As a result, we do not expect to pay any cash dividends in the foreseeable future. Therefore, you should not rely on an investment in the ADSs as a source for any future dividend income.

Our board of directors has discretion as to whether to distribute dividends, subject to applicable laws. Even if our board of directors decides to declare and pay dividends, the timing, amount and form of future dividends, if any, will depend on, among other things, our future results of operations and cash flow, our capital requirements and surplus, the amount of distributions, if any, received by us from our subsidiary, our financial condition, contractual restrictions and other factors deemed relevant by our board of directors. Accordingly, the return on your investment in the ADSs will likely depend entirely upon any future price appreciation of the ADSs. There is no guarantee that the ADSs will appreciate in value after this offering or even maintain the price at which you purchased the ADSs. You may not realize a return on your investment in the ADSs and you may even lose your entire investment in the ADSs.

You may not receive dividends or other distributions on our Class A ordinary shares and you may not receive any value for them, if it is illegal or impractical to make them available to you.

The depositary of the ADSs has agreed to pay to you the cash dividends or other distributions it or the custodian receives on Class A ordinary shares or other deposited securities underlying the ADSs, after deducting its fees and expenses. You will receive these distributions in proportion to the number of Class A ordinary shares your ADSs represent. However, the depositary is not responsible if it decides that it is unlawful or impractical to

 

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make a distribution available to any holders of ADSs. For example, it would be unlawful to make a distribution to a holder of ADSs if it consists of securities that require registration under the Securities Act but that are not properly registered or distributed under an applicable exemption from registration. The depositary may also determine that it is not feasible to distribute certain property through the mail. Additionally, the value of certain distributions may be less than the cost of mailing them. In these cases, the depositary may determine not to distribute such property. We have no obligation to register under U.S. securities laws any ADSs, ordinary shares, rights or other securities received through such distributions. We also have no obligation to take any other action to permit the distribution of ADSs, ordinary shares, rights or anything else to holders of ADSs. This means that you may not receive distributions we make on our Class A ordinary shares or any value for them if it is illegal or impractical for us to make them available to you. These restrictions may cause a material decline in the value of the ADSs.

You may not be able to participate in rights offerings and may experience dilution of your holdings.

We may, from time to time, distribute rights to our shareholders, including rights to acquire securities. Under the deposit agreement, the depositary will not distribute rights to holders of ADSs unless the distribution and sale of rights and the securities to which these rights relate are either exempt from registration under the Securities Act with respect to all holders of ADSs, or are registered under the provisions of the Securities Act. The depositary may, but is not required to, attempt to sell these undistributed rights to third parties, and may allow the rights to lapse. We may be unable to establish an exemption from registration under the Securities Act, and we are under no obligation to file a registration statement with respect to these rights or underlying securities or to endeavor to have a registration statement declared effective. Accordingly, holders of ADSs may be unable to participate in our rights offerings and may experience dilution of their holdings as a result.

Our proposed dual-class voting structure will limit your ability to influence corporate matters, and could discourage others from pursuing any change of control transactions that holders of our Class A ordinary shares and the ADSs may view as beneficial.

Our ordinary shares will be divided into Class A ordinary shares and Class B ordinary shares immediately prior to the completion of this offering. Holders of Class A ordinary shares will be entitled to one vote per share, while holders of Class B ordinary shares will be entitled to ten votes per share. We will issue Class A ordinary shares represented by the ADSs in this offering. All of our outstanding ordinary shares and preferred shares as of the date of this prospectus will be automatically re-designated or converted into Class B ordinary shares immediately prior to the completion of this offering. We intend to maintain the dual-class voting structure after the completion of this offering. Each Class B ordinary share is convertible into one Class A ordinary share at any time by the holder thereof. Class A ordinary shares are not convertible into Class B ordinary shares under any circumstances. Upon any transfer of Class B ordinary shares by a holder thereof to any person or entity which is not an affiliate of such holder, such Class B ordinary shares shall be automatically and immediately converted into the equal number of Class A ordinary shares.

Due to the disparate voting powers attached to these two classes of ordinary shares, our existing shareholders will collectively own approximately 98.8% of the voting power of our outstanding shares immediately after this offering and will have considerable influence over matters requiring shareholders’ approval, including election of directors and significant corporate transactions, such as a merger or sale of our company or our assets. In particular, our parent company Kingsoft Corporation, and FaX Vision Corporation, a company jointly owned by Mr. Sheng Fu and Mr. Ming Xu, our founders and core management, will beneficially own approximately 48.5% and 11.9% of our total outstanding shares, respectively, representing 53.5% and 13.3% of our total voting power immediately after this offering, respectively. This concentrated control will limit your ability to influence corporate matters and could discourage others from pursuing any potential merger, takeover or other change of control transactions that holders of Class A ordinary shares and ADSs may view as beneficial.

 

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You may be subject to limitations on transfer of your ADSs.

Your ADSs 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 from time to time 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 ADSs 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 ADSs generally when our share register or the books of the depositary are closed, or at any time if we or the depositary thinks that it is advisable to do so because of any requirement of law or of any government or governmental body, or under any provision of the deposit agreement, or for any other reason in accordance with the terms of the deposit agreement. As a result, you may be unable to transfer your ADSs when you wish to.

We will incur increased costs as a result of being a public company, particularly after we cease to qualify as an “emerging growth company.”

Upon completion of this offering, we will become a public company and expect to incur significant legal, accounting and other expenses that we did not incur as a private company. The Sarbanes-Oxley Act of 2002, as well as rules subsequently implemented by the Securities and Exchange Commission, or the SEC, and NYSE, impose various requirements on the corporate governance practices of public companies. As a company with less than US$1.0 billion in revenues for our last fiscal year, we qualify as an “emerging growth company” pursuant to the JOBS Act. An emerging growth company may take advantage of specified reduced reporting and other requirements that are otherwise applicable generally to public companies. These provisions include exemption from the auditor attestation requirement under Section 404 of the Sarbanes-Oxley Act of 2002, or Section 404, in the assessment of the emerging growth company’s internal control over financial reporting and permission to delay adopting new or revised accounting standards until such time as those standards apply to private companies. However, we have elected to “opt out” of this provision and, as a result, we will comply with new or revised accounting standards as required when they are adopted for public companies. This decision to opt out of the extended transition period under the JOBS Act is irrevocable.

We expect these rules and regulations to increase our legal and financial compliance costs and to make some corporate activities more time-consuming and costly. After we are no longer an “emerging growth company,” we expect to incur significant expenses and devote substantial management effort toward ensuring compliance with the requirements of Section 404 of the Sarbanes-Oxley Act of 2002 and the other rules and regulations of the SEC. For example, as a result of becoming a public company, we will need to increase the number of independent directors and adopt policies regarding internal controls and disclosure controls and procedures. We also expect that operating as a public company will make it more difficult and more expensive for us to obtain director and officer liability insurance, and we may be required to accept reduced policy limits and coverage or incur substantially higher costs to obtain the same or similar coverage. In addition, we will incur additional costs associated with our public company reporting requirements. It may also be more difficult for us to find qualified persons to serve on our board of directors or as executive officers. We are currently evaluating and monitoring developments with respect to these rules and regulations, and we cannot predict or estimate with any degree of certainty the amount of additional costs we may incur or the timing of such costs.

In the past, shareholders of a public company often brought securities class action suits against the company following periods of instability in the market price of that company’s securities. If we were involved in a class action suit, it could divert a significant amount of our management’s attention and other resources from our business and operations, which could harm our results of operations and require us to incur significant expenses to defend the suit. Any such class action suit, whether or not successful, could harm our reputation and restrict our ability to raise capital in the future. In addition, if a claim is successfully made against us, we may be required to pay significant damages, which could have a material adverse effect on our financial condition and results of operations.

 

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There can be no assurance that we will not be passive foreign investment company, or PFIC, for United States federal income tax purposes for any taxable year, which could subject United States investors in the ADSs or our Class A ordinary shares to significant adverse United States income tax consequences.

We will be a “passive foreign investment company,” or “PFIC,” if, in the case of any particular taxable year, either (a) 75% or more of our gross income for such year consists of certain types of “passive” income or (b) 50% or more of the average quarterly value of our assets (as determined on the basis of fair market value) during such year produce or are held for the production of passive income (the “asset test”). Although the law in this regard is unclear, we treat our VIEs as being owned by us for United States federal income tax purposes, not only because we exercise effective control over the operation of such entities but also because we are entitled to substantially all of their economic benefits, and, as a result, we consolidate their results of operations in our consolidated financial statements. Assuming that we are the owner of our VIEs for United States federal income tax purposes, and based upon our current and expected income and assets (taking into account the expected proceeds from this offering) and projections as to the value of the ADSs and our Class A ordinary shares following the offering, we do not presently expect to be a PFIC for the current taxable year or the foreseeable future.

While we do not expect to become a PFIC, because the value of our assets for purposes of the asset test may be determined by reference to the market price of the ADSs or our Class A ordinary shares, fluctuations in the market price of the ADSs or our Class A ordinary shares may cause us to become a PFIC for the current or subsequent taxable years. The determination of whether we will be or become a PFIC will also depend, in part, on the composition of our income and assets, which may be affected by how, and how quickly, we use our liquid assets and the cash raised in this offering. Under circumstances where we determine not to deploy significant amounts of cash for active purposes or if we were treated as not owning our VIEs for United States federal income tax purposes, our risk of being a PFIC may substantially increase. Because there are uncertainties in the application of the relevant rules and PFIC status is a factual determination made annually after the close of each taxable year, there can be no assurance that we will not be a PFIC for the current taxable year or any future taxable year.

If we are a PFIC in any taxable year, a U.S. holder (as defined in “Taxation—United States Federal Income Tax Considerations”) may incur significantly increased United States income tax on gain recognized on the sale or other disposition of the ADSs or Class A ordinary shares and on the receipt of distributions on the ADSs or Class A ordinary shares to the extent such gain or distribution is treated as an “excess distribution” under the United States federal income tax rules and such holders may be subject to burdensome reporting requirements. Further, if we are a PFIC for any year during which a U.S. holder holds the ADSs or our Class A ordinary shares, we generally will continue to be treated as a PFIC for all succeeding years during which such U.S. holder holds the ADSs or our Class A ordinary shares. For more information see “Taxation—United States Federal Income Tax Considerations—Passive Foreign Investment Company Considerations.”

 

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SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS AND INDUSTRY DATA

This prospectus contains forward-looking statements that involve risks and uncertainties. All statements other than statements of historical facts are forward-looking statements. These statements involve known and unknown risks, uncertainties and other factors that may cause our actual results, performance or achievements to be materially different from those expressed or implied by the forward-looking statements.

You can identify these forward-looking statements by words or phrases such as “may,” “could,” “should,” “would,” “will,” “expect,” “anticipate,” “aim,” “estimate,” “intend,” “plan,” “believe,” “likely to,” “project,” “continue,” “potential,” or other similar expressions. We have based these forward-looking statements largely on our current expectations and projections about future events and financial trends that we believe may affect our financial condition, results of operations, business strategy and financial needs. These forward-looking statements include, but are not limited to, statements about:

 

    our growth strategies;

 

    our ability to retain and increase our user base and business partners and expand our product and service offerings;

 

    our ability to monetize our platform;

 

    our future business development, results of operations and financial condition;

 

    expected changes in our revenues and certain cost or expense items;

 

    our expectation regarding the use of proceeds from this offering;

 

    competition in our industry;

 

    relevant government policies and regulations relating to our industry;

 

    general economic and business condition globally and in China; and

 

    assumptions underlying or related to any of the foregoing.

You should read thoroughly this prospectus and the documents that we refer to in this prospectus with the understanding that our actual future results may be materially different from and worse than what we expect. Other sections of this prospectus include additional factors which could adversely impact our business and financial performance. Moreover, we operate in an evolving environment. New risk factors and uncertainties emerge from time to time and it is not possible for our management to predict all risk factors and uncertainties, nor can we assess the impact of all factors on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements. We qualify all of our forward-looking statements by these cautionary statements.

You should not rely upon forward-looking statements as predictions of future events. We undertake no obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.

This prospectus also contains statistical data and estimates that we obtained from industry publications and reports generated by third parties, including industry data from iResearch, App Annie and IDC. All industry publications and reports referred to in this prospectus generally indicate that the information contained therein was obtained from sources believed to be reliable, but such publications and reports do not guarantee the accuracy and completeness of such information. Although we believe that the publications and reports are reliable, we have not independently verified such data.

The forward-looking statements made in this prospectus relate only to events or information as of the date on which the statements are made in this prospectus. Although we will become a public company after this offering and have ongoing disclosure obligations under United States federal securities laws, we do not intend to update or otherwise revise the forward-looking statements in this prospectus, whether as a result of new information, future events or otherwise.

 

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USE OF PROCEEDS

We estimate that we will receive net proceeds from this offering of approximately US$147.4 million, or approximately US$170.0 million if the underwriters exercise their option to purchase additional ADSs in full, after deducting underwriting discounts and commissions and the estimated offering expenses payable by us. A US$1.00 change in the assumed initial public offering price of US$13.50 per ADS would, in the case of an increase, increase and, in the case of a decrease, decrease the net proceeds of this offering by US$11.2 million, or approximately US$12.8 million if the underwriters exercise their option to purchase additional ADSs in full, after deducting underwriting discounts and commissions and the estimated offering expenses payable by us. In addition, we expect to receive US$50 million in the Concurrent Private Placement.

The primary purposes of this offering are to create a public market for our shares for the benefit of all shareholders, to retain talented employees by providing liquidity to their equity incentives and to obtain additional capital. We plan to use the net proceeds we receive from this offering and the Concurrent Private Placement as follows:

 

    US$50 million to penetrate selected international markets;

 

    US$35 million to expand and strengthen our sales and marketing efforts;

 

    US$35 million to invest in technology, infrastructure and research and development capabilities; and

 

    the balance for other general corporate purposes, including working capital needs and potential acquisitions.

The foregoing represents our current intentions based upon our present plans and business conditions. Our management, however, will have significant flexibility and discretion to apply the net proceeds from this offering. If an unforeseen event occurs or business conditions change, we may use the net proceeds differently than as described in this prospectus.

In utilizing the proceeds from this offering, we are permitted under PRC laws and regulations to provide funding to our PRC subsidiaries only through loans or capital contributions, and only if we satisfy the applicable government registration and approval requirements. We cannot assure you that we will be able to meet these requirements on a timely basis, if at all. See “Risk Factors—Risks Relating to Doing Business in China—PRC regulation of loans to, and direct investment in, PRC entities by offshore holding companies and governmental control of currency conversion may restrict or prevent us from using the proceeds of our initial public offering to make loans to our PRC subsidiaries and VIEs or to make additional capital contributions to our PRC subsidiaries, which may materially and adversely affect our liquidity and our ability to fund and expand our business.” We will apply to obtain approval from the Ministry of Commerce or its local counterparts for such increase and register the changes with the State Administration for Industry and Commerce and the SAFE or their local counterparts. Zhuhai Juntian and Conew Network can then convert the increased registered capital in foreign currencies into Renminbi and use the Renminbi within their respective approved business scope. We may keep a portion of the net proceeds offshore for our foreign currency needs. Due to PRC legal restrictions on loans in foreign currencies extended to any PRC domestic companies, and because our VIEs are generally able to conduct business with revenues generated from their own daily operations, we do not intend to finance the activities of our VIEs with the net proceeds of this offering.

 

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DIVIDEND POLICY

We declared a special dividend of RMB17.7 million to Kingsoft Corporation in November 2009, which was fully paid in 2013. In addition, we declared a special dividend of RMB43.1 million in August 2011 to Kingsoft Corporation, which was fully paid in 2011. We currently have no plan to declare or pay any dividends in the near future on our shares or ADSs. We currently intend to retain most, if not all, of our available funds and any future earnings to operate and expand our business.

We are a holding company incorporated in the Cayman Islands. We rely principally on dividends from our PRC subsidiaries for our cash requirements, including any payment of dividends to our shareholders. PRC regulations may restrict the ability of our PRC subsidiaries to pay dividends to us. See “Risk Factors—Risks Relating to Doing Business in China—Our PRC subsidiaries and VIEs are subject to restrictions on paying dividends or making other payments to us, which may restrict our ability to satisfy our liquidity requirements.” and “PRC Regulation—Regulation of Foreign Currency Exchange and Dividend Distribution.”

Our board of directors has discretion as to whether to distribute dividends, subject to applicable laws. In addition, our shareholders may by ordinary resolution declare a dividend, but no dividend may exceed the amount recommended by our directors. Under Cayman Islands law, a Cayman Islands company may pay a dividend on its shares out of either profit or share premium amount, provided that in no circumstances may a dividend be paid if this would result in the company being unable to pay its debts due in the ordinary course of business. Even if our board of directors decides to pay dividends, the form, frequency and amount will depend upon our future operations and earnings, capital requirements and surplus, general financial condition, contractual restrictions and other factors that the board of directors may deem relevant. If we pay any dividends, we will pay our ADS holders to the same extent as holders of our ordinary shares, subject to the terms of the deposit agreement, including the fees and expenses payable thereunder. See “Description of American Depositary Shares.” Cash dividends on our ordinary shares, if any, will be paid in U.S. dollars.

 

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CAPITALIZATION

The following table sets forth our capitalization as of December 31, 2013:

 

    on an actual basis;

 

    on a pro forma basis to reflect the automatic conversion of all of our outstanding preferred shares into 224,905,170 Class B ordinary shares immediately prior to the completion of this offering; and

 

    on a pro forma as adjusted basis to reflect (a) the automatic conversion of all of our outstanding preferred shares into 224,905,170 Class B ordinary shares immediately upon the completion of this offering, (b) the sale of 120,000,000 Class A ordinary shares in the form of ADSs by us in this offering at an assumed initial public offering price of US$13.50 per ADS, the mid-point of the estimated range of the initial public offering price shown on the front cover of this prospectus after deducting the underwriting discounts and commissions and estimated offering expenses payable by us (assuming the over-allotment option is not exercised) and (c) a total of 37,037,037 Class A ordinary shares we will offer and sell through the Concurrent Private Placement, which number of shares has been calculated based on the mid-point of the estimated initial public offering price range shown on the front cover page of this prospectus.

You should read this table together with our consolidated financial statements and the related notes included elsewhere in this prospectus and the information under “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”

 

     As of December 31, 2013  
     Actual      Pro Forma      Pro Forma
as Adjusted(1)
 
     RMB      US$      RMB      US$      RMB      US$  
     (in thousands)  

Convertible preferred shares

     441,941         73,004                                   

Shareholders’ equity:

                 

Ordinary shares (Class B ordinary shares issued and outstanding on a pro forma basis and Class A ordinary shares and Class B ordinary shares issued and outstanding on a pro forma as adjusted basis; US$0.000025 par value; 1,775,094,830 shares authorized, 1,000,551,482 shares issued and 900,551,482 outstanding on an actual basis(2))

     150         25         184         30         208         34   

Additional paid-in capital(3)

     63,919         10,559         505,826         83,558         1,679,840         277,491   

Accumulated other comprehensive income

     13,239         2,187         13,239         2,187         13,239         2,187   

Retained earnings

     74,819         12,359         74,819         12,359         74,819         12,359   

Total shareholders’ equity(3)

     152,127         25,130         594,068         98,134         1,768,106         292,071   

Total capitalization(3)

     594,068         98,134         594,068         98,134         1,768,106         292,071   

 

(1) The pro forma as adjusted information discussed above is illustrative only. Our additional paid-in capital, total shareholders’ equity and total capitalization following the completion of this offering are subject to adjustment based on the actual initial public offering price and other terms of this offering determined at pricing.
(2) Excluded 100,000,000 ordinary shares held by the trustee pursuant to our 2011 share award scheme and a trust deed dated May 26, 2011.
(3) Assuming the number of ADSs offered by us as set forth on the cover page of this prospectus remains the same, and after deduction of underwriting discounts and commissions and the estimated offering expenses payable by us, a US$1.00 change in the assumed initial public offering price of US$13.50 per ADS would, in the case of an increase, increase and, in the case of a decrease, decrease each of additional paid-in capital, total shareholders’ equity and total capitalization by US$11.2 million.

 

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DILUTION

If you invest in the ADSs, your interest will be diluted to the extent of the difference between the initial public offering price per ADS and our net tangible book value per ADS after this offering. Dilution results from the fact that the initial public offering price per ordinary share is substantially in excess of the book value per ordinary share attributable to the existing shareholders for our presently outstanding ordinary shares and holders of our outstanding preferred shares which will automatically convert into our Class B ordinary shares upon the completion of this offering.

Our net tangible book value as of December 31, 2013 was approximately US$0.08 per ordinary share and US$0.80 per ADS. Net tangible book value per ordinary share represents the amount of total assets, minus the amount of total liabilities, intangible assets and goodwill, divided by the total number of ordinary shares outstanding. Dilution is determined by subtracting net tangible book value per ordinary share from the assumed public offering price per ordinary share. Because our Class A ordinary shares and Class B ordinary shares have the same dividend and other rights, except for voting and conversion rights, the dilution is presented here based on all ordinary shares, including Class A ordinary shares and Class B ordinary shares.

Without taking into account any other changes in such net tangible book value after December 31, 2013, other than to give effect to (i) the conversion of all of our preferred shares into Class B ordinary shares, which will occur automatically upon the completion of this offering, (ii) our issuance and sale of 12,000,000 ADSs in this offering, at an assumed initial public offering price of US$13.50 per ADS, the mid-point of the estimated public offering price range, and after deduction of underwriting discounts and commissions and estimated offering expenses payable by us (assuming the over-allotment option is not exercised) and (iii) a total of 37,037,037 Class A ordinary shares we will offer and sell through the Concurrent Private Placement, which number of shares has been calculated based on an initial public offering price of US$13.50 per ADS, the mid-point of the estimated initial public offering price range shown on the front cover page of this prospectus, our pro forma net tangible book value at December 31, 2013 would have been US$0.20 per outstanding ordinary share, including Class A ordinary shares underlying our outstanding ADSs, or US$2.00 per ADS. This represents an immediate increase in net tangible book value of US$0.13 per ordinary share, or US$1.30 per ADS, to existing shareholders and an immediate dilution in net tangible book value of US$1.15 per ordinary share, or US$11.50 per ADS, to purchasers of ADSs in this offering.

The following table illustrates the dilution on a per ordinary share basis assuming that the initial public offering price per Class A ordinary share is US$1.35 and all ADSs are exchanged for ordinary shares:

 

Assumed initial public offering price per Class A ordinary share

   US$ 1.35   

Net tangible book value per ordinary share as of December 31, 2013

     0.08   

Pro forma net tangible book value per ordinary share after giving effect to the automatic conversion of all of our outstanding preferred shares as of December 31, 2013

     0.07   

Pro forma net tangible book value per ordinary share as adjusted to give effect to the automatic conversion of all of our outstanding preferred shares, this offering and the Concurrent Private Placement

     0.20   

Amount of dilution in net tangible book value per ordinary share to new investors in the offering

     1.15   

Amount of dilution in net tangible book value per ADS to new investors in the offering

     11.50   

A US$1.00 change in the assumed public offering price of US$13.50 per ADS would, in the case of an increase, increase and, in the case of a decrease, decrease our pro forma net tangible book value after giving effect to the offering by US$11.2 million, the pro forma net tangible book value per ordinary share and per ADS after giving effect to this offering by US$0.01 per ordinary share and US$0.10 per ADS and the dilution in pro forma net tangible book value per ordinary share and per ADS to new investors in this offering by US$0.09 per ordinary share and US$0.90 per ADS, assuming no change to the number of ADSs offered by us as set forth on

 

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the cover page of this prospectus, and after deducting underwriting discounts and commissions and estimated offering expenses. The pro forma information discussed above is illustrative only. Our net tangible book value following the completion of this offering is subject to adjustment based on the actual initial public offering price of the ADSs and other terms of this offering determined at pricing.

The following table summarizes, on a pro forma basis as of December 31, 2013, the differences between the shareholders as of December 31, 2013, including holders of our preferred shares that will be automatically converted into Class B ordinary shares upon the completion of this offering, and the new investors with respect to the number of ordinary shares purchased from us in this offering and the Concurrent Private Placement, the total consideration paid and the average price per ordinary share paid at an assumed initial public offering price of US$13.50 per ADS before deducting estimated underwriting discounts and commissions and estimated offering expenses. The total number of ordinary shares does not include Class A ordinary shares underlying the ADSs issuable upon the exercise of the option to purchase additional ADSs granted to the underwriters.

 

     Ordinary Shares Purchased     Total Consideration     Average
Price Per
Ordinary
Share
     Average
Price Per
ADS
 
     Number      Percent     Amount      Percent               
                  (in thousands)                      

Existing shareholders

     1,225,456,652         89     76,384         26     0.06         0.60   

New investors

     157,037,037         11     212,000         74     1.35         13.50   
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total

     1,382,493,689         100     288,384         100     0.21         2.10   
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

If the underwriters were to fully exercise the over-allotment option to purchase additional Class A ordinary shares from us, the percentage of our ordinary shares held by existing shareholders would be 88%, and the percentage of our ordinary shares held by new investors would be 12%.

A US$1.00 change in the assumed public offering price of US$13.50 per ADS would, in the case of an increase, increase and, in the case of a decrease, decrease total consideration paid by new investors, total consideration paid by all shareholders, average price per ordinary share and average price per ADS paid by all shareholders by US$12.0 million, US$12.0 million, US$0.10 and US$1.00, respectively, assuming the sale of ADSs at US$13.50, the mid-point of the range set forth on the cover page of this prospectus, and before deducting underwriting discounts and commissions and estimated offering expenses payable by us.

 

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EXCHANGE RATE INFORMATION

Our reporting currency is the Renminbi because a significant portion of our business is primarily conducted in China and a majority of our revenues are denominated in Renminbi. This prospectus contains translations of Renminbi amounts into U.S. dollars at specific rates solely for the convenience of the reader. The conversion of Renminbi into U.S. dollars in this prospectus is based on the rate certified for customs purposes by the Federal Reserve Bank of New York. Translations from Renminbi to U.S. dollars and from U.S. dollars to Renminbi in this prospectus were made at a rate of RMB6.0537 to US$1.00, the rate in effect as of December 31, 2013. We make no representation that any Renminbi or U.S. dollar amounts could have been, or could be, converted into U.S. dollars or Renminbi, as the case may be, at any particular rate, the rates stated below, or at all. The PRC government imposes control over its foreign currency reserves in part through direct regulation of the conversion of Renminbi into foreign exchange and through restrictions on foreign trade. On April 18, 2014, the rate was RMB6.2240 to US$1.00.

The following table sets forth information concerning exchange rates between the Renminbi and the U.S. dollar for the periods indicated. These rates are provided solely for your convenience and are not necessarily the exchange rates that we used in this prospectus or will use in the preparation of our periodic reports or any other information to be provided to you.

 

     Certified Exchange Rate  

Period

   Period End      Average(1)      Low      High  
     (RMB per US$1.00)  

Year ended:

           

2011

     6.2939         6.4475         6.6364         6.2939   

2012

     6.2301         6.2990         6.3879         6.2221   

2013

     6.0537         6.1412         6.2438         6.0537   

Month ended:

           

2013

           

October

     6.0943         6.1032         6.1209         6.0815   

November

     6.0922         6.0929         6.0993         6.0903   

December

     6.0537         6.0738         6.0927         6.0537   

2014

           

January

     6.0590         6.0509         6.0402         6.0600   

February

     6.1448         6.0816         6.1448         6.0591   

March

     6.2164         6.1729         6.2273         6.1183   

April (through April 18)

     6.2240         6.2121         6.2240         6.1966   

 

(1) Annual averages were calculated by using the average of the exchange rates on the last day of each month during the relevant year. Monthly averages are calculated by using the average of the daily rates during the relevant month.

 

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ENFORCEABILITY OF CIVIL LIABILITIES

We are incorporated in the Cayman Islands to take advantage of certain benefits associated with being a Cayman Islands exempted company, such as:

 

    political and economic stability;

 

    a favorable tax system;

 

    the absence of exchange control or currency restrictions; and

 

    the availability of professional and support services.

However, certain disadvantages accompany incorporation in the Cayman Islands. These disadvantages include, but are not limited to, the following:

 

    the Cayman Islands has a less developed body of securities laws as compared to the United States and these securities laws provide significantly less protection to investors as compared to the United States; and

 

    Cayman Islands companies may not have standing to sue before the federal courts of the United States.

Our constituent documents do not contain provisions requiring that disputes, including those arising under the securities laws of the United States, between us, our officers, directors and shareholders, be arbitrated. Under the deposit agreement with our depositary, The Bank of New York Mellon, the federal or state courts in the City of New York shall have non-exclusive jurisdiction over any suit, action, proceeding or dispute that may arise out of or in connection with the deposit agreement, and with regard to any claim or dispute arising from the relationship created by the deposit agreement, the depositary, in its sole discretion, is entitled to refer such dispute or difference for final settlement by arbitration, with the seat and place of the arbitration being New York, New York. Moreover, under the contractual arrangements that we entered into with Beijing Antutu, Beike Internet, Guangzhou Network, Beijing Network, Beijing Conew and their respective shareholders, any disputes arising from those contracts that cannot be resolved through friendly negotiations will be resolved through arbitration conducted through China International Economic and Trade Arbitration Commission.

Our PRC legal counsel, Han Kun Law Offices, has advised us that in the event that a shareholder originates an action against a company in China for disputes related to contracts or other property interests, the PRC court may accept a course of action based on the laws or the parties’ express mutual agreement in contracts choosing PRC courts for dispute resolution if (a) the contract is signed and/or performed within the PRC, (b) the subject of the action is located within the PRC, (c) the company (as defendant) has seizable properties within the PRC, (d) the company has a representative organization within the PRC, or (e) other circumstances prescribed under the PRC law. The action may be initiated by a shareholder through filing a complaint with the PRC court. The PRC court will determine whether to accept the complaint in accordance with the PRC Civil Procedure Law. The shareholder may participate in the action by itself or entrust any other person or PRC legal counsel to participate on its behalf. Foreign citizens and companies will have the same rights as PRC citizens and companies in an action unless the home jurisdiction of such foreign citizens or companies restricts the rights of PRC citizens and companies.

Maples and Calder, our legal counsel as to Cayman Islands law, has also advised us that a shareholder may, in limited circumstances, commence an action against persons who have allegedly wronged the company, where the company itself has failed to enforce such claim against such persons directly. Such action is brought on the basis of a primary right of the company, but is asserted by a shareholder on behalf of the company commonly known as a “derivative action.” Generally, claims against a company by its shareholders must be based on the general laws of contract or tort applicable in the Cayman Islands or their individual rights as shareholders as established by the company’s articles of association. Civil proceedings are generally commenced by originating process (by writ or originating summons). A shareholder may commence proceedings in the Cayman Islands and may instruct an attorney to act on the shareholder’s behalf. Service of proceedings on the company is effected

 

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through the delivery of the originating process at the registered office of the company. There are no particular formalities that a non-resident shareholder must comply with to initiate and commence proceedings in the Cayman Islands.

Any judgment of United States courts will not be directly enforced in Hong Kong. There are currently no treaties or other arrangements providing for reciprocal enforcement of foreign judgments between Hong Kong and the United States. However, subject to certain conditions, including but not limited to when the judgment is for a liquidated amount in a civil matter and not in respect of taxes, fines, penalties or similar charges, the judgment is final and conclusive and has not been stayed or satisfied in full, the proceedings in which the judgment was obtained were not contrary to natural justice and the enforcement of the judgment is not contrary to public policy of Hong Kong, Hong Kong courts may accept such judgment obtained from a United States court as a debt due under the rules of common law enforcement. However, a separate legal action for debt must be commenced in Hong Kong in order to recover such debt from the judgment debtor.

The United States and the British Virgin Islands do not have a treaty providing for reciprocal recognition and enforcement of judgments of courts of the United States in civil and commercial matters and that a final judgment for the payment of money rendered by any general or state court in the United States based on civil liability, whether or not predicated solely upon the U.S. federal securities laws, would not be automatically enforceable in the British Virgin Islands. We have also been advised by Maples and Calder that a final and conclusive monetary judgment obtained against a British Virgin Islands company in the courts of the United States for a definite sum may be treated by the courts of the British Virgin Islands as a cause of action in itself so that no retrial of the issues would be necessary provided that in respect of the foreign judgment:

 

  (a)   the foreign court issuing the judgment had jurisdiction in the matter and the British Virgin Islands company either submitted to such jurisdiction or was resident or carrying on business within such jurisdiction and was duly served with process;

 

  (b)   the judgment given by the foreign court was not in respect of penalties, taxes, fines or similar fiscal or revenue obligations of the company;

 

  (c)   in obtaining judgment there was no fraud on the part of the person in whose favor judgment was given or on the part of the court;

 

  (d)   recognition or enforcement of the judgment in the British Virgin Islands would not be contrary to public policy; and

 

  (e)   the proceedings pursuant to which judgment was obtained were not contrary to natural justice.

All of our operations are substantially conducted outside the United States, and substantially all of our assets are located outside the United States. A significant majority of our directors and officers are nationals or residents of jurisdictions other than the United States and a substantial portion of their assets are located outside the United States. As a result, it may be difficult for a shareholder to effect service of process within the United States upon these persons, or to enforce against us or them judgments obtained in United States courts, including judgments predicated upon the civil liability provisions of the securities laws of the United States or any state in the United States. It may also be difficult for you to enforce in Cayman Islands courts judgments obtained in United States courts based on the civil liability provisions of the United States federal securities laws against us and our officers and directors.

We have appointed Law Debenture Corporate Services Inc. as our agent upon whom process may be served in any action brought against us under the securities laws of the United States.

 

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Maples and Calder, our legal counsel as to Cayman Islands law, and Han Kun Law Offices, our legal counsel as to PRC law, have advised us, respectively, that there is uncertainty as to whether the courts of the Cayman Islands and China, respectively, would:

 

    recognize or enforce judgments of United States courts obtained against us or our directors or officers predicated upon the civil liability provisions of the securities laws of the United States or any state in the United States; or

 

    entertain original actions brought in each respective jurisdiction against us or our directors or officers predicated upon the securities laws of the United States or any state in the United States.

There is uncertainty with regard to Cayman Islands law relates to whether a judgment obtained from the United States courts under civil liability provisions of the securities laws will be determined by the courts of the Cayman Islands as penal or punitive in nature. If such a determination is made, the courts of the Cayman Islands will not recognize or enforce the judgment against a Cayman company. Because the courts of the Cayman Islands have yet to rule on whether such judgments are penal or punitive in nature, it is uncertain whether they would be enforceable in the Cayman Islands. Maples and Calder has advised us that although there is no statutory enforcement in the Cayman Islands of judgments obtained in the federal or state courts of the United States, a judgment obtained in such jurisdiction will be recognized and enforced in the courts of the Cayman Islands at common law, without any re-examination of the merits of the underlying dispute, by an action commenced on the foreign judgment debt in the Grand Court of the Cayman Islands, provided such judgment:

 

  (a)   is given by a foreign court of competent jurisdiction;

 

  (b)   imposes on the judgment debtor a liability to pay a liquidated sum for which the judgment has been given;

 

  (c)   is final;

 

  (d)   is not in respect of taxes, a fine or a penalty; and

 

  (e)   was not obtained in a manner and is not of a kind the enforcement of which is contrary to natural justice or the public policy of the Cayman Islands.

Han Kun Law Offices has further advised us that the recognition and enforcement of foreign judgments are provided for under PRC Civil Procedure Law. PRC courts may recognize and enforce foreign judgments in accordance with the requirements of PRC Civil Procedure Law based either on treaties between China and the country where the judgment is rendered or on reciprocity between the jurisdictions. China does not have any treaties or other form of reciprocity with the United States or the Cayman Islands that provide for the reciprocal recognition and enforcement of foreign judgments in connection with civil liabilities. In addition, according to the PRC Civil Procedure Law, courts in the PRC will not enforce a foreign judgment against us or our directors and officers if they decide that the judgment violates the basic principles of PRC law or national sovereignty, security or public interest. A judgment that does not violate the basic principles of PRC law or national sovereignty, security or public interest may be recognized and enforced by a PRC court base on treaties between China and the country where the judgment is made or on principles of reciprocity between jurisdictions. However, as of the date of this prospectus, no treaty or other form of reciprocity exists between China and the United States or the Cayman Islands governing the recognition and enforcement of judgments. As a result, it is uncertain whether and on what basis a PRC court would enforce a judgment rendered by a court in the United States or the Cayman Islands.

 

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CORPORATE HISTORY AND STRUCTURE

Corporate History

Our company is a holding company incorporated in the Cayman Islands in July 2009. At the time of incorporation, our company was directly and wholly owned by Kingsoft Corporation Limited, or Kingsoft Corporation, a Cayman Islands company which ordinary shares have been listed on the Hong Kong Stock Exchange since October 2007. We changed our name from Kingsoft Internet Security Software Holdings Limited to Kingsoft Internet Software Holdings Limited on June 13, 2013, and then to our current name Cheetah Mobile Inc. on March 25, 2014.

In August 2009, we established our wholly owned Hong Kong subsidiary, Kingsoft Internet Security Software Corporation Limited, and renamed it as Cheetah Technology Corporation Limited, or Cheetah Technology, in September 2012.

Subsequent to our incorporation in 2009, Kingsoft Corporation initiated a series of restructuring transactions in 2009 and 2010. As a result of this restructuring, Zhuhai Juntian, which was originally a wholly owned subsidiary of Kingsoft Corporation, became wholly and directly owned by Cheetah Technology in December 2009. Zhuhai Juntian was incorporated in China and is engaged in the research and development and provision of internet security services. Beijing Security was incorporated in November 2009 in China as a wholly and directly owned subsidiary of Zhuhai Juntian, and it conducted sales and operation of internet security software.

Beike Internet was incorporated in April 2009 and subsequently became a subsidiary of a variable interest entity of Kingsoft Corporation in August 2010. Upon restructuring and establishment of VIE contractual arrangements in January 2011, Beike Internet became our VIE that we effectively control through a series of contractual arrangements among Beijing Security, Beike Internet and its shareholders. See “—Corporate Structure—Contractual Arrangements with Our VIEs.”

In October 2010, we acquired 100% equity interest in Conew.com Corporation, which was incorporated in the British Virgin Islands in October 2008. As part of the acquisition, we acquired 100% equity interest in Conew Network and obtained effective control over Beijing Conew through contractual arrangements among Conew Network, Beijing Conew and its shareholders. Conew Network was incorporated in China in March 2009, and Beijing Conew was incorporated in China in December 2005. Beijing Conew offered internet security services starting in May 2010 but has been dormant since our acquisition of Conew.com Corporation.

Our other three VIEs, namely, Beijing Network, Beijing Antutu, and Guangzhou Network, were incorporated in China in July 2012, June 2013, and September 2013, respectively. Each of them and their shareholders respectively entered into contractual arrangements with either Beijing Security or Conew Network, our wholly owned subsidiaries. See “—Corporate Structure—Contractual Arrangements with Our VIEs” for details. Suzhou Jiangduoduo Technology Co., Ltd., a subsidiary of Beike Internet, was incorporated in China in January 2014.

In March 2014, we entered into an agreement to purchase certain assets relating to an online lottery business from Suzhou Le Ying Technologies Co., Ltd., an unrelated party. The purchase consideration was RMB54.0 million (US$8.9 million) in cash, of which 50% is due upon the completion of the acquisition and the amount of the remaining consideration is subject to performance targets for the next two years after the acquisition. We intend to use the assets acquired to engage in certain online lottery business.

Corporate Structure

Pursuant to the latest version of Catalogue for the Guidance of Foreign Investment Industries, Zhuhai Juntian is currently engaged in the business of (i) development of system software, which is an encouraged foreign investment industry, and (ii) sale of system software, which is a permitted foreign investment industry.

 

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Beijing Security is currently engaged in the business of technology promotion, technology development, technology service and technology consultancy, sale of computers, software, auxiliary devices and electronic products, computer animation design, investment consultancy and advertisement design, production, agency and publication, all of which are permitted foreign investment industries under the latest version of Catalogue for the Guidance of Foreign Investment Industries.

Conew Network is currently engaged in the business of research and development of digital technology, telecommunication technology and relevant products, self-technology transfer, technology service, technology consultancy and computer technology training, sale of self-developed products, graphic design, business consultancy and investment consultancy, all of which are permitted foreign investment industries under the latest version of Catalogue for the Guidance of Foreign Investment Industries.

According to the Administrative Rules for Foreign Investments in Telecommunications Enterprises, which were issued on December 11, 2001 by the State Council and became effective on January 1, 2002, a foreign investor is currently prohibited from owning more than 50% of the equity interest in a Chinese entity that provides value-added telecommunications services. Internet content provision services, or ICP services, are classified as value-added telecommunications businesses, and a commercial operator of such services must obtain an ICP license from the appropriate telecommunications authorities in order to carry on any commercial internet content provision operations in China. In July 2006, the Ministry of Information and Industry of China issued a notice which prohibits ICP license holders from leasing, transferring or selling a telecommunications business operating license to any foreign investors in any form, or providing any resource, sites or facilities to any foreign investors for their illegal operation of telecommunications businesses in China. The notice also requires that ICP license holders and their shareholders directly own the domain names and trademarks used by such ICP license holders in their daily operations.

As a Cayman Islands exempted company, we are deemed a foreign legal person under PRC laws. Therefore, in order for us to be able to carry on our business in China, we conduct our operations in China primarily through our VIEs, namely, Beijing Antutu, Beike Internet, Guangzhou Network, Beijing Network, and Beijing Conew (collectively, “VIEs”). Each of Beike Internet (which is owned as to 35% by Mr. Sheng Fu and 65% by Ms. Weiqin Qiu) and Beijing Network (which is owned as to 50% by Mr. Ming Xu and 50% by Mr. Wei Liu) holds the requisite ICP licenses. We have been and are expected to continue to be dependent on our VIEs to operate our business if the then PRC law does not allow us to directly operate such business in China. We believe that under these contractual arrangements, we have sufficient control over our VIEs and their respective shareholders to renew, revise or enter into new contractual arrangements prior to the expiration of the current arrangements on terms that would enable us to continue to operate our business in China after the expiration of the current arrangements, or pursuant to certain amendments and changes of the current applicable PRC laws, regulations and rules on terms that would enable us to continue to operate our business in China validly and legally.

Our contractual arrangements with each of our VIEs and their shareholders enable us to:

 

    exercise effective control over our VIEs;

 

    receive substantially all of the economic benefits of our VIEs in consideration for the services provided by Beijing Security and Conew Network, our wholly owned subsidiaries in China; and

 

    have an exclusive option to purchase all of the equity interests in our VIEs, when and to the extent permitted under PRC law, regulations or legal proceedings.

 

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The following diagram illustrates our corporate structure as of the date of this prospectus:

 

LOGO

 

Notes:    (1)   See “Principal Shareholders” for the other beneficial owners of our company.
(2)   We exercise effective control over Beijing Network through contractual arrangements with Beijing Network and Mr. Ming Xu and Mr. Wei Liu, who owns 50% and 50% of equity interests in Beijing Network, respectively.
(3)   We exercise effective control over Beijing Conew through contractual arrangements with Beijing Conew and Mr. Sheng Fu and Mr. Ming Xu, who owns 62.73% and 37.27% of equity interests in Beijing Conew, respectively. Beijing Conew has remained dormant since October 2010.
(4)   We exercise effective control over Beijing Antutu through contractual arrangements with Beijing Antutu and Mr. Ming Xu and Mr. Wei Liu, who owns 50% and 50% of equity interests in Beijing Antutu, respectively.
(5)   We exercise effective control over Beike Internet through contractual arrangements with Beike Internet and Mr. Sheng Fu and Ms. Weiqin Qiu, who owns 35% and 65% of equity interests in Beike Internet, respectively.
(6)   We exercise effective control over Guangzhou Network through contractual arrangements with Guangzhou Network and Mr. Ming Xu and Ms. Weiqin Qiu, who owns 50% and 50% of equity interests in Guangzhou Network, respectively.
*   Formerly known as Kingsoft Internet Software Holdings Limited.

 

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Contractual Arrangements with Our VIEs

The following is a summary of the currently effective contracts among our subsidiary Beijing Security, our VIE Beike Internet, and the shareholders of Beike Internet. We have entered into substantially similar contractual arrangements as described above with three other VIEs, including Beijing Antutu, Guangzhou Network, and Beijing Network.

Agreements that provide us with effective control over Beike Internet

Business operation agreement. Pursuant to the business operation agreement by and among Beijing Security, Beike Internet and its shareholders, Beike Internet and its shareholders agreed to accept and follow Beijing Security’s suggestions on their daily operations and financial management. The shareholders of Beike Internet must appoint candidates designated by Beijing Security to its board of directors and appoint candidates designated by Beijing Security as senior executives of Beike Internet. In addition, the shareholders of Beike Internet confirm, agree and jointly guarantee that Beike Internet shall not engage in any transaction that may materially affect its assets, business, employment, obligations, rights or operations without the prior written consent of Beijing Security. The shareholders of Beike Internet also agree to unconditionally pay or transfer to Beijing Security any bonus, dividends, or any other profits or interests (in whatever form) that they are entitled to as shareholders of Beike Internet, and waives any consideration connected therewith. The agreement has a term of ten years, unless terminated at an earlier date by Beijing Security. Neither Beike Internet nor its shareholders may terminate this agreement.

Shareholder voting proxy agreement. Under the shareholder voting proxy agreement by and among Beijing Security, Beike Internet and its shareholders, each of Beike Internet’s shareholders irrevocably nominates, appoints and constitutes any person designated by Beijing Security as its attorney-in-fact to exercise on such shareholder’s behalf any and all rights that such shareholder has in respect of its equity interests in Beike Internet (including but not limited to the voting rights and the right to nominate executive directors of Beike Internet). This proxy agreement has a term of ten years unless terminated at an earlier date by a written agreement among the signing parties. Unless Beijing Security notifies the other parties to this agreement not to renew this agreement, the term of this agreement will automatically extend on a yearly basis.

Equity pledge agreement. Under the equity pledge agreement between Beijing Security, Beike Internet and its shareholders, the shareholders of Beike Internet have pledged all of their respective equity interests in Beike Internet to Beijing Security to guarantee (i) the performance of all the contractual obligations of Beike Internet and its shareholders under this agreement, the exclusive technology development, support and consultancy agreement, business operation agreement, loan agreement, exclusive equity option agreement, and the shareholder voting proxy agreement, and (ii) the repayment of all liabilities that may be incurred under all of the aforementioned agreements. Beijing Security has the absolute right to appoint any attorney-in-fact to exercise its rights and powers under this agreement. In the event of default, Beijing Security has the first priority to be compensated through the sale or auction of the equity interests pledged. The shareholders of Beike Internet agreed to waive their dividend rights in relation to all of the equity interests pledged until such pledge has been lawfully discharged. This pledge will remain effective until all the guaranteed obligations have been performed or all the guaranteed liabilities have been repaid. We have completed the registration of equity pledge relating to each of our VIEs with the relevant government authorities in China.

Agreement that transfers economic benefits to us

Exclusive technology development, support and consultancy agreement. Under the exclusive technology development, support and consultancy agreement between Beijing Security and Beike Internet, Beijing Security has the exclusive right to provide Beike Internet with services related to Beike Internet’s business, including but not limited to technology development, support and consulting services. Beijing Security has the sole right to determine the service fees and settlement cycle, and the service fees shall in no event be less than 30% of the

 

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pre-tax revenue of Beike Internet in relation to the relevant service. Beijing Security will exclusively own any intellectual property arising from the performance of this agreement. This agreement will be effective unless terminated according to the terms of the agreement or otherwise terminated by mutual agreement of the signing parties.

Agreements that provide us with the option to purchase the equity interest in Beike Internet

Loan agreements. Under the loan agreements by and among Beijing Security and the shareholders of Beike Internet, Beijing Security will make interest-free loans in an aggregate amount of RMB7.2 million to the two individual shareholders of Beike Internet, for the sole purpose of contributing to the registered capital of Beike Internet. The loans have no definite maturity date. Beijing Security may request repayment at any time, and either shareholder of Beike Internet may offer to repay part or all of the loan at any time. The shareholders of Beike Internet shall, subject to the PRC laws, repay the loans by transferring the equity interest they hold in Beike Internet to Beijing Security or a third party that it designates.

Exclusive equity option agreement. Under the exclusive equity option agreement by and among Beijing Security, Beike Internet and its shareholders, Beijing Security was granted an irrevocable exclusive option to acquire, or designate a third party to acquire, all or part of the equity interest owned by the shareholders in Beike Internet at any time at an exercise price that is equal to the minimum price permitted under the PRC laws. Any amount in excess of the corresponding loan amount shall be refunded by the shareholders of Beike Internet to Beijing Security, or Beijing Security may deduct the excess amount from the consideration to be paid. The agreement will remain effective until all the equity interests in Beike Internet has been lawfully transferred to Beijing Security or a designated third party pursuant to the terms of this agreement.

Financial support undertaking letter. Beijing Security has executed a financial support undertaking letter addressed to Beike Internet, pursuant to which Beijing Security irrevocably undertakes to provide unlimited financial support to Beike Internet to the extent permissible under the applicable PRC laws and regulations, regardless of whether Beike Internet has incurred an operational loss. The form of financial support includes but is not limited to cash, entrusted loans and borrowings. Beijing Security will not request repayment of any outstanding loans or borrowings from Beike Internet if Beike Internet or its shareholders do not have sufficient funds or are unable to repay such loans or borrowings. The letter is effective from the date of full execution of the other agreements in connection with the VIE structure until the earlier of (i) the date on which all of the equity interests of Beike Internet have been acquired by Beijing Security or its designated representative(s), and (ii) the date on which Beijing Security in its sole and absolute discretion unilaterally terminates this letter.

In addition to the above contracts, the spouses of certain shareholders of our VIEs have executed spousal consent letters. Pursuant to the spousal consent letters, the spouses of certain shareholders of our VIEs acknowledged that certain equity interests in the respective VIEs held by and registered in the name of his or her spouse will be disposed of pursuant to relevant arrangements under the shareholder voting proxy agreement, the exclusive equity option agreement, the equity pledge agreement and the loan agreement. These spouses undertake not to take any action to interfere with the disposition of such equity interests, including, without limitation, claiming that such equity interests constitute communal marital property.

As a result of these contractual arrangements, we are considered the primary beneficiary of the VIEs as we have the power to direct activities of these entities and can receive substantially all economic interests in these entities even though we do not necessarily receive all of the VIEs’ revenues. Accordingly, we treat them as our VIEs under U.S. GAAP and have consolidated the results of operation of the VIEs and their subsidiaries in our consolidated financial statements in accordance with U.S. GAAP. The VIEs contributed 16.2%, 65.3% and 91.0% of our revenues for the years ended December 31, 2011 and 2012 and 2013, respectively.

In the opinion of our PRC legal counsel:

 

    the corporate structure of our PRC subsidiaries and VIEs does not and will not result in any violation of all existing PRC laws and regulations;

 

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    each of the VIE agreements among either Beijing Security or Conew Network, each of our VIEs and its respective shareholders (as the case may be) governed by PRC law are valid and binding, and do not result in any violation of PRC laws or regulations currently in effect; and

 

    each of our PRC subsidiaries and each of our VIEs has all necessary corporate power and authority to conduct its business as described in its business scope under its business license. The business licenses of each of our PRC subsidiaries and each of our VIEs are in full force and effect. Each of our PRC subsidiaries and each of our VIEs is capable of suing and being sued and may be the subject of any legal proceedings in PRC courts. To the best of our PRC legal counsel’s knowledge after due inquiries, none of our PRC subsidiaries, our VIEs or their respective assets is entitled to any immunity, on the grounds of sovereignty, from any action, suit or other legal proceedings; or from enforcement, execution or attachment.

We have been advised by our PRC legal counsel, however, that there are substantial uncertainties regarding the interpretation and application of current and future PRC laws, regulations and rules. Accordingly, the PRC regulatory authorities may take a view that is contrary to the above opinion of our PRC legal counsel. We have been further advised by our PRC legal counsel that if the PRC government finds that the agreements that establish the structure for operating our business do not comply with PRC government restrictions on foreign investment in the aforesaid business we engage in, we could be subject to severe penalties including being prohibited from continuing operations. See “Risk Factors—Risks Relating to Our Corporate Structure—If the PRC government finds that the structure we have adopted for our business operations does not comply with PRC governmental restrictions on foreign investment in internet and mobile businesses, or if these laws or regulations or interpretations of existing laws or regulations change in the future, we could be subject to severe penalties, including the shutting down of our platform and our business operations.”

 

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SELECTED CONSOLIDATED FINANCIAL DATA

The following selected consolidated statements of comprehensive income data for the years ended December 31, 2011, 2012 and 2013 and the selected consolidated balance sheets data as of December 31, 2012 and 2013 have been derived from our audited consolidated financial statements included elsewhere in this prospectus. Our consolidated financial statements are prepared and presented in accordance with U.S. GAAP. Our historical results for any period are not necessarily indicative of results to be expected for any future period. You should read the following selected financial information in conjunction with the consolidated financial statements and related notes and the information under “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included elsewhere in this prospectus.

 

    Year Ended December 31,  
    2011     2012     2013  
    RMB     RMB     RMB     US$  
    (in thousands, except for number of shares)  

Selected Consolidated Statements of Comprehensive Income (Loss) Data:

       

Revenues

    140,054        287,927        749,911        123,876   

Online marketing services

    23,916        212,443        612,565        101,189   

IVAS

           2,354        83,155        13,736   

Internet security services and others

    116,138        73,130        54,191        8,951   
 

 

 

   

 

 

   

 

 

   

 

 

 

Cost of revenues(1)

    (53,737     (71,560     (140,526     (23,213
 

 

 

   

 

 

   

 

 

   

 

 

 

Gross profit

    86,317        216,367        609,385        100,663   

Operating expenses:

       

Research and development(1)

    (79,105     (114,329     (217,846     (35,986

Selling and marketing(1)

    (28,810     (57,167     (201,504     (33,286

General and administrative(1)

    (15,301     (34,408     (97,817     (16,158
 

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

    (123,216     (205,904     (517,167     (85,430

Operating profit/(loss)

    (36,899     10,463        92,218        15,233   

Other income/(expenses):

       

Interest income

    3,475        3,263        7,077        1,169   

Changes in fair value of redemption right granted to a non-controlling shareholder

                  11,146        1,841   

Changes in fair value of contingent consideration

    (496     (297     (1,067     (176

Foreign exchange gain (loss), net

    551        47        920        152   

Other income, net

    537        1,283        2,243        371   

Losses from equity method investments

                  (1,849     (305
 

 

 

   

 

 

   

 

 

   

 

 

 

Income/(loss) before taxes

    (32,832     14,759        110,688        18,285   
 

 

 

   

 

 

   

 

 

   

 

 

 

Income tax benefit/(expense)

    2,597        (4,915     (48,670     (8,040
 

 

 

   

 

 

   

 

 

   

 

 

 

Net income/(loss)

    (30,235     9,844        62,018        10,245   
 

 

 

   

 

 

   

 

 

   

 

 

 

Earnings/(loss) per share:

       

Basic

    (0.0345     0.0097        0.0567        0.0094   

Diluted

    (0.0345     0.0094        0.0538        0.0089   

Weighted average number of shares used in computation:

       

Basic

    875,944,795        908,457,367        929,119,153        929,119,153   

Diluted

    875,944,795        1,046,982,205        1,135,982,953        1,135,982,953   

 

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(1) The amount of share-based compensation costs for the years ended December 31, 2011 and 2012 and 2013 is as follows:

 

     Year Ended December 31,  
     2011      2012      2013  
     RMB      RMB      RMB      US$  
     ( in thousands)  

Cost of revenues

     94         21         10         2   

Research and development expenses

     4,313         6,663         14,520         2,399   

Selling and marketing expenses

     47         609         2,835         468   

General and administrative expenses

     1,381         12,994         20,031         3,309   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

     5,835         20,287         37,396         6,178   
  

 

 

    

 

 

    

 

 

    

 

 

 

 

     As of December 31,  
     2012      2013  
     RMB      RMB      US$  
     (in thousands)  

Selected Consolidated Balance Sheets Data:

        

Cash and cash equivalents

     134,376         530,536         87,638   

Short-term investments

     40,376         55,780         9,214   

Total assets

     316,995         909,593         150,253   

Total current liabilities

     152,062         263,968         43,603   

Total liabilities

     156,869         315,525         52,119   

Total mezzanine equity

     119,976         441,941         73,004   

Total shareholders’ equity

     40,150         152,127         25,130   

 

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MANAGEMENT’S DISCUSSION AND ANALYSIS OF

FINANCIAL CONDITION AND RESULTS OF OPERATIONS

You should read the following discussion and analysis of our financial condition and results of operations in conjunction with the section headed “Selected Consolidated Financial Data” and our consolidated financial statements and the related notes included elsewhere in this prospectus. This discussion contains forward-looking statements that involve risks and uncertainties. Our actual results and the timing of selected events could differ materially from those anticipated in these forward-looking statements as a result of various factors, including those set forth under “Risk Factors” and elsewhere in this prospectus.

Overview

Our mission is to make the internet and mobile experience speedier, simpler and safer for users worldwide. To achieve this mission, we have developed a platform that offers mission critical applications for our users and global content distribution channels for our business partners, both of which are powered by our proprietary cloud-based data analytics engines.

For our users, our diversified suite of mission critical applications optimizes internet and mobile system performance and provides real time protection against known and unknown security threats. We had 340.7 million monthly active users for all of our applications in February 2014. Our mobile applications attracted 222.5 million monthly active users in March 2014. Our applications have been installed on 502.1 million mobile devices as of March 31, 2014.

For our business partners, our platform provides them multiple user traffic entry points and global content distribution channels capable of delivering targeted content to hundreds of millions of people. Our business partners share revenues with us and promote our products and services. We have benefited significantly from our cooperation with over 380 online marketing business partners in 2013, including the major Chinese internet companies Alibaba, Baidu and Tencent.

At the core of our platform are our proprietary cloud-based data analytics engines. For our users, the data analytics engines perform real time analysis of mobile applications, program files and websites on their devices for behavior that may impair system performance or impose security risks. For our business partners, the data analytics engines help create user interest graphs according to a number of dimensions such as online shopping, gaming and frequently used applications, thus facilitating targeted content delivery.

Although substantially all of our applications are free to our users, we have a proven monetization model driven by platform products and extensive network of business partners. We generate revenues from our online marketing services by referring traffic from our platform to e-commerce companies and search engine providers and by selling advertisements. We generated 73.8% and 81.7% of our revenues from online marketing services in 2012 and 2013, respectively. We also generate revenues by providing IVAS, currently mainly from online games.

We believe mobile presents massive opportunities and we have made significant investments in mobile internet to capitalize on these opportunities. Our mobile user base has grown rapidly since we launched our first mobile application, Battery Doctor, in July 2011. Our mobile applications attracted 222.5 million monthly active users in March 2014. Our mobile strategy has been focusing on the development of applications for the Android platform. As of March 31, 2014, we have created 18 mobile applications for Android, compared to 11 for iOS. Accordingly, the popularity of the Android ecosystem and the use of Android devices have, and will continue to have, material impacts on our overall results of operations. We are still in the early stage of monetizing our mobile applications and the revenues generated from our mobile applications accounted for only approximately 2% and 7% of our total revenues in 2012 and 2013, respectively. As we further develop additional forms of advertising on our mobile applications and further grow our mobile game publishing capabilities, we expect that mobile revenues will contribute an increasing percentage of our total revenues.

 

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Our business has rapidly expanded internationally since we released our Clean Master overseas version in September 2012. As of March 31, 2014, approximately 63% of our mobile monthly active users were from overseas markets, mostly the United States, Asia (excluding China) and Europe. However, as we have yet to fully develop and monetize our international operations, revenues from overseas markets only contributed a small percentage of our total revenues in 2012 and 2013. As we continue to deepen our global penetration and enhance our monetization capabilities, we expect that the revenue contributed by overseas markets will increase over time, but the China market will likely constitute the majority of our revenues for the foreseeable future.

We have achieved significant growth in recent years. Our revenues increased from RMB140.1 million in 2011 to RMB287.9 million in 2012, representing a 105.6% growth, and to RMB749.9 million (US$123.9 million) in 2013, representing a 160.5% growth. Our net income was RMB62.0 million (US$10.2 million) in 2013, a 530.0% increase over our net income of RMB9.8 million in 2012, compared to a net loss of RMB30.2 million in 2011.

Selected Statement of Operations Items

Revenues

We generate revenues from online marketing services, internet value-added services, or IVAS, and internet security services and others. The following table sets forth the principal components of our revenues by amount and as a percentage of our revenues for the periods presented.

 

    Year Ended December 31,  
    2011     2012     2013  
    RMB     % of
Revenues
    RMB     % of
Revenues
    RMB     US$     % of
Revenues
 
    (in thousands, except percentages)  

Online marketing services

    23,916        17.1        212,443        73.8        612,565        101,189        81.7   

IVAS

                  2,354        0.8        83,155        13,736        11.1   

Internet security services and others

    116,138        82.9        73,130        25.4        54,191        8,951        7.2   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Revenues

    140,054        100.0        287,927        100.0        749,911        123,876        100.0   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Online Marketing Services

Revenues from our online marketing services accounted for 17.1%, 73.8% and 81.7% of our revenues in 2011, 2012 and 2013, respectively. We generate online marketing revenues by referring traffic from our platform to e-commerce companies and search engine providers and by selling advertisements. The fee arrangements generally include cost per time, cost per click or cost per sale for actions that originate from our platform. We believe that the most significant factors affecting revenues from online marketing services include:

 

    User base and user engagement. We believe a large, loyal and engaged user base would help us retain existing business partners and attract more business partners seeking online marketing services and at the same time gives us more pricing power. It also results in more user impressions, clicks, sales or other actions that generate more fees for performance-based marketing.

 

   

Revenue sharing and fee arrangements with our significant business partners. A small number of business partners have contributed a majority of our online marketing service revenues. Changes in the revenue sharing or fee arrangements with these significant business partners may materially affect our online marketing services revenues. For example, changes from pay per click to pay per sale arrangements may result in a smaller percentage of revenue-generating traffic. Likewise, changes in the fee rate we receive per click or per sale may affect our online marketing services revenues. Although

 

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changes in the revenue sharing and fee arrangements with our individual customers may affect our revenues positively or negatively, our array of choices helps to increase our overall customer base and our ability to tailor fee arrangements to the needs of our customers.

 

    Ability to increase the number of business partners. We had over 380 business partners in 2013. We plan to attract more business partners with increased marketing spending on our platform. Our ability to further increase the number of business partners primarily depends on whether we can provide integrated marketing services and help them more precisely reach their targeted audience.

 

    Optimal utilization of advertising inventory. Certain categories of business partners are willing to offer higher rates for our online marketing services due to the high return on investment they can achieve on our platform. Our ability to source high quality business partners within the appropriate categories that our users are interested in and our ability to optimize the allocation of our advertising inventory to these business partners can help improve our online marketing services revenues.

IVAS

Revenues from IVAS accounted for nil, 0.8% and 11.1% of our revenues in 2011, 2012 and 2013, respectively. IVAS in these periods mainly include publishing online games.

We believe that the most significant factors affecting our IVAS revenues include:

 

    Games on our platform. We began publishing games in the third quarter of 2012 and had more than 400 games in our game centers as of December 31, 2013. Our revenues from game publishing depend on our ability to select and publish popular and engaging games. The popularity of the games we publish directly affects the number of users we attract and the revenues generated from such games.

 

    Game publishing arrangements. We have two types of game publishing arrangements. Under a joint operating arrangement, we jointly operate games with game developers and publishers without paying license fees or incurring significant promotional expenses. We share user payments with game developers. As of December 31, 2013, almost all of the games on our platform were under joint operating arrangements. However, we expect the number of games operated in exclusive publishing arrangement to increase in future. Under an exclusive publishing arrangement, we pay royalty fees and upfront license fees to developers and promote and operate the games at our own costs. The popularity of the games has a larger impact in exclusive publishing arrangement as we bear higher risks and potentially receive higher rewards under this arrangement.

 

    Number of paying users for games. Games published on our platform are free to play and we generate revenues from users’ purchase of in-game virtual items. Since we started publishing games, the number of monthly paying users has grown significantly. We calculate the number of paying users during a given period as the cumulative number of gaming user accounts that have purchased virtual items at least once during the relevant period. We expect the number of monthly paying users to continue to grow as we publish more popular games, especially mobile games, on our platform and further strengthen our game distribution capabilities through our mobile applications. Since the launch of our game publishing business in the third quarter of 2012, our number of monthly paying users has steadily increased to 50,115 in December 2013.

 

    Other services. Capitalizing on our large user base, we plan to launch new value added services for new revenue opportunities on our platform.

Internet Security Services and Others

Revenues from internet security services and others accounted for 82.9%, 25.4% and 7.2% of our revenues in 2011, 2012 and 2013, respectively. Internet security services and others revenues mainly include subscription services such as game acceleration and instant data recovery for our paying members, and license fees from

 

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Kingsoft Japan, one of Kingsoft Corporation’s subsidiaries. In 2011, 2012 and 2013, this revenue item included revenues from enterprise security services that were subsequently transferred from our company to an equity investee. We expect revenues from internet security services to decline as we continue to move to a free model.

Cost of Revenues

Historically, cost of revenues primarily consists of bandwidth costs and internet data center, or IDC, costs, personnel costs, and VAT, business tax, and related surcharges.

Bandwidth and IDC costs consist of fees that we pay to telecommunication carriers and other service providers for hosting our servers at their internet data centers and purchasing bandwidth. We expect our bandwidth and IDC costs to increase as our user traffic continue to grow.

Personnel costs include salaries and benefits, including share-based compensation, for our employees involved in the operation of our personal start page and applications. We expect personnel costs to increase as we hire additional operational employees in line with the expansion of our business.

We were subject to business tax at a rate of 5% and related surcharges on our service revenue, and our other sales revenues were subject to value added tax at a rate of 17% and related surcharges in 2011 and early 2012. As a result of pilot programs introduced by the Ministry of Finance and the SAT, we were required to pay VAT and related surcharges instead of business tax for service revenue starting in September 2012. The VAT rate was 6% for most of our PRC subsidiaries. In 2012, certain of our PRC subsidiaries and VIEs were subject to VAT at 3%.

Going forward, as mobile game publishing services are expected to contribute an increasing amount of IVAS revenues, we expect that licensing fees, royalty fees and channel fees associated with the mobile games business will become important components of our cost of revenues and our gross margins will decrease due to the increasing revenue contribution from mobile games.

Operating Expenses

Our operating expenses consist of (i) research and development expenses, (ii) selling and marketing expenses and (iii) general and administrative expenses. The following table sets forth the components of our operating expenses for the periods indicated, both in absolute amounts and as percentages of our revenues.

 

    Year Ended December 31,  
    2011     2012     2013  
    RMB     % of
revenues
    RMB     % of
revenues
    RMB     US$     % of
revenues
 
    (in thousands, except percentages)  

Operating expenses:

             

Research and development

    79,105        56.5        114,329        39.7        217,846        35,986        29.0   

Selling and marketing

    28,810        20.6        57,167        19.9        201,504        33,286        26.9   

General and administrative

    15,301        10.9        34,408        12.0        97,817        16,158        13.0   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

    123,216        88.0        205,904        71.6        517,167        85,430        68.9   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Research and Development Expenses. Research and development expenses consist primarily of salaries and benefits, including share-based compensation expenses, for our research and development employees. These expenditures are generally expensed as incurred. We expect our research and development expenses to increase as we continue to expand our research and development team to develop new products, in particular mobile applications, for our users and business partners.

Selling and Marketing Expenses. Selling and marketing expenses consist primarily of salaries and benefits, including share-based compensation expenses, related to personnel involved in our selling and marketing efforts and general marketing and promotion expenses. We expect our selling and marketing expenses to increase as we plan to expand our mobile business and deepen our global penetration.

 

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General and Administrative Expenses. General and administrative expenses consist primarily of salaries and benefits, including share-based compensation expenses, related to our general and administrative personnel, professional service fees, and other administrative expenses. We expect our general and administrative expenses to increase as our business grows and as we incur increased expenses related to complying with our reporting obligations under the U.S. securities laws as a public company.

Taxation

Cayman Islands

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. 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. There are no exchange control regulations or currency restrictions in the Cayman Islands. Additionally, upon payments of dividends by our company to its shareholders, no Cayman Islands withholding tax will be imposed.

British Virgin Islands

A BVI business company subject to the provisions of the BVI Business Companies Act, 2004 (as amended) is exempt from all provisions of the Income Tax Ordinance of the BVI (including with respect to all dividends, interests, rents, royalties, compensation and other amounts payable by such company to persons who are not persons resident in the BVI).

Capital gains realized with respect to any shares, debt obligations or other securities of a company by persons who are not persons resident in the BVI are also exempt from all provisions of the Income Tax Ordinance of the BVI.

No estate, inheritance, succession or gift tax, rate, duty, levy or other charge is payable by persons who are not persons resident in the BVI with respect to any shares, debt obligations or other securities of a company, save for interest payable to or for the benefit of an individual resident in the European Union.

Hong Kong

Cheetah Technology is incorporated in Hong Kong and is subject to Hong Kong profits tax at a rate of 16.5%. No provision for Hong Kong profits tax has been made as it had no assessable profits for the years ended December 31, 2011, 2012 and 2013.

PRC

Our subsidiaries in the PRC and the VIEs are subject to the statutory rate of 25% in accordance with the EIT Law, with exceptions for certain preferential tax treatments. Under relevant government policies, enterprises qualified as “new software enterprise” is entitled to a two-year exemption and three-year 50% reduction on enterprise income tax commencing from the first profit-making year. Zhuhai Juntian and Beijing Security were qualified as new software development enterprise in 2010. As a result, Zhuhai Juntian was eligible for a 12.5% preferential tax rate effective from 2011 to 2013 (having received the approval after the end of its financial year), and Beijing Security was exempted from enterprise income tax from 2010 to 2011 and is eligible for a 12.5% preferential tax rate from 2012 to 2014.

Conew Network, Beijing Conew and Beike Internet were subject to enterprise income tax at a rate of 25% for the years ended December 31, 2011, 2012 and 2013. Beijing Network was subject to enterprise income tax at a rate of 25% for the years ended December 31, 2012 and 2013.

 

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Internal Control Over Financial Reporting

In connection with the preparation and external audit of our consolidated financial statements as of and for the years ended December 31, 2011, 2012 and 2013, we and Ernst & Young Hua Ming LLP, an independent registered public accounting firm, noted a material weakness in our internal control over financial reporting. The material weakness identified was lack of financial reporting personnel with the requisite U.S. GAAP and the SEC financial reporting expertise. Neither we nor our independent registered public accounting firm undertook a comprehensive assessment of our internal control for purposes of identifying and reporting material weaknesses, significant deficiencies and control deficiencies in our internal control over financial reporting. It is possible that, had we performed a formal assessment of our internal control over financial reporting or had our independent registered public accounting firm performed an audit of our internal control over financial reporting, additional material weaknesses or significant deficiencies may have been identified.

We intend to remediate the material weakness identified in our internal control over financial reporting by the end of the first full year after the completion of this offering. In addition, upon the completion of this offering, we will become a public company in the United States and will be subject to Section 404 and applicable rules and regulations thereunder. Section 404 requires that we include a report of management on our internal control over financial reporting in our annual report on Form 20-F beginning with our annual report for the fiscal year ending December 31, 2015. In addition, once we cease to be an “emerging growth company” as such term is defined in the JOBS Act, our independent registered public accounting firm must attest to and report on the effectiveness of our internal control over financial reporting. Our failure to achieve and maintain effective internal control over financial reporting could result in the loss of investor confidence in the reliability of our financial statements, which in turn could harm our business and negatively impact the market price of the ADSs.

We have implemented several measures since the second half of 2013 to remediate the above mentioned material weakness:

 

    In December 2013, we established an internal audit department.

 

    In January 2014, we appointed a chief financial officer with financial expertise to lead our accounting and financial reporting department.

 

    Since the second half of 2013, we have hired six financial reporting and internal control personnel with U.S. GAAP and SEC financial reporting expertise and we currently plan to hire several additional personnel with financial and accounting expertise over the next 12 months.

 

    We are in the process of preparing a U.S. GAAP accounting manual, which specifies the accounting policy regarding routine transactions and the criteria for an accounting memo for non-routine and complex transactions. We expect to complete and adopt the manual by the end of June 2014.

 

    We are in the process of preparing a U.S. GAAP review checklist for period-end close processes and expect to complete and adopt the checklist by the end of June 2014.

 

    We have been providing regular training programs to our financial and reporting personnel to update their knowledge of accounting and reporting requirements under the U.S. GAAP and SEC rules and regulations and plan to continue to do so.

 

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Results of Operations

The following table sets forth a summary of our consolidated results of operations for the periods indicated. We believe that period-to-period comparisons of results of operations should not be relied upon as indicative of future performance.

 

    Year Ended December 31,  
    2011     2012     2013  
    RMB     RMB     RMB     US$  
          (in thousands)        

Revenues

    140,054        287,927        749,911        123,876   

Online marketing services

    23,916        212,443        612,565        101,189   

IVAS

           2,354        83,155        13,736   

Internet security services and others

    116,138        73,130        54,191        8,951   
 

 

 

   

 

 

   

 

 

   

 

 

 

Cost of revenues(1)

    (53,737     (71,560     (140,526     (23,213
 

 

 

   

 

 

   

 

 

   

 

 

 

Gross profit

    86,317        216,367        609,385        100,663   

Operating expenses:

       

Research and development(1)

    (79,105     (114,329     (217,846     (35,986

Selling and marketing(1)

    (28,810     (57,167     (201,504     (33,286

General and administrative(1)

    (15,301     (34,408     (97,817     (16,158
 

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

    (123,216     (205,904     (517,167     (85,430

Operating profit/(loss)

    (36,899     10,463        92,218        15,233   

Other income/(expenses):

       

Interest income

    3,475        3,263        7,077        1,169   

Changes in fair value of redemption right granted to a non-controlling shareholder

                  11,146        1,841   

Changes in fair value of contingent consideration

    (496     (297     (1,067     (176

Foreign exchange gain (loss), net

    551        47        920        152   

Other income, net

    537        1,283        2,243        371   

Losses from equity method investments

                  (1,849     (305
 

 

 

   

 

 

   

 

 

   

 

 

 

Income/(loss) before taxes

    (32,832     14,759        110,688        18,285   
 

 

 

   

 

 

   

 

 

   

 

 

 

Income tax benefit/(expense)

    2,597        (4,915     (48,670     (8,040
 

 

 

   

 

 

   

 

 

   

 

 

 

Net income/(loss)

    (30,235     9,844        62,018        10,245   
 

 

 

   

 

 

   

 

 

   

 

 

 

 

(1) The amount of share-based compensation costs for the years ended December 31, 2011, 2012 and 2013 are as follows:

 

     Year Ended December 31,  
     2011      2012      2013  
     RMB      RMB      RMB      US$  
     (in thousands)  

Cost of revenues

     94         21         10         2   

Research and development expenses

     4,313         6,663         14,520         2,399   

Selling and marketing expenses

     47         609         2,835         468   

General and administrative expenses

     1,381         12,994         20,031         3,309   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

     5,835         20,287         37,396         6,178   
  

 

 

    

 

 

    

 

 

    

 

 

 

Year Ended December 31, 2013 Compared to Year Ended December 31, 2012

Revenues. Our revenues increased by 160.5% from RMB287.9 million in 2012 to RMB749.9 million (US$123.9 million) in 2013. This increase was primarily due to the increase in revenues from online marketing services and IVAS, partially offset by decrease in internet security services and others. Our revenues generated

 

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from our mobile business increased from RMB6.3 million in 2012 to RMB55.3 million (US$9.1 million) in 2013, resulted from the increased acceptance of our mobile marketing services and the growth of our mobile gaming services.

Online marketing services. Revenues from online marketing services increased by 188.3% from RMB212.4 million 2012 to RMB612.6 million (US$101.2 million) in 2013. This increase was mainly driven by an increase in online marketing revenues from our top ten online marketing end customers from RMB171.4 million in 2012 to RMB476.2 million (US$78.7 million) in 2013, and to a lesser extent, an increase in the total number of our online marketing business partners from 199 in 2012 to 387 in 2013. The significant increase in revenues from our top ten online marketing end customers was primarily due to the significant growth of our user traffic, our broader and deeper cooperation with these customers who are also our significant business partners, and the resulting more favorable pricing terms from these customers. In addition, we began to generate mobile marketing revenues in 2012 and 2013 was the first full year in which we had mobile marketing revenues.

IVAS. Revenues from IVAS was RMB83.2 million (US$13.7 million) in 2013, a significant increase from RMB2.4 million in 2012. We launched our game publishing business in the third quarter of 2012 and significantly increased the number of PC and mobile games we published in 2013. As a result, the number of our monthly paying users grew to 50,115 in December 2013.

Internet security services and others. Revenues from internet security services and others decreased by 25.9% from RMB73.1 million in 2012 to RMB54.2 million (US$9.0 million) in 2013. This decrease was primarily due to our ceasing to promote subscriptions services to paying users in a strategic reorientation resulting in a decrease in the number of paying customers.

Cost of revenues. Our cost of revenues increased by 96.4% from RMB71.6 million in 2012 to RMB140.5 million (US$23.2 million) in 2013. The increase in our cost of revenues was mainly driven by an increase in taxes and surcharges, bandwidth and IDC costs and personnel costs. Our bandwidth and IDC costs increased as a result of our growing user traffic and our personnel costs increased primarily due to increased headcount and level of compensation.

Gross profit. Our gross profit increased by 181.6% from RMB216.4 million in 2012 to RMB609.4 million (US$100.7 million) in 2013.

Gross margin. Our gross margin was 75.1% for the year ended December 31, 2012, compared to 81.3% for the year ended December 31, 2013.

Operating expenses. Our operating expenses increased by 151.2% from RMB205.9 million for the year ended December 31, 2012 to RMB517.2 million (US$85.4 million) for the year ended December 31, 2013, primarily due to increase in research and development expenses, selling and marketing expenses and general and administrative expenses.

Research and development expenses. Our research and development expenses increased by 90.5% from RMB114.3 million in 2012 to RMB217.8 million (US$36.0 million) in 2013. This increase was primarily due to our expanded team of research and development personnel, increasing from 506 as of December 31, 2012 to 842 as of December 31, 2013 mainly to further develop our mobile business and cloud-based analytics engines. The increase is also due to increased salary levels and investments in our mobile products business. Our research and development expenses included share-based compensation expenses of RMB6.7 million and RMB14.5 million (US$2.4 million) in the year ended December 31, 2012 and 2013, respectively.

Selling and marketing expenses. Our selling and marketing expenses increased from RMB57.2 million in 2012 to RMB201.5 million (US$33.3 million) in 2013. The increase was primarily due to expenses incurred in further promoting our mobile applications, in particular Clean Master and Battery Doctor and our brand awareness.

 

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General and administrative expenses. Our general and administrative expenses increased by 184.3% from RMB34.4 million in 2012 to RMB97.8 million (US$16.2 million) in 2013. This increase was primarily due to an increase in our general and administrative staff, from 40 as of December 31, 2012 to 79 as of December 31, 2013, increased salary levels and an increase in professional service fees. Our general and administrative expenses included share-based compensation of RMB13.0 million and RMB20.0 million (US$3.3 million) in 2012 and 2013, respectively.

Operating profit. Our operating profit increased from RMB10.5 million in 2012 to RMB92.2 million (US$15.2 million) in 2013.

Operating margin. Our operating margin increased from 3.6% in 2012 to 12.3% in 2013.

Income tax expense. Our income tax expense increased from RMB4.9 million in 2012 to RMB48.7 million (US$8.0 million) in 2013, primarily as a result of increased income and the outside basis difference arising from unremitted retained earnings and reserves of our VIEs.

Net income. As a result of the foregoing, our net income increased from RMB9.8 million to RMB62.0 million (US$10.2 million) in 2013.

Year Ended December 31, 2012 Compared to Year Ended December 31, 2011

Revenues. Our revenues increased by 105.6% from RMB140.1 million in 2011 to RMB287.9 million in 2012. This increase was primarily due to a significant increase in revenues from online marketing services, partially offset by the decline in those from internet security services and others.

Online marketing services. Revenues from online marketing services increased by 788.3% from RMB23.9 million in 2011 to RMB212.4 million in 2012 primarily because we started offering online marketing services in late 2011 and the significant growth in our user traffic during the period.

IVAS. Revenues from IVAS were RMB2.4 million in 2012, compared to nil in 2011. We launched our game publishing business in the third quarter of 2012.

Internet security services and others. Revenues from internet security services and others decreased by 37.0% from RMB116.1 million in 2011 to RMB73.1 million in 2012. This decrease was primarily due to our ceasing to promote subscriptions services to paying users in a strategic reorientation resulting in a decrease in the number of paying customers.

Cost of revenues. Our cost of revenues increased by 33.2% from RMB53.7 million in 2011 to RMB71.6 million in 2012. The increase in our cost of revenues was mainly driven by an increase in taxes and surcharges, bandwidth and IDC costs and personnel costs. The bandwidth and IDC costs increased as a result of our growing user traffic. Personnel costs increased primarily due to increased headcount and level of compensation. Business tax, VAT and related surcharges increased as a result of our overall increased revenues.

Gross profit. Our gross profit increased by 150.7% from RMB86.3 million for the year ended December 31, 2011 to RMB216.4 million for the year ended December 31, 2012.

Gross margin. Our gross margin was 61.6% for the year ended December 31, 2011, compared to 75.1% for the year ended December 31, 2012.

Operating expenses. Our operating expenses increased by 67.1% from RMB123.2 million in 2011 to RMB205.9 million in 2012, primarily due to increase in research and development expenses, selling and marketing expenses and general and administrative expenses.

 

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Research and development expenses. Our research and development expenses increased by 44.5% from RMB79.1 million in 2011 to RMB114.3 million in 2012. This increase was primarily due to our expanded team of research and development personnel, increasing from 449 as of December 31, 2011 to 506 as of December 31, 2012, to expand products, and the increased salary levels. Our research and development expenses included share based compensation of RMB4.3 million and RMB6.7 million in 2011 and 2012, respectively.

Selling and marketing expenses. Our selling and marketing expenses increased by 98.4% from RMB28.8 million in 2011 to RMB57.2 million in 2012. The increase was primarily due to expenses incurred in promoting our mobile applications, in particular Battery Doctor, in China.

General and administrative expenses. Our general and administrative expenses increased by 124.9% from RMB15.3 million in 2011 to RMB34.4 million in 2012. This increase was primarily due to an increase in professional service fees and personnel costs. Our general and administrative expenses included share-based compensation of RMB1.4 million and RMB13.0 million in 2011 and 2012, respectively.

Operating profit/(loss). We had an operating loss of RMB36.9 million and an operating profit of RMB10.5 million for 2011 and 2012 respectively.

Operating margin. Our operating margin was 3.6% for year ended December 31, 2012.

Income tax benefit/(expense). We had an income tax benefit of RMB2.6 million in 2011 and an income tax expense of RMB4.9 million in 2012. The income tax expense for 2012 resulted from the operating profit and the effect of the preferential tax change. The income tax benefit for 2011 was due to the deferred tax asset related to our operating loss, which can be carried forward to offset taxable income.

Net income/(loss). As a result of the foregoing, we recorded a net income of RMB9.8 million for the year ended December 31, 2012, compared to a net loss of RMB30.2 million for the year ended December 31, 2011.

 

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Selected Quarterly Results of Operations

The following table sets forth our unaudited condensed consolidated quarterly results of operations for each of the eight quarters in the period from January 1, 2012 to December 31, 2013. You should read the following table in conjunction with our consolidated financial statements and the related notes included elsewhere in this prospectus. The unaudited condensed consolidated quarterly results of operations includes all adjustments that we consider necessary for a fair presentation of our operating results for the quarters indicated. Our historical results for any particular quarter are not necessarily indicative of our future results.

 

    For the Three Months Ended  
    March 31,
2012
    June 30,
2012
    September 30,
2012
    December 31,
2012
    March 31,
2013
    June 30,
2013
    September 30,
2013
    December 31,
2013
 
    RMB     RMB     RMB     RMB     RMB     RMB     RMB     RMB  
   

(unaudited, in thousands)

 

Revenues

    38,247        54,196        73,650        121,834        136,311        158,931        185,490        269,179   

Online marketing services

    15,962        34,225        57,150        105,106        117,767        133,568        148,698        212,532   

IVAS

                         2,354        4,395        12,596        24,160        42,004   

Internet security services and others

    22,285        19,971        16,500        14,374        14,149        12,767        12,632        14,643   

Cost of revenues(1)

    (15,331     (14,951     (17,101     (24,177     (23,179     (29,442     (37,275     (50,630
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Gross profit

    22,916        39,245        56,549        97,657        113,132        129,489        148,215        218,549   

Operating expenses:

               

Research and development(1)

    (24,003     (26,171     (30,751     (33,404     (38,684     (53,313     (67,635     (58,214

Selling and marketing(1)

    (8,193     (8,307     (15,794     (24,873     (38,891     (28,463     (47,138     (87,012

General and administrative(1)

    (6,619     (7,536     (8,579     (11,674     (13,266     (36,431     (25,025     (23,095
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

    (38,815     (42,014     (55,124     (69,951     (90,841     (118,207     (139,798     (168,321

Operating profit (loss)

    (15,899     (2,769     1,425        27,706        22,291        11,282        8,417        50,228   

Income (loss) before taxes

    (14,804     (2,344     3,381        28,526        25,732        12,236        13,236        59,484   

Income tax (expense) benefit

    845        (544     3,113        (8,329     3,421        (10,863     (7,738     (33,490
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net income (loss)

    (13,959     (2,888     6,494        20,197        29,153        1,373        5,498        25,994   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

(1) The amount of share-based compensation costs for each of the eight quarters ended December 31, 2013 is as follows:

 

    For the Three Months Ended  
    March 31,
2012
    June 30,
2012
    September 30,
2012
    December 31,
2012
    March 31,
2013
    June 30,
2013
    September 30,
2013
    December 31,
2013
 
    RMB     RMB     RMB     RMB     RMB     RMB     RMB     RMB  
   

(unaudited, in thousands)

 

Cost of revenues

    4        4        4        9        4        3        1        2   

Research and development

    1,218        1,299        1,773        2,373        2,030        3,722        4,336        4,432   

Selling and marketing

    81        129        148        251        122        108        206        2,399   

General and administrative

    3,302        3,344        3,425        2,923        3,128        11,076        3,052        2,775   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total

    4,605        4,776        5,350        5,556        5,284        14,909        7,595        9,608   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

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The following table presents our revenues generated from our PC-based and mobile applications for periods indicated:

 

    For the Three Months Ended  
    March 31,
2012
    June 30,
2012
    September 30,
2012
    December 31,
2012
    March 31,
2013
    June 30,
2013
    September 30,
2013
    December 31,
2013
 
    RMB     RMB     RMB     RMB     RMB     RMB     RMB     RMB  
    (unaudited, in thousands)  

PC

    38,067        53,367        71,110        119,126        134,175        152,594        169,965        237,906   

Mobile

    180        829        2,540        2,708        2,136        6,337        15,525        31,273   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total

    38,247        54,196        73,650        121,834        136,311        158,931        185,490        269,179   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Our quarterly revenues increased sequentially in each of the eight quarters ended December 31, 2013. Revenues from online marketing services, our largest business segment, have grown steadily over the eight quarters ended December 31, 2013. In addition, our mobile revenue as a percentage of our overall revenue has grown over the eight quarters ended December 31, 2013, resulted from the increased acceptance of our mobile marketing services and the growth of our mobile gaming services. Our cost of revenues generally increased, mainly as a result of increased bandwidth and IDC costs and personnel costs, which were primarily due to our growing user traffic and increased headcount and compensation. In the first quarter of 2014, we granted a total of 57,148,631 restricted shares to our executive officers and employees, and we expect to incur share-based compensation expenses in an aggregate estimated amount of US$52.2 million over four to five years, which will likely result in a net loss for this quarter. Our quarterly revenues and operating results are subject to change and may experience fluctuations in the future due to various factors. See “Risk Factors—Risks Relating to Our Business and Industry—Our results of operations are subject to seasonal fluctuations due to a number of factors, any of which could adversely affect our business and operating results.”

Liquidity and Capital Resources

Cash Flows and Working Capital

To date, we have financed our operations from our operating income and private issuances and sales of preferred and ordinary shares to our shareholders. See “Description of Share Capital—History of Securities Issuances.” As of December 31, 2013, we had RMB530.5 million in cash and cash equivalents. We believe that our cash and the anticipated cash flow from operations will be sufficient to meet our anticipated cash needs for the next 12 months. However, we may require additional cash resources due to changing business conditions or other future developments, including any investments or acquisitions we may decide to selectively pursue. If our existing cash resources are insufficient to meet our requirements, we may seek to sell equity or equity-linked securities, debt securities or borrow from banks.

Our PRC subsidiaries and VIEs, in the aggregate, held RMB68.0 million, RMB109.4 million and RMB237.1 million (US$39.2 million) in cash as of December 31, 2011 and 2012 and 2013, respectively. For information regarding restrictions and potential tax liabilities on profit distribution from these entities, see “Risk Factors—Risks Relating to Doing Business in China—Under the PRC Enterprise Income Tax Law, we may be classified as a PRC ‘resident enterprise,’ which could result in unfavorable tax consequences to us and our shareholders and have a material adverse effect on our results of operations and the value of your investment” and “—PRC regulations relating to offshore investment activities by PRC residents may limit our PRC subsidiaries’ ability to increase their registered capital or distribute profits to us or otherwise expose us to liability and penalties under PRC law.” Our PRC subsidiaries are categorized as “foreign-invested enterprises” pursuant to applicable PRC laws, and accordingly their dividend remittances to foreign investors are conducted through the following four steps:

 

    making up any losses incurred during the current year and past years and paying enterprise income taxes;

 

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    appropriating no less than 10% of the accumulative after-tax profits as a statutory reserve fund until the aggregate amount of such reserve fund reaches 50% of each PRC subsidiary’s respective registered capital;

 

    reserving a certain amount for the employee welfare funds at the discretion of the PRC subsidiary; and

 

    distributing all or some of the remaining profits to the PRC subsidiary’s direct foreign shareholders as dividends. In accordance with the EIT Law and its implementation rules, dividends generated after January 1, 2008 and distributed to our overseas holding company by our PRC subsidiaries are subject to withholding tax at a rate of 10%, or such lower withholding tax rate applicable based on tax treaties signed with certain jurisdictions.

Under PRC law, each of our PRC subsidiaries must set aside at least 10% of its after-tax profits each year, if any, to fund a statutory reserve until such reserve reaches 50% of its registered capital. Each of our PRC subsidiaries must also set aside a portion of its after-tax profits to fund an employee welfare fund at the discretion of the board. Although the statutory reserves can be used, among other ways, to increase the registered capital and eliminate future losses in excess of retained earnings of the respective companies, companies may not distribute the reserve funds as cash dividends except upon a liquidation of these subsidiaries. In addition, dividend payments from our PRC subsidiaries could be delayed as we may only distribute such dividends upon completion of annual audits of the subsidiaries. Furthermore, if our PRC subsidiaries incur debt on their own behalf in the future, the instruments governing the debt may restrict their ability to pay dividends or make other payments to us, which may restrict our ability to satisfy our liquidity requirements. In addition, the EIT Law and its implementation rules provide that withholding tax rate of 10% will be applicable to dividends payable by Chinese companies to non-PRC resident enterprises unless otherwise exempted or reduced according to treaties or arrangements between the PRC central government and governments of other countries or regions where the non-PRC resident enterprises are incorporated. See “Risk Factors—Risks Relating to Our Corporate Structure—We may rely on dividends paid by our PRC subsidiaries to fund any cash and financing requirements we may have. Any limitation on the ability of our PRC subsidiaries to pay dividends to us could have a material adverse effect on our ability to conduct our business and to pay dividends to holders of the ADSs and our ordinary shares.” and “Risk Factors—Risks Relating to Doing Business in China—Our PRC subsidiaries and VIEs are subject to restrictions on paying dividends or making other payments to us, which may restrict our ability to satisfy our liquidity requirements.”

The PRC government imposes certain controls on the conversion of the Renminbi into foreign currencies and the remittance thereof outside of the PRC. To the extent that (i) loans are arranged between our non-PRC entities and our PRC entities or (ii) we declare and pay dividends from our PRC entities to our non-PRC entities in the future, such cash flows may be limited, or may not be able to be processed on a timely basis, due to SAFE regulations or restrictions on the availability of foreign currencies. Such restrictions could have a material adverse effect on our liquidity and our ability to settle intercompany transactions or fund dividend payments to our shareholders. See “Risk Factors—Risks Related to Doing Business in China—Governmental control of currency conversion may limit our ability to utilize our cash balance effectively and affect the value of your investment.”

 

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The table below sets forth our cash and cash equivalents as of December 31, 2011 and 2012 and 2013:

 

     As of December 31,  
     2011      2012      2013  
     (in thousands of RMB)  

Cash located outside of the PRC

        

- in US dollars

     6,532         1,935         287,698   

- in RMB

     60,877         21,247         4,795   

- in HK dollars

     3,975         1,810         965   

Cash located in the PRC

        

- held by WFOE in RMB

     60,114         60,647         95,293   

- held by WFOE in Japanese yen

     1,814                   

- held by VIEs in RMB

     6,037         48,737         140,474   

- held by VIEs in US dollars

                     1,311   
  

 

 

    

 

 

    

 

 

 

Total cash and cash equivalents

     139,349         134,376         530,536   
  

 

 

    

 

 

    

 

 

 

Loans by us to our wholly owned PRC subsidiaries to finance their activities cannot exceed statutory limits, which is the difference between the registered capital of such PRC subsidiary and the amount of total investment as approved by the MOC or its local counterparts, and must be registered with the local counterpart of SAFE. In addition, if we decide to finance our wholly owned PRC subsidiaries by means of capital contributions, these capital contributions must be approved by the MOC or its local counterpart. We may not be able to obtain these government registrations or approvals on a timely basis, if at all. If we fail to receive such registrations or approvals, our ability to use the proceeds we received from our initial public offering by providing loans or capital contributions to our PRC subsidiaries may be negatively affected, which could adversely affect our liquidity and our ability to fund and expand our business. See “Risk Factors—Risks Related to Doing Business in China—PRC regulation of loans to, and direct investment in, PRC entities by offshore holding companies and governmental control of currency conversion may restrict or prevent us from using the proceeds of our initial public offering to make loans to our PRC subsidiaries and VIEs or to make additional capital contributions to our PRC subsidiaries, which may materially and adversely affect our liquidity and our ability to fund and expand our business.”

Under PRC regulations, the Renminbi is freely convertible for current account items subject to certain rules and procedures, including the distribution of dividends, and trade- and service-related foreign exchange transactions, but not for capital account items, such as direct investments, loans, repatriation of investments and investments in securities outside of China, unless the prior approval of the SAFE is obtained and prior registration with the SAFE is made. If the foreign exchange control system prevents us from obtaining sufficient foreign currencies to satisfy our foreign currency demands, we may not be able to pay dividends in foreign currencies to our shareholders, including holders of the ADSs.

The economic benefits of our VIEs are mainly transferred to Beijing Security and Conew Network, or our WFOEs, through payment of service fees under the exclusive technology development, support and consultancy agreement entered into between each of our WFOEs and our VIEs, which are subject to the sales tax and related surcharges. Upon receipt of such service fees, they will become a portion of our WFOEs’ revenues and can be remitted to their respective parent company through the four-step process above.

 

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The following table sets forth a summary of our cash flows for the periods indicated:

 

     Year Ended December 31,  
     2011     2012     2013  
     RMB     RMB     RMB     US$  
           (in thousands)        

Net cash provided by/(used for) operating activities

     (7,153     45,788        198,181        32,738   

Net cash used for investing activities

     (28,763     (51,238     (100,787     (16,650

Net cash provided by financing activities

     93,274        628        304,272        50,262   

Effect of exchange rate changes on cash

     (2,273     (151     (5,506     (911

Cash and cash equivalents at the beginning of year

     84,264        139,349        134,376        22,199   

Net increase/(decrease) in cash and cash equivalents

     55,085        (4,973     396,160        65,439   
  

 

 

   

 

 

   

 

 

   

 

 

 

Cash and cash equivalents at the end of year

     139,349        134,376        530,536        87,638   

Operating Activities

Net cash provided by operating activities for the year ended December 31, 2013 was RMB198.2 million (US$32.7 million). This amount was primarily attributable to net income of RMB62.0 million (US$10.2 million), (i) adjusted for certain non-cash expenses, primarily share-based compensation costs of RMB37.4 million (US$6.2 million), deferred income tax expense of RMB33.9 million (US$5.6 million), deemed employee compensation attributable to redemption right granted to a non-controlling shareholder of RMB14.7 million (US$2.4 million) and amortization of intangible assets of RMB14.2 million (US$2.3 million), (ii) adjusted for changes in operating assets and liabilities that positively affected operating cash flow, primarily an increase in accrued expenses and other current liabilities of RMB97.1 million (US$16.0 million), and (iii) partially offset by changes in operating assets and liabilities that negatively affected operating cash flow, primarily an increase in prepayments and other current assets of RMB45.4 million (US$7.5 million). The deferred income tax expenses mainly resulted from the outside basis difference arising from the retained earnings in Beike Internet, our VIE, and the deferred tax liability related to the non-deductible share-based compensation expense, which primarily resulted from the difference between PRC tax regulations and their practical implementation by PRC tax authorities. The increase in accrued expenses and other current liabilities was mainly attributable to (i) the increase in accrued advertising, marketing and promotional expenses, which primarily resulted from unpaid expenses incurred in promoting our mobile applications, and (ii) increase in labor and welfare payable relating to our increased headcount and increased salary levels. The increase in prepayments and other current assets was mainly attributable to receivable from employees related to the individual income tax arising from the vested restricted shares of our company.

Net cash provided by operating activities for the year ended December 31, 2012 was RMB45.8 million. This amount was primarily attributable to net income of RMB9.8 million, (i) adjusted for certain non-cash expenses, primarily share-based compensation costs of RMB20.3 million, (ii) adjusted for changes in operating assets and liabilities that positively affected operating cash flow, primarily an increase in accrued expenses and other current liabilities of RMB38.3 million, and (iii) partially offset by changes in operating assets and liabilities that negatively affected operating cash flow, primarily an increase in accounts receivable of RMB23.4 million and an increase in due from related party of RMB11.1 million. The increase in accrued expenses and other current liabilities was mainly attributable to (i) the increase in labor and welfare payable relating to our increased headcount and increased salary levels and (ii) increase in accrued advertising, marketing and promotional expenses, which primarily resulted from unpaid expenses incurred in promoting our mobile applications. The increase in accounts receivable was in line with our business growth. The increase in due from related parties was primarily due to the outstanding receivable from a shareholder’s affiliated company.

Net cash used in operating activities for the year ended December 31, 2011 was RMB7.2 million. This amount was primarily attributable to net loss of RMB30.2 million, (a) adjusted for certain non-cash expenses, primarily amortization of intangible assets of RMB11.7 million, (b) adjusted for changes in operating assets and liabilities that positively affected operating cash flow, primarily an increase in payment due to related parties of

 

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RMB26.0 million, and (c) partially offset by changes in operating assets and liabilities that negatively affected operating cash flow, primarily an increase in accounts receivable of RMB12.8 million. The increase in payment due to related parties was mainly due to the unpaid license fee in relation to Duba Anti-virus owed to Kingsoft Corporation. The increase in accounts receivable was in line with our business growth.

Investing Activities

Net cash used in investing activities was RMB100.8 million (US$16.7 million) for the year ended December 31, 2013, primarily attributable to payments to purchase short-term investments of RMB141.6 million (US$23.4 million), payments for acquisition of business (net of cash acquired) RMB52.8 million (US$8.7 million), purchase of property and equipment of RMB27.6 million (US$4.6 million), entrusted loan to investors of an investee of RMB14.0 million (US$2.3 million), partially offset by sales and maturity of short-term investments of RMB145.4 million (US$24.0 million).

Net cash used in investing activities was RMB51.2 million for the year ended December 31, 2012, primarily attributable to payments to purchase short-term investments of RMB95.4 million, purchase of property and equipment of RMB12.3 million, partially offset by sales and maturity of short-term investments of RMB71.0 million.

Net cash used in investing activities was RMB28.8 million for the year ended December 31, 2011, primarily attributable to payments to purchase short-term investments of RMB16.0 million and payments for acquisition of business net of cash acquired RMB12.0 million.

Financing Activities

Net cash provided by financing activities was RMB304.3 million (US$50.3 million) for the year ended December 31, 2013, primarily attributable to proceeds from issuance of series B preferred shares (net of issuance costs) of RMB322.0 million (US$53.2 million), partially offset by payment of dividend of RMB17.7 million (US$2.9 million).

Net cash provided by financing activities was RMB0.6 million for the year ended December 31, 2012 from proceeds from issuance of ordinary shares.

Net cash provided by financing activities was RMB93.3 million in the year ended December 31, 2011, primarily attributable to proceeds from issuance of series A preferred shares (net of issuance costs) of RMB120.0 million and ordinary shares of RMB16.4 million, partially offset by distribution to a shareholder of RMB43.1 million.

Capital Expenditures

We incurred capital expenditures of RMB8.8 million, RMB17.9 million and RMB30.0 million (US$5.0 million) in 2011, 2012 and 2013, respectively. Our capital expenditures are primarily used to purchase computers, servers and other equipment. As our business expands, we may purchase new servers and other equipment in the future.

 

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Contractual Obligations and Capital Commitments

The following table sets forth our contractual obligations as of December 31, 2013:

 

     Payment Due by Period  
     Total      Less than
1 year
     1-2 years      2-3 years      More than
3 years
 
     RMB      RMB      RMB      RMB      RMB  
     (in millions)  

Operating lease obligations(1)

     43.0         32.6         10.1         0.3           

Line of credit commitment(2)

     22.0         22.0                      

Capital commitment(3)

     2.0         2.0                           

License fees commitment(4)

     20.7         10.2         8.4         2.1           

 

(1) Mainly include operating lease for our office building and bandwidth and internet data center.
(2) Include line of credit we provided to Beijing Kingsoft Security Management System Technology Co., Ltd., or Beijing Security System Technology, and a shareholder of Wuhan Antian Information Technology Co., Ltd., or Wuhan Antian. We own 40% equity interests in each of Beijing Security System Technology and Wuhan Antian.
(3) For the acquisition of an equity method investment.
(4) For technology license fees payable to subsidiaries of Kingsoft Corporation and other third parties.

Off-Balance Sheet Commitments and Arrangements

We have not entered into any financial guarantees or other commitments to guarantee the payment obligations of any third parties. We have not entered into any derivative contracts that are indexed to our shares and classified as shareholder’s equity or that are not reflected in our consolidated financial statements. Furthermore, 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. 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 product development services with us.

Inflation

Since our inception, inflation in China has not materially impacted our results of operations. According to the National Bureau of Statistics of China, the consumer price index in China increased by 5.4% and 2.6% in 2011 and 2012, respectively. Although we have not in the past been materially affected by inflation since our inception, we can provide no assurance that we will not be affected in the future by higher rates of inflation in China or elsewhere in the world.

Quantitative and Qualitative Disclosure about Market Risk

Foreign Exchange Risk

The majority of revenues and expenses of our subsidiaries and VIEs are generally denominated in Renminbi and their assets and liabilities are denominated in Renminbi. Our financing activities are denominated in U.S. dollars.

To date, we have not entered into hedging transactions in an effort to reduce our exposure to foreign currency exchange risk. Although our exposure to foreign exchange risks is generally limited, the value of your investment in the ADSs will be affected by the exchange rate between the U.S. dollar and the Renminbi because the value of our business is effectively denominated in Renminbi, while the ADSs will be traded in U.S. dollars.

The Renminbi is not freely convertible into foreign currencies. Remittances of foreign currencies into the PRC and exchange of foreign currencies into Renminbi require approval by foreign exchange administrative authorities and certain supporting documentation. The State Administration for Foreign Exchange, under the authority of the People’s Bank of China, controls the conversion of Renminbi into other currencies.

 

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The value of the Renminbi against the U.S. dollar and other currencies may fluctuate and is affected by, among other things, changes in China’s political and economic conditions. The conversion of Renminbi into foreign currencies, including U.S. dollars, has been based on rates set by the People’s Bank of China. On July 21, 2005, the PRC government changed its decade-old policy of pegging the value of the Renminbi to the U.S. dollar. Under the revised policy, the Renminbi is permitted to fluctuate within a narrow and managed band against a basket of certain foreign currencies. This change in policy resulted in a more than 20% appreciation of the Renminbi against the U.S. dollar in the following three years. During the period between July 2008 and June 2010, the exchange rate between the Renminbi and the U.S. dollar had been stable and traded within a narrow band. However, the Renminbi fluctuated significantly during that period against other freely traded currencies, in tandem with the U.S. dollar. On June 20, 2010, the People’s Bank of China announced that the PRC government would further reform the Renminbi exchange rate regime and increase the flexibility of the exchange rate. Since then, the Renminbi has started to slowly appreciate against the U.S. dollar, though there have been periods recently when the U.S. dollar has appreciated against the Renminbi. It is difficult to predict how long the current situation may last and when and how this relationship between the Renminbi and the U.S. dollar may change again. To the extent that we need to convert U.S. dollars we receive from this offering into Renminbi for our operations, appreciation of the Renminbi against the U.S. dollar would have an adverse effect on the Renminbi amount we receive from the conversion. Conversely, if we decide to convert the Renminbi into U.S. dollars for the purpose of making payments for dividends on our ordinary shares or ADSs or for other business purposes, appreciation of the U.S. dollar against the Renminbi would have a negative effect on the U.S. dollar amounts available to us.

Interest Risk

Our exposure to interest rate risk primarily relates to the interest income generated by excess cash, which is mostly held in interest-bearing bank deposits. Interest-earning instruments carry a degree of interest rate risk. We have not been exposed to, nor do we anticipate being exposed to, material risks due to changes in market interest rates. However, our future interest income may fall short of expectations due to changes in market interest rates.

Critical Accounting Policies

Revenue recognition

We generate revenues primarily through online marketing services, internet value-added services, and internet security services and others. We recognize revenues when persuasive evidence of an arrangement exists, delivery has occurred, the sales price is fixed or determinable, and collectability is reasonably assured.

Online marketing services

We generate revenues from online marketing services by referring traffic from our platform to e-commerce companies and search engine providers and selling advertisements. Online marketing services contributed 73.8% and 81.7% of our revenues in 2012 and 2013, respectively. The online marketing services are provided through our online platform, such as text links, banners, and other forms of graphical advertisement which link to our customers’ websites or PC based applications. We have two general pricing models for advertising links: cost over a time period and cost for performance basis (including cost per click and cost per sale). For advertising contracts over a time period, we generally recognize revenues ratably over the period the advertising is provided. For contracts that are charged on the cost for performance basis, we charge an agreed-upon fee to our customers determined based on the effectiveness of advertising links, which is typically measured by user registrations, clicks, transactions and other actions originating from our online platform. Online marketing services revenue charged on the cost for performance basis is generally recognized upon receiving monthly statements from our customers either in the current month or in the following month in which the service is provided.

 

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We also direct search traffic to search engines through our default search boxes placed on the our online platform, and earn a pre-determined fee from our search engine customers based on the number of searches originating from our online platform. Search revenues are recognized upon receiving monthly confirmations from our search engine customers confirming the amount for traffic in the month in which the service is provided.

We occasionally engage in nonmonetary transactions to allow one of our shareholders to advertise and co-market our security products with a related party’s software products. Revenues and expenses are recognized at fair value when such fair value of the services surrendered in the transaction is determinable based on our own historical practice of receiving cash, marketable securities, or other consideration that is readily convertible to a known amount of cash for similar services from customers unrelated to the counterparty in the barter transaction. No revenues or expenses are recognized if the fair value of the nonmonetary transactions is not determinable.

IVAS

We enter into agreements with online and mobile game developers to provide online and mobile distribution and payment collection services, in order for game players to purchase and recharge virtual currencies used in the online and mobile games. All games are developed and hosted by game developers, and accessed by game players through links on our online or mobile platform or third-party mobile platforms. The payment collection services are mainly provided through third-party professional payment and settlement institutions. We generally charge commission as a percentage of the gross proceeds or collection amount from the settlement institutions, and pay the remaining proceeds to the game developers. We act as an agent to the game developers in these arrangements and therefore recognize revenue net of remittances to the developer as they are considered the primary obligor. We estimate revenues based on our internal system, which is confirmed with the respective settlement institutions, and recognized periodically when accepted by the game developer.

For certain mobile games that we believe we act as the principal in the arrangements, we are considered the primary obligor and take fulfillment responsibilities of game operations, including determining distribution and promotion, providing customer services, setting up game and services specifications, and pricing of in-game virtual currencies and virtual items. We record such mobile game revenues on a gross basis. Commission fees paid to the third-party mobile platform and royalty fees paid to third party game developers are recorded as cost of revenues. We have determined that an implied obligation exists to the paying players over their estimated average playing life, and accordingly, recognizes the revenues ratably over the estimated average paying player life, i.e. from the time when the players’ accounts are first recharged with in-game virtual currency to when the players’ becoming inactive when all other revenue recognition criteria are met. The average paying player life is estimated based on the historical data of paying players’ behavior. While we believe the estimate to be reasonable based on available game player information, we may revise such estimates in the future as more game data become available and playing patterns of the paying players of the game change. Any adjustments arising from changes in the estimates of the average paying player life are applied prospectively on the basis that such changes are caused by new information indicating a change in game player behavior patterns.

Purchases of in-game currency are not refundable after they have been sold.

Internet security services and others

We market and distribute our off-the-shelf anti-virus security solutions to enterprise and individual users. The enterprise solutions are distributed through re-sellers. The individual solutions are directly sold to the individual end-users.

Upon the customers’ initial purchase of the enterprise solutions, the arrangements include multiple elements, generally comprising of software and post-contract customer services, or PCS. When vendor-specific objective evidence, or VSOE, of the fair value of the PCS exists, we allocate and defer revenues for the PCS

 

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based the fair value, and recognize the difference between the total arrangement fee and the amount deferred as software license revenues. When VSOE of the fair value of the PCS does not exist, the entire arrangement fee is recognized ratably over the PCS period. The arrangement fee of the PCS purchased on a stand-alone basis is recognized into revenues ratably over the PCS period.

The software, including unspecified upgrades, for the individual solutions are provided to users free of charge via downloads from our online platform at any time. We also provide the individual users the option to purchase additional value added services, which are non-essential to the functionality of the software, either concurrent with the download of software, or separately as a renewal. The value added services are provided over the period of time as determined and purchased by the respective users. The fees for value-added services are recognized into revenues ratably over the term of such services.

We occasionally engage in nonmonetary transactions to provide free internet security services to the major Chinese internet companies to promote a more secured internet environment in China. No revenues derived from these nonmonetary transactions were recognized.

Consolidation of VIEs

PRC law currently restricts foreign ownership of internet-based and mobile-based businesses and regulates internet access, distribution of online information, online advertising, distribution of operation of online games through strict business licensing requirements and other government regulations. We are a Cayman Islands company and to comply with these foreign ownership restrictions, we operate our website and conduct substantially the majority of our online advertising and the distribution and operation of internet value-added services and internet security services businesses in the PRC through the VIEs.

Beike Internet and Beijing Network hold the requisite ICP licenses required to operate our internet and mobile-based businesses in China. We have been and are expected to continue to be dependent on our VIEs to operate our business if PRC laws do not allow us to directly operate such business in China. Beijing Security and Conew Network, our wholly-owned subsidiaries, as the case may be, have entered into a series of contractual arrangements with the VIEs and their respect shareholders. Despite the lack of technical majority ownership, there exists a parent-subsidiary relationship between our wholly-owned subsidiaries and the VIEs through the irrevocable shareholder voting proxy agreements, whereby the shareholders of the VIEs effectively assign all of the voting rights underlying their equity interest in the VIEs to our wholly-owned subsidiaries. Furthermore, pursuant to the exclusive equity option agreements, which include a substantive kick-out right, our wholly-owned subsidiaries have the power to control the shareholders of the VIEs, and therefore, the power to govern the activities that most significantly impact the economic performance of the VIEs. In addition, through the contractual arrangements, our wholly-owned subsidiaries demonstrate their ability and intention to continue to exercise the ability to absorb substantially all of the expected losses and the majority of the profits of the VIEs, and therefore, have the rights to the economic benefits of the VIEs. As a result of these contractual arrangements, we consolidate the VIEs as required by ASC 810-10, Consolidation: Overall.

Goodwill

Goodwill represents the excess of the purchase price over the amounts assigned to the fair value of the assets acquired and the liabilities assumed of an acquired business. In accordance with ASC 350, Goodwill and Other Intangible Assets, recorded goodwill amounts are not amortized, but rather are tested for impairment annually or more frequently if there are indicators of impairment present.

We adopted Accounting Standards Update 2011-08, or ASU 2011-08, Testing Goodwill for Impairment, to test goodwill for impairment by performing a qualitative assessment before calculating the fair value of a reporting unit in step one of the goodwill impairment test. If we determine, on the basis of qualitative factors, that the fair value of a reporting unit is more likely than not less than the carrying amount, a two-step impairment test

 

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is required. Otherwise, further testing is not needed. We have an unconditional option to bypass the qualitative assessment in any period and proceed directly to performing the first step of the goodwill impairment test. We may resume performing the qualitative assessment in any subsequent period. Under the two-step impairment test, the first step of the impairment test involves comparing the fair value of the reporting unit with its carrying amount, including goodwill. Fair value is primarily determined by computing the future discounted cash flows expected to be generated by the reporting unit. If the reporting unit’s carrying value exceeds its fair value, goodwill may be impaired. If this occurs, we perform the second step of the goodwill impairment test to determine the amount of impairment loss.

The fair value of the reporting unit is allocated to its assets and liabilities in a manner similar to a purchase price allocation in order to determine the implied fair value of the reporting unit’s goodwill. If the implied goodwill fair value is less than its carrying value, the difference is recognized as an impairment loss.

If we reorganize its reporting structure in a manner that changes the composition of one or more of its reporting units, goodwill is reassigned based on the relative fair value of each of the affected reporting units. We have one reporting unit and use the discounted cash flow method to derive enterprise value as a basis of our impairment test.

Business Combinations

We account for its business combinations using the purchase method of accounting in accordance with ASC topic 805, or ASC 805: Business Combinations. The purchase method of accounting requires that the consideration transferred to be allocated to the assets, including separately identifiable assets and liabilities the Company acquired, based on their estimated fair values. The consideration transferred of an acquisition is measured as the aggregate of the fair values at the date of exchange of the assets given, liabilities incurred, and equity instruments issued as well as the contingent considerations and all contractual contingencies as of the acquisition date. The costs directly attributable to the acquisition are expensed as incurred. Identifiable assets, liabilities and contingent liabilities acquired or assumed are measured separately at their fair value as of the acquisition date, irrespective of the extent of any noncontrolling interests. The excess of (i) the total of cost of acquisition, fair value of the noncontrolling interests and acquisition date fair value of any previously held equity interest in the acquiree over (ii) the fair value of the identifiable net assets of the acquiree is recorded as goodwill. If the cost of acquisition is less than the fair value of the net assets of the subsidiary acquired, the difference is recognized directly in earnings.

The determination and allocation of fair values to the identifiable assets acquired and liabilities assumed is based on various assumptions and valuation methodologies requiring considerable judgment from management. The most significant variables in these valuations are discount rates, terminal values, the number of years on which to base the cash flow projections, as well as the assumptions and estimates used to determine the cash inflows and outflows. We determine discount rates to be used based on the risk inherent in the related activity’s current business model and industry comparisons. Terminal values are based on the expected life of assets, forecasted life cycle and forecasted cash flows over that period.

Impairment of Long-Lived Assets and Intangibles

We evaluate our long-lived assets or asset group, including intangible assets with finite lives, for impairment whenever events or changes in circumstances (such as a significant adverse change to market conditions that will impact the future use of the assets) indicate that the carrying amount of an asset or a group of long-lived assets may not be recoverable. When these events occur, we evaluate impairment by comparing the carrying amount of the assets to future undiscounted net cash flows expected to result from the use of the assets and their eventual disposition. If the sum of the expected undiscounted cash flow is less than the carrying amount of the assets, we would recognize an impairment loss based on the excess of the carrying amount of the asset group over its fair value.

 

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Share-based Compensation

In May 2011, we adopted the 2011 Plan, which was amended in September 2013. Our board of directors authorized the issuance of up to 100,000,000 ordinary shares under the 2011 Plan to our directors and employees. On May 26, 2011, pursuant to the 2011 Plan and a trust deed, we allotted to Core Pacific-Yamaichi International (H.K.) Nominees Limited, as trustee for the 2011 Plan, 100,000,000 ordinary shares on trust for the benefit of participants in the 2011 Plan.

In January 2014, we adopted the 2013 Plan. The 2013 Plan provides for the grant of ordinary shares, restricted shares, share options and share appreciation rights to the employees, directors or consultants of our company and its affiliates. The maximum aggregate number of shares which may be issued pursuant to all awards under the 2013 Plan is 64,497,718 ordinary shares.

Immediately prior to the completion of this offering, all restricted shares previously granted will be re-designated as Class B ordinary shares.

We account for share-based compensation following the provision of ASC 718, or ASC 718, Compensation —Stock Compensation, under which we determine whether an award should be classified and accounted for as a liability award or equity award. All grants of share-based awards to employees classified as equity awards are recognized in the consolidated financial statements based on their grant date fair values and the related cost is recognized over the period the employee is required to provide service in exchange for the award, which generally is the vesting period. All grants of share-based awards to employees classified as liability awards are recognized in the consolidated financial statements based on their grant date fair values and re-measured to fair value at the end of each reporting period. The liability recorded considers the fair value of the award and the number of awards that have vested to date. Re-measurement of the fair value of the liability awards is recorded as share-based compensation costs. We have no liability awards for the years ended December 31, 2012 and 2013 and issued restricted shares with redemption features to two employees that are considered tandem awards, having both equity and liability components, for the nine months ended September 30, 2013.

We have elected to recognize share-based compensation using the accelerated method, for all share-based awards granted with graded vesting based on service conditions. Forfeiture rates are estimated based on historical experience and future expectations of employee turnover rates and are periodically reviewed. If required vesting conditions are not met resulting in the forfeiture of the share-based awards, previously recognized compensation expense related to those awards are reversed. ASC 718 requires forfeitures to be estimated at the time of grant and revised, if necessary, in the subsequent period if actual forfeitures differ from initial estimates. To the extent we revise these estimates in the future, the share-based payments could be materially impacted in the period of revision, as well as in following periods. Share-based compensation expense is recorded net of estimated forfeitures such that expense is recorded only for those share-based awards that are expected to vest. We have determined the fair value of share-based awards with the assistance of an independent third party valuation firm.

 

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We have granted the following restricted shares to certain of our employees (including executive officers) and directors under the 2011 Plan:

 

Grant Date

   Number of Restricted
Shares
     Fair value of the Underlying Ordinary
Shares (US$)
 

June 1, 2011

     48,020,000         0.0474   

September 1, 2011

     400,000         0.1308   

January 1, 2012

     21,270,000         0.1750   

February 1, 2012

     80,000         0.1750   

March 1, 2012

     900,000         0.1772   

May 1, 2012

     190,000         0.1833   

June 1, 2012

     800,000         0.1833   

July 1, 2012

     3,000,000         0.1874   

September 1, 2012

     2,570,000         0.1935   

December 4, 2012

     40,000         0.3283   

December 21, 2012

     200,000         0.3283   

January 1, 2013

     2,100,000         0.3283   

March 1, 2013

     1,000,000         0.3698   

March 21, 2013

     25,000         0.3865   

April 1, 2013

     862,500         0.3865   

April 17, 2013

     2,750,000         0.3865   

June 1, 2013

     4,420,000         0.4077   

July 1, 2013

     950,000         0.4096   

September 1, 2013

     250,000         0.4483   

October 1, 2013

     2,670,000         0.4653   

November 1, 2013

     100,000         0.4653   

January 1, 2014

     4,150,000         0.6316   

March 21, 2014

     7,322,500         1.3560   

We have granted the following restricted shares with a purchase price of US$0.34 to certain of our employees (including executive officers) and directors under the 2013 Plan.

 

Grant Date

   Number of Restricted
Shares
     Fair value of the Underlying Ordinary
Shares (US$)
 

January 2, 2014

     14,300,000         0.6282   

March 21, 2014

     31,376,131         1.3560   

On April 8, 2014, we granted 580,000 restricted shares to certain employees under the 2011 Plan. On the same date, we granted 6,810,000 and 775,000 restricted shares with an option feature at a purchase price of US$0.34 per share to certain employees and non-employee consultants, respectively, under the 2013 Plan. As we are approaching the launch of this offering, we plan to use the mid-point of the estimated offering range indicated on the front cover of this prospectus as the fair value per share as of April 8, 2014.

For the grants on January 1, 2014 and January 2, 2014 under our 2011 Plan and 2013 Plan, the fair values of our ordinary shares at the grant dates were US$0.6316 per share and US$0.6282 per share, respectively, and the total estimated share-based compensation to be recognized over the vesting period of ranging from four to five years is approximately US$8.0 million. For the grant in March 2014 under our 2011 Plan and 2013 Plan, the fair value of our ordinary shares at the grant date was US$1.3560 per share and the total estimated share-based compensation to be recognized over the vesting period of five years is approximately US$44.2 million.

Fair Value of Our Ordinary Shares

In determining the estimated fair value of restricted shares granted to executive officers and certain employees, we have considered the guidance prescribed by the AICPA Audit and Accounting Practice Aid,

 

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Valuation of Privately-Held-Company Equity Securities Issued as Compensation, or the Practice Aid, which sets forth the preferred types of valuation that should be used. We have followed the ‘‘Level B’’ recommendation, and established the fair value of our ordinary shares at the dates of grant using a retrospective valuation with the assistance of an independent appraiser. We obtained a retrospective valuation instead of contemporaneous valuation because our financial and managerial resources were limited before 2014. We are ultimately responsible for all the fair value measurements in relation to the ordinary shares.

In determining the fair value of our ordinary shares, we followed a two-step process. In the first step, the equity value of our company was determined by taking into consideration the income approach, or the discounted cash flow method. Due to lack of consistencies in the guideline companies’ valuation ratios, we did not apply any weight for the market approach to arrive at the equity value of our company. Instead, the market approach is only used to corroborate the valuation results based on the income approach.

In estimating the total equity value of our ordinary shares, we considered the discounted cash flow, or DCF, method, which incorporates the projected cash flow of our management’s best estimation as of each measurement date. The projected cash flow estimation includes, among others, analysis of projected revenue growth, gross margins and terminal value. The assumptions used in deriving the fair value of ordinary shares are consistent with our business plan.

The key assumptions used in developing the cash flow forecasts include: (i) compounded annualized growth rates of revenue range from 12% to 50% over the forecasted period ; (ii) gross margin forecast to improve with increasing economies of scale; and (iii) a terminal growth rate after the projection period.

The DCF method of the income approach involves applying appropriate weighted average cost of capital, or WACC, to discount the future cash flows forecast to present value. WACC comprises a required rate of return on equity plus the current tax-effected rate of return on debt, weighted by the relative percentages of equity and debt in the capital structure of comparable public companies whose business operations are similar to that of ours. The required rates of return on equity were based on an estimation of the market required rate of return for investing in business similar to ours, which were derived by using the capital asset pricing model, or CAPM. Under CAPM, the discount rate was determined with consideration of the risk-free rate, industry-average correlated relative volatility coefficient beta, equity risk premium, size of our company, the scale of our business and our ability in achieving forecasted projections.

The risks associated with achieving the forecasts were assessed in selecting the appropriate WACC, which had been determined to range from 17.5% to 20.5%.

In estimating the fair value of our ordinary shares by the DCF method, our management does not think there would be disproportionate returns of cash flows to different shareholders. That is, we do not think the controlling shareholders would receive greater returns than the non-controlling shareholders through their control of business decisions or participation in the daily operations of the business. Therefore, neither control premium nor a lack of control discount was considered in our valuations.

We also applied a discount for lack of marketability, or DLOM, ranging from 40% to 11%, to reflect the fact that there is no ready market for shares in a closely-held company like us. When determining the DLOM, the Black-Scholes option pricing model was used. Under this option-pricing method, the cost of the put option, which can hedge the price change before the privately held shares can be sold, was considered as a basis to determine the discount for lack of marketability. This option pricing method was used because it takes into account certain company-specific factors, including the timing of the expected initial public offering and the volatility of the share price of the guideline companies engaged in the same industry.

 

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The above assumptions used in determining the fair values were consistent with our business plan and major milestones we achieved. We also applied general assumptions, including the following:

 

    there will be no major changes in the existing political, legal, fiscal and economic conditions in countries in which we will carry on our business;

 

    there will be no major changes in the current taxation law in countries in which we operates, that the rates of tax payable remain unchanged and that all applicable laws and regulations will be complied with;

 

    exchange rates and interest rates will not differ materially from those presently prevailing;

 

    the availability of financing will not be a constraint on the future growth of our operation;

 

    we will retain and have competent management, key personnel, and technical staff to support our ongoing operation; and

 

    industry trends and market conditions for related industries will not deviate significantly from economic forecasts.

In the second step, since our capital structure comprised convertible preferred shares and ordinary shares at each grant date, we allocated our equity value among each class of equity securities using the option-pricing method. The option-pricing method treats ordinary shares and preferred shares as call options on our company’s equity value and liquidation preference of the preferred shares.

The increase in the fair value of our ordinary shares from US$0.0474 per share as of June 1, 2011 to US$0.1308 per share as of September 1, 2011 was primarily attributable to the following factor:

 

    We completed series A financing through the issuance of preferred shares to certain investors, including an affiliate of Tencent, in July 2011. We believe the completion of this round of financing not only provided additional funding for our expansion, but also established our strategic relationship with Tencent. Therefore, we made upward adjustments to our long-term estimated revenues and earnings when preparing financial forecast for valuation as of September 1, 2011.

The increase in the fair value of our ordinary shares from US$0.1308 per share as of September 1, 2011 to US$0.1750 per share as of January 1, 2012 and February 1, 2012 was primarily attributable to the following factor:

 

    We reoriented our business model and our user base grew rapidly over the period. We expected that we would be able to monetize the expanded user base in 2012 and hence made upward adjustments to our forecasted revenues and earnings when preparing financial forecast for valuation as of January 1, 2012 and February 1, 2012.

The increase in the fair value of our ordinary shares from US$0.1750 per share as of February 1, 2012 to US$0.1935 per share as of September 1, 2012 was primarily attributable to organic growth of our business.

The increase in the fair value of our ordinary shares from US$0.1935 per share as of September 1, 2012 to US$0.3283 as of December 4, 2012 and US$0.3698 as of March 1, 2013 was primarily attributable to the following factor:

 

    During this period, we experienced significant improvement in profitability and started generating profit. Our revenues increased by 106% from 2011 to 2012. Therefore, we made upward adjustments to our forecasted revenues and earnings when preparing financial forecast for valuation as of December 4, 2012 and March 1, 2013.

 

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The increase in the fair value of our ordinary shares from US$0.3698 per share as of March 1, 2013 to US$0.4096 as of July 1, 2013 was primarily attributable to the following factor:

 

    We completed series B financing in June 2013 and raised additional funds from certain investors including Tencent. The financing not only strengthened our financial status and resources, but also indicated an increase in investors’ confidence in our business prospect. In addition, DLOM decreased from 30% as of January 1, 2013 to 20% as of July 1, 2013 to reflect the increase in liquidity of our shares.

The increase in the fair value of our ordinary shares from US$0.4096 as of July 1, 2013 to US$0.4653 as of October 1, 2013 and November 1, 2013 was primarily attributable to the following factor:

 

    We started the preparation of this filing in the fourth quarter of 2013. As we progressed toward the initial public offering, the liquidity of our shares increased and the discount for lack of marketability decreased from 20% as of July 1, 2013 to 16% as of November 1, 2013.

The increase in the fair value of our ordinary shares from US$0.4653 as of November 1, 2013 to US$0.6316 as of January 1, 2014 was primarily attributable to the following factor:

 

    Our actual revenue for the full year exceeded our previous estimate. In view of the above, we revised our financial forecast upward for valuation as of January 1, 2014.

The decrease in fair value of our ordinary shares from US$0.6316 as of January 1, 2014 to US$0.6282 as of January 2, 2014 was attributable to the potential dilution effect from purchase of 14,300,000 outstanding in-the-money restricted shares granted under our 2013 plan, by increasing equity value based on pro-forma proceeds as if those restricted shares were purchased and increasing number of common shares for allocation purpose.

The increase in the fair value of our ordinary shares from US$0.6282 as of January 2, 2014 to US$1.3560 as of March 21, 2014 was primarily attributable to the following factors:

 

    We experienced rapid growth and our actual performance exceeded our previous estimate. Monthly active users of our mobile applications increased significantly in the first quarter of 2014. We believe the increase in mobile internet service users will contribute to our revenue growth in the future.

 

    During this period, Internet companies listed in the U.S. market continued to be robust and many companies had their record high stock trading prices in recent years.

 

    With consideration of the above, we adjusted our financial forecast upward for valuation as of March 21, 2014.

 

    Our discount rate decreased from 20.5% as of January 2, 2014 to 19.5% as of March 21, 2014 as a result of the increase in the size of our business and the decrease in small size risk premium, which is a component of our estimated cost of capital.

 

    We made our confidential submissions of the draft registration statement with respect to this offering to the Securities and Exchange Commission in the first quarter of 2014, and hence the probability of a successful offering increased, resulting in a decrease of the discount for lack of marketability from 16% as of January 2, 2014 to 11% as of March 21, 2014.

In determining the fair value of restricted shares with an option feature granted on January 2, March 21 and April 8, 2014, we use the binomial tree model for an option pricing applied. As the grantees were required to pay purchase price for their restricted shares, the restricted shares are treated as an option for the purpose of determining the fair value of such restricted shares. The key assumptions used to determine the fair value of the restricted shares with the option feature at the relevant grant dates in 2014 were as follows. Changes in these assumptions could significantly affect the fair value of the restricted shares and hence the amount of share-based compensation expense we recognize in our consolidated financial statements.

 

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The following table presents the assumptions used to estimate the fair values of the restricted shares with the option feature granted in the periods presented:

 

     2014  

Risk-free interest rates(1)

     2.78%~3.07

Expected volatility range(2)

     55

Contractual term (years)

     10   

Expected dividend yield(3)

     0

Expected exercise multiple(4)

     2.8   

 

(1) The risk-free interest rate for periods within the contractual life of the restricted shares with the option feature is based on the U.S. Treasury yield curve in effect at the time of grant for a term consistent with the expected term of the awards.
(2) Expected volatility is estimated based on the historical volatility ordinary shares of several comparable companies in the same industry.
(3) The dividend yield was estimated based on our expected dividend policy over the expected term of the restricted shares with the option feature.
(4) The expected exercise multiple was based on research study regarding exercise pattern and historical statistic data.

If factors change and we employ different assumptions for estimating share-based compensation expenses in future periods or if we decide to use a different valuation model, our share-based compensation expenses in future periods may differ significantly from what we have recorded in prior periods and could materially affect our operating income, net income and net income per share.

As a private company with no quoted market in our ordinary shares, we need to estimate the fair value of our ordinary shares at the relevant grant dates for employee restricted shares and at each reporting date for non-employee options. The determination of the fair value of our ordinary shares requires complex and subjective judgments to be made regarding our projected financial and operating results, our unique business risks, the liquidity of our shares and our operating history and prospects at the time of each grant.

Recently Issued Accounting Pronouncements

In March 2013, the Financial Accounting Standards Board issued ASU No. 2013-05, Parent’s Accounting for the Cumulative Translation Adjustment upon Derecognition of Certain Subsidiaries or Groups of Assets within a Foreign Entity or of an Investment in a Foreign Entity, which specifies that a cumulative translation adjustment, or CTA, should be released into earnings when an entity ceases to have a controlling financial interest in a subsidiary or group of assets within a consolidated foreign entity and the sale or transfer results in the complete or substantially complete liquidation of the foreign entity. For sales of an equity method investment that is a foreign entity, a pro rata portion of CTA attributable to the investment would be recognized in earnings when the investment is sold. When an entity sells either a part or all of its investment in a consolidated foreign entity, CTA would be recognized in earnings only if the sale results in the parent no longer having a controlling financial interest in the foreign entity. In addition, CTA should be recognized in earnings in a business combination achieved in stages. For public entities, ASU 2013-05 is effective for reporting periods beginning after December 15, 2013, with early adoption permitted. We have adopted ASU 2013-05 on January 1, 2014 and do not expect the adoption to have a material impact on its consolidated financial statements.

In July 2013, the FASB issued ASU No. 2013-11, Income Taxes (Topic 740), or ASU 2013-11, to provide guidance on the financial statement presentation of an unrecognized tax benefit when a net operating loss carry forward, similar tax loss, or tax credit carry forward exists. This ASU requires an unrecognized tax benefit, or a portion of an unrecognized tax benefit, to be presented in the financial statements as a reduction to a deferred tax asset for a net operating loss carry forward, a similar tax loss, or a tax credit carry forward, with certain exceptions. The modifications to ASC Topic 740 resulting from the issuance of ASU 2013-11 are effective for fiscal years beginning after December 15, 2013 and interim periods within those years. Early adoption is permitted. We have adopted ASU 2013-11 on January 1, 2011. Starting January 1, 2011, we have presented an unrecognized tax benefit or a portion of an unrecognized tax benefit as deduction of deferred tax assets if applicable.

 

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INDUSTRY

Global Mobile Internet Industry

Overview

The global mobile internet industry is developing rapidly with the continuous enhancement of infrastructure, and the increasing use of smartphones and other mobile devices which have become more affordable. According to IDC, global mobile internet users totaled approximately 1.0 billion in 2012, representing a 36.5% increase over the user base in 2009, and are expected to reach approximately 2.3 billion in 2017, representing a five-year CAGR of 15.8%. Mobile devices now drive over 20% of global internet traffic with the proportion continuing to grow, according to StatCounter.

Smartphone Penetration

The increase in smartphone penetration is driving global mobile internet growth. According to IDC, global smartphone shipments are expected to increase from approximately 725.3 million units in 2012 to 1.7 billion units by 2017, representing a five-year CAGR of 18.4%, with the market share of smartphone increasing from approximately 41.7% to 74.7% over the same period. The emergence of high-performance, affordable Android-based smartphones is a key catalyst in driving smartphone adoption. Some successful regional smartphone brands, such as Xiaomi and Lenovo in China and Micromax in India, are gaining market share with phones typically priced in the range of US$150-300, representing significant cost benefits to users as compared to iPhone.

Android Operating System

As a result, the Android operating system has become the world’s most commonly used operating system for smartphones. According to IDC, Android-based smartphones are expected to have approximately 78.6% market share of global smartphone shipments in 2013, compared with 15.2% market share for iOS-based smartphones and other mobile devices, and are well positioned to maintain a strong leadership position for the foreseeable future.

Despite its market leading position, the Android operating system faces various challenges including more security breaches and the lack of effective computing power and storage management solution, as Android is an open-source operating system that does not have as stringent requirements for apps developed by third parties. There are certain apps designed specifically to address these challenges and to make the Android operating system work more efficiently, which are often referred to as “mission critical apps.”

Beneficiary of Mobile Internet Growth

Established global internet companies are likely to benefit from this wave of strong mobile internet growth. Compared with pure-play mobile internet companies, established internet companies enjoy multiple competitive advantages in establishing and growing their mobile internet presence, including widely recognized brand names, large and loyal user base, robust technology infrastructure, as well as strong connections with other business partners, especially those internet companies that are also aggressively expanding into mobile internet. Therefore, established global internet companies are well positioned to offer their products services on both internet and mobile internet platforms to serve their large and loyal user base.

Mobile Apps Distribution

Mobile apps are distributed through various means, including app stores, super apps and mobile browsers.

App Stores

According to App Annie, there were more than 1.1 million apps available on Google Play worldwide, and 1.0 million apps available in the Apple App Store as of December 31, 2013 with cumulative downloads reaching

 

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over 50 billion in 2013. This massive amount of mobile apps offer a rich user experience while, at the same time, creating a challenge for efficient application discovery and distribution within app stores, which focuses on a small number of top-rated applications. The distribution of apps customized for individual users is generally less developed. As a result, it is challenging for users to discover new apps and for developers to distribute their new apps.

In some countries, the app store market is highly fragmented. In China, for example, as Google Play does not have a local content publishing license, the Android app store market includes several local players, such as Tencent, 91wireless, 360 Mobile Assistant, and Wandoujia.

Super Apps

The lack of application discovery capability calls for an industry wide solution, and gradually alternative application discovery and distribution channels emerge and become popular, such as recommendation engines of super apps and mobile browsers.

Three of the key categories for Google Play app downloads in 2013 were social, communication, and tools. Collectively, they accounted for 19% of Google Play downloads including games in 2013, according to App Annie. Furthermore, there are only eight non-game applications with over 50 million cumulative downloads on Google Play worldwide in the second half of 2013, including Facebook, WhatsApp and Clean Master. Such applications are commonly referred to as “super apps.”

Top 10 Apps by Monthly Downloads Excluding Games (Google Play March 2014)

 

Rank

 

Application

 

Publisher

 

Headquarters

 

Category

1

  Facebook   Facebook   United States   Social

2

  WhatsApp Messenger   Facebook   United States   Communication

3

  Facebook Messenger   Facebook   United States   Communication

4

  Clean Master   Kingsoft Internet Software*   China   Tools

5

  Instagram   Facebook   United States   Social

6

  Skype   Microsoft   United States   Communication

7

  Viber  

Rakuten

 

Japan

  Communication

8

  LINE   LINE   Japan   Communication

9

  CM Security   Kingsoft Internet Software*   China   Tools

10

  Twitter   Twitter   United States   Social

 

Source: App Annie

Note: Similar versions of the same app with different names (e.g., Skype for iPhone and Skype for iPad) are unified and ranked as a single app. Applications are reported under their parent companies as of March 31, 2014.
* Our company underwent a corporate name change from Kingsoft Internet Software Holdings Limited to Cheetah Mobile Inc. on March 25, 2014.

Super apps are ideal channels for application distribution because they have a combination of critical factors that enable an application to identify its potential audience in a targeted way:

 

    Most super apps have a massive and engaged user base and, as a result, can provide effective reach to a vast audience.

 

    Tools apps, in particular, have a high retention rate and user engagement, such as high frequency of user interactions, which result in deep user insights through data analytics.

 

    Such insights, together with proprietary commercial product solutions, enable targeted advertising, application recommendation and distribution capabilities.

Some super apps have incorporated in-app promotion and achieved significant success. For example, LINE, a communication application in Japan, has built its own game center and become a major mobile game distribution channel in Japan. Application developers are increasingly using super apps as a key promotion channel.

 

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Mobile Browser

In addition to app stores and super apps, mobile browsers are also gradually evolving into an application delivery platform. The development of HTML5 technology, combined with the emergence of in-app search and light-app technology, make the browser uniquely suited to the distribution of long-tail apps.

Mobile Apps Monetization

There are three proven mobile apps monetization, including advertising, value-added service (mostly mobile games) and paid download.

Mobile Advertising

The global advertising industry continues to experience a macro shift in advertising spending from offline channels, such as print, television and radio, to online channels, with mobile representing an increasing share of the online advertising spending. The growth in mobile advertising has been fueled by several factors, namely (i) the increasing amount of time users spend on mobile devices, (ii) strong targeting characteristics, allowing advertisers to glean meaningful aggregated information about mobile users, and (iii) real-time interaction with users, such as users providing timely ratings to products and services through their mobile devices.

According to IDC, the mobile advertising market is expected to surge from $10.0 billion in 2012 to $52.2 billion in 2017, representing a five-year CAGR of 39.2%. Over the same period, IDC expects other forms of advertising, such as online search, online advertising and online video advertising, to grow by 6.5%, 7.8% and 21.5% respectively.

Mobile advertising spending has been primarily driven by developed markets such as North America, Western Europe and Japan. In 2012, North America had the highest mobile advertising spending, at $4.7 billion, and is expected to remain the top advertising market with US$27.0 billion spending in 2017, representing a five-year CAGR of 41.9%, according to IDC. Western Europe, Japan, and the rest of the world’s mobile advertising spending is expected to grow from US$1.1 billion, US$1.8 billion and US$2.4 billion in 2012 to US$10.0 billion, US$3.6 billion and US$11.6 billion in 2017.

Mobile Games

Mobile games represent a disruptive opportunity as compared with console and PC games as they have a larger addressable audience and can be played anytime anywhere. Most mobile games monetize through in-game purchase of virtual items. According to IDC, the revenue generated from mobile digital game downloads globally is expected to grow from $6.3 billion in 2012 to $14.5 billion in 2017, representing a five-year CAGR of 18.3%.

Paid Download

Payment for downloading an application is a traditional form of monetization for mobile applications. However, paid applications are facing competition from free apps. According to App Annie, paid applications are estimated to constitute approximately 3.3% of total application downloads including games through 2013.

Internet and Mobile Internet Market in China

Overview

The number of internet users in China is expected to continue to grow in the foreseeable future. According to the China Internet Network Information Center, or CNNIC, a not-for-profit organization, the number of internet users in China reached 618 million as of December 31, 2013, making China the largest internet market in the world based on the number of users. According to iResearch, the number of internet users in China is expected to increase to approximately 850 million in 2017.

The mobile internet population in China has grown substantially due to the rapid development of mobile internet, technological and network enhancement and increasing affordability of a variety of smartphones,

 

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including successful regional smartphone brands, such as Xiaomi and Lenovo, promotions by mobile carriers and improving quality and variety of mobile content. On December 4, 2013, China’s Ministry of Industry and Information Technology started to issue 4G licenses and mobile carriers are expected to quickly build out 4G base stations across China. The continued rollout of 3G and 4G networks and related mobile infrastructure as well as the increasing smartphone penetration is expected to drive rapid growth of mobile internet users in China. According to CNNIC, the number of mobile internet users in China reached 500 million as of December 31, 2013. According to iResearch, it is expected to increase to 745 million in 2017, representing a four-year CAGR of 10.5%.

Mission Critical Applications for Security and Performance Optimization

With more content consumption, social interaction and transactions moving from offline to online, the concern regarding the level of trust they should place in their online engagements increases. Internet-based threats have evolved from virus software to malware, phishing sites and personal data leakage. The insufficiency of traditional anti-virus application packages in the face of these new threats has led to demand for a solution that can not only protect against viruses, but can also protect user privacy and optimize system performance.

As a result, the internet security and system optimization market in China has grown significantly over the past five years, reaching 498 million users, or 81% of the online population in December 2013. The number of users of mobile internet security products reached 148 million users with a 30% penetration rate in December 2013, according to iResearch. The top five mobile security products covered approximately 91% of total users in 2013, according to iResearch, namely 360 Mobile Safe, Tencent Mobile Manager, LBE Safety Master, KIS Mobile Defender and SECUREit.

Monetization Models

There are three proven monetization models in China’s internet and mobile market, namely online advertising, online games and e-commerce. According to iResearch:

Online Advertising

From 2012 to 2017, the Chinese online advertising market is projected to increase from RMB75.3 billion to RMB282.5 billion, representing a five year CAGR of 30.3%. The online advertising market primarily includes search marketing, advertising, video advertising and others. Search marketing is the main form of online advertising. From 2012 to 2017, the internet search market in China is projected to increase from RMB28.1 billion to RMB96.3 billion, representing a five year CAGR of 28.0 %.

Online Games

From 2012 to 2017, the online game market in China is projected to increase from RMB67.1 billion to RMB224.6 billion, representing a five-year CAGR of 27.3%. Online games are comprised of three main types: PC-based client-end games, web games and mobile games, with web games and mobile games expected to outgrow the overall online game market. The web game market is expected to increase from RMB9.8 billion in 2012 to RMB40.6 billion in 2017, representing a CAGR of 32.9%, and the mobile game market is expected to increase from RMB8.8 billion to RMB70.6 billion during the same period, representing a CAGR of 51.7%.

E-Commerce

From 2012 to 2017, the broad e-commerce market in China, including B2B, online shopping, online travel and offline-to-online social commerce, is projected to increase from RMB8.2 trillion to RMB21.6 trillion, representing a five-year CAGR of 21.3%. The growth in e-commerce is primarily driven by the continued growth of China’s internet and mobile internet market, the migration of commerce from offline to online, and the substantial improvement and continuing development of the e-commerce infrastructure including payment and logistics systems.

 

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BUSINESS

Overview

Our mission is to make the internet and mobile experience speedier, simpler and safer for users worldwide. To achieve this mission, we have developed a platform that offers mission critical applications for our users and global content distribution channels for our business partners, both of which are powered by our proprietary cloud-based data analytics engines.

For our users, our diversified suite of mission critical applications optimizes internet and mobile system performance and provides real time protection against known and unknown security threats. We had 340.7 million monthly active users for all of our applications in February 2014. Our mobile applications attracted 222.5 million monthly active users in March 2014. Our applications have been installed on 502.1 million mobile devices as of March 31, 2014.

Set forth below is a brief description of our core applications for users.

 

    Clean Master, which is a junk file cleaning, memory boosting and privacy protection application, had 237.3 million installations as of March 31, 2014, and 139.9 million monthly active users and 72.9 million average daily active users in March 2014. According to App Annie, Clean Master was the No.1 application in the Tools category on Google Play by worldwide monthly downloads in March 2014. It was also the No. 3 mobile utility application in China in terms of monthly active users in February 2014, according to iResearch.

 

    CM Security, which is an anti-virus and security application for mobile devices on the Android platform, had 25.6 million installations as of March 31, 2014, and 23.0 million monthly active users and 11.5 million daily active users in March 2014. According to App Annie, CM Security was the No. 2 application in the Tools category on Google Play by worldwide monthly downloads in March 2014.

 

    Battery Doctor, which is a power optimization application, had 201.7 million installations as of March 31, 2014, and 58.6 million monthly active users and 26.2 million average daily active users in March 2014. It was the fifth most downloaded productivity application on Google Play in March 2014, according to App Annie. It was also the No. 1 mobile utility application in China in terms of monthly active users in February 2014, according to iResearch.

 

    Duba Anti-virus, which is an internet security application, had 124.1 million monthly active users and 48.4 million average daily active users in February 2014. We are the second largest provider of internet security applications in China in terms of monthly active users in February 2014, according to iUser Tracker of iResearch.

 

    Cheetah Browser, which is our safe internet browser launched in June 2012 for PCs and in June 2013 for mobile devices, had 46.3 million monthly active users and 15.6 million average daily active users in February 2014.

 

    Photo Grid, which is a popular photo collage application, had 62.7 million installations as of March 31, 2014, and 25.2 million monthly active users and 3.3 million average daily active users in March 2014. It ranked No. 1 in the Photography category on Google Play by monthly downloads in the United States in March 2014, according to App Annie.

For our business partners, our platform provides them multiple user traffic entry points and global content distribution channels capable of delivering targeted content to hundreds of millions of people. Our business partners share revenues with us and promote our products and services. We have benefited significantly from our cooperation with over 380 online marketing business partners in 2013, including the major Chinese internet companies Alibaba, Baidu and Tencent.

 

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Set forth below is a brief description of our core platform products for business partners.

 

    Duba.com personal start page, which aggregates popular online resources and provides users quick access to most of their online destinations, had 51.7 million monthly active users in February 2014, according to iResearch.

 

    Cheetah personalized recommendation engine, which recommends targeted content and services to our Cheetah Browser users, had 46.3 million monthly active users in February 2014.

 

    Game centers, through which we have published over 570 games as of March 31, 2014.

 

    Mobile app stores, which include our Mobile Assistant application stores in China and other in-app application stores, have offered approximately one million third party mobile applications as of March 31, 2014.

 

    Kingmobi mobile advertising network, which helps advertisers effectively reach their target audience through our mobile applications.

Our proprietary cloud-based data analytics engines are the core of our platform. For our users, the data analytics engines perform real time analysis of mobile applications, program files and websites on their devices for behavior that may impair system performance or impose security risks. For our business partners, the data analytics engines help create user interest graphs according to a number of dimensions such as online shopping, gaming and frequently used applications, thus facilitating targeted content delivery.

Although substantially all of our applications are free to our users, our massive user base has created ample monetization opportunities for us and our business partners. We generate revenues from our online marketing services by referring traffic from our platform to e-commerce companies and search engine providers and by selling advertisements. We generated 73.8% and 81.7% of our revenues from online marketing services in 2012 and 2013, respectively. We also generate revenues by providing internet value-added services, or IVAS, currently mainly from online games.

We have achieved significant growth in recent years. Our revenues increased from RMB140.1 million in 2011 to RMB287.9 million in 2012, representing a 105.6% growth, and to RMB749.9 million (US$123.9 million) in 2013, representing a 160.5% growth. Our net income was RMB62.0 million (US$10.2 million) in 2013, a 530.0% increase over our net income of RMB9.8 million in 2012, compared to a loss of RMB30.2 million in 2011.

Our Strengths

We believe the following competitive strengths have contributed to our growth and created significant barriers to entry for our competitors.

Massive, Highly Engaged and Fast-growing Global User Base

We have amassed a massive, highly engaged and fast-growing global user base for our diversified suite of mission critical applications. Our applications attracted 340.7 million monthly active users in February 2014. The following chart shows monthly active users for all of our applications in each of the months indicated.

 

LOGO

 

Sources: Internal records for mobile applications and iResearch for PC based applications.

 

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We believe mobile is a large opportunity and more users will transition from PCs to mobile devices for internet access and usage and we have invested significantly in research and development for mobile users. According to App Annie, Clean Master, one of our core applications, was the No.1 application in the Tools category on Google Play by worldwide monthly downloads in March 2014. Our mobile user base has grown rapidly since we launched our first mobile application, Battery Doctor, in July 2011. Our mobile applications attracted 222.5 million monthly active users in March 2014. The following chart shows monthly active users for our mobile applications in each of the months indicated.

 

LOGO

 

Source: Internal records

In March 2014, approximately 37% of our mobile monthly active users were from China, while the remainder were from overseas markets. Approximately 8%, 25%, 16% and 14%, respectively, of our monthly active users for mobile applications were from the United States, Asia (excluding China), Europe and other overseas markets in March 2014. Substantially all of our overseas users are users of our mobile applications. To serve our global user base, our applications are available in multiple languages, with Clean Master being available in 32 languages.

Diversified suite of mission critical applications for users

A strength of our platform is our diversified suite of mission critical applications that optimize mobile system and internet performance and provide real time protection against known and unknown security threats. These free applications have been developed from the ground up based on users’ fundamental needs and further fine-tuned based on feedback from millions of users. They have become an important part of our users’ digital lives and have a high level of “stickiness,” as users frequently use them to perform a broad range of essential tasks. As a result, our applications, including the following, have quickly gained popularity among users worldwide.

 

    Clean Master, a junk file cleaning, memory boosting and privacy protection application we launched in September 2012 for mobile devices, removes junk files on mobile devices that cause degraded system performance and frees up storage to install new applications.

 

    CM Security, an anti-virus and security application for mobile devices we launched on the Android platform in January 2014, scans the applications and file system on mobile devices to protect from viruses, Trojans, system vulnerabilities, adware and spyware, and provides call blocking and safe browsing features.

 

    Battery Doctor, a power optimization application we launched in July 2011 for mobile devices, significantly extends battery life by intelligently managing the power consumption of all installed applications.

 

   

Duba Anti-virus, an internet security application for individual users, provides anti-virus, anti-phishing and secure online shopping functions and protects our users against known and unknown security threats. Duba Anti-virus was launched for PCs by Kingsoft Corporation in November 2000, and we later launched its cloud-based version and Android-based application in August 2011 and August 2012, respectively. In a March 2014 test performed by the AV-TEST Institute, an independent IT security

 

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testing facility, we achieved 100% detection rate against a representative set of malicious applications discovered in the previous four weeks period, compared with an industry average of 95.3% out of the 31 mobile security products for the Android system tested.

 

    Cheetah Browser, a safe internet browser launched in June 2012 for PCs and in June 2013 for mobile devices, seamlessly integrates our Duba Anti-virus’ security features and provides highly secure internet browsing experience.

 

    Photo Grid, a popular photo collage mobile application we acquired in May 2013, allows users to quickly create professional looking collages of photos through intuitive interface.

Continuous R&D and innovation focused on optimizing user experience

We are proud of our user-centric culture, which drives our R&D and innovation. From our line engineers to our chief executive officer, everyone involved in our interactive product development process focuses on developing and enhancing products and services to anticipate, meet and exceed our users’ expectations. Through various channels such as pre-release trial events among our fans in various countries, feedback from closed beta testing, and user comments and ratings on application distribution platforms, our massive global user base provides us with an invaluable source of information regarding our products and services and the evolution of the mobile industry.

Feedback regarding our Clean Master mobile application is an example of our interaction with our large, active user community. Approximately 7.8 million users have provided ratings of Clean Master and approximately 1.9 million users have provided ratings of CM Security as of March 31, 2014, voicing their support as well as proposing new ideas on product features. Our four million followers on Weixin, the largest mobile social platform in China, are also a source of insightful comments and suggestions. We listen to our users and make relentless efforts to improve our products in response to users’ feedback. As a result, we often release new versions in a matter of days.

Our users appreciate our focus on their needs. Clean Master and CM Security each rated 4.7 out of 5 stars on Google Play as of March 31, 2014. Battery Doctor was rated 4.5 out of 5 stars on Google Play as of the same day, also a testament to our high user satisfaction level.

Cloud-based data analytics engines enhancing platform performance

Our proprietary cloud-based data analytics engines enhance the performance of our platform for both our users and business partners. For our users, our data analytics engines enable applications installed on users’ end devices to utilize the most up-to-date security threat library and application behavior library in the cloud to optimize system performance and protect against security threats.

 

    In addition to our security threat library that includes large number of blacklisted and whitelisted program files and websites, we have developed a mobile application behavior library that includes approximately 4.0 million mobile applications as of March 31, 2014. We are able to identify application behavior or security threats on our users’ end devices through these cloud-based libraries in fractions of a second.

 

    Using a heuristic, or experience-based, approach executed by our cloud-based analytics engines, we are able to learn from large number of known samples and automatically identify abnormal behavior of unknown applications or security threats on our users’ end devices with minimal false rate.

For our business partners, our data analytics engines enable us to distribute targeted advertising or games to our users’ devices. We have developed a Face Mark system that maps our users’ interests according to a number of dimensions such as online shopping, online games and frequently used applications. We can help our business partners promote their brands, products and services to relevant audiences across “multi-screens,” regardless what devices or operating systems their audience may use, as long as they run our applications.

 

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Proven monetization model driven by platform products and extensive network of business partners

We have a proven monetization model. Our platform products, such as our duba.com personal start page, Cheetah browser and Mobile Assistant application stores enable our more than 380 online marketing business partners to offer their products and services on our platform and to reach our massive user base. We generated 73.8% and 81.7% of our revenues from online marketing services in 2012 and 2013, respectively. We generate revenues from our online marketing services by referring traffic from our platform to e-commerce companies and search engine providers and by selling advertisements. Our Kingmobi mobile advertising network helps advertisers effectively reach their audience through our mobile applications in a targeted and precise manner. In addition, as an important game publisher in China, we have published more than 570 games through our game centers as of March 31, 2014.

With our platform products, we are an integral part of a thriving business ecosystem. We believe our users have made our duba.com personal start page one of the top sources of third party search traffic to Baidu and Sogou (through the Soso search engine, which was owned by Tencent prior to its merger into Sogou in September 2013), and major e-commerce companies such as Alibaba. These business partners share revenues with us and promote our products and services on their platforms. We also supply our blacklisted and whitelisted website address libraries to Baidu and Tencent to help them filter out malicious websites from their search results. As a result, our growth has benefited significantly from the cooperation with our business partners.

Experienced management team with strategic vision and a proven execution track record

Our management team has a proven track record of transforming mission critical utility functions into widely popular free applications, amassing a large number of users onto a global distribution platform and achieving significant financial success. Each of the members of our core management team has more than ten years of experience in the development and marketing of internet utility applications.

By leveraging our management’s deep understanding of forces shaping the mobile internet landscape, we have identified and successfully pursued opportunities to acquire and integrate promising early stage businesses with technology, products and teams that advance our strategic vision. For example, in April 2013, we acquired Antutu, a mobile system performance benchmarking application. It has helped us understand the configuration and performance of almost all existing or newly released Android smartphones on the market, which gives us a significant advantage in the development of other mission critical applications on our platform. In May 2013, we acquired Photo Grid, a photo collage application, which has complemented our other products and services and expanded our presence in the U.S. market as its user base grew rapidly in the U.S. after the acquisition.

Our Strategies

We aim to make the internet and mobile experience speedier, simpler and safer for users worldwide. To achieve this mission, we intend to:

Further grow our mobile user base

Mobile is a tremendous opportunity, and we are developing a large, active and loyal mobile user base essential to our continued growth and success. We intend to further grow our mobile user base by increasing our marketing efforts and continuing to refine and enhance our products and services.

 

    Increase our marketing efforts. We intend to increase our marketing efforts primarily by promoting our brand through social media and online marketing. We have been particularly active in social media, with our Facebook page generating over 2.4 million “likes” and our Weixin account having over four million followers as of March 31, 2014. In addition, we have created a series of online videos promoting our products and these videos have been viewed approximately 26.0 million times as of March 31, 2014. We will continue these marketing efforts to enhance brand recognition of our company as a global mobile internet platform company and broaden awareness of our mobile products.

 

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    Continue to refine and enhance our products and services. We intend to continue investing in R&D and taking advantage of our proven interactive product development process to refine and optimize our products and services. For our user applications, we plan to add more features and functions to our mission critical applications to improve their utility and enhance user engagement. For our platform products for business partners, we will enhance our Face Mark system and cross delivery capability in an effort to more precisely distribute relevant advertising or games to our users’ devices. We plan to continue to enhance the capability of our cloud-based data analytics engines to better serve our mission critical applications for users and platform products for business partners.

Deepen our global penetration

We intend to deepen our global penetration, especially in our key markets such as the United States, Japan and Europe, to grow our user base, expand our product and service offerings and strengthen our brand recognition.

We plan to establish local operations and acquire talent in our key markets to tailor our products and services to local preferences and interests and to conduct business development and sales and marketing activities. For example, we are in the process of expanding our Silicon Valley operations to accelerate our business development in the United States. In addition, we plan to enter into arrangements with local distributors to promote our products and services in other major global markets.

To execute our global strategy, we also intend to develop strategic relations with leading global technology and internet companies as well as leading local players to replicate our successful cooperation with business partners in China. In addition, we plan to explore collaboration opportunities with smartphone makers, especially those covering the overseas markets, to pre-install our applications on their phones to grow our global user base.

Enhance monetization capabilities

We plan to leverage our massive user base to enhance our monetization capabilities. We plan to develop additional forms of advertising on our mobile applications to increase our advertising inventory and effectiveness in reaching the targeted audience. We will plan to utilize our Kingmobi mobile advertising network to better manage our advertising inventory and broaden our global distribution capabilities.

We also intend to further grow our game publishing capabilities, featuring more popular games developed by our creative game developer partners. By capitalizing on the distribution capability of our platform, we intend to become a global game publishing platform, especially for games developed by Chinese developers, to reach our vast global user base. We plan to explore additional monetization opportunities by launching new value added services for our users and business partners.

Pursue strategic investment and acquisition opportunities

We have made a series of successful synergistic investments and acquisitions that have contributed to our rapid growth, including our acquisitions of Antutu and Photo Grid. We plan to leverage our deep understanding of the industry and our senior management’s strategic vision to selectively pursue new investment and acquisition opportunities and to integrate acquired businesses and teams into our business operations in the most efficient and effective manner. We believe successful investments and acquisitions can help us expand our user base and products and services, as well as enhance our monetization capabilities.

 

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Our Mission Critical Applications for Users

The table below sets forth some basic information of our core mission critical applications.

 

Name

 

Platforms / Date of Launch or
Acquisition

  Monthly Active
Users in
March 2014

(million)
    Average Daily
Active Users in
March 2014

(million)
    Google Play
Rating on
March 31,
2014
    Number of
languages
available as of
March 31, 2014
 

Clean Master

 

Android / September 2012(L)

iOS / January 2014(L)

    139.9        72.9        4.7        32   

CM Security

 

Android/January 2014(L)

    23.0        11.5        4.7        25   

Battery Doctor

 

iOS / July 2011(L)

Android / September 2011(L)

    58.6        26.2        4.5        27   

Duba Anti-virus

 

Windows / November 2000(L)

Android /August 2012(L)

    124.1 (F)      48.4 (F)      4.4        1   

Cheetah Browser

 

Windows / June 2012(L)

Android / June 2013(L)

iOS / June 2013(L)

    46.3 (F)      15.6 (F)      N/A        2   

Photo Grid

 

Android / May 2013(A)

iOS / May 2013(A)

   
25.2
  
   
3.3
  
    4.5        27   

 

L: date of launch; A: date of acquisition; F: February 2014 data.

 

Clean Master

  
LOGO   

Clean Master is a powerful junk file cleaning, memory boosting and privacy protection tool we launched in September 2012 for mobile devices. Clean Master also features application management functions.

  

 

Junk file cleaning. Clean Master helps users identify and safely remove junk files at the touch of a button. Mobile applications create a large amount of junk files during normal operations, including those cached by the operating system and various applications and downloaded installation packages. These unnecessary files gradually clutter up valuable storage space on mobile devices, resulting in reduced performance and preventing users from installing new applications. Junk file cleaning is a pressing need for most mobile users.

  

The proliferation of new mobile applications has made junk file cleaning challenging. Each application, upon new release, creates its own unique type of junk files and the risk is high that an application may not function if the junk file associated with the application is not removed properly.

  

Clean Master solves this problem by utilizing our cloud-based application behavior library to identify junk files associated with the applications installed on users’ end devices. Our application behavior library includes approximately 4.0 million mobile applications as of March 31, 2014. Our data analytics engine can also identify junk files generated by unknown applications, which allow Clean Master to effectively clean these junk files.

  

As our cloud-based data analytics engines continue to evolve, Clean Master becomes more precise in identifying and cleaning junk files.

 

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Memory Boosting. Clean Master’s memory boosting function allows one-touch termination of non-essential running processes and selective termination of other running processes, thereby freeing up CPU resources and memory usage and improving system response speed.

  

Privacy Protection. Clean Master’s privacy protection function provides for easy cleaning of SMS and MMS records, call logs, browsers search history, cookies and saved login information.

  

Application Management. Clean Master provides an easy-to-use interface and batch processing capability to back up and remove applications installed on a user’s mobile device without leaving residual files and data, which is more convenient and efficient than the application management functionality built into the Android operating systems.

  

Since its launch in September 2012, Clean Master rapidly gained popularity. Its worldwide ranking on Google Play by monthly downloads excluding games improved from No. 48 in March 2013 to No. 16 in June 2013, No. 8 in September 2013, No. 6 in December 2013 and finally to No. 4 in March 2014, according to App Annie.

 

CM Security

 

  
LOGO   

CM Security, which we launched in January 2014 on the Android platform, is an anti-virus and security application for mobile devices. It also features junk file cleanup and unwanted call blocking functions.

 

App and System Scan. CM Security provides a one-touch application and system scan capability to rapidly scan the installed applications and file system on users’ mobile devices to detect and protect users from viruses, Trojans, system vulnerabilities, adware and spyware. CM Security also automatically scans newly installed applications and updates to actively prevent threats to users’ mobile devices.

 

Call Blocking. CM Security includes call blocking functionality to automatically screen, block and log unwanted phone calls based on user-defined parameters.

 

Safe Browsing. CM Security also provides safe browsing functionality by integrating with our cloud security system to block counterfeit, phishing and other websites and webpages containing Trojans and viruses.

 

Powered by the dual-mode local and cloud-based application behavior library, which included approximately 4.0 million mobile applications as of March 31, 2014, and our security threats library, CM Security achieved a 100% detection rate in a March 2014 test performed by the AV-TEST Institute, an independent IT security testing facility. CM Security is also able to efficiently identify junk files and threats installed on users’ mobile devices. Our data analytics engines also enable CM Security to identify threats not previously indexed in our application behavior and security threats libraries.

 

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Battery Doctor

 

  

LOGO

  

Battery Doctor is a power optimization tool for mobile devices we launched in July 2011.

 

Longer Battery Life. Battery Doctor provides one-touch battery saving capability by analyzing the power usage of the applications and tasks running on users’ mobile devices and automatically tailoring the corresponding power saving settings. In addition, it creates custom power saving profiles and switches between them depending on the time of day and charge remaining in a device’s battery. These settings allow users to extend their battery life without noticeably impacting device performance.

 

System Dashboard. Battery Doctor provides a convenient graphical interface that allows users to better manage their mobile devices. For example, it can estimate the remaining battery time, giving users a more accurate indication of when they need to recharge. It also ranks power consumption of individual applications and lets users selectively terminate applications that drain battery. It provides on-off switches for background tasks such as WiFi, Bluetooth, GPS and data services to avoid unnecessary battery consumption.

 

Battery Doctor optimizes battery usage by utilizing our cloud-based application behavior library that contains power consumption characteristics of approximately 4.0 million mobile applications as of March 31, 2014. Our data analytics engine can also identify power consumption characteristics of unknown applications, which allows Battery Doctor to effectively manage the power settings for these applications.

 

Duba Anti-virus

 

LOGO

  

Duba Anti-virus is an internet security application for both PC and mobile devices. The PC edition of Duba Anti-virus was initially introduced as a paid subscription service, which we changed to a free service in November 2010. We launched the mobile edition in August 2012. We are the second largest provider of internet security applications in China in terms of the number of monthly active users in February 2014, according to iUser Tracker of iResearch. It incorporates anti-virus, anti-malware, anti-phishing, malicious website blocking and secure online shopping in a single lightweight installation package and leverages the power of our cloud-based data analytics engines to protect our users against known and unknown security threats and malicious applications.

  

Anti-virus and anti-malware. Duba Anti-virus can perform periodic or on-demand scan of program files and processes present on our users’ devices and test them against our cloud-based whitelisted and blacklisted security threats library, which contains approximately 264.4 million sample program files as of March 31, 2014. Program files that match the blacklist will be removed or quarantined automatically by Duba Anti-virus.

 

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Program files that do not match any of the samples included in the cloud-based security threats library will be further analyzed using our cloud-based data analytics engines which can effectively identify unknown threats by employing a heuristic, or experience-based, approach to analyze the code and behavior of the unknown program files. By functioning as a sensor for our cloud-based data analytics engines, Duba Anti-virus can leverage the discovery of an unknown security threat on a single user’s device to protect the devices of our entire user community.

 

K+ defense. Duba Anti-virus includes a K+ defense system that integrates with our analytic engines and provides multi-layer comprehensive protection against a broad range of security threats to users’ computers.

 

•       System protection. The K+ defense system protects against malicious alteration of system configurations, prevents remote intrusion by hackers, blocks malicious websites, automatically scans downloaded files for malwares and protects web browsers from unauthorized alternation.

  

 

•       Online shopping protection. The K+ defense system blocks phishing and malicious shopping websites, prevents online shopping webpages from being altered or login information being intercepted by Trojan horses installed on users’ computers and provides security module plug-in to enhance browser security. Critical processes such as online payments can be conducted in a secure virtual environment free of interference by malware.

 

Vulnerability fixing. Duba Anti-virus provides a one-click solution to scan and fix vulnerabilities in computer configurations that could create an elevated risk level of system intrusions.

 

Duba Anti-virus Mobile Edition. Duba Anti-virus mobile edition can detect and uninstall malicious mobile applications from users’ mobile devices. In a March 2014 test performed by the AV-TEST Institute, an independent IT security testing facility, we achieved 100% detection rate against a representative set of malicious applications discovered in the previous four weeks period, compared with an industry average of 95.3% out of 31 mobile security products for the Android system.

 

Duba Anti-virus mobile edition can also identify and terminate abnormal battery draining applications, blocks harassing or spam calls and otherwise fix mobile system vulnerability. In addition, it can block harassing advertisements contained in many free mobile applications without impacting the normal operations of such applications.

 

Cheetah Browser

 

  

LOGO

  

Cheetah Browser is our high speed, safe web browser available for both PCs and mobile devices. We launched the PC edition in June 2012 and the mobile edition in June 2013. Cheetah Browser PC edition is a dual-core web browser, integrating the functionality of both the Chromium open-source rendering engine and the Internet Explorer rendering engine. The integrated Internet Explorer rendering engine provides maximum compatibility with pages across the internet, while the Chromium browser kernel operates at higher speeds. Cheetah’s intelligent core switching engine analyzes each web page visited and selects the fastest and most compatible rendering engine for that page.

 

 

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High Browsing Speed. Cheetah Browser’s implementation of the Chromium rendering engine contains a series of optimizations to boost its operating speed. For example, Cheetah Browser optimizes the webpage rendering process and performs parallel processing of multiple tasks, allowing it to load webpages more quickly.

 

Secure Browsing Experience. Cheetah Browser enables highly secure browsing experience through its browser intrusion prevention system that seamlessly integrates the cloud security and K+ defense system of our Duba Anti-virus.

 

•      The cloud security effectively prevents known and unknown virus and other malware from entering users’ computers and blocks counterfeit, phishing and other malicious websites and webpages containing Trojan horses and viruses.

 

•      The K+ defense system automatically comes into effect when users visit sensitive pages such as online payment webpages. It helps prevent users from losing sensitive login and financial information by creating a dedicated secured environment free of harmful viruses and Trojan horses and preventing payment webpages from being altered or redirected.

 

Photo Grid

 

  

LOGO

  

Photo Grid is an easy-to-use photo collage application for mobile devices that we acquired in May 2013. Photo Grid allows users to quickly create professional looking collages of photos through an intuitive interface. Photos can be selected from users’ phones or from Facebook, Instagram, Flickr, Dropbox, or Google+ and then edited and arranged according to a variety of pre-defined or self-designed layouts. Users can then apply photo enhancement tools such as filters, backgrounds, stickers and text labels, making the creation of beautiful collages a simple and enjoyable experience. Users can conveniently save and share their creations through social media such as Twitter, Facebook, Instagram or emails.

 

Antutu Benchmark

 

  

LOGO

  

Antutu Benchmark is a mobile hardware benchmarking application for Android devices that we acquired in April 2013. Antutu Benchmark performs CPU, GPU, RAM and I/O tests, providing an overall device performance score for Android devices. Android device users interested in knowing the performance of their own devices can run the benchmark test on their devices and compare the performance score and ranking against other devices. The statistics from the tests performed by all Antutu Benchmark users are available on antutu.com, which ranks Android devices based on their scores.

 

With numerous competing smartphone models available on the market each advertising its own advantages, Antutu Benchmark has become an important tool for purchasers of Android devices to understand the performance of different devices. Wide usage of Antutu Benchmark helps us understand the configuration and performances of these devices, which gives us a significant advantage in the development of our other mission critical applications.

Our Platform Products for Our Business Partners

Duba.com personal start page

A large number of users of our mission critical applications become loyal users of our duba.com personal start page, which provides a convenient starting point for their online experience. Duba.com aggregates a large collection of popular online resources and provides users quick access to most of their online destinations such as

 

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online shopping, video, online game, travel and local information. It also incorporates search functions provided by our business partners who are also our advertisers. Our large user base has turned our duba.com personal start page into one of the top sources of third party search traffic to Baidu and Sogou (through the Soso search engine), and major e-commerce companies such as Alibaba.

Users can click links on the duba.com start page to access our advertisers’ websites or search information using their selected search engine. We charge fees to our advertisers based on different criteria such as cost per time, cost per click and cost per sale for transactions or other activities that originate from our duba.com start page. The unit price is subject to negotiation based on the traffic we bring to the advertisers.

Game publishing

We have become an increasingly important game publisher in China. Through our PC game centers and mobile applications, we have published more than 570 games in the web game as of March 31, 2014, client-based game and mobile game categories and a wide array of genres such as MMORPGs, first person shooters, action, adventure, sports, puzzle and children’s games. Substantially all of these games are free to play and we generate revenues from game players’ purchase and recharge of virtual currencies used in online games through our user account management system.

We have two types of game publishing arrangements. Under a joint operating arrangement, we jointly operate games with game developers and publishers without paying license fees or incurring significant promotional expenses. We share user payments with game developers. As of March 31, 2014, almost all of the games on our platform were under joint operating arrangements. However, we expect the number of games operated in exclusive publishing arrangement to increase in future. Under an exclusive publishing arrangement, we pay royalty fees and upfront license fees to developers and promote and operate the games at our own costs. The popularity of the games has a larger impact in exclusive publishing arrangement as we bear higher risks and potentially receive higher rewards under this arrangement.

Utilizing the distribution capability of our suite of applications, we can quickly promote games to a large number of our users through multiple channels such as our duba.com start page, Mobile Assistant application, Cheetah Browser, Clean Master and Battery Doctor. Our mobile applications with a large number of active users have become increasingly effective distribution channels for mobile games. For example, we have successfully published four third-party mobile games through Battery Doctor on the iOS platform in China since late 2013, and three of these four games were still among the top 50 grossing games on iOS in China as at March 31, 2014.

Cheetah personalized recommendation engine

Cheetah Browser has an embedded personalized recommendation engine that recommends targeted third-party content and services to users based on their user interest graph created by our Face Mark system. For example, a user who has shopped on an e-commerce site recently may find promotions from the same e-commerce company for relevant products when the user opens Cheetah Browser. As we have full control of Cheetah Browser as opposed to other third party browsers, we have more flexibility to deliver recommendations to our users through different formats such as information bar, advertisement and pop-up message.

Kingsoft mobile assistant and other in-app application stores

Kingsoft Mobile Assistant is a mobile application store in China. It provides mobile users easy access to approximately 600,000 applications as of March 31, 2014, covering a wide variety of categories. Kingsoft Mobile Assistant helps a large number of our PC based users become users of our mobile applications by enabling users of the PC edition of Duba Anti-virus to install our mobile applications in a seamless way.

Some of our mobile applications in China include an in-app application store offering popular applications and games that can be conveniently downloaded to mobile devices.

 

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Case Study: Battery Doctor as an app discovery channel

Our mobile applications, with their large number of active users, have become increasingly effective distribution channels. This is illustrated by a promotion campaign we conducted for our Love Chinese Odyssey mobile game through Battery Doctor in November 2013. Battery Doctor was the No. 1 utility application in China in terms of monthly active users in November and December 2013 according to iResearch. Love Chinese Odyssey is a mobile role-playing game we released in November 2013. We promoted the game using the following advertising spaces within Battery Doctor:

 

    Start screen. Every time a user launches Battery Doctor, the user sees a full page advertisement for the game that directs him to Battery Doctor’s message center. The advertisement on the start screen had approximately five million average daily impressions during the campaign period.

 

    In-app application store promotion. Additional promotions in Battery Doctor’s in-app application store include banner advertisements, daily recommendations, limited time offers and our proprietary rankings.

 

    Message center. The message center provides a more detailed description of the promotion.

 

    Banner advertisements. User can also see a banner advertisement for the same promotion at the bottom of Battery Doctor’s screen.

With our promotion efforts, Love Chinese Odyssey ranked No. 5 on free chart and No. 6 on gross chart in Apple’s App Store in China within 3 and 8 days of its launch, respectively.

Kingmobi mobile advertising network

We launched our Kingmobi mobile advertising network in December 2013, through which we aggregate advertisements and deliver them to advertising spaces in mobile applications in a targeted and precise manner. Mobile applications that are enabled to receive advertisements from Kingmobi mobile advertising network can receive and publish the advertisements, including those developed by ourselves and third parties. Our advertising network allows advertisers to track the performance of their advertisements and allows mobile application publishers to manage their inventory of advertising spaces.

Our Cloud-Based Data Analytics Engines

Our cloud-based data analytics engines are a key competitive advantage for the development and enhancement of our mission critical applications serving users and our platform products serving our business partners.

Data analytics engines powering mission critical applications for users

For our users, our data analytics engines enable our applications to access our most up-to-date security threat and application behavior libraries in the cloud to optimize system performance and to protect against both known and unknown security threats.

 

    Our security threat library contains 264.4 million blacklisted and whitelisted sample program files and 14.8 million blacklisted and whitelisted sample website addresses as of March 31, 2014, with the number of samples continuing to grow rapidly.

 

    We have developed a mobile application behavior library that includes approximately 4.0 million mobile applications as of March 31, 2014. A wide range of application behavior such as junk file creation, power usage and invasion of privacy is collected in the library.

 

    We can perform an automatic or on-demand scan to identify known security threats or behavior of known applications on users’ devices in a fraction of a second.

 

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    We can automatically identify abnormal behavior of unknown applications or security threats with a minimal false identification rate, through performing a heuristic, or experience-based, analysis with our data analytics engines.

Data analytics engines powering our platform products for business partners

Using cloud-based big data analytics, we have created our proprietary Face Mark system to graph our users’ interests according to a number of dimensions such as online shopping, gaming and frequently used applications. We have also developed “Cross-over” delivery technology that can identify audience groups across “multi-screens,” regardless of what devices or operating systems these audience groups may use, as long as they have installed any of our applications. With the Face Mark system and Cross-over delivery technology, we can more precisely help our advertisers promote their own brands, products and services to targeted audiences and achieve a higher return on investments.

Evolution of our data analytics engines

Our security threats and application behavior libraries continuously expand with new samples exchanged with other security services providers and collected by search spiders. In addition, every device with our applications installed acts as a sensor for our cloud-based data analytics engines. The behavior of every new third party application installed on these devices is analyzed to establish a risk profile and enrich our security threats library.

Our Face Mark and Cross-over delivery technologies become more valuable with the expansion of our user base as they help populate our user interest graph to create larger audience groups for targeted content delivery. This creates a powerful network effect. The more users install and use our applications, the more information our analytics engines are able to obtain to benefit both our users and business partners.

Our Customers

Our customers primarily comprise customers for our online marketing services, including e-commerce companies and search engines, who pay us for referring traffic from our platform to them, and advertisers who pay us for displaying advertisements on our platforms. In 2011, 2012 and 2013, we had 123, 199 and 387 customers for our online marketing services, respectively.

Alibaba accounted for 22% and 25% of our revenues in 2012 and 2013, respectively. We provide online marketing services to Alibaba’s users through online accounts created with Alibaba’s online advertising exchange platform under its Taobao Alliance Program. The online marketing services include traffic referrals through searches and links displayed on our mobile and PC platforms. Our partnership with Alibaba and our transactions with Alibaba’s users are subject to standard terms and conditions stipulated by Alibaba for the platform, which are publicly available online and are subject to amendments at the sole discretion of Alibaba. We are subject to such standard terms and conditions so long as we continue to provide online marketing services to Alibaba’s users through the Taobao Alliance Program. Pursuant to the terms and conditions, unless otherwise agreed, we share revenues of transactions completed through our platforms within 15 days after a purchaser’s click on our promotional link or searched products. The share of revenues is pre-determined by merchants on Alibaba’s platform to which we provide our services.

Baidu accounted for 8% and 19% of our revenues in 2012 and 2013, respectively. We enter into agreements with Baidu to promote Baidu’s mobile and PC products through promotional activities and advertising such as search traffic referral and display of links and graphics on our mobile and PC platforms. Pursuant to agreements under which we provide search traffic referral services, we have become a member of Baidu Union, which is a network of third-party websites affiliated with Baidu, and those agreements with Baidu are subject to a Baidu Union member registration agreement that regulates, among others, the contents of websites and software

 

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registered with Baidu Union. Our service fees are calculated based on either a revenue sharing model or at a pre-determined fixed fee rate. The fees are settled on a monthly basis. The contracts have a term varying from three months to two years, and terminate on the expiration date unless both parties agree to a renewal. Two of our existing contracts with Baidu that generated approximately 14% in aggregate of our total revenues in 2013 have a term of two years, with one expiring on February 28, 2015 and the other expiring on April 30, 2015.

Tencent accounted for 24% and 14% of our revenues in 2012 and 2013, respectively. We enter into business contracts with Tencent from time to time, pursuant to which we provide various online marketing services, including traffic referral and advertising Tencent’s products on our PC and mobile platforms. We calculate service fees based either on time or performance, such as pay per installation or pay per retained installation. The fees are generally settled on a monthly basis. Tencent has the right to terminate certain of the performance-based contracts if the effectiveness of our marketing services falls below a stipulated level. The term of the cooperation agreement is from January 1, 2014 to December 31, 2015. See also “Related Party Transaction—Transactions with Other Affiliates—Transactions with Tencent Shenzhen.” While we used to generate a significant portion of our revenues from Tencent through online marketing services promoting Tencent’s Soso search engine, the Soso search engine was merged into Sogou in September 2013. As a result, the revenues contributed by Tencent dropped significantly from 24% in 2012 to 14% in 2013.

See “Risk Factors—Risks Relating to Our Business and Industry—Because a small number of business partners contribute to a significant portion of our revenues, our revenues and results of operations could be materially and adversely affected if we were to lose a significant business partner or a significant portion of its business.”

Research and Development

We seek to be at the forefront of our industry by meeting and exceeding user needs through the development of innovative products and services. We have been able to consistently anticipate market demand and release products that have achieved wide acceptance within a short period of time. For example, based on our understanding of the challenges associated with battery life and limited storage space, we launched cloud-based Battery Doctor and Clean Master in July 2011 and September 2012 respectively, and quickly amassed 58.6 million and 139.9 million monthly active users, respectively, in March 2014.

Our R&D and innovation are driven by our user centric culture. From our line engineers to our chief executive officer, everyone involved in our interactive product development process focuses on developing and enhancing products and services to anticipate, meet and exceed our users’ expectations. Through various channels such as pre-release trial events among our fans in various countries, feedback from closed beta testing and user comments and ratings on application distribution platforms, our massive global user base provides us with an invaluable source of information regarding our products and services and the evolution of the mobile industry. We then feed the ideas back into our development processes to innovate and enhance our products and services.

The widely popular Clean Master is an example of this virtuous cycle of product development. Approximately 7.8 million users have provided ratings as of March 31, 2014, voicing their support as well as proposing ideas for new features. Our approximately four million followers on Weixin, the largest mobile social platform in China, also regularly provide insightful comments and suggestions. We listen to our users and relentlessly seek to improve this product in response to users’ feedback. As a result, we often release new versions in a matter of days. Clean Master received a rating of 4.7 out of 5 on Google Play, indicating a high user satisfaction level.

As of December 31, 2013, our engineering team consisted of 842 employees, approximately 76.4% of whom hold bachelor’s or more advanced degrees. In addition, we have a dedicated customer service team capable of operating in over 30 languages that interacts with users and receives users’ input and advice regarding further product development.

 

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Marketing

We promote our brand, products and services primarily through social media and online marketing. We believe that our strong social media presence allows our users to become our brand advocates, which creates a strong viral marketing effect. We have a large number of followers on leading social platforms such as Facebook, Weibo and Weixin. We released a series of promotional online short films on video sharing sites such as Youku and Youtube and have received a large number of views and positive comments.

We also market our products and services through cross promotion. Users of any of our applications are provided with easy access to our complementary products. For example, users of Duba Anti-virus will be offered the opportunity to install Mobile Assistant, and a mobile device connected to the PC with Mobile Assistant installed will be offered the opportunity to install Clean Master, Battery Doctor and the mobile edition of Duba Anti-virus. We recommend users of Cheetah Browser to use our duba.com start page as the default home page.

In addition, we have successfully used other innovative marking strategies to promote our products and services.

 

    We created a media buzz before the 2013 Chinese New Year holiday by releasing a new feature for Cheetah Browser enabling our users to have a higher chance to successfully buy train tickets online for travel during the extremely busy holiday travel season. As a large number of people travel on trains during this period and it is very difficult to buy tickets, Cheetah Browser received extensive media coverage and gained an instant jump in market share.

 

    To promote the security feature of our Duba Anti-virus, we were the first in the industry to provide free insurance coverage on online shopping by users of Duba Anti-virus. Users are eligible to receive a cash payment of up to RMB2,000 per purchase for losses caused by viruses, phishing websites or Trojan horses when using the secured online shopping feature of Duba Anti-virus for covered purchases.

Competition

We face intense competition in all lines of our business. In the mobile internet space, we generally compete with other mobile application developers, including those developers that offer products claiming to perform similar functions as Clean Master and Battery Doctor. In the internet space, we mainly compete with Qihoo 360 in China’s internet security and anti-virus market. In addition, we compete with all major internet companies for user attention and advertising spend.

Intellectual Property

Our trademarks, patents, copyrights, domain names, proprietary technology, know-how and other intellectual property are vital to the success of our business. We protect our intellectual property rights through patent, trademark, copyright and trade secret protection laws in the PRC, Hong Kong, Japan, the United States and other jurisdictions. In addition, we enter into confidentiality and non-disclosure agreements with our employees and business partners. The agreements we enter into with our employees also provide that all software, inventions, developments, works of authorship and trade secrets created by them during the course of their employment are our property.

Our intellectual property rights are essential to the operation of our platform and important for our business. As of March 31, 2014, we have eight patents in the PRC relating to our software and other proprietary technology. Seven of the eight patents are either independently held by Zhuhai Juntian or jointly held by Zhuhai Juntian, Beijing Security and Conew Network, and one patent is jointly held by Beike Internet, Beijing Security and Conew Network. All eight patents will expire between November 2025 and August 2032, 20 years after their respective dates of application. We have registered 135 domain names, including www.duba.com, www.ijinshan.com, liebao.cn and 9724.com, 96 copyrights (including 93 software copyrights and 3 artwork copyrights), and 41 trademarks within China. In addition, we have filed 489 trademark applications and 445 patent applications in China. Our VIEs, Beijing Antutu, Beike Internet, Beijing Network and Guangzhou Network, have independently filed 140 patent applications and have jointly filed an additional 192 patent

 

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applications together with Zhuhai Juntian, Beijing Security or Conew Network, our wholly owned PRC subsidiaries, in relation to the proprietary technologies that are essential to the operations of our platform and important for our business. The dates of these patent applications ranged from January 2010 to March 2014. All the patents that the four VIEs are currently applying for have a duration of 20 years starting from the date of application. In addition, the four VIEs independently own 21 software copyrights, and jointly own an additional 43 software copyrights together with Zhuhai Juntian, Beijing Security or Conew Network. All the software copyrights owned by the four VIEs have been published between September 2009 and March 2014. Software copyrights are protected until the end of the 50th calendar year starting from the date of first publication, and no protection will be offered if the software has not been published within 50 years after the date of completion of development. See “Risk Factors—Risks Relating to Our Corporate Structure—We may lose the ability to use and enjoy vital assets held by our VIEs if such entities go bankrupt or become subject to a dissolution or liquidation proceeding.” We have one registered trademark in the U.S. and have filed a total of 329 trademark applications overseas.

As we were a subsidiary of Kingsoft Corporation, a number of patents, copyrights and trademarks used in our business were applied for and held by Kingsoft Corporation. Pursuant to the authorization and licensing agreement dated January 14, 2011, as amended, we licensed a total of 42 approved and pending patents, 34 software copyrights and 268 registered and pending trademarks from Kingsoft Corporation, including Kingsoft and LOGO , which are important to the marketing of our applications. This licensing agreement was terminated and superseded by the intellectual property transfer and license framework agreement that we entered into with Kingsoft Corporation on April 1, 2014. Pursuant to the framework agreement, Kingsoft Corporation transferred and licensed to us certain intellectual property, including software copyrights, registered and pending trademarks and approved and pending patents. See “Related Party Transactions—Transactions and Agreements with Kingsoft Corporation and its Subsidiaries—Intellectual Property Licensing Arrangements.” We also license related internet security products from third parties.

We have established policies and procedures to monitor certain key patents and trademarks for infringement or other unauthorized use, and a team of dedicated employees from the intellectual property, legal and marketing groups conduct daily searches and monitor our patents, as well as third party patents and distribution platforms, for infringing technology and software. See “Risk Factors—Risks Relating to our Business and Industry—We may not be able to prevent unauthorized use of our intellectual property, which could harm our business and competitive position” and “Risk Factors—Risks Relating to our Business and Industry—We may be subject to intellectual property infringement lawsuits which could result in our payment of substantial damages or license fees or adversely affect our product and service offerings.”

Employees

We had 615, 692 and 1,178 employees as of December 31, 2011 and 2012 and 2013, respectively. The following table sets forth the number of our employees, categorized by function, as of December 31, 2013:

 

Function

   Number of Employees  

Operations

     176   

Research and development

     842   

Sales and marketing

     81   

General and administrative

     79   
  

 

 

 

Total

     1,178   
  

 

 

 

Facilities

Our principal executive offices are located on leased premises comprising approximately 8,235 square meters in Beijing, China. This facility currently accommodates our management headquarters, principal development, engineering, legal, finance and administrative activities. We also have research and development centers in Zhuhai, Guangzhou, Zhengzhou and Hangzhou, China, and an office in Silicon Valley.

 

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Our servers are hosted in leased internet data centers in different areas of China. These data centers are owned and maintained by third party data center operators. We believe that our existing facilities are sufficient for our current needs and we will obtain additional facilities, principally through leasing, to accommodate our future expansion plans.

Legal Proceedings

We are subject to legal proceedings and claims in our ordinary course of business from time to time. We are currently not a party to, and are not aware of any threat of, any legal, arbitration or administrative proceedings that, in the opinion of our management, are likely to have a material and adverse effect on our business, financial condition or results of operations. For a description of certain legal proceedings and arbitration that we are currently involved in, see “Note 17. Commitments and Contingencies—Litigation” to our consolidated financial statements for the years ended December 31, 2011, 2012 and 2013 included in this prospectus.

In September 2011, Mr. Sheng Fu, our chief executive officer, was named as a defendant in a lawsuit filed by Qihoo in the High Court of the Hong Kong Special Administrative Region. The complaint was subsequently amended in May 2012, July 2012 and January 2014. The amended complaint alleges that Mr. Fu has breached his contractual obligations of confidentiality, non-competition, non-solicitation and non-disparagement under the agreements Mr. Fu had entered into with a subsidiary of Qihoo prior to his resignation from the subsidiary in August 2008. The complaint asserts that Mr. Fu was a product manager of Qihoo and was responsible for, and participated in, product design and research of certain antivirus products, including 360 Anti-virus and 360 Safe Guard and had access to the related confidential information, trade secret, technology and know-how.

In connection with the above claims, the complaint specifically alleges that Mr. Fu: (i) used confidential information of Qihoo to develop, by himself or through Beijing Conew and Conew Network, an anti-virus product released around May 2010 that was substantially similar to Qihoo’s 360 Anti-virus and 360 Safe Guard and infringed upon the confidential information, trade secrets and other rights of Qihoo; (ii) engaged in or dealt with businesses and products that directly competed with the businesses and/or products of Qihoo within the 18-month restricted period; (iii) employed employees of Qihoo within the 18-month restricted period, including Mr. Ming Xu, our chief technology officer, who was the then director of technology of 360 Safe Guard, a division of Qihoo; and (iv) made certain negative statements publicly about Qihoo.

Qihoo is seeking a court declaration that Qihoo’s repurchase of its shares previously granted to Mr. Fu under Qihoo’s share incentive plan at a nominal value was valid, a court order that Mr. Fu cease to use any confidential information or know-how of Qihoo, damages for disparagement, and a court order that Mr. Fu account to Qihoo for any profits that he earned as a result of the alleged breach.

Mr. Fu joined us in October 2010 when we acquired Conew.com Corporation, for which Mr. Fu served as the chief executive officer prior to the acquisition. Our product offerings do not include, and are not derived from, the anti-virus products referenced in the complaint.

 

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PRC REGULATION

Certain areas related to the internet, such as telecommunications, internet information services, connections to the international information networks, internet information security and censorship and online games (including online PC and mobile games) operations and online lottery, are covered extensively by a number of existing laws and regulations issued by various PRC governmental authorities, including:

 

    the Ministry of Industry and Information Technology, or the MIIT (formerly the Ministry of Information Industry);

 

    the Ministry of Culture, or the MOC;

 

    the State Administration of Press and Publication, Radio, Film and Television, or the SARFT, established as a result of institutional reform integrating the General Administration of Press and Publication, or the GAPP, and the State Administration for Radio, Film and Television, effective from March 22, 2013;

 

    the National Copyright Administration, or the NCA;

 

    the State Administration for Industry and Commerce, or the SAIC;

 

    the State Council Information Office, or the SCIO;

 

    the Ministry of Commerce, or the MOFCOM;

 

    the Office of National Work Group for Combating Pornography and Illegal Publications;

 

    the Ministry of Education;

 

    the Ministry of Human Resources and Social Security;

 

    the Bureau of Protection of State Secrets;

 

    the Ministry of Finance, or the MOF;

 

    the Ministry of Civil Affairs;

 

    the State General Administration of Sports;

 

    the Ministry of Public Security, or the MPS; and

 

    the State Administration of Foreign Exchange, or the SAFE.

As the internet and mobile industries are still at an early stage of development in China, new laws and regulations may be adopted from time to time to require new licenses and permits in addition to those we currently have. There are substantial uncertainties on the interpretation and implementation of any current and future Chinese laws and regulations, including those applicable to the online game (including online PC and mobile games) and internet security industries. See “Risk Factors—Risks Relating to Doing Business in China—Uncertainties in the interpretation and enforcement of Chinese laws and regulations could limit the legal protections available to you and us.” And this section sets forth the most important laws and regulations that govern our current business activities in China and that affect the dividends payment to our shareholders.

Regulation on Telecommunications Services and Foreign Ownership Restrictions

The Telecommunications Regulations, which became effective on September 25, 2000, are the core regulations on telecommunications services in China. The Telecommunications Regulations set out basic guidelines on different types of telecommunications business activities, including the distinction between “basic telecommunications services” and “value-added telecommunications services.” According to the Catalog of Telecommunications Business (2003 Amendment), implemented on April 1, 2003 and attached to the Telecommunications Regulations, internet information services are deemed a type of value-added telecommunications services. The Telecommunications Regulations require the operators of value-added telecommunications services to obtain value-added telecommunications business operation licenses from MIIT or its provincial delegates prior to the commencement of such services.

 

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The Regulations on the Administration of Foreign-Invested Telecommunications Enterprises, or the FITE Regulations, which took effect on January 1, 2002 and were amended on September 10, 2008, are the major rules on foreign investment in telecommunications companies in China. The FITE Regulations stipulate that the foreign investor of a telecommunications enterprise is prohibited from holding more than 50% of the equity interest in a foreign-invested enterprise that provides value-added telecommunications services, including internet information services. Moreover, such foreign investor shall demonstrate a good track record and experience in operating value-added telecommunications services when applying for the value-added telecommunications business operation license from the MIIT.

On July 13, 2006, the MIIT issued the Circular on Strengthening the Administration of Foreign Investment in Value-added Telecommunications Services, or the MIIT Circular 2006, which requires that (a) foreign investors can only operate a telecommunications business in China through establishing a telecommunications enterprise with a valid telecommunications business operation license; (b) domestic license holders are prohibited from leasing, transferring or selling telecommunications business operation licenses to foreign investors in any form, or providing any resources, sites or facilities to foreign investors to facilitate the unlicensed operation of telecommunications business in China; (c) value-added telecommunications service providers or their shareholders must directly own the domain names and registered trademarks they use in their daily operations; (d) each value-added telecommunications service provider must have the necessary facilities for its approved business operations and maintain such facilities in the geographic regions covered by its license; and (e) all value-added telecommunications service providers should improve network and information security, enact relevant information safety administration regulations and set up emergency plans to ensure network and information safety. The provincial communications administration bureaus, as local authorities in charge of regulating telecommunications services, (a) are required to ensure that existing qualified value-added telecommunications service providers will conduct a self-assessment of their compliance with the MIIT Circular 2006 and submit status reports to the MIIT before November 1, 2006; and (b) may revoke the value-added telecommunications business operation licenses of those that fail to comply with the above requirements or fail to rectify such non-compliance within specified time limits. Due to the lack of any additional interpretation from the regulatory authorities, it remains unclear what impact MIIT Circular 2006 will have on us or the other PRC internet companies with similar corporate and contractual structures.

To comply with such foreign ownership restrictions, we operate our businesses in China through Beijing Antutu, Beike Internet, Guangzhou Network, Beijing Network and Beijing Conew, all of which are owned by PRC citizens. These entities are all controlled by Beijing Security and Conew Network, our wholly-owned subsidiaries, through a series of contractual arrangements. See “Corporate History and Structure.” Based on our PRC legal counsel, Han Kun Law Offices’ understanding of the current PRC laws, rules and regulations, our corporate structure complies with all applicable PRC laws, and does not violate, breach, contravene or circumvent or otherwise conflict with any applicable PRC laws. However, we were further advised by our PRC legal counsel that there are substantial uncertainties with respect to the interpretation and application of existing or future PRC laws and regulations and thus there is no assurance that Chinese governmental authorities would take a view consistent with the opinions of our PRC legal counsel.

Internet Information Services

The Administrative Measures on Internet Information Services, or the ICP Measures, issued by the State Council on September 25, 2000 and amended on January 8, 2011, regulate the provision of internet information services. According to the ICP Measures, “internet information services” refer to services that provide internet information to online users, and are categorized as either commercial services or non-commercial services. Pursuant to the ICP Measures, internet information commercial service providers shall obtain an ICP license, a sub-category of the value-added telecommunications business operation license, from the relevant local authorities before engaging in the provision of any commercial internet information services in China. In addition, if the internet information services involve provision of news, publication, education, medicine, health, pharmaceuticals, medical equipment and other services that statutorily require approvals from other additional governmental authorities, such approvals must be obtained before applying for the ICP license.

 

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We currently, through Beike Internet and Beijing Network, our VIEs, hold valid ICP licenses, covering the provision of internet information services, issued by the Beijing branch of the MIIT. Besides, the ICP Measures and other relevant measures also ban the internet activities that constitute publication of any content that propagates obscenity, pornography, gambling and violence, incite the commission of crimes or infringe upon the lawful rights and interests of third parties, among others. If an internet information service provider detects information transmitted on their system that falls within the specifically prohibited scope, such provider must terminate such transmission, delete such information immediately, keep records and report to the governmental authorities in charge. Any provider’s violation of these prescriptions will lead to the revocation of its ICP license and, in serious cases, the shutting down of its internet systems.

Internet Publication and Cultural Activities

The Tentative Measures for Internet Publication Administration, or Internet Publication Measures, were jointly promulgated by the GAPP and the MIIT on June 27, 2002 and became effective on August 1, 2002. The Internet Publication Measures imposed a license requirement for any company that engages in internet publishing, which means any act by an internet information service provider to select, edit and process works (including books, newspaper, magazines, audio-video products, or edited literature, art or works on natural science, social science, engineering etc.) produced by such provider or others, and make such works publicly available on the internet or send such works to the end users through internet, so that the public can browse, read, use or download such works. The Internet Publication Measures also require the professional editorial personnel of an Internet publishing entity to examine the published content to ensure that it complies with applicable laws. Failure to do so may subject us to fines and other penalties. The provision of online games is deemed an internet publication activity; therefore, an online game operator must (i) obtain an Internet Publishing License so that it can directly offer its online games to the public in the PRC, or (ii) publish its online games through a qualified press entity by entering into an entrustment agreement.

The Rules for the Administration of Electronic Publication, or the Electronic Publication Rules, was issued by the GAPP on February 21, 2008 and became effective on April 15, 2008. Under the Electronic Publication Rules and other regulations issued by the GAPP, online games are classified as a kind of electronic publication, and publishing of online games is required to be conducted by licensed electronic publishing entities that have been issued standard publication codes.

In order to comply with these rules and regulations, we are in the process of applying for Internet Publishing Licenses for the publication of online games on PC and mobile internet.

On May 10, 2003, the MOC promulgated the Tentative Measures for the Administration of Online Culture, or the Online Cultural Measures, which became effective on July 1, 2003 and subsequently amended on July 1, 2004 and on April 1, 2011 respectively. According to the Online Cultural Measures, internet information services providers engaging in online cultural activities, which include the dissemination and operation of gaming products, shall either obtain a license from the provincial branches of the MOC if such activities are commercial, or complete a filing of records with the provincial branches of the MOC if such activities are non-commercial. Specifically, entities are required to obtain online cultural operating licenses from the provincial branches of the MOC if they intend to commercially engage in any of the following activities: (a) production, duplication, import, publishing or broadcasting of online cultural products; (b) publishing of online cultural products on the internet or transmission thereof via the internet or mobile telecommunication networks to computers, fixed-line or mobile phones, television sets, gaming consoles or Internet café for online users to browse, review, use or download such products; or (c) exhibitions or contests related to online cultural products. If internet information services providers engage in commercial online cultural activities but fail to obtain online cultural operating licenses, they may be ordered to shut down their websites and subject to fines and penalties of confiscating illegal gain. On February 15, 2007, the MOC, the People’s Bank of China and other relevant government authorities jointly issued the Notice on Internet Cafes. The Notice on Internet Cafes authorizes the People’s Bank

 

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of China to strengthen the administration of virtual currency in web games in order to avoid any adverse impact on the economy and financial system. This notice strictly limits the total amount of virtual currency that a web game operator can issue and an individual game player can purchase. It also distinguishes virtual transactions from real transactions through electronic commerce and that specifies virtual currency should only be used to purchase virtual items.

We, through Beike Internet and Beijing Network, have obtained the Internet Culture Operation Licenses from the Beijing branch of the MOC, which collectively cover the business scope of operating gaming products through internet (including the issuance of virtual currency).

Regulation on Online Games and Foreign Ownership Restrictions

On June 3, 2010, the MOC promulgated the Provisional Administration Measures of Online Games, or the Online Game Measures, which came into effect on August 1, 2010. The Online Game Measures governs the research, development and operation of online games. It specifies that the MOC is responsible for the censorship of imported online games and the filing of records of domestic online games. The procedures for the filing of records of domestic online games must be conducted with the MOC within 30 days after the commencement date of the online operation of such online games or the occurrence date of any material alteration of such online games.

All operators of online games, or Online Game Business Operators, are required by the Online Game Measures to obtain Internet Culture Operation Licenses. An Internet Culture Operation License is valid for three years and in case of renewal, the renewal application should be submitted 30 days prior to the expiry date of such license. An Online Game Business Operator should request the valid identity certificate of game users for registration, and notify the public 60 days ahead of the termination of any online game operations or the transfer of online game operational rights. Online Game Business Operators are also prohibited from (a) setting compulsory combat in the online games without game users’ consent; (b) advertising or promoting the online games in a way that contains prohibited content, such as anything that compromises state security or divulges state secrets; and (c) inducing game users to input legal currencies or virtual currencies to gain online game products or services, by way of random draw or other incidental means. Pursuant to the Online Game Measures, the service agreements between the Online Game Business Operators and users shall contain all the clauses of a standard online game service agreement, which was issued by MOC on July 29, 2010, with no conflicts with the rest of clauses in such service agreements. We, through Beike Internet and Beijing Network, have obtained Internet Culture Operation Licenses from the Beijing branch of the MOC, which collectively cover the business scope of operating gaming products through internet (including the issuance of virtual currency).

On July 11, 2008, the General Office of the State Council promulgated the Regulation on Main Functions, Internal Organization and Staffing of the GAPP, or the Regulation on Three Provisions. On September 7, 2009, the Central Organization Establishment Commission issued the corresponding interpretations, or the Interpretations on Three Provisions. The Regulation on Three Provisions stipulates that the MOC is authorized to regulate the online game industry, while the SARFT is authorized to approve the publication of online games before their launch on the internet. The Interpretation on Three Provisions further provides that once an online game is launched on the internet, it will be completely under the administration of the MOC, and that if an online game is launched on the internet without obtaining prior approval from the SARFT, the MOC, instead of the SARFT, is directly responsible for investigation and punishment. On July 11, 2013, the General Office of the State Council promulgated the Provisions on the Main Responsibilities, Internal Institutions and Staffing of GAPP, or the Three-Decision Provisions, which reiterates the restrictions stipulated in the Regulation on Three Provisions.

On September 28, 2009, the GAPP, the NCA and the Office of the National Working Group for Combating Pornography and Illegal Publications jointly issued a Notice on Implementing the Provisions of the State Council on “Three Determinations” and the Relevant Explanations of the State Commission Office for Public Sector

 

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Reform and Further Strengthening the Administration of the Pre-approval of Online Games and Examination and Approval of Imported Online Games, or Circular 13. Circular 13 explicitly prohibits foreign investors from directly or indirectly engaging in online gaming business in China, including through variable interest entity structures, or VIE Structures. Foreign investors are not allowed to indirectly control or participate in PRC operating companies’ online games (including online PC and mobile games) operations, whether (a) by establishing other joint ventures, entering into contractual arrangements or providing technical support for such operating companies; or (b) in a disguised form such as by incorporating or directing user registration, user account management or game card consumption into online gaming platforms that are ultimately controlled or owned by foreign companies. Violations of Circular 13 will result in severe penalties. However, it is uncertain whether the above prohibitions imposed by SARFT are within its authorization as stipulated in the Regulation on Three Provisions and its interpretations. For detailed analysis, see “Risk Factors—Risks Relating to Doing Business in China—We may be adversely affected by the complexity of, and uncertainties and changes in, PRC regulation on internet and mobile internet businesses and companies.”

Anti-fatigue Compliance System and Real-name Registration System

On April 15, 2007, in order to curb addictive online game-playing by minors, eight PRC government authorities, including the GAPP, the Ministry of Education, the Ministry of Public Security and the MIIT, jointly issued a circular requiring the implementation of an anti-fatigue compliance system and a real-name registration system by all PRC online games (including online PC and mobile games) operators. Under the anti-fatigue compliance system, three hours or less of continuous playing by minors, defined as game players under 18 years of age, is considered to be “healthy,” three to five hours is deemed “fatiguing,” and five hours or more is deemed “unhealthy.” Game operators are required to reduce the value of in-game benefits to a game player by half if it discovers that the amount of a time a game player spends online has reached the “fatiguing” level, and to zero in the case of the “unhealthy” level.

To identify whether a game player is a minor and thus subject to the anti-fatigue compliance system, a real-name registration system should be adopted to require online games (including online PC and mobile games) players to register their real identity information before playing online games. Pursuant to the Notice on the Commencement of Anti-fatigue and Real-name Registration of Online Games, issued by the relevant eight government authorities on July 1, 2011, which came into effect on October 1, 2011, online games (including online PC and mobile games) operators must submit the identity information of game players to the National Citizen Identity Information Center, a subordinate public institution of the Ministry of Public Security, for verification.

Except for our bulletin board system services and online game operations, we are currently not required by PRC law to ask users for their real name and personal information when they register for a user account. We cannot assure you that PRC regulators would not require us to implement compulsory real-name registration in the future. See “Risk Factors—Risks Relating to Doing Business in China—We may be adversely affected by the complexity of, and uncertainties and changes in, PRC regulation of internet and mobile internet businesses and companies.” In addition, we require our PC and mobile game developer to comply with the requirements under the PRC law, but we cannot assure you that such commercial partners will effectively implement the anti-fatigue rules, and any noncompliance on the part of such commercial partners may cause potential liabilities to us and in turn disrupt our operations. See “Risk Factors—Risks Relating to Our Business and Industry—Non-compliance on the part of third parties with whom we conduct business could disrupt our business and adversely affect our results of operations.”

Regulations on Computer Information System Security Special Products

Pursuant to the Provisions for Security Protection of Computer Information Systems promulgated by the State Council on February 18, 1994, and the Measures for Administration of Detection and Sales Permits for Computer Information System Security Special Products promulgated by the MPS on December 12, 1997, producers of security special products, including hardware and software products, shall have such products

 

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detected and recognized by qualified institutions, and obtain a sales license. A new sales license is required if an approved security product has any functional changes. “Security special products” refers to special hardware and software that is used for protecting the security of computer information system. The valid term of each sales permit is two years and the extension application shall be submitted to the competent branches of the Ministry of Public Security 30 days prior to the expiration of such term.

We believe that we have obtained the applicable permits for offering Duba Anti-virus for download. However, as the upgrades of our software become more frequent and such examination and approval by the MPS may be time consuming, we may not be able to obtain such permits for all upgrades in a timely manner, which may subject us to various penalties and adversely affect our business and results of operations.

Regulation on Advertising Business

The SAIC is the primary governmental authority regulating advertising activities in China. Regulations that apply to advertising business and foreign ownership in advertisement business primarily include:

 

    Foreign Investment Industrial Guidance Catalog. issued by the former National Development and Reform Commission and other departments in on June 20, 1995, and amended on October 31, 2007 and December 24, 2011;

 

    Advertisement Law of the People’s Republic of China, promulgated by the Standing Committee of the National People’s Congress on October 27, 1994 and effective since February 1, 1995;

 

    Administrative Regulations for Advertising, promulgated by the State Council on October 26, 1987 and effective since December 1, 1987; and

 

    Implementation Rules for the Administrative Regulations for Advertising, promulgated by the State Council on January 9, 1988 and amended on December 3, 1998December 1, 2000 and November 30, 2004, respectively.

According to the above regulations, companies that engage in advertising activities must each obtain, from the SAIC or its local branches, a business license which specifically includes operating an advertising business in its business scope. An enterprise engaging in advertising business within the specifications in its business scope does not need to apply for an advertising operation license, provided that such enterprise is not a radio station, television station, newspaper or magazine publisher or any other entity otherwise specified in the relevant laws or administrative regulations. Enterprises conducting advertising activities without such a license may be subject to penalties, including fines, confiscation of advertising income and orders to cease advertising operations. The business license of an advertising company is valid for the duration of its existence, unless the license is suspended or revoked due to a violation of any relevant laws or regulations.

PRC advertising laws and regulations set certain content requirements for advertisements in China, including, among other things, prohibitions on false or misleading content, superlative wording, socially destabilizing content or content involving obscenities, superstition, violence, discrimination or infringement of the public interest. Advertisers, advertising agencies, and advertising distributors are required to ensure that the content of the advertisements they prepare or distribute is true and in complete compliance with applicable laws. In providing advertising services, advertising operators and advertising distributors must review the supporting documents provided by advertisers for advertisements and verify that the content of the advertisements complies with applicable PRC laws and regulations. Prior to distributing advertisements that are subject to government censorship and approval, advertising distributors are obligated to verify that such censorship has been performed and approval has been obtained. Violation of these regulations may result in penalties, including fines, confiscation of advertising income, orders to cease dissemination of the advertisements and orders to publish an advertisement correcting the misleading information. Where serious violations occur, the SAIC or its local branches may revoke such offenders’ licenses or permits for their advertising business operations.

 

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Intellectual Property Rights

Software Registration

The State Council and the NCA have promulgated various rules and regulations and rules relating to protection of software in China, including the Regulations on Protection of Computer Software promulgated by State Council on January 30, 2013 and effective since March 1, 2013, and the Measures for Registration of Copyright of Computer Software promulgated by SARFT on February 20, 2002 and effective since the same date. According to these rules and regulations, software owners, licensees and transferees may register their rights in software with the NCA 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. As of March 31, 2014, we had registered copyrights to 93 software programs in China.

Patents

The National People’s Congress adopted the Patent Law of the People’s Republic of China in 1984 and amended it in 1992, 2000 and 2008, respectively. A patentable invention, utility model or design must meet three conditions: novelty, inventiveness and practical applicability. Patents cannot be granted for scientific discoveries, rules and methods for intellectual activities, methods used to diagnose or treat diseases, animal and plant breeds or substances obtained by means of nuclear transformation. The Patent Office under the State Intellectual Property Office is responsible for receiving, examining and approving patent applications. A patent is valid for a twenty-year term for an invention and a ten-year term for a utility model or design, starting from the application date. Except under certain specific circumstances provided by law, any third party user must obtain consent or a proper license from the patent owner to use the patent, or else the use will constitute an infringement of the rights of the patent holder.

As of March 31, 2014, we had obtained eight patents granted from and have filed an additional 445 patent applications with the State Intellectual Property Office of the PRC.

Copyright Law

The Copyright Law of the People’s Republic of China, promulgated in 1990 and amended in 2001 and 2010, or the Copyright Law, and its related implementing regulations, promulgated in 1991 and amended in 2013 are the principal laws and regulations governing the copyright related matters. The amended Copyright Law covers internet activities, products disseminated over the internet and software products, among the subjects entitled to copyright protections. Registration of copyright is voluntary, and is administrated by the China Copyright Protection Center.

On December 20, 2001, the State Council promulgated the new Regulations on Computer Software Protection, effective from January 1, 2002, which are intended to protect the rights and interests of the computer software copyright holders and encourage the development of software industry and information economy. In the PRC, software developed by PRC citizens, legal persons or other organizations is automatically copyright protected immediately after its development, without an application or approval. Software copyright may be registered with the designated agency and if registered, the certificate of registration issued by the software registration agency will be the primary evidence of the ownership of the copyright and other registered matters. On February 20, 2002, the National Copyright Administration of the PRC introduced the Measures on Computer Software Copyright Registration, which outline the operational procedures for registration of software copyright, as well as registration of software copyright license and transfer contracts. The Copyright Protection Center of China is mandated as the software registration agency under the regulations.

To address the problem of copyright infringement related to content posted or transmitted on the internet, the NCA and the MIIT jointly promulgated the Measures for Administrative Protection of Copyright Related to

 

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Internet on April 29, 2005. These measures, which became effective on May 30, 2005, apply to acts of automatically providing services such as uploading, storing, linking or searching works, audio or video products, or other contents through the internet based on the instructions of internet users who publish contents on the internet, or the Internet Content Providers, without editing, amending or selecting any stored or transmitted content.

On May 18, 2006, the State Council issued the Regulations on Protection of the Right of Communication through Information Network, which took effect on July 1, 2006 and was amended on January 30, 2013.

Since 2005, the NCA, together with certain other PRC governmental authorities, have jointly launched annual campaigns specifically aimed to crack down on internet copyright infringement and piracy in China; these campaigns normally last for three to four months every year. According to the Notice of 2013 Campaign to Crack Down on Internet Infringement and Piracy promulgated by the NCA, the Ministry of Public Security and the MIIT on July 19, 2013, the 2013 campaign mainly targeted key internet publications such as literature, music, movies and TV series, games, cartoons, software in key areas, to strengthen the supervision of audio and video websites and e-commerce platforms and strictly crack down all kinds of internet piracy. The campaign started from June 20 and lasted for four months.

Domain Name

In September 2002, the CNNIC issued the Implementing Rules for Domain Name Registration setting forth detailed rules for registration of domain names, which were amended on May 29, 2012. On November 5, 2004, the MIIT promulgated the Measures for Administration of Domain Names for the Chinese Internet, or the Domain Name Measures. The Domain Name Measures regulate the registration of domain names, such as the first tier domain name “.cn.” In February 2006, the CNNIC issued the Measures on Domain Name Dispute Resolution and relevant implementing rules, pursuant to which the CNNIC can authorize a domain name dispute resolution institution to decide disputes. As of March 31, 2014, we had registered 135 domain names, including www.duba.com,” www.liebao.cn,” and “www.ksmobile.com.

Trademark

The PRC Trademark Law, adopted in 1982 and amended in 1993, 2001 and 2013, with its implementation rules adopted in 2002, protects registered trademarks. The Trademark Office of the SAIC handles trademark registrations and grants a protection term of ten years to registered trademarks. Trademark license agreements must be filed with the Trademark Office for record. As of March 31, 2014, we had registered 41 trademarks and service marks and had filed 489 trademark applications in China.

Internet Infringement

On December 26, 2009, the Standing Committee of National People’s Congress promulgated the Tort Law of the People’s Republic of China, or the Tort Law, which became effective on July 1, 2010. Under the Tort Law, an internet user or an internet service provider that infringes upon the civil rights or interests of others through using the internet assumes tort liability. If an internet user infringes upon the civil rights or interests of another through using the internet, the person being infringed upon has the right to notify and request the internet service provider whose internet services are facilitating the infringement to take necessary measures including the deletion, blocking or disconnection of an internet link. If, after being notified, the internet service provider fails to take necessary measures in a timely manner to end the infringement, it will be jointly and severally liable for any additional harm caused by its failure to act. According to the Tort Law, civil rights and interests include the personal rights and rights of property, such as the right to life, right to health, right to name, right to reputation, right to honor, right of portraiture, right of privacy, right of marital autonomy, right of guardianship, right to ownership, right to usufruct, right to security interests, copyright, patent right, exclusive right to use trademarks, right to discovery, right to equity interests and right of heritage, among others.

 

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Regulation of Internet Content

The PRC government has promulgated measures relating to internet content through a number of governmental agencies, including the MIIT, the MOC and the SARFT. These measures specifically prohibit internet activities, such as the operation of online games, that result in the publication of any content which is found to contain, among others, 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, its ICP license may be revoked and its websites may be shut down by the relevant government agencies.

Information Security and Censorship

Internet content in China is regulated and restricted from a state security standpoint. Internet companies in China are required to complete security filing procedures and regularly update information security and censorship systems for their websites with local public security bureau. The PRC Law on Preservation of State Secrets, which became effective on October 1, 2010 requires an internet information services providers to immediately stop disseminating any information that may be deemed to be leaked state secrets and to report such incidents in a timely manner to the state security and public security authorities. Failure to do so in a timely and adequate manner may subject the internet information services providers to liability and certain penalties given by the Ministry of State Security, the Ministry of Public Security and/or the MIIT or their respective local branches.

On December 13, 2005, the Ministry of Public Security promulgated Provisions on Technological Measures for Internet Security Protection, or the Internet Protection Measures, which took effect on March 1, 2006. The Internet Protection Measures require all internet information services operators to take proper measures including anti-virus, data back-up and other related measures, and keep records of certain information about their users (including user registration information, log-in and log-out time, IP address, content and time of posts by users) for at least 60 days and submit the above information as required by laws and regulations.

The National People’s Congress, China’s national legislative body, enacted the Decisions on the Maintenance of Internet Security on December 28, 2000, pursuant to which the following types of conduct may subject persons to criminal liabilities in China: (a) conduct that may pose a threat to security of internet, including gaining improper entry into a computer or system of strategic importance, or disseminate virus and similar destructive programs; (b) conduct that may adversely affect national security and social stability, including disseminate politically disruptive information and leaking state secrets; (c) conduct that may disrupt economic and social administrative order, including spreading false commercial information and infringing upon intellectual property rights; and (d) conduct that may violate the legal interests of any other person, including infringing upon privacy.

On December 11, 1997, the State Council approved the Measures for Administration of Security Protection of Internet and Computer Information Network, and the measures took effect on December 30, 1997. The measures require internet service providers to provide a monthly report of certain user information to the public security authority and assist the public security authority in investigating incidents involving breach of laws and regulations on the Internet security. In 1997, the Ministry of Public Security issued the Administration Measures on the Security Protection of Computer Information Network with Internationally Connections, which prohibits using the internet in ways which, among others, result in a leakage of state secrets or a spread of socially destabilizing content. The Ministry of Public Security has supervision and inspection powers in this regard, and relevant local security bureaus may also have jurisdiction. If an ICP license holder violates these measures, the PRC government may revoke its ICP license and shut down its websites.

To comply with the above laws and regulations, we have implemented measures and regularly updated our information security and content-filtering systems with newly issued content restrictions as required by the relevant laws and regulations.

 

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Privacy Protection

On July 16, 2013, the MIIT promulgated the Regulations of Protection of Personal Information of Telecommunication Users and Internet Users, which came into effect on September 1, 2013. The regulations do not prohibit internet content providers from collecting and analyzing their users’ personal information if appropriate authorizations are obtained and if in a way that is legal, reasonable and necessary. We require our users to accept a user agreement whereby they agree to provide certain personal information to us. PRC laws and regulations prohibit internet content providers from disclosing any information transmitted by users through their networks to any third parties without the users’ authorization unless otherwise permitted by law. If an internet content provider violates these regulations, the MIIT or its local bureaus may impose penalties and the internet content provider may be liable for damages caused to its users.

Regulation of Foreign Currency Exchange and Dividend Distribution

Foreign Currency Exchange. The core regulations governing foreign currency exchange in China are the Foreign Exchange Administration Regulations, as amended in August 2008, or the FEA Regulations. Under the FEA Regulations, the Renminbi is freely convertible for current account items subject to certain rules and procedures, including the distribution of dividends, and trade- and service-related foreign exchange transactions, but not for capital account items, such as direct investments, loans, repatriation of investments and investments in securities outside of China, unless the prior approval of the SAFE is obtained and prior registration with the SAFE is made.

On August 29, 2008, SAFE promulgated the Circular on the Relevant Operating Issues Concerning the Improvement of the Administration of the Payment and Settlement of Foreign Currency Capital of Foreign-Invested Enterprises, or Circular 142, to regulate the conversion of foreign currency into Renminbi by a foreign-invested enterprise by restricting the ways in which the converted Renminbi may be used. Circular 142 stipulates that the registered capital of a foreign-invested enterprise that has been settled in Renminbi converted from foreign currencies may only be used for purposes within the business scope approved by the applicable governmental authority and cannot be used for equity investments within the PRC. Meanwhile, the SAFE strengthened its oversight of the flow and use of the registered capital of a foreign-invested enterprise settled in Renminbi converted from foreign currencies. The use of such Renminbi capital may not be changed without the SAFE’s approval, and may not in any case be repayment of Renminbi loans if the proceeds of such loans have not been used. Violations of Circular 142 may lead to severe penalties including heavy fines. On November 9, 2010, SAFE promulgated the Circular on Relevant Issues Concerning the Strengthening the Administration of Foreign Exchange Operations, or Circular No. 59, which tightens the examination of the authenticity of settlement of net proceeds from our initial public offering and requires that the settlement of net proceeds shall be in accordance with the description in the prospectus in connection with our initial public offering. SAFE further promulgated the Circular on Further Clarification and Regulation of the Issues Concerning the Administration of Certain Capital Account Foreign Exchange Businesses, or Circular 45, on November 9, 2011, which expressly prohibits foreign-invested enterprises from using registered capital settled in Renminbi converted from foreign currencies to grant loans through entrustment arrangements with a bank, to repay inter-company loans or repay bank loans that have been transferred to a third party. As a result, Circular 142, Circular 59 and Circular 45 may significantly limit our ability to transfer the net proceeds from this offering to our other PRC subsidiaries through Beijing Kingsoft and Conew Network, our wholly owned subsidiaries in China, and thus may adversely affect our business expansion in China. We may not be able to convert the net proceeds into Renminbi to invest in or acquire any other PRC companies, or establish other VIEs in the PRC.

Dividend Distribution. The Foreign Invested Enterprise Law, promulgated in 1986 and amended in 2000, and the Implementation Rules of the Foreign Invested Enterprise Law, promulgated in 1990 and amended in 2001, are the key regulations governing distribution of dividends of foreign-invested enterprises.

Under these regulations, a wholly foreign-invested enterprise in China, or a WFOE, may pay dividends only out of its accumulated profits, if any, determined in accordance with PRC accounting standards and regulations.

 

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In addition, a WFOE is required to allocate at least 10% of its accumulated profits each year, if any, to statutory reserve funds unless its reserves have reached 50% of the registered capital of the enterprises. These reserves are not distributable as cash dividends. The proportional ratio for withdrawal of rewards and welfare funds for employees shall be determined at the discretion of the WFOE. Profits of a WFOE shall not be distributed before the losses thereof before the previous accounting years have been made up. Any undistributed profit for the previous accounting years may be distributed together with the distributable profit for the current accounting year.

Circular 75. The SAFE issued Circular on Several Issues concerning Foreign Exchange Administration for Domestic Residents to Engage in Financing and in Return Investments via Overseas Special Purpose Companies, or Circular No. 75, on October 21, 2005, which became effective on November 1, 2005. Under Circular 75, prior registration with the local SAFE branch is required for PRC residents to establish or to control an offshore company for the purposes of financing that offshore company with assets or equity interests in an onshore enterprise located in the PRC. An amendment to registration or filing with the local SAFE branch by such PRC resident is also required for the injection of equity interests or assets of an onshore enterprise in the offshore company or overseas funds raised by such offshore company, or any other material change involving a change in the capital of the offshore company.

Circular 75 applies retroactively. PRC residents who have established or acquired control of offshore companies that have made onshore investments in the PRC in the past were required to complete the relevant registration procedures with the local SAFE branch by March 31, 2006. Under the relevant rules, failure to comply with the registration procedures set forth in Circular 75 may lead to restrictions being imposed on the foreign exchange activities of the relevant onshore company, including the increase of its registered capital, the payment of dividends and other distributions to its offshore parent or affiliate and the capital inflow from the offshore entity, and may also subject relevant PRC residents to penalties under PRC foreign exchange administration regulations. PRC residents who control our company from time to time are required to register with the SAFE in relation to their investments in us.

We have completed the foreign exchange registration of PRC resident shareholders of Mr. Jun Lei, Mr. Sheng Fu and Mr. Ming Xu for our financings and share transfer that were completed before December 2013.

Stock Option Rules. The Administration Measures on Individual Foreign Exchange Control were promulgated by the People’s Bank of China on December 25, 2006, and their Implementation Rules, issued by the SAFE on January 5, 2007, became effective on February 1, 2007. Under these regulations, all foreign exchange matters involved in employee stock ownership plans and stock option plans participated in by onshore individuals, among others, require approval from the SAFE or its authorized branch. Furthermore, the Notices on Issues concerning the Foreign Exchange Administration for Domestic Individuals Participating in Stock Incentive Plans of Overseas Publicly-Listed Companies, or the Stock Option Rules, were promulgated by SAFE on February 15, 2012, that replaced the Application Procedures of Foreign Exchange Administration for Domestic Individuals Participating in Employee Stock Ownership Plans or Stock Option Plans of Overseas Publicly-Listed Companies issued by SAFE on March 28, 2007. Pursuant to the Stock Option Rules, PRC residents who are granted shares or stock options by companies listed on overseas stock exchanges based on the stock incentive plans are required to register with SAFE or its local branches, and PRC residents participating in the stock incentive plans of overseas listed companies shall retain a qualified PRC agent, which could be a PRC subsidiary of such overseas publicly-listed company or another qualified institution selected by such PRC subsidiary, to conduct the SAFE registration and other procedures with respect to the stock incentive plans on behalf of these participants. Such participants must also retain an overseas entrusted institution to handle matters in connection with their exercise of stock options, purchase and sale of corresponding stocks or interests, and fund transfer. In addition, the PRC agents are required to amend the SAFE registration with respect to the stock incentive plan if there is any material change to the stock incentive plan, the PRC agents or the overseas entrusted institution or other material changes. The PRC agents shall, on behalf of the PRC residents who have

 

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the right to exercise the employee share options, apply to SAFE or its local branches for an annual quota for the payment of foreign currencies in connection with the PRC residents’ exercise of the employee share options. The foreign exchange proceeds received by the PRC residents from the sale of shares under the stock incentive plans granted and dividends distributed by the overseas listed companies must be remitted into the bank accounts in the PRC opened by the PRC agents before distribution to such PRC residents. In addition, the PRC agents shall file each quarter the form for record-filing of information of the Domestic Individuals Participating in the Stock Incentive Plans of Overseas Listed Companies with SAFE or its local branches.

We and our PRC citizen employees who have been granted share options, or PRC optionees, will be subject to the Stock Option Rules when our company becomes an overseas listed company upon the completion of this offering. If we or our PRC optionees fail to comply with the Individual Foreign Exchange Rule and the Stock Option Rules, we and/or our PRC optionees may be subject to fines and other legal sanctions. See “Risk Factors—Risks Relating to Doing Business in China—PRC regulations relating to offshore investment activities by PRC residents may limit our PRC subsidiaries’ ability to increase their registered capital or distribute profits to us or otherwise expose us to liability and penalties under PRC law.”

In addition, the State Administration for Taxation has issued circulars concerning employee share options, under which our employees working in the PRC who exercise share options will be subject to PRC individual income tax. Our PRC subsidiaries have obligations to file documents related to employee share options with relevant tax authorities and to withhold individual income taxes of those employees who exercise their share options. If our employees fail to pay or if we fail to withhold their income taxes as required by relevant laws and regulations, we may face sanctions imposed by the PRC tax authorities or other PRC government authorities.

Regulation on Tax

PRC Enterprise Income Tax

The PRC enterprise income tax is calculated based on the taxable income determined under the applicable Enterprise Income Tax Law, or the EIT Law and its implementation rules. On March 16, 2007, the National People’s Congress of China enacted the EIT Law, which became effective on January 1, 2008. On December 6, 2007, the State Council promulgated the implementation rules to the EIT Law, which also became effective on January 1, 2008. The EIT Law imposes a uniform enterprise income tax rate of 25% on all resident enterprises in China, including foreign-invested enterprises and domestic enterprises, unless they qualify for certain exceptions, and terminates most of the tax exemptions, reductions and preferential treatment available under the previous tax laws and regulations. According to the EIT Law and relevant regulations, subject to the approval of competent tax authorities, the income tax of an enterprise that has been determined to be a high and new technology enterprise shall be reduced to a preferential rate of 15%.

Moreover, under the EIT Law, enterprises organized under the laws of jurisdictions outside China with their “de facto management bodies” located within China may be considered PRC resident enterprises and are therefore subject to PRC enterprise income tax at the rate of 25% on their worldwide income. Though the implementation rules of the EIT Law define “de facto management bodies” as “establishments that carry out substantial and overall management and control over the manufacturing and business operations, personnel, accounting, properties, etc. of an enterprise,” the only detailed guidance currently available for the definition of “de facto management body” as well as the determination of offshore incorporated PRC tax resident status and its administration are set forth in the Notice Regarding the Determination of Chinese-Controlled Overseas Incorporated Enterprises as PRC Tax Resident Enterprise on the Basis of De Facto Management Bodies, or Circular 82, and the Administrative Measures for Enterprise Income Tax of Chinese-Controlled Offshore Incorporated Resident Enterprises (Trial) or SAT Bulletin No. 45, both issued by the SAT, which provide guidance on the administration as well as determination of the tax residency status of a Chinese-controlled offshore-incorporated enterprise, defined as an enterprise that is incorporated under the law of a foreign country or territory and that has a PRC company or PRC corporate group as its primary controlling shareholder.

 

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According to Circular 82, a Chinese-controlled offshore-incorporated enterprise will be regarded as a PRC tax resident by virtue of having its “de facto management body” in China and will be subject to PRC enterprise income tax on its global income only if all of the following conditions set forth in Circular 82 are met:

 

    the primary location of the day-to-day operational management and the places where they perform their duties are in the PRC;

 

    decisions relating to the enterprise’s financial and human resource matters are made or are subject to approval of organizations or personnel in the PRC;

 

    the enterprise’s primary assets, accounting books and records, company seals and board and shareholder resolutions are located or maintained in the PRC; and

 

    50% or more of voting board members or senior executives habitually reside in the PRC.

In addition, Bulletin No. 45 provides clarification on the resident status determination, post-determination administration, and competent tax authorities. It also specifies that when provided with a copy of PRC resident determination certificate from a resident Chinese-controlled offshore-incorporated enterprise, the payer should not withhold 10% income tax when paying certain PRC-sourced income such as dividends, interest and royalties to the Chinese-controlled offshore-incorporated enterprise.

In the event that we are considered a PRC resident enterprise, we would be subject to the PRC enterprise income tax at the rate of 25% on our worldwide income.

In addition, although the EIT Law provides that dividend income between “qualified resident enterprises” is exempted income, and the implementation rules refer to “qualified resident enterprises” as enterprises with “direct equity interest,” it is unclear whether dividends we receive from our PRC subsidiaries are eligible for exemption.

In accordance with the Notice on Strengthening Administration of Enterprise Income Tax for Share Transfers by Non-PRC Resident Enterprises, or Circular 698, if a non-resident enterprise transfers the equity interests of a PRC resident enterprise indirectly by disposition of the equity interests of an overseas holding company (other than a purchase and sale of shares issued by a PRC resident enterprise in public securities market), or Indirect Transfer, and such overseas holding company is located in a tax jurisdiction that: (i) has an effective tax rate of less than 12.5%, or (ii) does not tax foreign income of its residents, the non-resident enterprise, being the transferor, shall report to the PRC competent tax authority of the PRC resident enterprise this Indirect Transfer within 30 days from the date when the equity transfer agreement was made. Using a “substance over form” principle, the PRC tax authority may disregard the existence of the overseas holding company if it lacks a reasonable commercial purpose and was established for the purpose of reducing, avoiding, or deferring PRC tax. As a result, gains derived from such Indirect Transfer may be subject to PRC withholding tax at a rate of up to 10%. Circular 698 also provides that, where a non-PRC resident enterprise transfers its equity interests in a PRC resident enterprise to its related parties at a price lower than the fair market value, the relevant tax authority has the power to make a reasonable adjustment to the taxable income of the transaction. Circular 698 is retroactively effective on January 1, 2008. There is uncertainty as to the application of Circular 698. Circular 698 may be determined by the tax authorities to be applicable to our private equity financing transactions where non-resident investors were involved, if any of such transactions were determined by the tax authorities to lack reasonable commercial purpose. As a result, we and our non-resident investors in such transactions may become at risk of being taxed under Circular 698 and we may be required to expend valuable resources to comply with Circular 698 or to establish that we should not be taxed under the general anti-avoidance rule of the EIT Law, which may have a material adverse effect on our financial condition and results of operations or such non-resident investors’ investments in us. See “Risk Factors—Risks Relating to Doing Business in China—We face uncertainty with respect to indirect transfer of equity interests in PRC resident enterprises by their non-PRC holding companies.”

 

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PRC Business Tax

Pursuant to applicable PRC tax regulations, any entity or individual conducting business in the service industry is generally required to pay a business tax at the rate of 5% on the revenues generated from providing such services. However, if the services provided are related to technology development and transfer, such business tax may be exempted subject to the approval of relevant tax authorities. In addition, certain businesses, such as PC and mobile game, are subject to 3% business tax and surcharges pursuant to applicable PRC tax regulations.

Value Added Tax

On January 1, 2012, the Chinese State Council officially launched a pilot value-added tax (“VAT”) reform program, or Pilot Program, applicable to businesses in selected industries. Businesses in the Pilot Program would pay VAT instead of business tax. The Pilot Industries in Shanghai included industries involving the leasing of tangible movable property, transportation services, research and development and technical services, information technology services, cultural and creative services, logistics and ancillary services, certification and consulting services. Revenues generated by advertising services, a type of “cultural and creative services,” are subject to the VAT tax rate of 6%. According to official announcements made by competent authorities in Beijing and Guangdong province, Beijing launched the same Pilot Program on September 1, 2012, and Guangdong province launched it on November 1, 2012. On May 24, 2013, the Ministry of Finance and the State Administration of Taxation issued the Circular on Tax Policies in the Nationwide Pilot Collection of Value Added Tax in Lieu of Business Tax in the Transportation Industry and Certain Modern Services Industries, or the Pilot Collection Circular. The scope of certain modern services industries under the Pilot Collection Circular extends to the inclusion of radio and television services. On August 1, 2013, the Pilot Program was implemented throughout China. We currently pay the pilot VAT instead of business taxes for our advertising activities, and for any other parts of our business that are deemed by the local tax authorities to belong to the applicable industries.

Cultural Development Fee

According to applicable PRC tax regulations or rules, advertising service providers are generally required to pay a cultural development fee at the rate of 3% on the revenues (a) which are generated from providing advertising services and (b) which are also subject to the business tax or value-added tax after the Pilot Program.

Dividends Withholding Tax

Under the old EIT Law that was effective prior to January 1, 2008, dividends paid to foreign investors by foreign-invested enterprises, such as dividends paid to us by Beijing Kingsoft and Conew Network, our PRC subsidiaries, were exempt from PRC withholding tax. We are a Cayman Islands holding company and substantially all of our income may come from dividends we receive from our subsidiaries located in the PRC. Pursuant to the EIT Law and its implementation rules, dividends from income generated after January 1, 2008 and distributed to us by our PRC subsidiaries are subject to withholding tax at a rate of 10%.

As uncertainties remain regarding the interpretation and implementation of the EIT Law and its implementation rules, we cannot assure you that, if we are deemed a PRC resident enterprise, any dividends to be distributed by us to our non-PRC shareholders and ADS holders would not be subject to any PRC withholding tax. See “Risk Factors—Risks Relating to Doing Business in China—Under the PRC Enterprise Income Tax Law, we may be classified as a PRC ‘resident enterprise,’ which could result in unfavorable tax consequences to us and our shareholders and have a material adverse effect on our results of operations and the value of your investment.”

 

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Labor Laws and Social Insurance

The principle laws that govern employment include:

 

    Labor Law of the People’s Republic of China, promulgated by the Standing Committee of the National People’s Congress on July 5, 1994, effective since January 1, 1995 and amended on August 27, 2009;

 

    Labor Contract Law of the People’s Republic of China, promulgated by the Standing Committee of the National People’s Congress on June 29, 2007 and effective since January 1, 2008 and amended on December 28, 2012;

 

    Implementation Rules of the PRC Labor Contract Law, promulgated by the State Council on September 18, 2008 and effective since September 18, 2008;

 

    Work-related Injury Insurance Regulations, promulgated by the State Council on April 27, 2003 and effective since January 1, 2004 and amended on December 20, 2010;

 

    Interim Provisions on Registration of Social Insurance, promulgated by the Ministry of Human Resources and Social Security (formerly the Ministry of Labor and Social Security) on March 19, 1999 and effective since March 19, 1999;

 

    Interim Regulations on the Collection and Payment of Social Insurance Fees, promulgated by the State Council on January 22, 1999 and effective since January 22, 1999; and

 

    Social Insurance Law promulgated by the National People’s Congress on October 28, 2010, effective since July 1, 2011.

According to the Labor Law and Labor Contract Law, employers must execute written labor contracts with full-time employees. All employers must compensate their employees with wages equal to at least the local minimum wage standards. All employers are required to establish a system for labor safety and workplace sanitation, strictly comply with state rules and standards and provide employees with workplace safety training. Violations of the PRC Labor Contract Law and the PRC Labor Law may result in the imposition of fines and other administrative penalties. For serious violations, criminal liability may arise.

In addition, pursuant to the Social Insurance Law promulgated by the National People’s Congress on October 28, 2010, which came into effect on July 1, 2011, employers in China are required to provide employees with welfare schemes covering pension insurance, unemployment insurance, maternity insurance, work-related injury insurance, medical insurance and housing funds.

M&A Regulations and Overseas Listings

On August 8, 2006, six PRC governmental agencies jointly promulgated the Regulations on Mergers and Acquisitions of Domestic Enterprises by Foreign Investors, or the 2006 M&A Rules, which became effective on September 8, 2006 and amended on June 22, 2009. The 2006 M&A Rules require offshore special purpose vehicles formed to pursue overseas listing of equity interests in PRC companies and controlled directly or indirectly by PRC companies or individuals to obtain the approval of the Chinese Securities Regulatory Commission, or the CSRC, prior to the listing and trading of such special purpose vehicle’s securities on any stock exchange overseas.

The application of the 2006 M&A Rules remains unclear. Based on the understanding on the current PRC laws, rules and regulations and the 2006 M&A Rules of our PRC Legal Counsel, Han Kun Law Offices, prior approval from the CSRC is not required under the 2006 M&A Rules for the listing and trading of the ADSs on NYSE because the CSRC approval requirement applies to SPVs that acquired equity interests of any PRC company that are held by PRC companies or individuals controlling such SPV and seek overseas listing, and our PRC subsidiaries were incorporated as wholly foreign-owned enterprises by means of direct investment rather than by merger or acquisition by our company of the equity interest or assets of any “domestic company” as defined under the 2006 M&A Rules, and no provision in the 2006 M&A Rules classifies the contractual

 

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arrangements between our company, our PRC subsidiaries and any of our consolidated affiliated entities, either by each agreement itself or taken as a whole, as a type of acquisition transaction falling under the 2006 M&A Rules. However, as there has been no official interpretation or clarification of the 2006 M&A Rules, there is uncertainty as to how this regulation will be interpreted or implemented.

Considering the uncertainties that exist with respect to the issuance of new laws, regulations or interpretation and implementing rules, the opinion of Han Kun Law Offices, summarized above, is subject to change. If the CSRC or another PRC regulatory agency subsequently determines that prior CSRC approval was required, we may face regulatory actions or other sanctions from the CSRC or other PRC regulatory agencies. For more information and discussion on this, see “Risk Factors—Risks Relating to Doing Business in China—The approval of the China Securities Regulatory Commission may be required in connection with this offering and, if required, we cannot assure you that we will be able to obtain it.”

Regulations on Online Lottery Business

The major rules and regulations currently in effect and applicable to online lottery services include Regulation on Administration of Lottery, promulgated by the State Council on May 4, 2009 and effective as of July 1, 2009, or the Lottery Regulation, and the Tentative Administration Measures on Internet Lottery Sale, promulgated by the MOF on September 26, 2010, or the Lottery Measures, and effective upon the promulgation. On January 18, 2012, the MOF, the Ministry of Civil Affairs and the State General Administration of Sports jointly promulgated the Implementation Rules of the Lottery Administration Regulations, which became effective on March 1, 2012. In December 2012, the MOF issued the Lottery Distribution and Sale Administration Measures, which became effective on January 1, 2013. Under currently effective rules and regulations, only qualified service providers approved by the MOF may engage in online lottery sales. Such qualified service providers will act as agencies for the relevant lottery administration centers and must enter into lottery agency agreements with the competent lottery administration centers before engaging in lottery sales on their behalf.

 

 

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MANAGEMENT

Directors and Executive Officers

The following table sets forth information regarding our executive officers and directors as of the date of this prospectus.

 

Directors and Executive Officers

  

Age

    

Position/Title

Jun Lei

     44      

Chairman of Board of Directors

Sheng Fu

     36      

Chief Executive Officer and Director

Hongjiang Zhang

     53      

Director

Yuk Keung Ng

     49      

Director

David Ying Zhang

     40      

Independent Director

Ke Ding

     41      

Director

Zhijian Peng

     43      

Director

Wei Liu

     37      

Director

Richard Weidong Ji*

     46      

Independent Director Appointee

Ming Xu

     35      

Chief Technology Officer

Ka Wai Andy Yeung

     41      

Chief Financial Officer

Xinhua Liu

     40      

Chief Marketing Officer

Jie Xiao

     39      

Vice President

Yong Chen

     35      

Vice President

 

* Mr. Richard Weidong Ji has accepted an appointment as our independent director, effective upon the effectiveness of the registration statement of which this prospectus is a part.

Jun Lei has been our director since October 2010 and the chairman of our board since July 2011. Mr. Lei was appointed to be a director of our company by Kingsoft Corporation, a company listed on the Hong Kong Stock Exchange (Stock Code: 3888). Mr. Lei is a co-founder and is currently the chairman of Kingsoft Corporation. From October 1998 to December 2007, Mr. Lei served as the chief executive officer of Kingsoft Corporation. In 2010, Mr. Lei co-founded and has since then served as the chairman of Xiaomi Corporation, a smartphone and mobile internet company in China. From April 2000 to March 2005, Mr. Lei co-founded and served as the chairman of Joyo.com, which was later acquired by Amazon.com, Inc. in 2004 and became Amazon China. Mr. Lei also served as the chairman of YY Inc. (NASDAQ: YY), which is a rich communication social platform. In addition, Mr. Lei is an active private equity investor and currently serves as a director or advisor in several privately held companies that he founded or invested in. Mr. Lei received his bachelor’s degree in computer science from Wuhan University in China in 1991.

Sheng Fu has been our chief executive officer and director since November 2010. Mr. Fu has also been a senior vice president of Kingsoft Corporation since March 2011. Since September 2009, Mr. Fu has been the chief executive officer and chairman of Conew Network. Prior to that, Mr. Fu was the vice president of Matrix Partners China from November 2008. Between November 2005 and August 2008, Mr. Fu worked at Qihoo 360 serving various management roles at its 360 department, a division then in charge of developing 360 products. From March 2003 to October 2005, Mr. Fu was the product manager of 3721 Internet Real Name and 3721 Internet Assistant. Mr. Fu received a bachelor’s degree in economics from Shandong Institute of Business and Technology in China in 1999.

Hongjiang Zhang has been our director since December 2011. Dr. Zhang was appointed to be our director by Kingsoft Corporation, at which Dr. Zhang currently serves as an executive director and the chief executive

 

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officer. Prior to joining Kingsoft Corporation in October 2011, since January 2004, Dr. Zhang was the chief technology officer of Microsoft Asia-Pacific Research and Development Group and the managing director of the Microsoft Advanced Technology Center and a Distinguished Scientist. In his dual role, Dr. Zhang led Microsoft’s research and development initiatives in China, including strategy and planning, research and development, as well as incubation of products, services and solutions. Dr. Zhang was also a member of the executive management committee of Microsoft (China) Limited. Dr. Zhang was the deputy managing director and a founding member of Microsoft Research Asia. Dr. Zhang has authored four books, over 400 scientific papers and holds over 102 US patents. Dr. Zhang received a Ph.D. in electrical engineering from the Technical University of Denmark in 1991, and a bachelor of science degree from Zhengzhou University, China, in 1982.

Yuk Keung Ng has been our director since July 2012. Mr. Ng was appointed to be our director by Kingsoft Corporation, at which Mr. Ng serves as an executive director and the chief financial officer. Mr. Ng has more than twenty years of experience in financial management, corporate finance and merger and acquisition. Before joining Kingsoft Corporation, from 2006 to 2012, Mr. Ng was the chief financial officer of two companies listed on the Hong Kong Stock Exchange, including China NT Pharma Group Company Limited (Stock Code: 1011) and China Huiyuan Juice Group Ltd. (Stock Code: 1886). Prior to that, Mr. Ng had worked for over 12 years with PricewaterhouseCoopers from 1988 to 2001. Mr. Ng is currently an independent director of various companies listed on the Hong Kong Stock Exchange, including Sany Heavy Equipment International Holdings Company Limited (Stock Code: 631), Beijing Capital Land Limited (Stock Code: 2868), Winsway Coking Coal Holdings Limited (Stock Code: 1733) and Zhongsheng Group Holdings Limited (Stock Code: 881). Mr. Ng is a professional accountant and a fellow member of both the Hong Kong Institute of Certified Public Accountants and the Association of Chartered Certified Accountants and a member of the Institute of Chartered Accountants in England and Wales. Mr. Ng obtained a master’s degree in global business management and e-commerce in 2002 and graduated from the University of Hong Kong with a bachelor’s degree in social sciences in 1988.

David Ying Zhang has been our director since October 2010. Mr. Zhang was appointed to be our director by Matrix Partners China, one of our shareholders and such appointment right will automatically terminate upon the closing of this offering. Our board of directors has determined that Mr. Zhang meets the independence standards under Rule 10A-3 under the Exchange Act and applicable NYSE corporate governance rules. Mr. Zhang is a founding managing partner of Matrix Partners China, where he oversees all of private equity investment firm’s operations. Mr. Zhang is currently also a director of Sungy Mobile Limited (NASDAQ: GOMO). Prior to joining us, since 2002, Mr. Zhang established and expanded WI Harper Group’s Beijing operations and co-managed its China portfolios. Prior to joining WI Harper Group, Mr. Zhang worked at Salomon Smith Barney, where he was responsible for analyzing, structuring and marketing companies in the internet, software and semiconductor sectors. Before then, Mr. Zhang worked at ABN AMRO Capital as a senior venture associate. Mr. Zhang received a master of science degree in biotechnology and business from Northwestern University in 1999 and a bachelor of science degree in clinical science with minor in chemistry from California State University in 1997.

Ke Ding has been our director since June 2013. Mr. Ding was appointed to be our director by TCH Copper Limited, an affiliate of Tencent and one of our major shareholders. Since March 2011, Mr. Ding has been the vice president in charge of mobile internet business at Tencent. Prior to that, Mr. Ding had been the general manager in charge of Tencent’s 3G products center since May 2009. Mr. Ding received a master’s degree in theoretical and applied automated control from Lanzhou University of Technology, China, in 1997, and a bachelor’s degree of science from Xidian University, China, in 1994.

Zhijian Peng has been our director since July 2013. Mr. Peng was appointed to be a director of our company by TCH Copper Limited, one of our major shareholders. Mr. Peng joined Tencent in 2008 and is currently the vice president of Tencent’s corporate development and managing director of Tencent’s industry collaboration fund, heading investment and acquisition initiatives of Tencent. Prior to joining Tencent, Mr. Peng was a principal orchestrating corporate development at Google Inc. (“Google,” NASDAQ: GOOG), and was in charge of Google’s investment and acquisition activities in the greater China area. Prior to that, between 2004 and 2005, Mr. Peng was a global strategist at Samsung Group in Seoul, Korea. Mr. Peng received an MBA degree from the

 

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Wharton School of Business of the University of Pennsylvania in 2003, a master’s degree in economics from Peking University, China, in 1998, and a bachelor’s degree in mechanical engineering from Tsinghua University, China, in 1993.

Wei Liu has been our director since May 2013. Mr. Liu was appointed to be our director by Kingsoft Corporation, at which Mr. Liu serves as a vice president. Mr. Liu joined Kingsoft Corporation in 2000 as a manager, and was promoted to be the director of human resources in 2007, an assistant president in April 2012 and then the current position of vice president. Mr. Liu graduated from China University of Mining and Technology in 1999 with a bachelor’s degree in economics.

Richard Weidong Ji will serve as our independent director immediately upon the effectiveness of our registration statement on Form F-1, of which this prospectus is a part. Our board of directors has determined that Mr. Ji meets the independence standards under Rule 10A-3 under the Exchange Act and applicable NYSE corporate governance rules. Mr. Ji is the founding partner of All-Star Investment Limited, which aims to invest in internet technology leaders and consumer brands that help enhance the lives of Chinese consumers. Mr. Ji is also an independent director and a member of the audit committee of the boards of the NASDAQ-listed YY Inc and the NYSE-listed 58.com Inc. Mr. Ji served as managing director and head of Asia-Pacific internet/media investment research at Morgan Stanley Asia Limited from 2005 to 2012, during which period he had won recognitions from publications and research groups such as Institutional Investor, Greenwich Associates, Asiamoney and Financial Times. Mr. Ji holds a doctor of science degree in biological science from Harvard University, an MBA from the Wharton School of Business at the University of Pennsylvania and a Bachelor of Science from Fudan University in China.

Ming Xu has been our chief technology officer since October 2010. Mr. Xu has more than ten years of experience in the research and development of anti-virus and internet security. Prior to joining us, between September 2008 and October 2010, Mr. Xu served as the chief technology officer of Conew.com Corporation. Between 2005 and August 2008, Mr. Xu worked at Qihoo 360, where he was the technical director of 360 department, a division then in charge of developing 360 products. Between 2003 and 2005, Mr. Xu worked in various Internet companies, including Yahoo! Inc. and Beijing 3721 Technology Co., Ltd. as a software engineer. Mr. Xu received a master’s degree and a bachelor’s degree in engineering from Harbin Institute of Technology, China, in 2002 and 1999, respectively.

Ka Wai Andy Yeung has been our chief financial officer since January 2014. Prior to joining us, from 2009 to 2013, Mr. Yeung worked at Oppenheimer & Co. Inc. as director, executive director, and then managing director, responsible for research coverage of China’s internet and media sectors. Between 2004 and 2009, Mr. Yeung was an associate in equity research at Thomas Weisel Partners. Prior to that position, Mr. Yeung was a senior consultant at Wells Fargo Bank. From 1999 to 2002, he was an associate and then senior associate at Mitchell Madison Group and Silver Oak Partners. Mr. Yeung has been a Chartered Financial Analyst charterholder since 2001. He received his MBA degree from Yale University in 1999 and his bachelor’s degrees in mechanical engineering and applied mathematics from the University of California, Berkeley, in 1995.

Xinhua Liu has been our chief marketing officer since November 2011. Mr. Liu is currently in charge of our global sales and marketing, business operation, strategic business development, as well as legal and public affairs. Mr. Liu has over 16 years of working in marketing and public relations. Prior to joining us, between October 2007 and October 2011, Mr. Liu served as the chief strategy officer of Shunya Communications Group, where he was responsible for strategic account management, business development, partner sourcing, as well as strengthening the group’s digital capabilities in branding strategy, among others. Between 2005 to 2007, Mr. Liu was a national technology practice leader at Burson-Marsteller, where he was in charge of clientele sourcing in the technology industry in greater China. Mr. Liu received an MBA degree from the Beijing International MBA program of Peking University, China, in 2003 and a bachelor’s degree in international economics from the University of International Relations, China, in 1996.

 

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Jie Xiao has been our vice president since October 2010 and is in charge of business development, marketing, and commercial products. From 2008 to 2010, she was a senior manager at the enterprise marketing department of Baidu, Inc. (NASDAQ: BIDU), focusing on public relations. Prior to that, she worked as a public relations director at Qihoo 360 Technology Co., Ltd. and a communications manager for Yahoo! China. She received a bachelor’s degree in accounting from Renmin University in 1999.

Yong Chen has been our vice president since October 2010 and is in charge of the development of Duba Anti-virus, our core anti-virus product, and some other products. Between 2001 and 2010, Mr. Chen held various positions at Kingsoft Corporation’s subsidiaries responsible for research and development, including the development of Duba Anti-virus. Mr. Chen has won several awards for innovation and is the inventor of five issued patents. He received a bachelor of engineering degree from Jingdezhen Ceramic Institute, China, in 2001.

Employment Agreements

We have entered into employment agreements with our senior executive officers. We may terminate a senior executive officer’s employment for cause at any time without remuneration for certain acts of the officer, such as being convicted of or pleads guilty to a felony or to an act of fraud, misappropriation or embezzlement, any negligence or dishonest acts to the detriment of our company, or any misconduct or failure to perform his/her duties after afforded a reasonable opportunity to cure such failure. We may also terminate a senior executive officer’s employment without cause at any time by giving one month’s prior written notice, and we shall provide severance payments to the officer as expressly required by the applicable law of the jurisdiction where the officer is based. A senior executive officer may terminate his or her employment at any time by giving one month’s prior written notice.

In connection with the employment agreement, each senior executive officer has agreed to hold all proprietary or confidential information of our company and our affiliates or the respective clients, customers or partners, including, without limitation, all software and computer formulae, designs, specifications, drawings, data, manuals and instructions and all customer and supplier lists, sales and financial information, business plans and forecasts, all technical solutions and the trade secrets of our company, in strict confidence perpetually. Each officer also agrees that we shall own all the intellectual property developed by such officer during his or her employment.

Board of Directors

Our board of directors currently consists of eight directors. A director is not required to hold any shares in our company to qualify to serve as a director. A director may vote with respect to any contract or transaction in which he or she is interested provided the nature of the interest is disclosed prior to its consideration and any vote thereon. Subject to our fourth amended and restated memorandum and articles of association, which will become effective immediately prior to the completion of this offering, a director may exercise all the powers of our company to borrow money, mortgage or charge our undertaking, property and uncalled capital, and to issue debentures, debenture stock and other securities whether outright or as security for any debt, liability or obligation of our company or of any third party.

Committees of the Board of Directors

Prior to the completion of this offering, we intend to establish an audit committee, a compensation committee and a nominating and corporate governance committee under the board of directors. We intend to adopt a charter for each of the three committees prior to the completion of this offering. Each committee’s members and functions are described below.

Audit Committee. Our audit committee will consist of Richard Weidong Ji and Yuk Keung Ng, and will be chaired by Richard Weidong Ji. Our board of directors has determined that Richard Weidong Ji meets the “independence” requirements of NYSE and the independence standards under Rule 10A-3 under the Securities

 

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Exchange Act of 1934, as amended. We have determined that Richard Weidong Ji qualifies as an “audit committee financial expert.” We intend to appoint a new independent director to our board of directors and audit committee within 90 days after our registration statement on Form F-1, of which this prospectus is a part, becomes effective. The audit committee will oversee our accounting and financial reporting processes and the audits of the financial statements of our company. The audit committee will be responsible for, among other things:

 

    selecting the independent registered public accounting firm and pre-approving all auditing and non-auditing services permitted to be performed by the independent registered public accounting firm;

 

    reviewing with the independent registered public accounting firm 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 under the Securities Act;

 

    discussing the annual audited financial statements with management and the independent registered public accounting firm;

 

    reviewing major issues as to the adequacy of our internal controls and any special audit steps adopted in light of any material control deficiencies;

 

    annually reviewing and reassessing the adequacy of our audit committee charter;

 

    meeting separately and periodically with management and the independent registered public accounting firm; and

 

    reporting regularly to the board.

Compensation Committee. Our compensation committee will consist of Jun Lei, Richard Weidong Ji and David Ying Zhang. Our board of directors has determined that David Ying Zhang and Richard Weidong Ji both satisfy the “independence” standards under applicable NYSE corporate governance rules. The compensation committee will assist the board in reviewing and approving the compensation structure, including all forms of compensation, relating to our directors and executive officers. Our chief executive officer may not be present at any committee meeting during which his compensation is deliberated upon. The compensation committee will be responsible for, among other things:

 

    reviewing and approving, or recommending to the board for its approval, the compensation for our chief executive officer and other executive officers;

 

    reviewing and recommending to the board for determination with respect to the compensation of our non-employee directors;

 

    reviewing periodically and approving any incentive compensation or equity plans, programs or similar arrangements; and

 

    selecting compensation consultant, legal counsel or other adviser only after taking into consideration all factors relevant to that person’s independence from management.

Nominating and Corporate Governance Committee. Our nominating and corporate governance committee will consist of Jun Lei, Sheng Fu and David Ying Zhang. Our board of directors has determined that David Ying Zhang satisfies the “independence” standards under applicable NYSE corporate governance rules. We intend to rely on the controlled company exemption available under applicable NYSE corporate governance rules with respect to the composition of our nominating and corporate governance committee. The committee will assist the board in selecting individuals qualified to become our directors and in determining the composition of the board and its committees. The committee will be responsible for, among other things:

 

    recommending nominees to the board for election or re-election to the board, or for appointment to fill any vacancy on the board;

 

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    reviewing annually with the board the current composition of the board with regard to characteristics such as independence, skills, experience, expertise, diversity, and availability of service to us;

 

    selecting and recommending to the board the directors to serve as members of each standing committee of the board; and

 

    developing and reviewing periodically the corporate governance principles adopted by the board to ensure appropriateness and compliance with the requirements of the NYSE, and to recommend any desirable changes to the board.

Duties of Directors

Under Cayman Islands law, our directors have a fiduciary duty to act honestly, in good faith and with a view to our best interests. Our directors also owe to our company a duty to act with skill and care. It was previously considered that a director need not exhibit in the performance of his duties a greater degree of skill than may reasonably be expected from a person of his knowledge and experience. However, English and Commonwealth courts have moved towards an objective standard with regard to the required skill and care and these authorities are likely to be followed in the Cayman Islands. In fulfilling their duty of care to us, our directors must ensure compliance with our memorandum and articles of association, as amended and restated from time to time. You should refer to “Description of Share Capital—Differences in Corporate Law” for additional information on our standard of corporate governance under Cayman Islands law.

Terms of Directors and Officers

Our officers are elected by and serve at the discretion of the board. Our directors are not subject to a term of office and hold office until such time as they resign or are removed from office by ordinary resolution or the unanimous written resolution of all shareholders. A director will be removed from office automatically if, among other things, the director (1) becomes bankrupt or makes any arrangement or composition with his creditors; (2) dies or is found to be or becomes of unsound mind; or (3) without special leave of absence from the board of directors, is absent from meetings of the board for three consecutive meetings and the board resolves that his office be vacated.

Compensation of Directors and Executive Officers

For the fiscal year ended December 31, 2013, we paid an aggregate of approximately RMB5.7 million (US$947,000) in cash to our executive officers, including our executive director, and we did not pay any cash compensation to our non-executive directors. Our PRC subsidiaries and VIEs are required by law to make contributions equal to certain percentages of each employee’s salary for his or her retirement benefit, medical insurance benefits, housing funds, unemployment and other statutory benefits. For the fiscal year ended December 31, 2013, we contributed an aggregate of approximately RMB374,000 (US$62,000) for pension, retirement benefits or other similar benefits for our executive officers, including our executive director. For details on the share incentive grants to our officers and directors, see “—Share Incentive Plans.”

Share Incentive Plans

We adopted a share award scheme in May 2011, as amended in September 2013 (the “2011 Plan”), a 2013 equity incentive plan in January 2014 (the “2013 Plan”) and a 2014 restricted shares plan (the “2014 Plan”). The purpose of our share incentive plans is to recruit and retain key employees, directors or consultants of outstanding ability and to motivate them to deliver the best performance for the benefit of our company.

The 2011 Plan

Under the 2011 Plan, as amended, the maximum number of shares in respect of which awards that may be granted is 100,000,000 ordinary shares of our company as at the date of such grant, excluding any shares

 

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awarded that have lapsed or have been forfeited. On May 26, 2011, pursuant to the 2011 Plan and a trust deed, we allotted to Core Pacific-Yamaichi International (H.K.) Nominees Limited, as trustee for the 2011 Plan, 100,000,000 ordinary shares on trust for the benefit of participating employees in the 2011 Plan.

The following paragraphs summarize the terms of the as amended 2011 Plan.

Types of Awards. The 2011 Plan provides for the award of our ordinary shares subject to certain terms and conditions that our board of directors may determine in its absolute discretion.

Plan Administration. Our board or a committee of our board duly authorized for the purpose of the 2011 Plan shall administer the 2011 Plan. The plan administrator will determine in its absolute discretion the employees to receive the awards, the number of awards to be granted to each selected grantee, and the terms and conditions of each award grant. We have set up a trust pursuant to a trust deed to facilitate the administration of the 2011 Plan.

Award Notice. Share awards granted under the 2011 Plan are evidenced by an award notice that sets forth the terms and conditions for each grant, which relate to vesting, forfeiture or lapse of unvested awarded shares, and repurchase of vested awarded shares.

Eligibility. We may grant awards to any employee of our company, including without limitation an employee who is also a director of our company or subsidiaries.

Lapse of the Awards. An award will lapse if (i) the grantee of an award ceases to be an employee of our company or subsidiaries, (ii) the company which employs the selected employee ceases to be a subsidiary of our company, or (iii) there is an ordinary for involuntary wind-up of our company or a resolution is passed for the voluntary wind-up of our company, save for the purposes of an amalgamation, reconstruction or scheme of arrangement).

Vesting Schedule. The plan administrator determines the vesting schedule, which is set forth in the award notice.

Transfer Restrictions. Each award granted under the 2011 Plan are personal to respective grantees and may not be sold, transferred, assigned, charged, mortgaged, or encumbered with any interests in favor of any other third party.

Termination. The 2011 Plan will terminate in May 2021, unless terminated at an earlier date by our board of directors.

The 2013 Plan

Under the 2013 Plan, the maximum number of our ordinary shares that may be issued is 64,497,718 ordinary shares.

The following is a summary of the terms of the 2013 Plan.

Types of Awards. The 2013 Plan provides for the grant of share options and share appreciation rights, in addition to the grant or sale of other share-based awards, such as our ordinary shares, restricted shares and awards that are valued in whole or in part by reference to or based on the fair market value of our ordinary shares.

Plan Administration. Our board, our compensation committee, or a subcommittee thereof duly authorized for the purpose of the Plan will be the plan administrator of our 2013 Plan. The plan administrator has the sole discretion to determine the participants to receive the awards, the number and types of awards to be granted to each participant, and the terms and conditions of each award grant.

 

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Award Agreement. Awards under the 2013 Plan are evidenced by an award agreement that sets forth the terms and conditions for each grant.

Exercise Price. The exercise price, grant price, or purchase price of any award shall be determined by the plan administrator at its sole discretion.

Eligibility. We may grant awards to the employees, director or consultant of our company, Kingsoft Corporation or its affiliates.

Term of Awards. The term of options and share appreciation rights awarded under the 2013 Plan shall be determined by the plan administrator, subject to a maximum term of ten years after the date of grant. The term of other share-based awards shall be determined by the plan administrator.

Lapse of Option Awards. An option award will lapse if (i) the option has expired, (ii) the participant’s relationship or employment with our company and/or affiliates has been terminated with or without cause pursuant to any applicable laws or under the participant’s service contract with our company and/or affiliates, (ii) winding-up of our company has been commenced, or (iii) otherwise provided for in the award agreement.

Vesting Schedule. The plan administrator determines the vesting schedule, which is set forth in the award agreement.

Transfer Restrictions. An award may not be transferred or assigned by the participant in any manner other than by will or by the laws of descent and distribution, unless otherwise determined by the plan administrator.

Termination. The 2013 Plan will terminate automatically in January 2024, unless terminated at an earlier date by a resolution of our shareholders.

The 2014 Plan

In April 2014, we adopted a 2014 restricted shares plan, or the 2014 Plan. The maximum aggregate number of shares which may be issued pursuant to all awards under the 2014 Plan is 122,545,665 Class A ordinary shares as of the date of its approval. As of the date of this prospectus, no awards have been granted under the 2014 Plan.

The following is a summary of the terms of the 2014 Plan.

Types of Awards. The 2014 Plan permits the awards of restricted shares and restricted share units.

Plan Administration. Our board, our compensation committee, or a subcommittee thereof duly authorized for the purpose of the Plan will be the plan administrator of our 2014 Plan. The plan administrator has the sole discretion to determine the participants to receive the awards, the number and types of awards to be granted to each participant, and the terms and conditions of each award grant.

Award Agreement. Awards granted under the 2014 Plan are evidenced by an award agreement that sets forth terms, conditions and limitations for each award, which may include the term of the award, the provisions applicable in the event of the grantee’s employment or service terminates, and our authority to unilaterally or bilaterally amend, modify, suspend, cancel or rescind the award.

Eligibility. We may grant awards to our employees, directors and consultants of our company.

Acceleration of Awards upon Change in Control. If a change in control of our company occurs, the plan administrator may, in its sole discretion, provide for (i) all awards outstanding to terminate at a specific time in the future and give each participant the right to exercise the vested portion of such awards during a specific

 

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period of time, or (ii) the purchase of any award for an amount of cash equal to the amount that could have been attained upon the exercise of such award, or (iii) the replacement of such award with other rights or property selected by the plan administrator in its sole discretion, or (iv) payment of award in cash based on the value of ordinary shares on the date of the change-in-control transaction plus reasonable interest.

Vesting Schedule. In general, the plan administrator determines the vesting schedule, which is specified in the relevant award agreement.

Transfer Restrictions. Awards may not be transferred in any manner by the recipient other than by will or the laws of descent and distribution, except as otherwise provided by the plan administrator.

Termination of the 2014 Plan. Unless terminated earlier, the 2014 Plan will terminate automatically in 2024. Our board of directors has the authority to amend or terminate the plan subject to shareholder approval or home country practice.

The following table summarizes, as of the date of this prospectus, the number of restricted shares granted in aggregate under our 2011 Plan to our executive officers, directors and other individuals as a group.

 

     Number of Restricted Shares
Awarded

Sheng Fu

   4,881,667

Ming Xu

   2,440,833

Ka Wai Andy Yeung

     *

Xinhua Liu

     *

Yong Chen

     *

Jie Xiao

     *

Other individuals as a group

   70,827,500
  

 

Total**

   104,650,000
  

 

 

* The aggregate number of restricted shares granted to this individual is less than 1% of our total outstanding shares.
** Includes a total of 6,050,000 restricted shares that have been forfeited as of the date of this prospectus.

The following table summarizes, as of the date of this prospectus, the number of restricted shares granted in aggregate under our 2013 Plan to our executive officers, directors and all the grantees as a group.

 

     Number of
Restricted
Shares
Awarded
     Purchase Price
(US$/Share)
 

Sheng Fu

     20,917,421         0.34   

Ming Xu

     10,458,710         0.34   

Ka Wai Andy Yeung

       *         0.34   

Total

     53,261,131         0.34   

 

* The aggregate number of restricted shares granted to this individual is less than 1% of our total outstanding shares.

As of the date of this prospectus, no awards have been granted under the 2014 Plan.

 

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PRINCIPAL SHAREHOLDERS

Except as specifically noted, the following table sets forth information with respect to the beneficial ownership of our ordinary shares as of the date of this prospectus and the voting power after this offering held by:

 

    each of our directors and executive officers; and

 

    each person known to us to beneficially own more than 5% of our ordinary shares.

Beneficial ownership is determined in accordance with the rules and regulations of the SEC. These rules generally provide that a person is the beneficial owner of securities if such person has or shares the power to vote or direct the voting of securities, or to dispose or direct the disposition of securities or has the right to acquire such powers within 60 days. In computing the number of shares beneficially owned by a person and the percentage ownership of that person, we have included shares that the person has the right to acquire within 60 days, including through the exercise of any option, warrant or other right or the conversion of any other security, in both the numerator and the denominator. These shares, however, are not included in the computation of the percentage ownership of any other person. Such treatment of these shares qualifies all our footnotes to the table below relating to the calculation of percentage of beneficial ownership.

 

    Ordinary shares
beneficially
owned prior to
this offering
    Class A
ordinary shares
beneficially
owned after
this offering
    Class B
ordinary shares
beneficially
owned after
this offering
    Voting
power
after this
offering
 
    Number    </