Earnings slightly missed expectation

Liaison Interactive announced 3Q16 results: revenue was Rmb281mn, up 43.4% YoY; net profit attributable toshareholders was Rmb68.774mn, up 14.3% YoY, or Rmb0.03 per share.

Trends to watch

Earnings were slightly lower than consensus. We believe this is because the disappoint ing growth ofcloud search business and game business. Due to the new rule of regis tration number, the launch of gamebusiness was postponed. Hardware wise, the main hardware which contributed revenue in 1——3Q was Glyph glasses.

The consolidation of Kuner also contributed revenue.

Gross margin declined 10.8ppt YoY to 41.8%, mainly because games and cloud search business （highmargin） weakened, while hardware business （low margin） accounted for a larger share of revenue;selling and administrative expense increased significant ly. The increase of selling expense was mainly due tohigher promotion expense for smart hardware, while the increase of administrative expense was due to the increase ofadministrative staff （leading to high compensation） and increase of R&D expense for smart hardware.

The company takes a 55% stake in New Egg, which may generate synergy in capital, channels andecosystems. The investment made by the company provides important capital for New Egg. New Egg could effectivelycompleme nt the compa ny's online sales channels and help with hardware product promotion and growth and hencestrengthening the company's smart hardware ecosystem.

Earnings forecast

As cloud search and game business missed expectation, we lower our earnings forecast by 14% from Rmb0.23to Rmb0.2 per share for 2016, and by 13% from Rmb0.32 to Rmb0.28 per share for 2017.

Valuation and recommendation

The stock is trading at 68x 2017e P/E. Considering New Egg's fair value contribution （Rmb11bn）， the mar ket ca p forcore business should be Rmb35.1bn （57x 2017e P/E）。 Although earnings missed, we remain upbeat on the Lianluo OSentrance value and Liason's smart hardware ecosystem. Maintain BUY but lower TP by 30.0% to Rmb21.00.

Risks

Distribution pace of TV drama missed expectation, film box office revenue disappoints.