F-1/A 1 d494918df1a.htm AMENDMENT NO. 4 TO FORM F-1 AMENDMENT NO. 4 TO FORM F-1
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As filed with the Securities and Exchange Commission on May 10, 2018

Registration No. 333-224202

 

 

 

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

 

 

Amendment No. 4

to

FORM F-1

REGISTRATION STATEMENT

UNDER

THE SECURITIES ACT OF 1933

 

 

HUYA Inc.

(Exact name of Registrant as specified in its charter)

 

 

Not Applicable

(Translation of Registrant’s name into English)

 

 

 

Cayman Islands   7370   Not Applicable

(State or other jurisdiction of

incorporation or organization)

 

(Primary Standard Industrial

Classification Code Number)

 

(I.R.S. Employer

Identification Number)

Building B-1, North Block of Wanda Plaza,

No. 79 Wanbo 2nd Road,

Panyu District, Guangzhou 511442

People’s Republic of China

+86 (20) 8212-0800

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

 

 

Law Debenture Corporate Services Inc.

801 2nd Avenue, Suite 403

New York, NY 10017

+1 212-750-6474

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

 

 

Copies to:

Z. Julie Gao, 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

 

Haiping Li, Esq.

Skadden, Arps, Slate, Meagher & Flom LLP

JingAn Kerry Center, Tower II, 46th Floor

1539 Nanjing West Road

Shanghai 200040

People’s Republic of China

+86 (21) 6193-8200

 

David Zhang, Esq.

Steve Lin, Esq.

Kirkland & Ellis International LLP

c/o 26/F, Gloucester Tower, The Landmark

15 Queen’s Road Central

Hong Kong

+852 3761-3300

 

 

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.  ☐

Indicate by check mark whether the registrant is an emerging growth company as defined in Rule 405 of the Securities Act of 1933.

Emerging growth company  ☒

If an emerging growth company that prepares its financial statements in accordance with U.S. GAAP, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards† provided pursuant to Section 7(a)(2)(B) of the Securities Act.  ☒

† The term “new or revised financial accounting standard” refers to any update issued by the Financial Accounting Standards Board to its Accounting Standards Codification after April 5, 2012.

 

 

CALCULATION OF REGISTRATION FEE

 

 

Title of each class of

securities to be registered

 

Amount

to be

registered(1)(2)

 

Proposed maximum

aggregate

offering price
per share(1)

 

Proposed maximum
aggregate

offering price(1)(2)

 

Amount of

registration fee(4)

Class A Ordinary Shares, par value US$0.0001 per share(2)(3)

  17,250,000   US$12.00   US$207,000,000   US$25,772

 

 

(1) Estimated solely for the purpose of determining the amount of registration fee in accordance with Rule 457(a) under the Securities Act of 1933.
(2) Includes Class A ordinary shares that are issuable upon the exercise of the underwriters’ 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.
(3) American depositary shares issuable upon deposit of Class A ordinary shares registered hereby will be registered under a separate registration statement on Form F-6 (Registration No. 333-224563). Each American depositary share represents one Class A ordinary share.
(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 or until the Registration Statement shall become effective on such date as the Securities and Exchange Commission, acting pursuant to said Section 8(a), may determine.

 

 

 


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The information in this preliminary prospectus is not complete and may be changed. These securities may not be sold until the registration statement filed with the Securities and Exchange Commission is effective. This preliminary prospectus is not an offer to sell nor does it seek an offer to buy these securities in any jurisdiction where the offer or sale is not permitted.

 

SUBJECT TO COMPLETION, DATED MAY 10, 2018

15,000,000 American Depositary Shares

 

LOGO

HUYA Inc.

Representing 15,000,000 Class A Ordinary Shares

 

 

This is an initial public offering of American depositary shares, or ADSs, of HUYA Inc., or Huya. Huya is offering 15,000,000 ADSs. Each ADS represents one of our Class A ordinary shares, par value US$0.0001 per share.

 

 

Prior to this offering, there has been no public market for our ADSs or our Class A ordinary shares. It is currently estimated that the initial public offering price per ADS will be between US$10.00 and US$12.00. We have applied to list the ADSs on the NYSE under the symbol “HUYA.”

 

 

We are an “emerging growth company” under applicable U.S. federal securities laws and are eligible for reduced public company reporting requirements. Following the completion of this offering, we will be a “controlled company” as defined under the Corporate Governance Rules of the NYSE because YY Inc., or YY, will hold 56.4% of our then outstanding Class B ordinary shares, representing 54.9% of our total voting power assuming the underwriters do not exercise their over-allotment option, or 54.8% of our total voting power, if the underwriters exercise their over-allotment option in full. Following the completion of this offering, Linen Investment Limited, a wholly-owned subsidiary of Tencent Holdings Limited, will hold 40.5% of our then outstanding Class B ordinary shares, representing 39.5% of our total voting power, assuming the underwriters do not exercise their over-allotment option, or 39.4% of our total voting power, if the underwriters exercise their over-allotment option in full. See “Principal Shareholders.”

 

 

Upon the completion of this offering, 42,389,737 Class A ordinary shares and 159,157,321 Class B ordinary shares will be issued and outstanding, assuming the underwriters do not exercise their over-allotment option. 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.

See “Risk Factors” beginning on page 15 for factors you should consider before investing in the ADSs.

 

 

PRICE US$             PER ADS

 

 

 

     Price to
Public
     Underwriting
Discounts and
Commission
     Proceeds
to HUYA Inc.
 

Per ADS

   US$                   US$                   US$               

Total

   US$                   US$                   US$               

We have granted the underwriters an option to purchase up to an additional 2,250,000 ADSs to cover over-allotments.

The United States Securities and Exchange Commission and state regulators have not approved or disapproved of 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 against payment in U.S. dollars to purchasers in New York, New York on or about            , 2018.

 

Credit Suisse   Goldman Sachs (Asia) L.L.C.   UBS Investment Bank
  Needham & Company  

Prospectus dated                    , 2018.


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Table of Contents

TABLE OF CONTENTS

 

     Page  

PROSPECTUS SUMMARY

     1  

RISK FACTORS

     15  

SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

     64  

USE OF PROCEEDS

     65  

DIVIDEND POLICY

     66  

CAPITALIZATION

     67  

DILUTION

     69  

EXCHANGE RATE INFORMATION

     72  

ENFORCEABILITY OF CIVIL LIABILITIES

     73  

CORPORATE HISTORY AND STRUCTURE

     75  

OUR RELATIONSHIP WITH OUR MAJOR SHAREHOLDERS

     80  

SELECTED CONSOLIDATED FINANCIAL DATA

     81  

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

     83  

INDUSTRY OVERVIEW

     110  

BUSINESS

     116  

REGULATION

     136  

MANAGEMENT

     154  

PRINCIPAL SHAREHOLDERS

     161  

RELATED PARTY TRANSACTIONS

     163  

DESCRIPTION OF SHARE CAPITAL

     165  

DESCRIPTION OF AMERICAN DEPOSITARY SHARES

     179  

SHARES ELIGIBLE FOR FUTURE SALES

     189  

TAXATION

     191  

UNDERWRITING

     198  

EXPENSES RELATED TO THIS OFFERING

     207  

LEGAL MATTERS

     208  

EXPERTS

     209  

WHERE YOU CAN FIND ADDITIONAL INFORMATION

     210  

INDEX TO THE CONSOLIDATED FINANCIAL STATEMENTS

     F-1  

No dealer, salesperson or other person is authorized to give any information or to represent anything not contained in this prospectus or in any free writing prospectus we may authorize to be delivered or made available to you. You must not rely on any unauthorized information or representations. This prospectus is an offer to sell only the ADSs offered hereby, but only under circumstances and in jurisdictions where it is lawful to do so. The information contained in this prospectus is current only as of its date.

Neither we nor any of the underwriters has done anything that would permit this offering or possession or distribution of this prospectus or any filed free writing prospectus in any jurisdiction where action for that purpose is required, other than in the United States. Persons outside the United States who come into possession of this prospectus or any filed free writing prospectus must inform themselves about, and observe any restrictions relating to, the offering of the ADSs and the distribution of this prospectus or any filed free writing prospectus outside of the United States.

Until                    , 2018 (the 25th day after the date of this prospectus), all dealers that buy, sell or trade ADSs, whether or not participating in this offering, may be required to deliver a prospectus. This is in addition to the obligation of dealers to deliver a prospectus when acting as underwriters and with respect to their unsold allotments or subscriptions.

 

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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 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 our ADSs discussed under “Risk Factors,” before deciding whether to invest in our ADSs. This prospectus contains information from a report dated January 31, 2018, as supplemented, that was commissioned by us and prepared by Frost & Sullivan, an independent market research firm, to provide information on the games and live streaming industries and our market position in China. We refer to this report as the Frost & Sullivan Report.

Our Mission

We aspire to become the most popular technology-enabled entertainment community for young generations in China.

Our Business

We are the No.1 game live streaming platform in China. We have the largest and most active game live streaming community in terms of average MAUs, and average daily time spent on mobile app per mobile active user in the fourth quarter of 2016 and 2017, and the largest number of active broadcasters in 2016 and 2017, according to the Frost & Sullivan Report. As the pioneer and market leader, we are well positioned to expand further in the rapidly growing game live streaming market in China. We cooperate with e-sports event organizers, as well as major game developers and publishers, and have developed e-sports live streaming as the most popular content genre on our platform. As of December 31, 2016 and 2017, our live streaming content covered over 2,100 and 2,600 different games, respectively, including mobile, PC and console games. Building on our success in game live streaming, we have also extended our content to other entertainment genres, such as talent shows, anime and outdoor activities.

We have created an engaged, interactive and immersive community for game enthusiasts of China’s young generation. Our rich and high-quality game live streaming content is a magnet for users who share common interests to connect and share their passion on our platform. Our users interact with one another with the support of our platform’s wide array of innovative and appealing social functions, such as bullet chatting, real-time commenting and gifting. Such real-time interactions on our platform cultivate a strong sense of belonging, which effectively increase our user stickiness and time spent. In the fourth quarter of 2017, our community had over 38.8 million average mobile MAUs, an increase of 47.6% from the same period of 2016.

Our open platform also functions as a marketplace for broadcasters and talent agencies to congregate and closely collaborate with us. We have set up effective operating standards and comprehensive incentive mechanisms to encourage healthy competition, good performance and regulatory compliance. The monetization opportunities for broadcasters and talent agencies are linked to their performance, which motivates them to supply high-quality content to our platform. We believe our role as an efficient and transparent marketplace fueled our continuous growth and success.

Our content is highly dynamic. Beyond the real-time nature of live streaming where each broadcaster improvises in each live streaming session, our community interactions generate another form of content. The variety of real-time interactions between viewers and broadcasters or among viewers creates viewer-generated content, which in turn becomes part of the overall entertainment and social experience offered on our platform. Such content enhances the sense of involvement and makes it more fun to watch live streaming.

Our technology platform is designed for reliability, scalability and flexibility. Leveraging our strong technological capabilities in the fields of big data and artificial intelligence, or AI, live streaming, and infrastructure, we deliver superior user experience and conduct operation in a highly efficient manner.



 

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We monetize our user base mainly through live streaming services and advertising services. Revenues from live streaming services are primarily generated from the sales of virtual items that our users purchase on our platform. We share revenues generated on our platform with broadcasters and talent agencies. Revenues from advertising services are generated from advertisements placed on our platform.

We have experienced rapid growth since our inception. Our revenues increased from RMB796.9 million in 2016 to RMB2,184.8 million (US$335.8 million) in 2017. We had net losses of RMB625.6 million and RMB81.0 million (US$12.4 million) in 2016 and 2017, respectively.

Our Industry

Live streaming platforms focused on common interests have become increasingly popular in the past few years. Game live streaming platforms have created close communities for game enthusiasts to share their common interests. Interest-focused live streaming platforms provide a more conducive environment for closer social interactions, stronger sense of belonging, and higher engagements among users.

China had the world’s largest games market in terms of revenues and gamers in 2017, according to the Frost & Sullivan Report. China had 646 million gamers in 2017, and is expected to have 917 million gamers in 2022. E-sports has become a mainstream entertainment option that has attracted growing attention on social media in China. China’s e-sports market had the largest gamer base in the world with approximately 229 million gamers in 2017, representing a compound annual growth rate, or CAGR of 24.6% since 2015 and is expected to reach 537 million gamers by 2022, according to the Frost & Sullivan Report.

China has the largest active user base of live streaming services in the world, according to the Frost & Sullivan Report. The average MAUs was 279 million in 2017 and is expected to grow at a CAGR of 13.1% to 518 million by 2022. The total revenues of China’s live streaming market grew from US$1.0 billion in 2015 to US$5.5 billion in 2017 and are expected to further grow to US$16.5 billion by 2022 at a CAGR of 24.6%. The total revenues of game live streaming market in China experienced significant growth in the past, from US$121 million in 2015 to US$1.2 billion in 2017 and are projected to reach US$4.9 billion in 2022 at a CAGR of 33.6%. China has 180 million average game live streaming MAUs in 2017, and such number is expected to increase to 349 million in 2022 at a CAGR of 14.1%.

Competitive Strengths

We believe the following competitive strengths contribute to our success and differentiate us from our competitors:

 

    No. 1 game live streaming platform in China

 

    Highly engaged and interactive community

 

    Efficient and transparent marketplace

 

    Rich and dynamic content offerings

 

    Cutting-edge technological capabilities and scalable infrastructure

 

    Visionary management team and strong shareholder support

Our Strategies

We intend to achieve our mission by pursing the following strategies:

 

    Further expand our user base and invigorate our community


 

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    Advance our technological capabilities

 

    Enrich our content offerings

 

    Bring more value to content providers

 

    Diversify monetization channels

 

    Explore strategic investment, acquisition and overseas expansion opportunities

Our Challenges

Our ability to achieve our goal and execute our strategies is subject to risks and uncertainties, including those relating to our ability to:

 

    keep our existing users highly engaged, to acquire new users or to increase the proportion of paying users;

 

    attract and retain talented and popular broadcasters;

 

    offer attractive content, in particular popular game content, on our platform;

 

    sustain our rapid growth, effectively manage our growth or implement our business strategies;

 

    compete effectively;

 

    obtain and maintain the licenses and approvals required under the complex regulatory environment for internet-based businesses in China;

 

    maintain our relationship with talent agencies, in particular the platinum talent agencies; and

 

    maintain our unique community culture within our addressable user communities.

In addition, we face risks and uncertainties related to our corporate structure and regulatory environment in China, including:

 

    intensified government regulation of the internet industry in China;

 

    uncertainties in the interpretation and enforcement of PRC regulations and policies, including those relating to the live streaming industry in China;

 

    risks associated with our control over Guangzhou Huya, our consolidated variable interest entity in China, which is based on contractual arrangements rather than equity ownership;

 

    risks related to our ability to use the proceeds of this offering to make additional capital contributions or loans to our PRC subsidiary as a result of PRC regulations and governmental control of currency conversion; and

 

    risks related to our potential conflicts of interest with YY, our controlling shareholder, and its control over the outcome of shareholder actions in our company.

Please see “Risk Factors” and other information included in this prospectus for a discussion of these and other risks and uncertainties that we face.

Corporate History and Structure

Our Huya platform was launched in 2014, as a game live streaming business unit of our parent company, YY. In August 2016, Guangzhou Huya Information Technology Co., Ltd., or Guangzhou Huya, our variable



 

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interest entity was established. YY controlled Guangzhou Huya through a set of contractual arrangements. As of December 31, 2016, YY completed the transfer of all assets, including trademarks, domain names, business contracts and tangible assets relating to our business, to Guangzhou Huya, or our carve-out from YY.

YY incorporated Huya Limited in Hong Kong in January 2017 and HUYA Inc. in the Cayman Islands in March 2017 as our holding companies. In April 2017, Huya Limited became a wholly-owned subsidiary of HUYA Inc. In June 2017, Huya Limited established Guangzhou Huya Technology Co., Ltd., or Huya Technology, our wholly owned subsidiary in China. In July 2017, we gained control and became the sole beneficiary of Guangzhou Huya through a series of contractual arrangements between Huya Technology, Guangzhou Huya and Guangzhou Huya’s shareholders. In May and July 2017, Guangzhou Huya incorporated Guangzhou Yaoguo Information Technology Co. Ltd., or Guangzhou Yaoguo, and Guangzhou Dachafan Entertainment Co. Ltd., or Guangzhou Dachafan, respectively, in China. As such, we formed our current offshore and onshore corporate structure.

We are a holding company and we currently conduct our business in China through Huya Technology and our variable interest entity, Guangzhou Huya, and its subsidiaries. See “Risk Factors—Risks Related to Our Corporate Structure.” Guangzhou Huya holds an Internet Content Provision License and other permits that are necessary for operating our business in China.



 

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The following diagram summarizes our corporate structure chart, including our subsidiaries, our variable interest entity and its subsidiaries, as of the date of this prospectus.

 

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Notes:
(1) Represents 89,698,282 Class B ordinary shares YY beneficially owns as of the date of this prospectus. Please refer to the beneficial ownership table in the section captioned “Principal Shareholders” for more information on beneficial ownership of YY in our company prior to and immediately after this offering.
(2) Represents 64,488,235 Class B ordinary shares issuable upon the conversion of 64,488,235 series B-2 preferred shares on a one-to-one basis. Please refer to the beneficial ownership table in the section captioned “Principal Shareholders” for more information on beneficial ownership of Linen Investment Limited in our company prior to and immediately after this offering.
(3) The shareholders of Guangzhou Huya are Guangzhou Huaduo and Guangzhou Qinlv Investment Consulting Co., Ltd., or Guangzhou Qinlv, holding 99.01% and 0.99% of Guangzhou Huya’s equity interest, respectively. The shareholders of Guangzhou Huaduo are Mr. David Xueling Li, our chairman, and Beijing Tuda Science and Technology Co., Ltd, or Beijing Tuda, a variable interest entity of YY. The sole shareholder of Guangzhou Qinlv is Mr. Rongjie Dong, our chief executive officer and director.


 

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The following diagram sets forth the shareholding structure of our company immediately after this offering, without giving effect to voting power changes.

 

LOGO

 

* The computation of beneficial ownership percentages assumes that the underwriters do not exercise their over-allotment option. See “Principal Shareholders.” The shareholding percentages do not take into account the right Tencent has to purchase additional shares to reach 50.1% of the voting power in us, which is exercisable only between March 8, 2020 and March 8, 2021. The shareholding percentages also do not take into account the different votes that Class A ordinary shares and Class B ordinary shares will be entitled to upon the completion of the offering.
(1) We expect the shareholding structure of our subsidiaries and variable interest entities will remain the same immediately after the completion of this offering.

Our Relationship with Our Major Shareholders

Our Relationship with YY

Our business benefits from our collaboration with YY Inc., or YY, our controlling shareholder. YY is a leading live streaming social media platform that enables users to interact with each other in real time, and has been listed on NASDAQ Global Market since 2012. YY is our controlling shareholder, and will continue to control us after the completion of this offering. We benefit from YY’s experience in live streaming industry as well as technology know-how. We have established our own technology infrastructure, management and business functions separately from YY and we intend to continue to operate independently after we become a public company. On March 8, 2018, YY and us, through our respective PRC affiliated entities, entered into a business cooperation agreement, which sets out terms of our future cooperation in the areas of payment settlement, IT system licensing and broadcaster resources. On the same date, YY and us, through our respective PRC affiliated entities, also entered into a four-year non-compete agreement.

Our Relationship with Tencent

On February 5, 2018, Tencent Holdings Limited, or Tencent, and us, through our respective PRC affiliated entities, entered into a business cooperation agreement, which became effective on March 8, 2018. Pursuant to this business cooperation agreement, the parties agreed to pursue strategic cooperation in various areas of game live streaming business and game related business. This agreement has a term of three years, which is renewable under certain conditions.

Further to the business cooperation agreement, we entered into a share subscription agreement with Linen Investment Limited, a wholly-owned subsidiary of Tencent, on March 8, 2018. Pursuant to the agreement, on the same date, we issued a total of 64,488,235 of series B-2 preferred shares to Linen Investment Limited at a price of approximately US$7.16 per share, representing 34.6% of our total shares on an as-converted basis as of the closing of the transaction. Pursuant to our amended and restated shareholders’ agreement, Tencent has a right, exercisable between March 8, 2020 and March 8, 2021, to purchase additional shares at the then fair market price to reach 50.1% of the voting power in us.

Supported by Tencent’s strong capabilities in game development, distribution and operation, we believe the investment from, and our cooperation with, Tencent will reinforce and solidify our position as a market leader in the game live streaming industry in China.



 

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Recent Developments

The following sets forth certain unaudited consolidated statements of operations data for the three months ended March 31, 2018. On January 1, 2018, we adopted the new revenue standard ASC 606 using the modified retrospective method. The adoption of ASC 606 did not have any material impact on our consolidated financial statements. In addition, we have prepared these unaudited consolidated statements of operations data on the same basis as our audited consolidated financial statements. These unaudited consolidated statements of operations data reflect all adjustments, consisting only of normal and recurring adjustments, which we consider necessary for a fair statement of our results of operations for the period presented. We cannot assure you that our results for the three months ended March 31, 2018 will be indicative of our financial results for the full year ending December 31, 2018 or for future periods. Please refer to “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Risk Factors” included elsewhere in this prospectus for information regarding trends and other factors that may affect our results of operations.

 

    Our total revenues for the three months ended March 31, 2018 were RMB843.6 million (US$134.5 million), consisting of live streaming revenues of RMB792.8 million (US$126.4 million) and advertising and other revenues of RMB50.8 million (US$8.1 million), as compared to total revenues of RMB398.9 million for the three months ended March 31, 2017, consisting of live streaming revenues of RMB382.6 million and advertising and other revenues of RMB16.3 million. Our live streaming revenue increased by 107.2% mainly due to the increase in the number of our paying users on our platform and increase in the spending per paying user. Our advertising and other revenues increased by 212.4% as we continue to expand our advertising services business that we began to offer in October 2016.

 

    Our costs of revenues increased by 86.2% from RMB382.8 million for the three months ended March 31, 2017 to RMB712.5 million (US$113.6 million) for the three months ended March 31, 2018, primarily contributed by increase in revenue sharing fees and content costs, bandwidth costs, salaries and welfare due to business expansion.

 

    Our research and development expenses increased by 21.4% from RMB42.4 million for the three months ended March 31, 2017 to RMB51.5 million (US$8.2 million) for the three months ended March 31, 2018, mainly contributed by increase in the salaries and welfare of research and development personnel. Our sales and marketing expenses increased by 70.3% from RMB15.2 million for the three months ended March 31, 2017 to RMB25.9 million (US$4.1 million) for the three months ended March 31, 2018, mainly contributed by the increase of marketing and promotion expenses due to business expansion. Our general and administrative expenses increased by 251.2% from RMB10.2 million for the three months ended March 31, 2017 to RMB35.8 million (US$5.7 million) for the three months ended March 31, 2018, mainly contributed by the increase of share-based compensation as well as salaries and welfare of management personnel.

 

    As a result of the above, our operating income for the three months ended March 31, 2018 was RMB28.2 million (US$4.5 million), including the effect of RMB24.4 million (US$3.9 million) in share-based compensation expenses, as compared to an operating loss of RMB42.2 million for the three months ended March 31, 2017, including the effect of RMB7.0 million in share-based compensation expenses.

 

    Our net income for the three months ended March 31, 2018 was RMB31.4 million (US$5.0 million), including the effects of RMB24.4 million (US$3.9 million) in share-based compensation expenses and RMB11.9 million (US$1.9 million) in fair value loss on derivative liabilities related to our preferred shares, the conversion features of which are required to be bifurcated and accounted for as derivative liabilities in the first quarter of 2018. See Note 23 (a) to the consolidated financial statements included elsewhere in this prospectus for information regarding fair value loss on derivative liabilities related to our preferred shares. In comparison, we had a net loss of RMB41.7 million for the three months ended March 31, 2017, including the effect of RMB7.0 million in share-based compensation expenses.

We had approximately 92.9 million average MAUs in the first quarter of 2018, representing an increase of 19.2% from 78.0 million average MAUs in the first quarter of 2017. We had approximately 41.5 million average mobile MAUs in the first quarter of 2018, representing an increase of 25.0% from 33.2 million average mobile MAUs in the



 

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first quarter of 2017. The total number of paying users on our platform increased by 34.9% from 2.5 million in the first quarter of 2017 to 3.4 million in the first quarter of 2018. We also had over 666,000 average monthly active broadcasters on our platform in the first quarter of 2018, an increase from over 477,000 average monthly active broadcasters in the first quarter of 2017.

Corporate Information

Our principal executive offices are located at Building B-1, North Block of Wanda Plaza, No. 79 Wanbo 2nd Road, Panyu District, Guangzhou, 511442, the People’s Republic of China. Our telephone number at this address is +86 (20) 8212-0800. Our registered office in the Cayman Islands is located at the offices of Maples Corporate Services Limited, PO Box 309, Ugland House, Grand Cayman, KY1-1104, Cayman Islands.

Investors should submit any inquiries to the address and telephone number of our principal executive offices. Our main website is www.huya.com. The information contained on our website is not a part of this prospectus. Our agent for service of process in the United States is Law Debenture Corporate Services Inc., located at 801 2nd Avenue, Suite 403, New York, NY 10017.

Implications of Being an Emerging Growth Company

As a company with less than US$1.07 billion in revenues for the last fiscal year, we qualify as an “emerging growth company” pursuant to the Jumpstart Our Business Startups Act of 2012, as amended, 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$1.07 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 our 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.

Conventions that Apply to this Prospectus

Unless otherwise indicated or the context otherwise requires in this prospectus:

 

    “active user” for any period in the context of our operating data means the sum of our mobile app active users, website active users and active users accessing our platform through YY Client during such relevant period. We calculate our mobile app active users based on the number of mobile devices that launched our Huya Live mobile app during such relevant period. We calculate our website active users based on the number of mobile devices and PC devices with unique MAC address that accessed our websites during such relevant period. We calculate active users accessing our platform through YY Client based on the number of PC devices with unique MAC address that launched YY Client and accessed our platform during the relevant period. The calculations of our active users may not reflect the actual number of people using Huya, as it is possible that some people may use more than one device, or some people may share one device, or some people may access our platform through multiple channels;

 

    “active broadcaster” for any period means a registered broadcaster who has live broadcasted on our platform at least once during such relevant period;

 

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


 

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    “average daily time spent on mobile app per mobile active user” for any period in the context of our operating data is calculated by dividing (i) the sum of average time spent on our Huya Live mobile app each day per mobile active user for such period, by (ii) the number of days for such period;

 

    “average MAU” means the average monthly active users. Average MAU for any period is calculated by dividing (i) the sum of active users for each month of such period, by (ii) the number of months in such period;

 

    “average mobile MAU” in the context of our operating data means the average monthly active users on our Huya Live mobile app. Average mobile MAU for any period is calculated by dividing (i) the sum of our active users on our Huya Live mobile app for each month of such period, by (ii) the number of months in such period;

 

    “average monthly active broadcaster” for any period in the context of our operating data is calculated by dividing (i) the sum of our active broadcasters for each month of such period, by (ii) the number of months in such period;

 

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

 

    “Class A ordinary shares” refers to our Class A ordinary shares of par value US$0.0001 per share;

 

    “Class B ordinary shares” refers to our Class B ordinary shares of par value US$0.0001 per share;

 

    “MAU” means monthly active user;

 

    “mobile MAU” in the context of our operating data means monthly active users on our Huya Live mobile app;

 

    “paying user” for any period in the context of our operating data means a registered user that has purchased virtual items on our platform at least once during the relevant period. A paying user is not necessarily a unique user, however, as a unique user may set up multiple paying user accounts on our platform;

 

    “registered user” in the context of our operating data means a user that has registered and logged onto our platform at least once since registration. We calculate registered user as the cumulative number of user accounts at the end of the relevant period that have logged onto our platform at least once after registration. Each individual user may have more than one registered user account, and consequently, the number of registered users we present in this prospectus may not equal to the number of unique individuals who are our registered users;

 

    “retention rate of mobile app”, as applied to any cohort of users who use our Huya Live mobile app in a given period, is the percentage of these users who make at least one repeat use after a certain duration; the “one month retention rate of mobile app” for any cohort of users in a given month is the retention rate in the next month after the applicable month;

 

    “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; and

 

    “We,” “us,” “our company,” “our” and “Huya” refer to HUYA Inc., its subsidiaries, variable interest entity and subsidiaries of its variable interest entity.

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

Our reporting currency is the Renminbi. This prospectus also contains translations of certain foreign currency amounts into U.S. dollars for the convenience of the reader. Unless otherwise stated, all translations from Renminbi to U.S. dollars were made at RMB6.5063 to US$1.00, the noon buying rate set forth in the H.10 statistical release of the Federal Reserve Board on December 29, 2017. We make no representation that the Renminbi or U.S. dollar amounts referred to in this prospectus could have been or could be converted into U.S. dollars or Renminbi, as the case may be, at any particular rate or at all. The PRC government restricts or prohibits the conversion of Renminbi into foreign currency and foreign currency into Renminbi for certain types of transactions. On May 4, 2018, the noon buying rate set forth in the H.10 statistical release of the Federal Reserve Board was RMB6.3589 to US$1.00.



 

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The Offering

 

Offering price

We currently estimate that the initial public offering price will be between US$10.00 and US$12.00 per ADS.

 

ADSs offered by us

15,000,000 ADSs (or 17,250,000 ADSs if the underwriters exercise their over-allotment option in full).

 

ADSs outstanding immediately after this offering

15,000,000 ADSs (or 17,250,000 ADSs if the underwriters exercise their over-allotment option in full).

 

Ordinary shares outstanding immediately after this offering

201,547,058 ordinary shares, comprised of 42,389,737 Class A ordinary shares and 159,157,321 Class B ordinary shares (or 203,797,058 ordinary shares if the underwriters exercise their over-allotment option in full, comprised of 44,639,737 Class A ordinary shares and 159,157,321 Class B ordinary shares). This number assumes the conversion, on a one-on-one basis, of all outstanding preferred shares into ordinary shares immediately prior to the completion of this offering.

 

The ADSs

Each ADS represents one Class A ordinary share, par value US$0.0001 per share.

 

  The depositary will hold Class A ordinary shares underlying your ADSs. You will have rights as provided in the deposit agreement among us, the depositary and holders and beneficial owners of ADSs from time to time.

 

  We do not expect to pay dividends in the foreseeable future. If, however, we declare dividends on our Class A 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 in accordance with the terms set forth in the deposit agreement.

 

  You may surrender your ADSs to the depositary in exchange for Class A ordinary shares. The depositary will charge you fees for any exchange.

 

  We may amend or terminate the deposit agreement without your consent. If you continue to hold your ADSs after an amendment to the deposit agreement, you agree to be bound by the deposit agreement as amended.

 

  To better understand the terms of the ADSs, you should carefully read the “Description of American Depositary Shares” section of this prospectus. You should also read the deposit agreement, which is filed as an exhibit to the registration statement that includes this prospectus.

 

Ordinary Shares

Our ordinary shares are divided into Class A ordinary shares and Class B ordinary shares. In respect of all matters subject to a shareholder vote, each Class A ordinary share is entitled to one vote, and each Class B ordinary share is entitled to ten votes, voting



 

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together as one class. Each Class B ordinary share is convertible into 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 to any person or entity other than holders of Class B ordinary shares or their affiliates, such Class B ordinary shares shall be automatically and immediately converted into the equivalent number of Class A ordinary shares. See “Description of Share Capital” for more information.

 

Over-allotment option

We have granted to the underwriters an option, exercisable within 30 days from the date of this prospectus, to purchase up to an aggregate of 2,250,000 additional ADSs.

 

Use of proceeds

We expect that we will receive net proceeds of approximately US$149.2 million from this offering, or approximately US$172.2 million if the underwriters exercise their over-allotment option in full, assuming an initial public offering price of US$11.00 per ADS, which is the midpoint of the estimated range of the initial public offering price, after deducting underwriting discounts and commissions and estimated offering expenses payable by us.

 

  We plan to use the net proceeds of this offering primarily to expand and enhance our product and service offerings and strengthen our technologies, and use the balance of the proceeds for working capital and other general corporate purpose. Additionally, we may use a portion of the net proceeds to acquire businesses, products, services or technologies. See “Use of Proceeds” for more information.

 

Lock-up

We, our directors, executive officers and existing shareholders have agreed with the underwriters, subject to certain exceptions, not to sell, transfer or dispose of any ADSs, ordinary shares or similar securities for a period of 180 days after the date of this prospectus. In addition, we have agreed to instruct Deutsche Bank Trust Company Americas, as depositary, not to accept any shares for deposit for the issuance of ADSs for 180 days after the date of this prospectus (other than in connection with this offering), unless we instruct the depositary with the prior written consent of the representatives of the underwriters. See “Shares Eligible for Future Sales” and “Underwriting.”

 

Directed Share Program

At our request, the underwriters have reserved for sale, at the initial public offering price, up to 5% of the ADSs offered in this offering to some of our directors, officers, employees, business associates and related persons through a directed share program.

 

Listing

We have applied to have the ADSs listed on the NYSE under the symbol “HUYA.” Our ADSs and shares will not be listed on any other stock exchange or traded on any automated quotation system.

 

Payment and settlement

The underwriters expect to deliver the ADSs against payment therefor through the facilities of the Depository Trust Company on            , 2018.

 

Depositary

Deutsche Bank Trust Company Americas.


 

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Summary Consolidated Financial Data

The following summary consolidated financial data for the years ended December 31, 2016 and 2017 and as of December 31, 2016 and 2017 are derived from our audited consolidated financial statements included elsewhere in this prospectus. Our audited consolidated financial statements are prepared and presented in accordance with U.S. GAAP. Our historical results do not necessarily indicate results expected for any future periods. You should read this Summary Consolidated Financial Data section together with our consolidated financial statements and the related notes and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included elsewhere in this prospectus.

 

     Year Ended December 31,  
     2016     2017     2017  
     RMB     RMB     US$  
     (in thousands, except for share, per share and
per ADS data)
 

Summary Consolidated Statements of Comprehensive Loss:

      

Net revenues:

      

Live streaming

     791,978       2,069,536       318,082  

Advertising and others

     4,926       115,280       17,718  
  

 

 

   

 

 

   

 

 

 

Total net revenues

     796,904       2,184,816       335,800  
  

 

 

   

 

 

   

 

 

 

Cost of revenues(1)

     (1,094,644     (1,929,864     (296,615
  

 

 

   

 

 

   

 

 

 

Gross (loss) profit

     (297,740     254,952       39,185  
  

 

 

   

 

 

   

 

 

 

Operating expenses:(1)

      

Research and development expenses

     (188,334     (170,160     (26,153

Sales and marketing expenses

     (68,746     (87,292     (13,417

General and administrative expenses

     (71,325     (101,995     (15,676
  

 

 

   

 

 

   

 

 

 

Total operating expenses

     (328,405     (359,447     (55,246

Other income

     —         9,629       1,480  
  

 

 

   

 

 

   

 

 

 

Operating loss

     (626,145     (94,866     (14,581
  

 

 

   

 

 

   

 

 

 

Interest income

     518       14,049       2,159  
  

 

 

   

 

 

   

 

 

 

Loss before income tax expenses

     (625,627     (80,817     (12,422

Income tax expenses

     —         —         —    

Loss before share of loss in an equity method investment, net of income taxes

     (625,627     (80,817     (12,422

Share of loss in an equity method investment, net of income taxes

     —         (151     (23
  

 

 

   

 

 

   

 

 

 

Net loss attributable to HUYA Inc.

     (625,627     (80,968     (12,445
  

 

 

   

 

 

   

 

 

 

Accretion to series A redeemable convertible preferred shares redemption value.

     —         (19,842     (3,049
  

 

 

   

 

 

   

 

 

 

Net loss attributable to ordinary shareholders

     (625,627     (100,810     (15,494
  

 

 

   

 

 

   

 

 

 

Net loss

     (625,627     (80,968     (12,445
  

 

 

   

 

 

   

 

 

 

Foreign currency translation adjustment, net of nil tax

     —         308       47  
  

 

 

   

 

 

   

 

 

 

Total comprehensive loss attributable to HUYA Inc.

     (625,627     (80,660     (12,398
  

 

 

   

 

 

   

 

 

 

Net loss per ordinary share

      

Basic and diluted

     (6.26     (1.01     (0.15

Weighted average number of ordinary shares used in calculating net loss per ordinary share

      

Basic and diluted

     100,000,000       100,000,000       100,000,000  


 

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Note:

(1) Share-based compensation was allocated in cost of revenues and operating expenses as follow:

 

    Year Ended December 31,  
    2016     2017  
    RMB     RMB     US$  
    (in thousands)  

Cost of revenues

    5,677       2,877       442  

Research and development expenses

    19,538       9,174       1,410  

Sales and marketing expenses

    326       791       122  

General and administrative expenses

    26,557       27,266       4,191  

The following table presents our summary consolidated balance sheet data as of December 31, 2016 and 2017.

 

    As of December 31,  
    2016     2017  
    Actual     Actual     Pro forma(1)
(Unaudited)
    Pro forma
as adjusted(2)
(Unaudited)
 
    RMB     RMB     US$     RMB     US$     RMB     US$  
    (in thousands)  

Summary Consolidated Balance Sheet Data:

           

Cash and cash equivalents

    6,187       442,532       68,016       442,532       68,016       4,416,692       678,833  

Short-term deposits

    95,000       593,241       91,179       593,241       91,179       593,241       91,179  

Total current assets

    156,101       1,250,307       192,168       1,250,307       192,168       5,224,467       802,985  

Total assets

    167,234       1,300,541       199,889       1,300,541       199,889       5,274,701       810,706  

Total current liabilities

    319,928       685,650       105,383       685,650       105,383       685,650       105,383  

Total liabilities

    331,621       730,674       112,303       730,674       112,303       730,674       112,303  

Total mezzanine equity

    —         509,668       78,335       —         —         —         —    

Total shareholders’ (deficit) equity

    (164,387     60,199       9,251       569,867       87,586       4,544,027       698,403  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

Notes:

(1) The summary consolidated balance sheet data as of December 31, 2017 are presented on a pro forma basis to reflect the automatic conversion of all of our outstanding series A-1 preferred shares into 17,647,058 Class A ordinary shares and series A-2 preferred shares into 4,411,765 Class B ordinary shares immediately prior to the completion of this offering.
(2) The summary consolidated balance sheet data as of December 31, 2017 are presented on a pro forma as adjusted basis to reflect (i) the automatic conversion of all of our outstanding series A-1 preferred shares into 17,647,058 Class A ordinary shares and series A-2 preferred shares into 4,411,765 Class B ordinary shares immediately prior to the completion of this offering; (ii) the issuance and automatic conversion of all of our outstanding series B-2 preferred shares, which were issued and sold to Linen Investment Limited at a price of approximately US$7.16 per share in March 2018, into 64,488,235 Class B ordinary shares immediately prior to the completion of this offering; (iii) the automatic conversion of 8,382,353 Class B ordinary shares into an equal number of Class A ordinary shares in March 2018 resulted from the sale of such shares by YY to other investors; (iv) the automatic conversion of 367,870 Class B ordinary shares into an equal number of Class A ordinary shares in April 2018 resulted from the transfer of such shares by YY; (v) our receipt of US$461.6 million from the issuance of our series B-2 preferred shares in March 2018 and (vi) the sale of 15,000,000 Class A ordinary shares in the form of ADSs by us in this offering at an assumed initial public offering price of US$11.00 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 underwriters do not exercise their over-allotment option.


 

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The following table presents our summary consolidated cash flow data for the year ended December 31, 2016 and 2017.

 

     Year Ended December 31,  
     2016     2017  
     RMB     RMB     US$  
     (in thousands)  

Summary Consolidated Cash Flow Data:

      

Net cash (used in) provided by operating activities

     (420,451     242,444       37,262  

Net cash used in investing activities

     (96,135     (559,561     (86,002

Net cash provided by financing activities

     522,773       774,448       119,031  

Net increase in cash and cash equivalents

     6,187       457,331       70,291  

Cash and cash equivalents at beginning of the year

     —         6,187       951  

Cash and cash equivalents at end of the year

     6,187       442,532       68,016  
  

 

 

   

 

 

   

 

 

 


 

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RISK FACTORS

An investment in our ADSs involves significant risks. You should consider carefully all of the information in this prospectus, including the risks and uncertainties described below, before making an investment in our ADSs. Any of the following risks could have a material and adverse effect on our business, financial condition and results of operations. Additional risks and uncertainties not currently known to us or that we currently deem to be immaterial may also materially and adversely affect our business, prospects, financial condition, results of operations, cash flows and ability to pay dividends, and you may lose all or part of your investment.

Risks Related to Our Business and Our Industry

If we fail to keep our existing users highly engaged, to acquire new users, or to increase the proportion of paying users, our business, profitability and prospects may be adversely affected.

Our success depends on our ability to maintain and grow our user base and keep our users highly engaged. In order to attract, retain and engage users and remain competitive, we must continue to innovate our products and services, implement new technologies and strategies, offer interesting content created by popular broadcasters, improve features of our platform and stimulate interactions in our community.

A decline in our user base may adversely affect the engagement level of our users and vibrancy of our community, which may in turn reduce our monetization opportunities and have a material and adverse effect on our business, financial condition and results of operations. If we are unable to attract and retain users or convert users into paying users, our revenues may decline and our results of operations and financial condition may suffer.

We cannot assure you that our platform will remain sufficiently popular with users to offset the costs incurred to operate and expand it. It is vital to our operations that we remain sensitive and responsive to evolving user preferences and offer content that attracts our users. We must also keep providing our users with new features and functions to enable superior content viewing and social experience. We will need to continue to develop and improve our platform and to enhance our brand awareness, which may require us to incur substantial costs and expenses. If such increased costs and expenses do not effectively translate into improved user traffic and engagement, our results of operations may be materially and adversely affected.

We may fail to attract and retain talented and popular broadcasters.

The size and engagement level of our user base as well as the quality of the live streaming content offered on our platform are critical to our success and are closely linked to our broadcasters’ involvement and performance.

In 2017, our top 100 most popular broadcasters in terms of user spending attributable to their respective live streams contributed approximately 23.5% of our total net revenues. Although we have entered into multi-year cooperation agreements that contain exclusivity clauses with these broadcasters, if any of those broadcasters decides to breach the agreement or chooses not to continue the cooperation with us once the term of the agreement expires, the popularity of our platform may decline and the number of our users may decrease, which could materially and adversely affect our results of operations and financial condition.

In addition to our most popular broadcasters, we must continue to attract and retain talented and productive broadcasters in order to maintain and increase our content offerings and ensure the sustainable growth of our game live streaming community. We must identify and acquire potential talented broadcasters and provide them with sufficient resources. We cooperate with talent agencies to recruit, manage, train and support our broadcasters. However, we cannot assure you that we can continue to maintain the same level of attractiveness to our broadcasters and talent agencies.

 

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Broadcasters on our platform, including those who have entered into exclusivity agreements with us, may leave us for other platforms which may offer better services and terms than we do. Furthermore, we may lose broadcasters if the talent agencies that manage them are unable to reach or maintain satisfactory cooperation arrangements with such broadcasters. In addition, if talented and popular broadcasters cease to contribute content to our platform, or their live streams fail to attract users, we may experience a decline in user traffic and user engagement, which may have material and adverse impact on our results of operations and financial conditions.

We may fail to offer attractive content, in particular popular game content, on our platform.

We offer comprehensive live streaming content with a primary focus on games. Our content library is constantly evolving and growing. Game content has been the key genres of our content offerings since our inception, but in response to users’ growing interests, we also have expanded our coverage into other entertainment content genres. We actively track viewership growth and community feedback to identify trending content and encourage our broadcasters and talent agencies to create content that caters to users’ constantly changing taste. However, if we fail to continue to expand and diversify our content offerings, identify trending and popular genres, or maintain the quality of our content, we may experience decreased viewership and user engagement, which may materially and adversely affect our results of operations and financial conditions.

In addition, we largely rely on our broadcasters and talent agencies to create high-quality and fun live streaming content. We have in place a comprehensive and effective incentive mechanism to encourage broadcasters and talent agencies to supply content that are attractive to our users. Also, talent agencies cooperating with us may guide or influence broadcasters to live stream contents that are well received by our users. However, if we fail to observe the latest trends and timely guide broadcasters and talent agencies accordingly, or fail to attract broadcasters who are capable of creating content based on popular games, or if broadcasters fail to produce content for trending games, our users number may decline and our financial condition and results of operations may be materially and adversely affected.

We are a relatively young company, and we may not be able to sustain our rapid growth, effectively manage our growth or implement our business strategies.

We have a limited operating history, particularly as a stand-alone company. Our Huya platform was launched in 2014 as a business unit of YY. Although we have experienced significant growth since our platform was launched, our historical growth rate may not be indicative of our future performance due to our limited operating history and the rapid evolvement of our business model. We may not be able to achieve similar results or grow at the same rate as we had in the past. As our business and the live streaming service market in China continue to develop, we may adjust our product and service offerings or modify our business model. These adjustments may not achieve expected results and may have a material and adverse impact on our financial conditions and results of operations.

In addition, our rapid growth and expansion have placed, and continue to place, significant strain on our management and resources. This level of significant growth may not be sustainable or achievable at all in the future. We believe that our continued growth will depend on many factors, including our ability to develop new sources of revenues, diversify monetization methods, attract and retain users and content creators, increase user engagement, continue developing innovative technologies in response to user demand, increase brand awareness, expand into new market segments, and adjust to the rapidly changing regulatory environment in China. We cannot assure you that we will achieve any of the above, and our failure to do so may materially and adversely affect our business and results of operations.

We face competition in several major aspects of our business. If we fail to compete effectively, we may lose users, broadcasters, talent agencies, advertisers and other business partners.

We face competition in several major aspects of our business, particularly from companies that provide game live streaming services, including competitors our shareholders may have invested in or operated. Some of

 

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our competitors may have longer operating histories and significantly greater financial, technical and marketing resources than we do or have long term strategic relationships with game developers or publishers, and in turn may have an advantage in attracting and retaining users, advertisers and other business partners. In addition, our competitors may have significantly larger user bases and more established brand names than we do and therefore are able to more effectively leverage their user bases and brand names to provide live streaming, online social network, online games and other products and services, and thereby increase their respective market shares.

If we are not able to effectively compete in one or more of our business lines, our overall user base and level of user engagement may decrease, which could reduce the number of our paying users or make us less attractive to broadcasters, talent agencies, advertisers, and other business partners. We may be required to devote additional resources to further increase our brand recognition and promoting our products and services, and such additional spending may adversely affect our profitability. Furthermore, if we are involved in disputes with any of our competitors that result in negative publicity to us, such disputes, regardless of their veracity or outcome, may harm our reputation or brand image and in turn lead to reduced number of users and advertisers. Any legal proceedings or measures we take in response to such disputes may be expensive, time-consuming and disruptive to our operations and divert our management’s attention.

If we fail to obtain and maintain the licenses and approvals required under the complex regulatory environment for internet-based businesses in China, our business, financial condition and results of operations may be materially and adversely affected.

The internet industry in China is highly regulated. See “Regulation—Internet Information Services” “Regulation—Internet Publication and Cultural Products,” “Regulation—Online Music and Entertainment” and “Regulation—Online Transmission of Audio-Visual Programs.” For example, an internet information service provider shall obtain an operating license, or the ICP License, from the Ministry of Industry and Information Technology, or MIIT, or its local counterparts before engaging in any commercial internet information services. Our PRC variable interest entity, Guangzhou Huya, has obtained a valid ICP License for provision of internet information services, a radio and television program production and operating permit, a commercial performance license and an internet culture operation license for online games and music products.

Under the Administrative Provisions for the Internet Audio-Video Program Service, or the Audio-Visual Provisions, promulgated by the State Administration of Radio, Film and Television, or SARFT, and the MIIT, providers of internet audio-visual program services are required to obtain a license for online transmission of audio-visual programs, or the Audio-Visual License, issued by SARFT, or complete certain registration procedures with SARFT. According to a notice issued by the Administration of Press, Publication, Radio, Film and Television of the Guangdong Province on September 26, 2016, or Guangdong Province Letter, only live streaming services covering (i) major political, military, economics, social, cultural, sports activities or reality event streaming or (ii) activities such as general social cultural activities or sports events are required to apply for an Audio-Visual License. The Guangdong Province Letter further stated that live streaming platforms offering online shows, online games and online drama performances are not required to obtain an Audio-Visual License. We are advised by our PRC Legal Counsel that Audio-Visual License is not required for our live streaming business.

Currently, we allow broadcasters to upload their recorded video clips to our platform. We also selectively record and edit live streaming gameplay of certain popular broadcasters and turn them into video clip highlights. Streaming those videos on our platform may be regarded as providing internet audio-video program service. Although we currently hold an Audio-Visual License, due to the interpretation and implementation of existing and future laws and regulations, this may not be sufficient to meet regulatory requirements, which may restrain our ability to expand our business scope and may subject us to fines or other regulatory actions by relevant regulators if our practice of offering video clips is deemed as violating the Audio-Visual Provisions. Moreover, we may be required to obtain additional licenses or approvals for our video clip services if the PRC government adopts more stringent policies or regulations on online video clips offerings. As we further develop and expand our video service offerings, we may need to obtain additional qualifications, permits, approvals or licenses.

 

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As the internet industry in China is still at a relatively early stage of development, new laws and regulations may be adopted from time to time to address new issues that come to the authorities’ attention. Considerable uncertainties still exist with respect to 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. In addition, we may be required to obtain additional license or approvals, and we cannot assure you that we will be able to timely obtain or maintain all the required licenses or approvals or make all the necessary filings in the future. If we fail to 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 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.

We cooperate with various talent agencies to manage and recruit our broadcasters. If we are not able to maintain our relationship with talent agencies, in particular the platinum talent agencies, our operations may be materially and adversely affected.

We cooperate with talent agencies to manage, organize and recruit broadcasters on our platform. As we are an open platform that welcomes all broadcasters to register on our websites, cooperation with talent agencies substantially increases our operation efficiency in terms of discovering, supporting and managing broadcasters in a more organized and structured manner, and turning amateur broadcasters to full-time broadcasters.

We share a portion of the revenues generated from the sales of virtual items attributed to the broadcasters’ live streams with broadcasters and talent agencies who manage these broadcasters. If we cannot balance the interests between us, broadcasters and the talent agencies and design a revenue-sharing mechanism that is agreeable to both broadcasters and talent agencies, we may not be able to retain or attract broadcasters or talent agencies, or both. In addition, while we have entered into exclusive streaming agreements with certain broadcasters, none of the talent agencies we cooperate with has an exclusive cooperation relationship with us. If other platforms offer better revenue sharing incentive to talent agencies, such talent agencies may choose to devote more of their resources to broadcasters who stream on the other platforms, or they may encourage their broadcasters to use or even enter into an exclusive agreement with other platforms, all of which could materially and adversely affect our business, financial condition and results of operations.

We are subject to risks associated with operating in a rapidly developing industry and a relatively new market.

Many elements of our business are unique, evolving and relatively unproven. Our business and prospects depend on the continuing development of the live streaming industry in China. The markets for our products and services are relatively new and rapidly developing and are subject to significant challenges. Our business relies upon our ability to cultivate and grow an active game live streaming community and to successfully monetize our user base, so as to increase revenues from our live streaming as well as online advertising services. In addition, our continued growth depends, in part, on our ability to respond to constant changes in the internet industry, including rapid technological evolution, continued shifts in customer demands, frequent introductions of new products and services and constant emergence of new industry standards and practices. Developing and integrating new content, products, services or infrastructure could be expensive and time-consuming, and these efforts may not yield the benefits we expect to achieve at all. We cannot assure you that we will succeed in any of these aspects or that these industries in China will continue to grow as rapidly as it has in the past.

As users are facing a growing number of entertainment options that directly or indirectly compete with online live streaming, live streaming may not maintain or increase its current popularity. Growth of the live streaming industry is affected by numerous factors, such as content quality, user experience, technological innovations, development of internet and internet-based services, regulatory environment, and macroeconomic environment. In addition, since we mainly focus on game live streaming, the growth of the games industry will

 

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have an impact on the prospects of our business. If live streaming as a form of entertainment loses its popularity due to changing social trends and consumer preferences, or if the games industry in China does not grow as quickly as expected, our results of operation and financial condition may be materially and adversely affected.

Our revenue model for live streaming may not remain effective and we cannot guarantee that our future monetization strategies will be successfully implemented or generate sustainable revenues and profit.

We operate our live streaming platform using a revenue model whereby users can get free access to live streaming of game or other types of content but have the options to purchase virtual items. We have generated, and expect to continue to generate, a substantial majority of our live streaming revenues using this revenue model. In 2016 and 2017, our live streaming revenues contributed to 99.4% and 94.7% of our total net revenues, respectively. Although our live streaming business has experienced significant growth in recent years, we may not achieve a similar growth rate in the future, as the user demand for this service may change, decrease substantially or dissipate, or we may fail to anticipate and serve user demands effectively.

Although we factor in industry standards and expected user demand in determining how to optimize virtual item merchandizing effectively, if we fail to properly manage the supply and timing of our virtual items and their appropriate prices, our users may be less likely to purchase these virtual items from us. In addition, if users’ spending habits change and they choose to only access our content for free without additional purchases, we may not be able to continue to successfully implement the virtual items-based revenue model for live streaming, in which case we may have to provide other value-added services or products to monetize our user base. We cannot guarantee that our attempts to monetize our user base and products and services will continue to be successful, profitable or widely accepted, and therefore the future revenue and income potential of our business are difficult to evaluate.

We have a unique community culture that is vital to our success. Our operations may be materially and adversely affected if we fail to maintain our culture within our addressable user communities.

We have cultivated an interactive and vibrant online social community centered around live game streaming. We provide resources and support to the broadcasters through talent agencies that help train and retain talented broadcasters on our platform, who in turn, attract and retain users. We also ensure superior user experience by continuously improving user interface and features of our platform and encouraging active interaction between users and broadcasters. We believe that maintaining and promoting such a vibrant community culture is critical to retaining and expanding our user and broadcaster base. We have taken multiple initiatives to preserve our community culture and values. Despite our efforts, we may be unable to maintain our community culture and cease to be the preferred platform for our target users, broadcasters and talent agencies. For example, frictions among our users or broadcasters and inflammatory comments posted by internet trolls may damage our community culture and brand image, which would be detrimental to our business operations.

We generate a portion of our revenues from advertising. If we fail to attract more advertisers to our platform or if advertisers are less willing to advertise with us, our revenues may be adversely affected.

Although we primarily rely on revenues generated from live streaming services, we still generate a small portion of our revenues from advertising, which we expect to further expand in the near future. Our revenues from advertising partly depend on the continual development of the online advertising industry in China and advertisers’ willingness to allocate budgets to online advertising. In addition, companies that decide to advertise or promote online may utilize more established methods or channels, such as more established Chinese internet portals or search engines, over advertising on our platform. If the online advertising market does not continue to grow, or if we are unable to capture and retain a sufficient share of that market, our ability to increase our current level of advertising revenues and our profitability and prospects may be materially and adversely affected.

Furthermore, our core and long-term priority of optimizing user experience and satisfaction may limit our platform’s ability to generate revenues from advertising. For example, in order to provide our users with an

 

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uninterrupted entertainment experience, we do not place significant amounts of advertising on our streaming interface or insert pop-up advertisements during streaming. While this decision would adversely affect our operating results in the short-term, we believe it enables us to provide a superior user experience on our platform, which will help us expand and maintain our current user base and enhance our monetization potential in the long-term. However, this philosophy of putting our users first may also negatively impact our relationships with advertisers or other third parties, and may not result in the long-term benefits that we expect, in which case the success of our business and operating results could be harmed.

We offer advertising services primarily through contracts entered into with advertisers or third-party advertising agencies and by displaying advertisement on our platform or providing advertising integrated in the content offered on our live streaming platform. We cannot assure you that we will be able to attract or retain direct advertisers or advertising agencies. We typically enter into a one-year framework agreement with advertisers or third-party advertising agencies, which can be terminated upon 60 days prior written notice. If we fail to retain and enhance our business relationships with these advertisers or third-party advertising agencies, we may suffer from a loss of advertisers and our business and results of operations may be materially and adversely affected. If we fail to retain existing advertisers and advertising agencies or attract new direct advertisers and advertising agencies or any of our current advertising methods or promotion activities becomes less effective, our business, financial condition and results of operations may be adversely affected.

We have incurred significant losses since our inception and we may continue to experience losses in the future.

We had a net loss of RMB625.6 million and RMB81.0 million (US$12.4 million), respectively, in 2016 and 2017. We expect that we will continue to incur costs and expenses such as research and development costs and bandwidth costs to support our video functions, and costs to retain and attract content creators, grow our user base and generally expand our business operations. We may not generate sufficient revenues to offset such costs to achieve or sustain profitability in the future. In addition, we expect to continue to invest heavily in our operations to maintain our current market position, support anticipated future growth and to meet our expanded reporting and compliance obligations as a public company.

Our profitability is also affected by other factors beyond our control. For example, live streaming as a form of entertainment may not continue to retain or increase its viewership levels or popularity. In addition, advertisers may not increase or maintain their spending on live streaming platforms, including our platform. The continued success of our business depends on our ability to identify which services will appeal to our user base and to offer them on commercially acceptable terms. Our profitability also depends in part on our ability to convert active users into paying user, attract advertisers and successfully compete in a very competitive market.

Increases in the costs of content on our platform, such as higher revenue sharing ratio with broadcasters and talent agencies, may have an adverse effect on our business, financial condition and results of operations.

We need to continue offering popular and attractive content on our platform to provide our users with engaging and satisfying viewing experiences, and our ability to provide such content is dependent on our ability to attract and retain our live broadcasters and talent agencies. We have a revenue sharing arrangement with both our broadcasters and talent agencies under which we share with them a portion of the revenues from the sales of virtual items on our platform. In addition, we also cooperate with popular e-sports teams to make their game play available on our platform by paying them a sponsorship fee. The absolute amounts and revenue percentages that we pay broadcasters and talent agencies may increase. If our competitor platforms offer higher revenue sharing ratios with an intent to attract our popular broadcasters, costs to retain our broadcasters may further increase. If we are not able to continue to retain our broadcasters and produce high quality content on our platform at commercially acceptable costs, our business, financial condition and results of operations would be adversely impacted. Furthermore, as our business and user base further expands, we may have to devote more resources in encouraging our broadcasters and talent agencies to produce content that meets the varied interests of a diverse

 

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user base, which would increase the costs of contents on our platform. If we are unable to generate sufficient revenues that outpace our increased content costs, our business, financial condition and results of operations may be materially and adversely affected.

We may be held liable for information or content displayed on, retrieved from or linked to our platform, or distributed to our users, and PRC authorities may impose legal sanctions on us, including, in serious cases, suspending or revoking the licenses needed to operate our platform.

Our interactive live streaming platform enables users and broadcasters to exchange information and engage in various other online activities. Although we require our broadcasters to register their real name, we do not require real-name registration for our users, and hence we are unable to verify the sources of all the information posted by our users. In addition, because a majority of the communications on our platform is conducted in real time, we are unable to examine the content generated by users and broadcasters before they are posted or streamed. Therefore, it is possible that broadcasters and users may engage in illegal, obscene or incendiary conversations or activities, including publishing of inappropriate or illegal content that may be deemed unlawful under PRC laws and regulations on our platform. If any content on our platform is deemed illegal, obscene or incendiary, or if appropriate licenses and third-party consents have not been obtained, claims may be brought against us for defamation, libel, negligence, copyright, patent or trademark infringement, other unlawful activities or other theories and claims based on the nature and content of the information delivered on or otherwise accessed through our platform. We have occasionally received fines for certain inappropriate materials placed on our platform, and may be subject to similar fines and penalties in the future. In addition, if the PRC authorities find that we have not adequately managed the content on our platform, they may impose legal sanctions on us, including, in serious cases, suspending or revoking the licenses needed to operate our platform. See “Regulation—Internet Information Services.” Moreover, the costs of compliance may continue to increase when more content is made available on our platform as a result of our growing user base, which may adversely affect our results of operations.

Intensified government regulation of the internet industry in China could restrict our ability to maintain or increase the level of user traffic to our platform as well as our ability to tap into other market opportunities.

The PRC government has promulgated, in recent years, intensified regulation on various aspects of the internet industry in China. For example, the PRC government adopted more stringent policies to monitor the online games industry due to negative public perception of addiction to online games, particularly in children and minors. On April 15, 2007, eight PRC government authorities, including the General Administration of Press and Publication, or the GAPP, the Ministry of Education, the Ministry of Public Security and the MIIT, issued a notice requiring all Chinese online game operators to adopt an “anti-fatigue system” in an effort to curb addiction to online games by minors. If these restrictions expand to apply to adult game players in the future, it may lead to a decrease in the number or engagement of game players, which could adversely affect our game live streaming service and have a material effect on our results of operations. Furthermore, as of October 1, 2011, online game players in China are required to register and verify their names and identity card numbers with the National Citizen Identity Information Center, a subordinate public institution of the Ministry of Public Security, before playing an online game. If this real-name registration system leads to a decrease in the number or engagement of game players, our results of operations may be materially and adversely affected. See “Regulation—Anti-fatigue Compliance System and Real-name Registration System.”

In addition, as the internet industry in China is still at a relatively early stage of development, new laws and regulations may be adopted from time to time to address new issues that come to the authorities’ attention. We may not timely obtain or maintain all the required licenses or approvals or make all the necessary filings in the future. We also cannot assure you that we will be able to obtain the required licenses or approvals if we plan to expand into other internet businesses. If we fail to obtain or maintain any of the required licenses or approvals or make the necessary filings, we may be subject to various penalties, which may disrupt our business operations or derail our business strategy, and materially and adversely affect our business, financial condition and results of

 

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operations. See “—If we fail to obtain and maintain the licenses and approvals required under the complex regulatory environment for internet-based businesses in China, our business, financial condition and results of operations may be materially and adversely affected”, “Regulation—Internet Information Services”, “Regulation—Internet Publication and Cultural Products”, “Regulation—Online Music and Entertainment” and “Regulation—Online Transmission of Audio-Visual Programs”.

We may be subject to intellectual property infringement claims or other allegations, which could result in our payment of substantial damages, penalties and fines, removal of relevant content from our websites and apps or seeking license arrangements which may not be available on commercially reasonable terms.

Our platform is open to all users. Content posted by our users may expose us to allegations by third parties of infringement of intellectual property rights, unfair competition, invasion of privacy, defamation and other violations of third-party rights. For example, a broadcaster may stream an old movie and watch it with the viewers of this streaming, which may subject us to claims of infringement of third-party intellectual property rights or other rights for the copyrighted movie. In addition, we facilitate broadcasters to live stream games on our platform, and, in some cases, we may dictate the games that our broadcasters stream. As a result, we could face copyright infringement claims with respect to online games being streamed live, recorded or made accessible, or songs performed live, recorded or made accessible on our platform.

The validity, enforceability and scope of protection of intellectual property rights in internet-related industries, particularly in China, are uncertain and still evolving. 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. Under relevant PRC laws and regulations, online service providers which provide storage space for users to upload works or links to other services or content could be held liable for copyright infringement under various circumstances, including situations where an online service provider knows or should reasonably have known that the relevant content uploaded or linked to on its platform infringes the copyrights of others and the provider realizes economic benefits from such infringement activities. In particular, there have been cases in China in which courts have found online service providers to be liable for the posting of copyrighted content by users which was accessible from and stored on such providers’ servers. For example, in 2014, a variable interest entity of YY was sued by a game publisher for copyright infringement due to the streaming of its copyrighted game on YY’s platform. The case is on appeal and still pending.

On the other hand, to our knowledge, there is currently no settled court practice which provides clear guidance as to whether or to what extent a real-time streaming platform would be held liable for the unauthorized posting or live performances of copyrighted content by the users.

Although we have required our users to post only legally compliant and inoffensive materials and have set up screening procedures, our screening procedures may fail to screen out all potentially offensive or non-compliant user-generated content and, even if properly screened, a third party may still find user-generated content posted on our platform offensive and take action against us in connection with such content. In addition, we have entered into revenue-sharing arrangements with some of the popular broadcasters and talent agencies on our platform, and we cannot assure you that PRC courts will not view these broadcasters or talent agencies as our employees or agents, deem us to have control over their activities on our platform and the content they upload or otherwise make available on our platform, determine that we have knowingly uploaded such infringing content on our platform and hold us directly liable for their infringement activities on our platform. We may also face litigations or administrative actions for defamation, negligence or other purported injuries resulting from the content we provide or the nature of our services. Such litigations and administrative actions, with or without merits, may be expensive and time-consuming, resulting in significant diversion of resources and management attention from our business operations, and adversely affect our brand image and reputation. Separately, as our business expands, the cost of carrying out these procedures and obtaining authorization and licenses for the growing content on our platform may increase, which may potentially have material and adverse effects on our results of operations.

 

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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, by virtue of our ADSs being listed on the NYSE, the ability of users to access our platform from the United States and other jurisdictions, the performance of songs and other content which are subject to copyright and other intellectual property laws of countries outside China, including the United States, the ownership of our ADSs by investors in the United States and other jurisdictions, or the extraterritorial application of foreign law by foreign courts or otherwise. In addition, as a publicly listed company, we may be exposed to increased risk of litigation.

If an infringement claim brought against us in China, the United States or any other jurisdiction is successful, we may be required to pay substantial statutory penalties or other damages and fines, remove relevant content from our platform or enter into license agreements which may not be available on commercially reasonable terms or at all. Litigation or other claims against us may also subject us to adverse publicity which could harm our reputation and affect our ability to attract and retain broadcasters and talent agencies, which could materially and adversely affect the popularity of our platform and therefore, our business, financial condition, results of operations and prospects may be materially and adversely affected.

Our business is highly dependent on the proper functioning and improvement of our information technology systems and infrastructure. Our business and operating results may be harmed by service disruptions, or by our failure to timely and effectively scale up and adjust our existing technology and infrastructure.

The popularity of our platform and services and our ability to further monetize user traffic depend on our ability to adapt to rapidly changing technologies as well as our ability to continually innovate in response to evolving consumer demands and expectations and intense market competition. Our ability to provide a superior user experience on our platform depends on the continuous and reliable operation of our IT systems.

We may not be able to procure sufficient bandwidth in a timely manner or on acceptable terms or at all. Failure to do so may significantly impair user experience on our platform and decrease the overall effectiveness of our platform to users, broadcasters, talent agencies and advertisers. Our IT systems and content delivery network, or CDN, are vulnerable to damage or interruption as a result of fires, floods, earthquakes, power losses, telecommunications failures, undetected errors in software, computer viruses, hacking and other attempts to harm our IT systems. Disruptions, failures, unscheduled service interruptions or a decrease in connection speeds could damage our reputation and cause our users, content providers and advertisers to migrate to our competitors’ platforms. If we experience frequent or constant service disruptions, whether caused by failures of our own IT systems or those of third-party service providers, our user experience may be negatively affected, which in turn may have a material and adverse effect on our reputation and business. We may not be successful in minimizing the frequency or duration of service interruptions. As the number of our users increases and our users generate more content on our platform, we may be required to expand and adjust our technology and infrastructure to continue to reliably store and process content. It may become increasingly difficult to maintain and improve the performance of our platform, particularly during peak usage times, as our services become more complex and user traffic increases.

We use third-party services and technologies in connection with our business, and any disruption to the provision of these services and technologies to us could result in negative publicity and a slowdown in the growth of our users, which could materially and adversely affect our business, financial condition and results of operations.

Our business partially depends on services provided by, and relationships with, various third parties. Some third-party software we use in our operations is currently publicly available free of charge. If the owner of any such software decides to charge users or no longer makes the software publicly available, we may need to incur significant costs to obtain licensing, find replacement software or develop it on our own. If we are unable to obtain licensing, find or develop replacement software at a reasonable cost, or at all, our business and operations may be adversely affected.

 

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In addition, we process transactions of almost all of our products and services through third-party online payment systems. If any of these third-party online payment systems suffer from security breaches, users may lose confidence in such payment systems and refrain from purchasing our virtual items online, in which case our results of operations would be negatively impacted. See “—The security of operations of, and fees charged by, third-party online payment platforms may have a material adverse effect on our business and results of operations.”

We exercise no control over the third parties with whom we have business arrangements. If such third parties increase their prices, fail to provide their services effectively, terminate their service or agreements or discontinue their relationships with us, we could suffer service interruptions, reduced revenues or increased costs, any of which may have a material adverse effect on our business, financial condition and results of operations.

Our operations depend on the performance of the internet infrastructure and fixed telecommunications networks in China, which is in large part maintained by state-owned operators.

Almost all access to the internet in China is maintained through state-owned telecommunication operators under the administrative control and regulatory supervision of the MIIT. Moreover, we primarily rely on a limited number of telecommunication service providers to provide us with data communications capacity through local telecommunications lines and internet data centers to host our servers. We have limited access to alternative networks or services in the event of disruptions, failures or other problems with China’s internet infrastructure or the fixed telecommunications networks provided by telecommunication service providers. Web traffic in China has experienced significant growth during the past few years. With the expansion of our business, we may be required to upgrade our technology and infrastructure to keep up with the increasing traffic on our platform. We cannot assure you that the internet infrastructure and the fixed telecommunications networks in China will be able to support the demands associated with the continued growth in internet usage. If we cannot increase our capacity to deliver our online services, we may not be able to accommodate the increases in traffic from expanding user base, and the adoption of our services may be hindered, which could adversely impact our business.

In addition, we have no control over the costs of the services provided by telecommunication service providers. If the prices we pay for telecommunications and internet services rise significantly, our results of operations may be materially and adversely affected. Furthermore, if internet access fees or other charges to internet users increase, some users may be prevented from accessing the mobile internet and thus cause the growth of mobile internet users to decelerate. Such deceleration may adversely affect our ability to continue to expand our user base.

User growth and engagement depend upon effective interoperation with mobile operating systems, networks, mobile devices and standards that we do not control.

We make our services available across a variety of mobile operating systems and devices. We are dependent on the interoperability of our services with popular mobile devices and mobile operating systems that we do not control, such as Android and iOS. Any changes in such mobile operating systems or devices that degrade the functionality of our services or give preferential treatment to competitive services could adversely affect usage of our services. In order to deliver high quality services, it is important that our services work well across a range of mobile operating systems, networks, mobile devices and standards that we do not control. We may not be successful in developing relationships with key participants in the mobile industry or in developing services that operate effectively with these operating systems, networks, devices and standards. In the event that it is difficult for our users to access and use our services, particularly on their mobile devices, our user growth and user engagement could be harmed, and our business and operating results could be adversely affected.

 

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We rely on assumptions and estimates to calculate certain key operating metrics, and real or perceived inaccuracies in such metrics may harm our reputation and negatively affect our business.

The numbers of daily and monthly active users of Huya or certain other key operating metrics are calculated using internal company data. While these numbers are based on what we believe to be reasonable calculations for the applicable periods of measurement, there are inherent challenges in measuring usage and user engagement across our large user base. Our users do not register with our platform on a real-name basis. Therefore, we track the devices through which users log on to our platform to determine the number of active users. Accordingly, the calculations of our active users may not accurately reflect the actual number of people using Huya.

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

Our brand image, business and operating results may be adversely impacted by user misconduct and misuse of our platform.

Since we do not have full control over what broadcasters live stream on our platform and what users communicate on our platform, our platform may be misused or abused by broadcasters or users. We have an internal control system in place to review and monitor live streams and will shut down any streams that may be illegal or inappropriate. However, we may not be able to identify all such streams and content, or prevent all such content from being posted.

Moreover, as we have limited control over the real-time behavior of our broadcasters and users, to the extent such behavior is associated with our platform, our ability to protect our brand image and reputation may be limited. Our business and public perception of our brand may be materially and adversely affected by the misuse of our platform. In addition, in response to allegations of illegal or inappropriate activities conducted through our platform or any negative media coverage about us, PRC government authorities may intervene and hold us liable for non-compliance with PRC laws and regulations concerning the dissemination of information on the internet and subject us to administrative penalties, including confiscation of income and a fine of RMB10,000 to RMB30,000 for each case of non-compliance, or other sanctions, such as requiring us to restrict or discontinue some of the features and services provided on our mobile apps. As a result, our business may suffer and our user base, revenues and profitability may be materially and adversely affected, and the price of our ADSs may decline.

Spammers and malicious software and applications may affect user experience, which could reduce our ability to attract users and advertisers and materially and adversely affect our business, financial condition and results of operations.

Spammers may use our Huya platform to send spam messages to users, which may affect user experience. As a result, our users may reduce using our products and services or stop using them altogether. In spamming activities, spammers typically create multiple user accounts for the purpose of sending a high volume of repetitive messages. Although we attempt to identify and delete accounts created for spamming purposes, we may not be able to effectively eliminate all spam messages from our platform in a timely fashion. Any spamming activities could have a material and adverse effect on our business, financial condition and results of operations.

In addition, malicious software and applications may interrupt the operations of our websites, our PC clients or mobile apps and pass on such malware to our users which could adversely hinder user experience. Although we have been successfully blocking these attacks in the past, we cannot guarantee that this will always be the

 

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case, and in the incident if users experience a malware attack by using our platform, our users may associate the malware with our websites, our PC clients or mobile apps, and our reputation, business, and results of operations would be materially and adversely affected.

The security of operations of, and fees charged by, third-party online payment platforms may have a material adverse effect on our business and results of operations.

Currently, we sell substantially all of our products and services to our users through third-party online payment systems. In all these online payment transactions, secured transmission of confidential information such as paying users’ credit card numbers and personal information over public networks is essential to maintaining consumer confidence.

We do not have control over the security measures of our third-party online payment vendors. Any security breaches of the online payment systems that we use could expose us to litigation and possible liability for failing to secure confidential customer information and could, among other things, damage our reputation and the perceived security of all of the online payment systems that we use. If a well-publicized internet or mobile network security breach were to occur, users may become reluctant to purchase our virtual items even if the publicized breach did not involve payment systems or methods used by us. In addition, there may be billing software errors that would damage customer confidence in these online payment systems. If any of the above were to occur and damage our reputation or the perceived security of the online payment systems we use, we may lose paying users and users may be discouraged from purchasing our products and services, which may have a material adverse effect on our business.

In addition, there are currently only a limited number of reputable third-party online payment systems in China. If any of these major payment systems decides to cease to provide services to us, or significantly increase the percentage they charge us for using their payment systems for our virtual items and other services, our results of operations may be materially and adversely affected.

Concerns about collection and use of personal data could damage our reputation and deter current and potential users from using our products and services, which could materially and adversely affect our business, financial condition and results of operations.

Concerns about our practices with regard to the collection, use or disclosure of personal information or other privacy-related matters, even if unfounded, could damage our reputation and operating results. We apply strict management and protection for any information provided by users and, under our privacy policy, without our users’ prior consent, we will not provide any of our users’ personal information to any unrelated third party. While we strive to comply with our privacy guidelines as well as all applicable data protection laws and regulations, any failure or perceived failure to comply may result in proceedings or actions against us by government entities or others, and could damage our reputation. User and regulatory attitudes towards privacy are evolving, and future regulatory or user concerns about the extent to which personal information is used or shared with advertisers or others may adversely affect our ability to share certain data with advertisers or others, which may limit certain methods of targeted advertising or our cooperation with other business partners. Concerns about the security of personal data could also lead to a decline in general internet usage, which could lead to lower registered, active or paying user numbers on our platform. For example, if the PRC government authorities require real-name registration for users of our platform, the growth of our user numbers may slow down and our business, financial condition and results of operations may be adversely affected. See “—Risks Related to Our Corporate Structure—We may be adversely affected by the complexity, uncertainties and changes in PRC regulation of the internet industry and companies.” A significant reduction in registered, active or paying user numbers could lead to lower revenues, which could have a material and adverse effect on our business, financial condition and results of operations.

 

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Third parties may register trademarks or domain names or purchase internet search engine keywords that are similar to our trademarks, brands or websites, or misappropriate our data and copy our platform, all of which could cause confusion to our users, divert online customers away from our products and services or harm our reputation.

Competitors and other third parties may purchase (i) trademarks that are similar to our trademarks and (ii) keywords that are confusingly similar to our brands or websites in internet search engine advertising programs and in the header and text of the resulting sponsored links or advertisements in order to divert potential customers from us to their websites. Preventing such unauthorized use is inherently difficult. If we are unable to prevent such unauthorized use, competitors and other third parties may continue to drive potential online customers away from our platform to competing, irrelevant or potentially offensive platform, which could harm our reputation and cause us to lose revenue.

From time to time, third parties have misappropriated our data through scraping our platform, robots or other means and aggregated this data on their platforms with data from other companies. In addition, “copycat” platforms or apps have misappropriated data on our platform, implanted Trojan viruses in user PCs to steal user data from our platform and attempted to imitate our brand or the functionality of our platform. When we became aware of such platform, we employed technological and legal measures in an attempt to halt their operations. However, we may not be able to detect all such platforms in a timely manner and, even if we could, technological and legal measures may be insufficient to stop their operations. In those cases, our available remedies may not be adequate to protect us against such platforms. Regardless of whether we can successfully enforce our rights against these platforms, any measures that we may take could require significant financial or other resources from us. Those platforms may also lure away some of our users or advertisers or reduce our market share, causing material and adverse effects to our business operations.

We may not be able to prevent others from 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 and similar intellectual property as critical to our success. We rely on trademark and patent law, trade secret protection and confidentiality and license agreements with our employees and others to protect our proprietary rights.

We have invested significant resources to develop our own intellectual property and acquire licenses to use and distribute the intellectual property of others on our platform. Failure to maintain or protect these rights could harm our business. In addition, any unauthorized use of our intellectual property by third parties may adversely affect our current and future revenues and our reputation.

Implementation and enforcement of PRC intellectual property-related laws is still evolving. Accordingly, protection of intellectual property rights in China may not be as effective as in the United States or other developed countries. Furthermore, policing unauthorized use of proprietary technology is difficult and expensive. We rely on a combination of patent, copyright, trademark and trade secret laws and restrictions on disclosure to protect our intellectual property rights. Despite our efforts to protect our proprietary rights, third parties may attempt to copy or otherwise obtain and use our intellectual property or seek court declarations that they do not infringe upon our intellectual property rights. Monitoring unauthorized use of our intellectual property is difficult and costly, and we cannot assure you that the steps we have taken will prevent misappropriation of our intellectual property. From time to time, we may have to resort to litigation to enforce our intellectual property rights, which could result in substantial costs and diversion of our resources.

 

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As our patents may expire and may not be extended, our patent applications may not be granted and our patent rights may be contested, circumvented, invalidated or limited in scope, our patent rights may not protect us effectively. In particular, we may not be able to prevent others from developing or exploiting competing technologies, which could have a material and adverse effect on our business operations, financial condition and results of operations.

In China, the validity period of utility model patent rights or design patent rights is ten years and not extendable. Currently, we have two registered patents, 96 patent applications pending in China and 4 additional patent applications under the patent cooperation treaty. We also have obtained a royalty-free and exclusive license from Guangzhou Huaduo to use 39 patents, 18 of which are under application. For our pending application, we cannot assure you that we will be granted patents pursuant to our pending applications. Even if our patent applications succeed, it is still uncertain whether these patents will be contested, circumvented or invalidated in the future. In addition, the rights granted under any issued patents may not provide us with sufficient protection or competitive advantages. The claims under any patents that issue from our patent applications may not be broad enough to prevent others from developing technologies that are similar or that achieve results similar to ours. It is also possible that the intellectual property rights of others will bar us from licensing and from exploiting any patents that issue from our pending applications. Numerous U.S. and foreign issued patents and pending patent applications owned by others exist in the fields in which we have developed and are developing our technology. These patents and patent applications might have priority over our patent applications and could subject our patent applications to invalidation. Finally, in addition to those who may claim priority, any of our existing or pending patents may also be challenged by others on the basis that they are otherwise invalid or unenforceable.

If we fail to maintain and enhance our brand or if we incur excessive expenses in this effort, our business, results of operations and prospects may be materially and adversely affected.

We believe that maintaining and enhancing our brand is of significant importance to the success of our business. A well-recognized brand is important to increasing the number of users and the level of engagement of our users and enhancing our attractiveness to advertisers. Since we operate in a highly competitive market, brand maintenance and enhancement directly affect our ability to maintain our market position.

Although we have developed Huya mostly through word of mouth referrals, as we expand, we may conduct various marketing and brand promotion activities using various methods to continue promoting our brand. We cannot assure you, however, that these activities will be successful or that we will be able to achieve the brand promotion effect we expect.

In addition, any negative publicity in relation to our products, services or operations, regardless of its veracity, could harm our brands and reputation. We have sometimes received, and expect to continue to receive, complaints from users regarding the quality of the products and services we offer. Negative publicity or public complaints may harm our reputation, and if complaints against us are not addressed to their satisfaction, our reputation and our market position could be significantly harmed, which may materially and adversely affect our business, results of operations and prospects.

Some of our products and services contain open source software, which may pose particular risk to our proprietary software, products and services in a manner that negatively affects our business.

We use open source software in some of our products and services and will continue to use open source software in the future. There is a risk that open source software licenses could be construed in a manner that imposes unanticipated conditions or restrictions on our ability to provide or distribute our products or services. Additionally, we may face claims from third parties claiming ownership of, or demanding release of, the open source software or derivative works that we developed using such software. These claims could result in litigation and could require us to make our software source code freely available, purchase a costly license or cease offering the implicated products or services unless and until we can re-engineer them to avoid infringement. This re-engineering process could require significant additional research and development resources, and we may not be able to complete it successfully.

 

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Furthermore, 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. As a result, we may be unable to prevent our competitors or others from using such software source code contributed by us.

Our business depends substantially on the continuing efforts of our executive officers, key employees and qualified 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 executive officers and key employees. If one or more of our executive officers or 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. Since the internet industry is characterized by high demand and intense competition for talents, we cannot assure you that we will be able to attract or retain qualified staff or other highly skilled employees. In addition, as our company is relatively young, our ability to train and integrate new employees into our operations may not meet the growing demands of our business which may materially and adversely affect our ability to grow our business and hence our results of operations.

If any of our executive officers and key employees terminates their services with us, our business may be severely disrupted, our financial condition and results of operations may be materially and adversely affected and we may incur additional expenses to recruit, train and retain qualified personnel. If any of our executive officers or key employees joins a competitor or forms a competing company, we may lose customers, know-how and key professionals and staff members. Each of our executive officers and key employees has entered into an employment agreement and a non-compete agreement with us. However, as advised by our PRC legal counsel, Commerce & Finance Law Offices, certain provisions under the non-compete agreement may be deemed invalid or unenforceable under PRC laws. If any dispute arises between our executive officers and key employees and us, we cannot assure you that we would be able to enforce these non-compete agreements in China, where these executive officers reside, in light of uncertainties with China’s legal system. See “—Risks Related to Doing Business in China — Uncertainties in the interpretation and enforcement of PRC laws and regulations could limit the legal protections available to you and us.”

Our business is sensitive to economic conditions. A severe or prolonged downturn in the global or Chinese economy could materially and adversely affect our business, financial condition and results of operations.

The global macroeconomic environment is facing challenges, including the escalation of the European sovereign debt crisis since 2011, the end of quantitative easing by the U.S. Federal Reserve, the economic slowdown in the Eurozone in 2014 and the expected exit of the United Kingdom from the European Union. The Chinese economy has slowed down since 2012 and such slowdown may continue. 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 the United States and China. There have been concerns over unrest and terrorist threats in the Middle East, Europe and Africa, which have resulted in volatility in oil and other markets, and over the conflicts involving Ukraine, Syria and North Korea. There have also been concerns on the relationship among China and other Asian countries, which may result in or intensify potential conflicts in relation to territorial disputes. Economic conditions in China are sensitive to global economic conditions, as well as changes in domestic economic and political policies and the expected or perceived overall economic growth rate in China. Any severe or prolonged slowdown in the global or Chinese economy may materially and adversely affect our business, results of operations and financial condition. In addition, continued turbulence in the international markets may adversely affect our ability to access capital markets to meet liquidity needs.

 

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Future strategic alliances or acquisitions may have a material and adverse effect on our business, reputation and results of operations.

We may enter into strategic alliances, including joint ventures or minority equity investments, with various third parties to further our business purpose from time to time. These alliances could subject us to a number of risks, including risks associated with sharing proprietary information, non-performance by the third party and increased expenses in establishing new strategic alliances, any of which may materially and adversely affect our business. We may have limited ability to monitor or control the actions of these third parties and, to the extent any of these strategic third parties suffers negative publicity or harm to their reputation from events relating to their business, we may also suffer negative publicity or harm to our reputation by virtue of our association with any such third party.

In addition, when appropriate opportunities arise, we may acquire additional assets, products, technologies or businesses that are complementary to our existing business. In addition to possible shareholders’ approval, we may also have to obtain approvals and licenses from relevant government authorities for the acquisitions and to comply with any applicable PRC laws and regulations, which could result in increased delay and costs, and may derail our business strategy if we fail to do so. Furthermore, past and future acquisitions and the subsequent integration of new assets and businesses into our own require significant attention from our management and could result in a diversion of resources 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, potentially dilutive issuances of equity securities, the occurrence of significant 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 acquisitions may be significant.

If we fail to implement and maintain an effective system of internal controls over financial reporting, we may be unable to accurately report our results of operations, meet our reporting obligations or prevent fraud, and investor confidence and the market price of our ADSs may be materially and adversely affected.

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 management has not completed an assessment of the effectiveness of our internal control over financial reporting, and our independent registered public accounting firm has not conducted an audit of our internal control over financial reporting.

Upon the completion of this offering, we will become a public company in the United States subject to the Sarbanes-Oxley Act of 2002. Section 404 of the Sarbanes-Oxley Act of 2002, will require 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, 2019. 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 management may conclude that our internal control over financial reporting is not effective. Moreover, even if our management concludes that our internal control over financial reporting is effective, our independent registered public accounting firm, after conducting its own independent testing, may issue a report that is qualified if it is not satisfied with our internal controls or the level at which our controls are documented, designed, operated or reviewed, or if it interprets the relevant requirements differently from us. In addition, after we become a public company, our reporting obligations may place a significant strain on our management, operational and financial resources and systems for the foreseeable future. We may be unable to timely complete our evaluation testing and any required remediation.

During the course of documenting and testing our internal control procedures, in order to satisfy the requirements of Section 404 of the Sarbanes-Oxley Act of 2002, we may identify weaknesses and deficiencies in our internal control over financial reporting. In addition, if we fail to maintain the adequacy of our internal

 

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control over financial reporting, as these standards are modified supplemented or amended from time to time, we may not be able to conclude on an ongoing basis that we have effective internal control over financial reporting in accordance with Section 404 of the Sarbanes-Oxley Act of 2002. Generally, if we fail to achieve and maintain an effective internal control environment, we could suffer material misstatements in our financial statements and fail to meet our reporting obligations, which would likely cause investors to lose confidence in our reported financial information. This could in turn limit our access to capital markets, harm our results of operations, and lead to a decline in the trading price of our ADSs. Additionally, ineffective internal control over financial reporting could expose us to increased risk of fraud or misuse of corporate assets and subject us to potential delisting from the stock exchange on which we list, regulatory investigations and civil or criminal sanctions.

We may need additional capital, and we may be unable to obtain such capital in a timely manner or on acceptable terms, or at all. Furthermore, our future capital needs may require us to sell additional equity or debt securities that may dilute our shareholders or introduce covenants that may restrict our operations or our ability to pay dividends.

To grow our business and remain competitive, we may require additional capital from time to time for our daily operation. Our ability to obtain additional capital is subject to a variety of uncertainties, including:

 

    our market position and competitiveness in the live streaming service, in particular, game live streaming;

 

    our future profitability, overall financial condition, results of operations and cash flows;

 

    general market conditions for capital raising activities by online literature and other Internet companies in China; and

 

    economic, political and other conditions in China and internationally.

We may be unable to obtain additional capital in a timely manner or on acceptable terms or at all. In addition, our future capital needs and other business reasons could require us to sell additional equity or debt securities or obtain a credit facility. The sale of additional equity or equity-linked securities could dilute our shareholders. The incurrence of indebtedness would result in increased debt service obligations and could result in operating and financing covenants that would restrict our operations or our ability to pay dividends to our shareholders.

We have no business insurance coverage, so that any uninsured occurrence of business disruption may result in substantial costs to us and the diversion of our resources, which could have an adverse effect on our results of operations and financial condition.

Insurance companies in China currently do not offer as extensive an array of insurance products as insurance companies do in more developed economies. We do not have any business liability or disruption insurance to cover our operations. We have determined that the costs of insuring for these risks and the difficulties associated with acquiring such insurance on commercially reasonable terms make it impractical for us to have such insurance. Any uninsured occurrence may disrupt our business operations, require us to incur substantial costs and divert our resources, which could have an adverse effect on our results of operations and financial condition.

We face risks related to natural disasters, health epidemics and other outbreaks, which could significantly disrupt our operations.

Our business could be adversely affected by the effects of epidemics. In recent years, there have been outbreaks of epidemics in China and globally. Our business operations could be disrupted if one of our employees is suspected of having H1N1 flu, avian flu or another epidemic, since it could require our employees to be quarantined and/or our offices to be disinfected. In addition, our results of operations could be adversely affected to the extent that the outbreak harms the Chinese economy in general and the mobile internet industry in particular.

 

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We are also vulnerable to natural disasters and other calamities. It is possible that we may be unable to recover certain data in the event of a server failure. We cannot assure you that any backup systems will be adequate to protect us from the effects of fire, floods, typhoons, earthquakes, power loss, telecommunications failures, break-ins, war, riots, terrorist attacks or similar events. Any of the foregoing events may give rise to server interruptions, breakdowns, system failures, technology platform failures or internet failures, which could cause the loss or corruption of data or malfunctions of software or hardware as well as adversely affect our ability to provide services on our platform.

Risks Related to Our Carve-out from YY and Our Relationship with Our Major Shareholders

Our financial information included in this prospectus may not be representative of our financial condition and results of operations if we had been operating as a stand-alone company.

Prior to the establishment of HUYA Inc., our live streaming business was carried out by YY through a variable interest entity, Guangzhou Huaduo. We completed our carve-out from YY in December 2016, and all of our live streaming business was transferred from YY to us as part of the carve-out and is now carried out by our PRC subsidiary and variable interest entity. Since we and the variable interest entity of YY that operated our live streaming business are under common control of YY, our consolidated financial statements include the assets, liabilities, revenues, expenses and cash flows that were directly attributable to our business for all periods presented. In particular, our consolidated balance sheets include those assets and liabilities that are specifically identifiable to our business; and our consolidated statements of operations include all costs and expenses related to us, including costs and expenses allocated from YY to us. Allocations from YY, including amounts allocated to the cost of revenues, sales and marketing expenses, research and development expenses, and general and administrative expenses, were made using a proportional cost allocation method and based on the proportion of the number of active users or number of staff in each business line. We made numerous estimates, assumptions and allocations in our historical financial statements because we did not operate as a stand-alone company prior to our carve-out from YY in December 2016. Although our management believes that the assumptions underlying our historical financial statements and the above allocations are reasonable, our historical financial statements may not necessarily reflect our results of operations, financial position and cash flows as if we had operated as a stand-alone company during those periods. See “Related Party Transactions” for our arrangements with YY. In addition, upon becoming a stand-alone company, we have established our own financial, administrative and other support systems to replace YY’s systems, the cost of which may be significantly different from cost allocation with YY for the same services. Therefore, you should not view our historical results as indicators of our future performance.

If our collaboration with YY is terminated or curtailed, or if we are no longer able to benefit from the support of YY, our business may be adversely affected.

YY is a leading live streaming social media platform in China, and our game live streaming business has benefited from YY’s experience in the live streaming industry and technology know-how. Although we have entered into a business cooperation agreement with YY with respect to our future cooperation and a series of agreements with YY with respect to certain parts of our operations, such as premises lease, payment collection and patent license, we cannot assure you that we will continue to receive the same level of support from YY as we become a stand-alone public company. Our users and business partners may react negatively to our carve-out from YY, which could materially and adversely affect our business and results of operation. Also, failure to properly implement our business cooperation arrangement with YY or to realize the intended benefits we anticipated from our business cooperation with YY could materially and adversely affect our business and results of operations.

We may encounter risks and difficulties in connection with our business cooperation with Tencent, which may materially and adversely affect our business and results of operations.

Tencent and us, through our respective PRC affiliated entities, have entered into a business cooperation agreement and we issued a total number of 64,488,325 series B-2 preferred shares to a wholly-owned subsidiary

 

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of Tencent, which became effective on March 8, 2018. However, we may encounter difficulties in implementing the business cooperation agreement, which may divert significant management attention from existing business operations. In addition, certain terms of the business cooperation agreement may impose restrictions on our collaboration with other third-party game developers or publishers. Failure to realize the intended benefits we anticipate from the business cooperation or the potential restrictions on our collaboration with other third parties could materially and adversely affect our business and results of operations.

Our major shareholders will control the outcome of shareholder actions in our company.

Upon completion of this offering, YY will hold 54.9% of our total voting power, assuming the underwriters do not exercise their over-allotment option. Pursuant to our amended and restated shareholders agreement, Tencent has a right, exercisable between March 8, 2020 and March 8, 2021, to purchase additional shares to reach 50.1% of our total voting power. See “Description of American Depositary Shares—History of Securities Issuances—Shareholders’ Agreement—Tencent’s Right to Purchase Additional Shares.” If Tencent elects to exercise such right within the given period, Tencent may obtain a majority of our total voting power. YY or Tencent’s voting power gives it the power to control over certain actions that require shareholder approval under Cayman Islands law, our memorandum and articles of association and NYSE requirements, including approval of mergers and other business combinations, changes to our memorandum and articles of association, the number of shares available for issuance under any share incentive plans, and the issuance of significant amounts of our ordinary shares in private placements.

YY or Tencent’s voting control may cause transactions to occur that might not be beneficial to you as a holder of ADSs and may prevent transactions that would be beneficial to you. For example, YY or Tencent’s voting control may prevent a transaction involving a change of control of us, including transactions in which you as a holder of our ADSs might otherwise receive a premium for your securities over the then-current market price. If Tencent exercises its purchase right to increase its shareholding in us to 50.1% of our total voting power at fair market price, Tencent will not pay a premium for our securities over the then market price under the change of control and your shareholdings in us may be diluted if we issue additional Class B ordinary shares as a result of Tencent’s exercise of its purchase right. In addition, YY or Tencent is not prohibited from selling a controlling interest in us to a third party and may do so without your approval and without providing for a purchase of your ADSs. If YY or Tencent is acquired or otherwise undergoes a change of control, any acquirer or successor will be entitled to exercise the voting control and contractual rights of YY or Tencent, and may do so in a manner that could vary significantly from that of YY or Tencent. In addition, the significant concentration of share ownership may adversely affect the trading price of the ADSs due to investors’ perception that conflicts of interest may exist or arise. See “—We may have conflicts of interest with YY and, because of YY’s controlling ownership interest in our company, we may not be able to resolve such conflicts on favorable terms for us.”

Our agreements with YY may be less favorable to us than similar agreements negotiated between unaffiliated third parties.

We have entered into a series of agreements with YY with respect to certain part of our operations. The terms of such agreements may be less favorable to us than what would have been the case if they were negotiated with unaffiliated third parties. Moreover, so long as YY is our controlling shareholder, their influence may make it difficult for us to bring a legal claim against YY in the event of contractual breach, notwithstanding our contractual rights under the agreements described above and other agreements we may enter into with YY from time to time.

 

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

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

 

    Employee recruiting and retention. Because both YY and we are engaged in live streaming businesses in China, we may compete with YY in the hiring of new employees and retaining talents.

 

    Allocation of business opportunities. Although YY and we have different focuses on live streaming, there may arise other business opportunities that both we and YY find attractive. If YY decides to take up such opportunities itself, we may be prevented from taking advantage of those opportunities.

 

    Our board members and executive officers may have conflicts of interest. Our chairman, Mr. David Xueling Li is also the chairman and acting chief executive officer of YY. This relationship could create, or appear to create, conflicts of interest when Mr. David Xueling Li is faced with decisions with potentially different implications for YY and us.

 

    Sales of shares in our company. YY may decide to sell all or a portion of our shares that it holds to a third party, including 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 our employees or our other shareholders.

 

    Developing business relationships with YY’s competitors. So long as YY remains as our controlling shareholder, we may be limited in our ability to do business with its competitors. This may limit our ability to market our services for the best interests of our company and our other shareholders.

Although our company will become a stand-alone public company, we expect to operate, for as long as YY is our controlling shareholder, as an affiliate of YY. YY may from time to time make strategic decisions that it believes are in the best interests of its business as a whole, including our company. These decisions may be different from the decisions that we would have made on our own. YY’s decisions with respect to us or our business may be resolved in ways that favor YY and therefore YY’s own shareholders, which may not coincide with the interests of our other shareholders. After we become a stand-alone company, we will have an audit committee to review and approve all proposed related party transactions, including any transactions between us and YY. However, we may not be able to resolve any potential conflicts, and even if we do, the resolution may be less favorable to us than if we were dealing with a non-controlling shareholder. Even if both parties seek to do business on an arm-length term, the transaction may not meet the practical requirements of the arm’s length standard. Furthermore, if YY were to compete with us in the game live streaming services, our business, financial condition, results of operations and prospects could be materially and adversely affected.

Our chairman, Mr. David Xueling Li, has considerable influence over us and our corporate matters.

Our chairman, Mr. David Xueling Li, has considerable influence over us and our corporate matters. As of March 31, 2018, Mr. David Xueling Li beneficially owned 14.8% of the total outstanding shares of YY, which is our controlling shareholder and will remain as our parent company and controlling shareholder upon the completion of this offering. Moreover, as Mr. David Xueling Li is the chairman and acting chief executive officer of YY, and held 76.0% of the voting power of YY as of March 31, 2018, he controls decision making of YY and indirectly has considerable influence over us and our corporate matters. After this offering, Mr. David Xueling Li will continue to have considerable influence over matters requiring shareholder approval, such as electing directors and approving material mergers, acquisitions or other business combination transactions. This concentrated control will limit your ability to influence corporate matters and could also discourage others from pursuing any potential merger, takeover, or other change of control transactions, which could have the effect of depriving the holders of our Class A ordinary shares and our ADSs of the opportunity to sell their shares at a premium over the prevailing market price.

 

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We will be a “controlled company” within the meaning of the NYSE Listed Company Manual and, as a result, may rely on exemptions from certain corporate governance requirements that provide protection to shareholders of other companies.

We are a “controlled company” as defined under the NYSE Listed Company Manual because YY owns more than 50% of our total voting power. For so long as we remain a controlled company under that definition, we are permitted to elect to rely, and may rely, on certain exemptions from corporate governance rules, including an exemption from the rule that a majority of our board of directors must be independent directors or that we have to establish a nominating committee and a compensation committee composed entirely of independent directors. As a result, you will not have the same protection afforded to shareholders of companies that are subject to these corporate governance requirements.

Risks Related to Our Corporate Structure

If the PRC government finds that the structure we have adopted for our business operations does not comply with PRC laws and regulations, 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.

Current PRC laws and regulations impose certain restrictions or prohibitions on foreign ownership of companies that engage in internet and other related businesses, including the provision of internet content and online game operations. Specifically, foreign ownership of an internet content provider may not exceed 50%. We are an exempted company limited by shares incorporated under the laws of the Cayman Islands and Guangzhou Huya Technology Co., Ltd., or Huya Technology, our wholly owned PRC subsidiary, is considered a foreign-invested enterprise. To comply with PRC laws and regulations, we conduct our business in China through our variable interest entity, Guangzhou Huya, and its subsidiaries, based on a series of contractual arrangements by and among Huya Technology and Guangzhou Huya and its shareholders. As a result of these contractual arrangements, we exert control over our variable interest entity and its subsidiaries and consolidate or combine their operating results in our financial statements under U.S. GAAP. Our variable interest entity holds the licenses, approvals and key assets that are essential for our business operations.

In addition, in 2009, the GAPP and other government authorities has issued a Circular 13 which prohibits the foreign investors to invest in online game-operating business in China, including by way of variable interest entity structural similar to the one we adopted. See “Regulation—Regulation on Online Games and Foreign Ownership Restrictions.” We are not an online game operating business subject to such prohibition, nor are we aware of any companies that have adopted a corporate structure that is the same as or similar to ours having been penalized or terminated due to such prohibition. However, if the government deems otherwise, and if we, our PRC subsidiary or variable interest entity are found to be in violation of the prohibition under Circular 13, the GAPP, in conjunction with the relevant regulatory authorities in charge, may impose applicable penalties, which in the most serious cases may include suspension or revocation of relevant licenses and registrations.

In the opinion of our PRC counsel, Commerce & Finance Law Offices, based on its understanding of the relevant PRC laws and regulations, each of the contracts among our PRC subsidiary, our variable interest entity and its shareholders is valid, binding and enforceable in accordance with its terms. There are, however, substantial uncertainties regarding the interpretation and application of current or future PRC laws and regulations. Thus, we cannot assure you that the PRC government will not take a view contrary to the opinion of our PRC counsel. If we are found in violation of any PRC laws or regulations or if the contractual arrangements among Huya Technology, Guangzhou Huya and its shareholders are determined as illegal or invalid by the PRC court, arbitral tribunal or regulatory authorities, the relevant governmental authorities would have broad discretion in dealing with such violation, including, without limitation:

 

    revoke our business and operating licenses;

 

    levy fines on us;

 

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    confiscate any of our income that they deem to be obtained through illegal operations;

 

    require us to discontinue or restrict operations;

 

    restrict our right to collect revenues;

 

    block our websites;

 

    require us to restructure the operations in such a way as to compel us to establish a new enterprise, re-apply for the necessary licenses or relocate our businesses, staff and assets;

 

    impose additional conditions or requirements with which we may not be able to comply; or

 

    take other regulatory or enforcement actions against our group that could be harmful to our group’s business.

The imposition of any of these penalties may result in a material and adverse effect on our ability to conduct the business. In addition, if the imposition of any of these penalties causes us to lose the rights to direct the activities of our variable interest entity and its subsidiaries or the right to receive their economic benefits, we would no longer be able to consolidate our variable interest entity and its subsidiaries. We do not believe that any penalties imposed or actions taken by the PRC government would result in the liquidation of the Company, Huya Technology, Guangzhou Huya and its subsidiaries.

We rely on contractual arrangements with our PRC variable interest entity and its shareholders for the operation of our business, which may not be as effective as direct ownership. If our PRC variable interest entity and its shareholders fail to perform their obligations under these contractual arrangements, we may have to resort to litigation to enforce our rights, which may be time-consuming, unpredictable, expensive and damaging to our operations and reputation.

Because of PRC restrictions on foreign ownership of internet-based businesses in China, we depend on contractual arrangements with our PRC variable interest entity 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. See “Corporate History and Structure—Contractual Arrangements with Guangzhou Huya” for more details about these contractual arrangements. However, these contractual arrangements may not be as effective in providing control as direct ownership. For example, our PRC variable interest entity and its 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 our PRC variable interest entity with direct ownership, we would be able to exercise our rights as shareholders to effect changes to its board of directors, which in turn could implement changes at the management and operational level. However, under the current contractual arrangements, if our PRC variable interest entity 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 not be sufficient or effective. All of these contractual arrangements are governed by and interpreted in accordance with PRC law. Disputes arising from these contractual arrangements between us and our variable interest entities will be resolved through arbitration in China, although these disputes do not include claims arising under the United States federal securities law and thus do not prevent you from pursuing claims under the United States federal securities law. The legal framework and system in China, particularly those relating to arbitration proceedings, is not as developed as other jurisdictions such as the United States. As a result, significant uncertainties relating to the enforcement of legal rights through arbitration, litigation and other legal proceedings remain in China, which could limit our ability to enforce these contractual arrangements and exert effective control over our variable interest entity. If we are unable to enforce these contractual arrangements, or if we suffer significant delay or other obstacles in the process of enforcing these contractual arrangements, our business and operations could be severely disrupted, which could materially and adversely affect our results of operations and damage our reputation. See “—Risks Related to Doing Business in China—Uncertainties in the interpretation and enforcement of PRC laws and regulations could limit the legal protections available to you and us.”

 

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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, which could deprive our shareholders of an opportunity to receive a premium for their securities.

As of the date of this prospectus, our controlling shareholder YY owns 55.4% of the voting power in us. In addition, the shareholders of our variable interest entity, Guangzhou Huya, are Guangzhou Huaduo and Guangzhou Qinlv, owning 99.01% and 0.99% of the equity interests in Guangzhou Huya, respectively. Mr. David Xueling Li and Beijing Tuda together hold 99.5% of the equity interest in Guangzhou Huaduo while Mr. Li held 97.7% of the equity interest in Beijing Tuda. Mr. Rongjie Dong holds 100% equity interest in Guangzhou Qinlv, as of the date of this prospectus.

Our controlling shareholder and management group has substantial influence over our business, including decisions regarding mergers, consolidations and the sale of all or substantially all of our assets, election of directors and other significant corporate actions. 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 our ADSs. In addition, Mr. David Xueling Li and Mr. Rongjie Dong could violate their legal duties by diverting business opportunities from us, resulting in our loss of corporate opportunities. These actions may take place even if they are opposed by our other shareholders and therefore adversely affect the value of our shares.

We may lose the ability to use and enjoy assets held by our PRC variable interest entity that are important to the operation of our business if such entities go bankrupt or become subject to a dissolution or liquidation proceeding.

As part of our contractual arrangements with our PRC variable interest entity, Guangzhou Huya, holds certain assets, such as patents for the proprietary technology that are essential to the operations of our platform and important to the operation of our business. If Guangzhou Huya 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 our variable interest entity undergoes a voluntary or involuntary liquidation proceeding, the unrelated third-party creditors may claim rights to some or all of its assets, thereby hindering our ability to operate our business, which could materially and adversely affect our business, financial condition and results of operations.

Our ability to enforce the equity pledge agreements between us and our PRC variable interest entity’s shareholders may be subject to limitations based on PRC laws and regulations.

Pursuant to the equity interest pledge agreements between Guangzhou Huya, our variable interest entity, and Huya Technology, our wholly-owned PRC subsidiary, and the shareholders of Guangzhou Huya, each shareholder of Guangzhou Huya agrees to pledge its equity interests in Guangzhou Huya to our subsidiary to secure Guangzhou Huya’s performance of its obligations under the relevant contractual arrangements. The equity interest pledges of shareholders of variable interest entity under these equity pledge agreements have been registered with the relevant local branch of the SAIC. In addition, in the registration forms of the local branch of State Administration for Industry and Commerce for the pledges over the equity interests under the equity interest pledge agreements, the aggregate amount of registered equity interests pledged to Huya Technology represents 100% of the registered capital of Guangzhou Huya. The equity interest pledge agreements with our VIE’s shareholders provide that the pledged equity interest shall constitute continuing security for any and all of the indebtedness, obligations and liabilities under all of the principal service agreements and the scope of pledge shall not be limited by the amount of the registered capital of that variable interest entity. However, it is possible that a PRC court may take the position that the amount listed on the equity pledge registration forms represents the full amount of the collateral that has been registered and perfected. If this is the case, the obligations that are supposed to be secured in the equity interest pledge agreements in excess of the amount listed on the equity pledge registration forms could be determined by the PRC court as unsecured debt, which takes last priority among creditors.

 

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Our contractual arrangements with our PRC variable interest entity may result in adverse tax consequences to us.

As a result of our corporate structure and the contractual arrangements among our PRC subsidiary, our PRC variable interest entity and its shareholders, we are effectively subject to PRC turnover tax on revenues generated by our subsidiaries from our contractual arrangements with our PRC variable interest entity. Such tax generally includes the PRC value added tax, or the VAT, primarily at a rate of 6% along with related surcharges. The applicable turnover tax is determined by the nature of the transaction generating the revenues subject to taxation. 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 PRC variable interest entity were not on an arm’s length basis and therefore constitute a favorable transfer pricing arrangements. If this occurs, the PRC tax authorities could request that our PRC variable interest entity adjust its taxable income upward for PRC tax purposes. Such a pricing adjustment could adversely affect us by reducing expense deductions recorded by our PRC variable interest entity and thereby increasing its entities’ tax liabilities, which could subject our VIE to late payment fees and other penalties for the underpayment of taxes. Our consolidated net income may be materially and adversely affected if our PRC variable interest entity’s tax liabilities increase or if it becomes subject to late payment fees or other penalties.

The shareholders of our PRC variable interest entity may have potential conflicts of interest with us, and if any such conflicts of interest are not resolved in our favor, our business may be materially and adversely affected.

Mr. David Xueling Li is the ultimate controlling shareholder of our variable interest entity and his interests may differ from those of our company as a whole, as what is in the best interests of our variable interest entity may not be in the best interests of our company. We cannot assure you that when conflicts of interest arise, Mr. David Xueling Li will act in the best interests of our company or that conflicts of interests will be resolved in our favor. In addition, Mr. Li may breach or cause Guangzhou Huya and its respective subsidiaries to breach or refuse to renew the existing contractual arrangements with us. Currently, we do not have existing arrangements to address potential conflicts of interest Mr. David Xueling Li may encounter in his capacity as a shareholder or director of our variable interest entity, on the one hand, and as a beneficial owner or director of our company, on the other hand; provided that we could, at all times, exercise our option under the exclusive option agreement with Mr. Li to cause him to transfer all of his equity ownership in Guangzhou Huya to a PRC entity or individual designated by us, and this new shareholder of Guangzhou Huya could then appoint a new director of Guangzhou Huya to replace the existing directors. In addition, if such conflicts of interest arise, Huya Technology, our wholly owned PRC subsidiary, could also, in the capacity of attorney-in-fact for Mr. David Xueling Li as provided under the relevant powers of attorney, directly appoint a new director of Guangzhou Huya. We rely on Mr. David Xueling Li to comply with the laws of China, which protect our contractual rights and provide that a director owes a duty of loyalty to our company and require him to avoid conflicts of interest and not to take advantage of his position for personal gains. We also rely on Mr. David Xueling Li to abide by the laws of the Cayman Islands, which provide that a director has a duty of care and a duty of loyalty to act honestly in good faith with a view toward our best interests. However, the legal frameworks of China and the Cayman Islands do not provide guidance on resolving conflicts in the event of a conflict with another corporate governance regime. If we cannot resolve any conflicts of interest or disputes between us and Mr. David Xueling Li, we would have to rely on legal proceedings, which could result in disruption of our business and subject us to substantial uncertainty as to the outcome of any such legal proceedings.

 

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Substantial uncertainties exist with respect to the enactment timetable and final content of a draft new PRC Foreign Investment Law and how it may impact the viability of our current corporate structure.

The MOFCOM published a discussion draft of the proposed Foreign Investment Law in January 2015 aiming to, upon its enactment, replace the trio of existing laws regulating foreign investment in China, namely, the Sino-foreign Equity Joint Venture Enterprise Law, the Sino-foreign Cooperative Joint Venture Enterprise Law and the Wholly Foreign-invested Enterprise Law, together with their implementation rules and ancillary regulations. The draft Foreign Investment Law embodies an expected PRC regulatory trend to rationalize its foreign investment regulatory regime in line with prevailing international practice and the legislative efforts to unify the corporate legal requirements for both foreign and domestic investments. The MOFCOM is currently soliciting comments on this draft and substantial uncertainties exist with respect to its enactment timetable, interpretation and implementation. The draft Foreign Investment Law, if enacted as proposed, may materially impact the viability of our current corporate structure, corporate governance and business operations in many aspects.

Among other things, the draft Foreign Investment Law expands the definition of foreign investment and introduces the principle of “actual control” in determining whether a company is considered a foreign-invested enterprise, or an FIE. The draft Foreign Investment Law specifically provides that entities established in China but “controlled” by foreign investors will be treated as FIEs, whereas an entity set up in a foreign jurisdiction would nonetheless be, upon market entry clearance by the MOFCOM, treated as a PRC domestic investor provided that the entity is “controlled” by PRC entities and/or citizens. In this connection, “control” is broadly defined in the draft law to cover the following summarized categories: (i) holding 50% of more of the voting rights of the subject entity; (ii) holding less than 50% of the voting rights of the subject entity but having the power to secure at least 50% of the seats on the board or other equivalent decision making bodies, or having the voting power to exert material influence on the board, the shareholders’ meeting or other equivalent decision making bodies; or (iii) having the power to exert decisive influence, via contractual or trust arrangements, over the subject entity’s operations, financial matters or other key aspects of business operations. Once an entity is determined to be an FIE and its investment amount exceeds certain thresholds or its business operation falls within a “negative list,” to be separately issued by the State Council in the future, market entry clearance by the MOFCOM or its local counterparts will be required. Otherwise, all foreign investors may make investments on the same terms as domestic investors without being subject to additional approval from the government authorities as mandated by the existing foreign investment legal regime.

The variable interest entity structure has been adopted by many PRC-based companies, including us, to obtain necessary licenses and permits in the industries that are currently subject to foreign investment restrictions in China. See “—Risks Related to Our Corporate Structure—If the PRC government finds that the structure we have adopted for our business operations does not comply with PRC laws and regulations, 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”, and “—Risks Related to Our Business and Our Industry—If we fail to obtain and maintain the licenses and approvals required under the complex regulatory environment for internet-based businesses in China, our business, financial condition and results of operations may be materially and adversely affected”. Under the draft Foreign Investment Law, variable interest entities that are controlled via contractual arrangement would also be deemed as FIEs, if they are ultimately “controlled” by foreign investors. Therefore, for any companies with a variable interest entity structure in an industry category that is on the “negative list,” the variable interest entity structure may be deemed legitimate only if the ultimate controlling persons are of PRC nationality, namely, either PRC companies or PRC citizens. Conversely, if the actual controlling persons are of foreign nationalities, then the variable interest entities will be treated as FIEs and any operation in the industry category on the “negative list” without market entry clearance may be considered as illegal.

It is likely that we would be considered ultimately controlled by Chinese parties, as over 50% of the voting power of our issued and outstanding share capital is ultimately controlled by PRC nationals. However, the draft

 

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Foreign Investment Law has not taken a position on what actions shall be taken with respect to the existing companies with a variable interest entity structure, whether or not these companies are controlled by Chinese parties, while it is soliciting comments from the public on this point. Moreover, it is uncertain whether the Internet content and other Internet value-added service industry, in which our variable interest entity operates, will be subject to the foreign investment restrictions or prohibitions set forth in the “negative list” to be issued. If the enacted version of the Foreign Investment Law and the final “negative list” mandate further actions, such as MOFCOM market entry clearance, to be completed by companies with existing variable interest entity structure like us, we face uncertainties as to whether such clearance can be timely obtained, or at all, and our business and financial condition may be materially and adversely affected.

The draft Foreign Investment Law, if enacted as proposed, may also materially impact our corporate governance practice and increase our compliance costs. For instance, the draft Foreign Investment Law imposes stringent ad hoc and periodic information reporting requirements on foreign investors and the applicable FIEs. Aside from investment implementation report and investment amendment report that are required at each investment and alteration of investment specifics, an annual report is mandatory, and large foreign investors meeting certain criteria are required to report on a quarterly basis. Any company found to be non-compliant with these information reporting obligations may potentially be subject to fines and/or administrative or criminal liabilities, and the persons directly responsible may be subject to criminal liabilities.

Risks Related to Doing Business in China

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

The PRC legal system is based on written statutes where prior court decisions have limited value as precedents. Our PRC subsidiary, Huya Technology, is a foreign-invested enterprise and is subject to laws and regulations applicable to foreign-invested enterprises as well as various Chinese laws and regulations generally applicable to companies incorporated in China. However, 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 evaluate 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 that may have retroactive effect. As a result, we may not be aware of our violation of these policies and rules until sometime after the violation. Such uncertainties, including uncertainty over 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.

Regulation and censorship of information disseminated over the mobile and internet in China may adversely affect our business and subject us to liability for streaming content or posted on our platform.

Internet companies in China are subject to a variety of existing and new rules, regulations, policies, and license and permit requirements. In connection with enforcing these rules, regulations, policies and requirements, relevant government authorities may suspend services by, or revoke licenses of, any internet or mobile content service provider that is deemed to provide illicit content online or on mobile devices, and such activities may be intensified in connection with any ongoing government campaigns to eliminate prohibited content online. For example, in 2016, the Office of the Anti-Pornography and Illegal Publications Working Group, the State Internet Information Office, the MIIT, the Ministry of Culture and the Ministry of Public Security jointly launched a “Clean Up the Internet 2016” campaign. Based on publicly available information, the campaign aims to eliminate

 

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pornographic information and content in the Internet information services industry by, among other things, holding liable individuals and corporate entities that facilitate the distribution of pornographic information and content. During the campaign, relevant government authorities shut down approximately 2,500 websites, removed 15,000 links and closed 310,000 accounts. Publicly traded companies, such as Tencent, Baidu, and SINA, voluntarily initiated self-investigations to filter and remove content from their websites and cloud servers.

We endeavor to eliminate illicit content from our platform. We have made substantial investments in resources to monitor content that users post on our platform and the way in which our users engage with each other through our platform. We use a variety of methods to ensure our platform remains a healthy and positive experience for our users. See “Business—Content Screening and Review.” Although we employ these methods to filter content posted by our users, we cannot be sure that our internal content control efforts will be sufficient to remove all content that may be viewed as indecent or otherwise non-compliant with PRC law and regulations. Government standards and interpretations as to what constitutes illicit online content or behavior are subject to interpretation and may change in a manner that could render our current monitoring efforts insufficient. The Chinese government has wide discretion in regulating online activities and, irrespective of our efforts to control the content on our platform, government campaigns and other actions to reduce illicit content and activities could subject us to negative press or regulatory challenges and sanctions, including fines, suspension or revocation of our licenses to operate in China or a ban on our platform, including closure of one or more parts of or our entire business. Further, our senior management could be held criminally liable if we are deemed to be profiting from illicit content on our platform. Although our business and operations have not been materially and adversely affected by government campaigns or any other regulatory actions in the past, we cannot assure you that our business and operations will be immune from government actions or sanctions in the future. If government actions or sanctions are brought against us, or if there are widespread rumors that government actions or sanctions have been brought against us, our reputation could be harmed, we may lose users and customers, our revenues and results of operation may be materially and adversely affected and the value of our ADSs could be dramatically reduced.

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

Substantially all of our assets and almost all of our customers are located in 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 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 industry development by imposing 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 over the past decades, growth has been uneven, both geographically and among various sectors of the economy. The Chinese government has implemented 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 to control the pace of economic growth. These measures may cause decreased economic activity in China, which could in turn reduce the demand for our products and services and adversely affect our business, financial condition and results of operations.

 

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We may be adversely affected by the complexity, uncertainties and changes in PRC regulation of the internet industry 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. 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:

 

    We only have contractual control over our platform. Guangzhou Huya, our PRC variable interest entity, owns our platform due to the restriction of foreign investment in businesses providing value-added telecommunication services in China, including internet content provision services. If Guangzhou Huya breaches its contractual arrangements with us and no longer remains under our control, this may significantly disrupt our business, subject us to sanctions, compromise enforceability of related contractual arrangements, or have other harmful effects on us.

 

    There are uncertainties relating to the regulation of the 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 PRC variable interest entity levels 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 Related to Our Business and Our Industry—If we fail to obtain and maintain the licenses and approvals required under the complex regulatory environment for internet-based businesses in China, our business, financial condition and results of operations may be materially and adversely affected”, and “Regulation—Internet Information Services”, “Regulation—Internet Publication and Cultural Products”, “Regulation—Online Music and Entertainment” and “Regulation—Online Transmission of Audio-Visual Programs”. In addition, although we are not currently required by PRC law to ask users for their real name and personal information when they register for an user account, we cannot assure you that PRC regulators would not require us to implement compulsory real-name registration on our platform in the future. In late 2011, for example, the Beijing municipal government required microbloggers in China to implement real-name registration for all of their registered users. If we were required to implement real-name registration on our platform, we may lose large numbers of registered user accounts for various reasons, because users may no longer maintain multiple accounts and users who dislike giving out their private information may cease to use our products and services altogether.

 

    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. 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 online video 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.

On June 3, 2010, the Ministry of Culture, or MOC, promulgated the Provisional Administration Measures of Online Games, or the Online Games Measures, which became effective on August 1, 2010 and amended on December 15, 2017. The Online Games Measures provide that any entity engaging in online game operation activities shall obtain the Internet Culture Operation License and must meet certain requirements such as

 

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minimum registered capital. Although an online game developer may be involved in the purchase of servers and bandwidth, the control and management of game data, the maintenance of game systems and certain other maintenance tasks, such activities are not considered as conducting online game operation activities, and that online game developers are not online game operator and do not have to obtain the Internet Culture Operation License in accordance with the Online Games Measures. However, due to lack of detailed interpretative rules and uniform implementation practices and broad discretion of the local competent authorities, there are still uncertainties on the MOC’s interpretation and implementation of these measures. If the MOC determines in the future that such qualifications or requirements apply to the online game developers for their involvement in our online game operations, we may have to terminate our revenue-sharing arrangements with certain unqualified online game developers and may even be subject to various penalties, which may negatively impact our results of operations and financial condition.

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 businesses in China, including our business. There are also risks that we may be found to violate the existing or future laws and regulations given the uncertainty and complexity of China’s regulation of internet business.

Currently there is no law or regulation specifically governing virtual asset property rights and therefore it is not clear what liabilities, if any, online game operators may have for virtual assets.

While participating on our platform, our users acquire, purchase and accumulate some virtual assets, such as gifts or certain status. Such virtual assets can be important to users and have monetary value and, in some cases, are sold for actual money. In practice, virtual assets can be lost for various reasons, often through unauthorized use of the user account of one user by other users and occasionally through data loss caused by delay of network service, network crash or hacking activities. Currently, there is no PRC law or regulation specifically governing virtual asset property rights. As a result, there is uncertainty as to who the legal owner of virtual assets is, whether and how the ownership of virtual assets is protected by law, and whether an operator of live streaming platform such as us would have any liability, whether in contract, tort or otherwise, to users or other interested parties, for loss of such virtual assets. Based on recent PRC court judgments, the courts have typically held online platform operators liable for losses of virtual assets by platform users, and ordered online platform operators to return the lost virtual items to users or pay damages and losses. In case of a loss of virtual assets, we may be sued by our users and held liable for damages, which may negatively affect our reputation and business, financial condition and results of operations.

Advertisements shown on our platform may subject us to penalties and other administrative actions.

Under PRC advertising laws and regulations, we are obligated to monitor the advertising content shown on our platform to ensure that such content is true and 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.

In addition to the advertisements that were placed by the advertising agencies or advertisers we directly cooperate with, our platform also displays side-bar advertisements placed by broadcasters on their own streaming channels. While we have made significant efforts to ensure that the advertisements shown on our platform 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

 

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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 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 that 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 August 3, 2011, the SAT issued the Administrative Measures of Enterprise Income Tax of Chinese-Controlled Offshore Incorporated Resident Enterprises (Trial), or SAT Bulletin 45, which became effective on September 1, 2011, to provide more guidance on the implementation of SAT Circular 82.

According to SAT Circular 82, an offshore incorporated enterprise controlled by a PRC enterprise or a PRC enterprise group will be considered 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 (d) not less than half of the enterprise’s directors or senior management with voting rights habitually reside in the PRC. SAT Bulletin 45 further clarifies the resident status determination, post-determination administration as well as competent tax authorities.

Although SAT Circular 82 and SAT Bulletin 45 only apply to offshore incorporated enterprises controlled by PRC enterprises or PRC enterprise group instead of those controlled by PRC individuals or foreigners, Commerce & Finance Law Offices, our legal counsel as to PRC law, has advised us that the determination criteria set forth therein may reflect 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.

We do not meet all of the conditions above; therefore, we believe that we should not be treated as a “resident enterprise” for PRC tax purposes even if the standards for “de facto management body” prescribed in the SAT Circular 82 are applicable to us. For example, our minutes and files of the resolutions of our board of directors and the resolutions of our shareholders are maintained outside the PRC.

However, it is possible that the PRC tax authorities may take a different view. Commerce & Finance Law Offices, our legal counsel as to PRC law, has advised us that if the PRC tax authorities determine that our Cayman Islands holding company is a PRC resident enterprise for PRC enterprise income tax purposes, our world-wide income could be subject to PRC tax at a rate of 25%, which could reduce our net income. In addition, we will also be subject to PRC enterprise income tax reporting obligations.

Although dividends paid by one PRC tax resident to another PRC tax resident should qualify as “tax-exempt income” under the enterprise income tax law, we cannot assure you that dividends by our PRC subsidiary to our

 

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Cayman Islands holding company will not be subject to a 10% withholding tax, as the PRC foreign exchange control authorities, which enforce the withholding tax on dividends, 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.

Non-PRC resident ADS holders may also be subject to PRC withholding tax on dividends paid by us and PRC tax on gains realized on the sale or other disposition of ADSs or Class A ordinary shares, if such income is sourced from within the PRC. The tax would be imposed at the rate of 10% in the case of non-PRC resident enterprise holders and 20% in the case of non-PRC resident individual holders. In the case of dividends, we would be required to withhold the tax at source. Any PRC tax liability may be reduced under applicable tax treaties or similar arrangements. Although our holding company is incorporated in the Cayman Islands, it remains unclear whether dividends received and gains realized by our non-PRC resident ADS holders will be regarded as income from sources within the PRC if we are classified as a PRC resident enterprise. Any such tax will reduce the returns on your investment in our ADSs.

Finally, we face uncertainties on the reporting and consequences on private equity financing transactions, private share transfers and share exchange involving the transfer of shares in our company by non-resident investors. According to the Notice on Several Issues Concerning Enterprise Income Tax for Indirect Share Transfer by Non-PRC Resident Enterprises, issued by the PRC State Administration of Taxation on February 3, 2015, or SAT Circular 7, an “indirect transfer” of assets of a PRC resident enterprise, including a transfer of equity interests in a non-PRC holding company of a PRC resident enterprise, by non-PRC resident enterprises may be re-characterized and treated as a direct transfer of PRC taxable properties, if such transaction lacks reasonable commercial purpose and was undertaken for the purpose of reducing, avoiding or deferring PRC enterprise income tax. As a result, gains derived from such indirect transfer may be subject to PRC enterprise income tax, and tax filing or withholding obligations may be triggered, depending on the nature of the PRC taxable properties being transferred. According to SAT Circular 7, “PRC taxable properties” include assets of a PRC establishment or place of business, real properties in the PRC, and equity investments in PRC resident enterprises, in respect of which gains from their transfer by a direct holder, being a non-PRC resident enterprise, would be subject to PRC enterprise income taxes. When determining if there is a “reasonable commercial purpose” of the transaction arrangement, features to be taken into consideration include: whether the main value of the equity interest of the relevant offshore enterprise derives from PRC taxable properties; whether the assets of the relevant offshore enterprise mainly consists of direct or indirect investment in China or if its income mainly derives from China; whether the offshore enterprise and its subsidiaries directly or indirectly holding PRC taxable properties have a real commercial nature which is evidenced by their actual function and risk exposure; the duration of existence of the business model and organizational structure; the replicability of the transaction by direct transfer of PRC taxable properties; and the tax situation of such indirect transfer outside China and its applicable tax treaties or similar arrangements. In respect of an indirect offshore transfer of assets of a PRC establishment or place of business of a foreign enterprise, the resulting gain is to be included with the annual enterprise filing of the PRC establishment or place of business being transferred, and would consequently be subject to PRC enterprise income tax at a rate of 25%. Where the underlying transfer relates to PRC real properties or to equity investments in a PRC resident enterprise, which is not related to a PRC establishment or place of business of a non-resident enterprise, a PRC enterprise income tax at 10% would apply, subject to available preferential tax treatment under applicable tax treaties or similar arrangements, and the party who is obligated to make the transfer payments has the withholding obligation. Where the payor fails to withhold any or sufficient tax, the transferor shall declare and pay such tax to the competent tax authority by itself within the statutory time limit. Late payment of applicable tax will subject the transferor to default interest. Currently, SAT Circular 7 does not apply to the sale of shares by investors through a public stock exchange where such shares were acquired from a transaction through a public stock exchange.

We cannot assure you that the PRC tax authorities will not, at their discretion, adjust any capital gains and impose tax return filing and withholding or tax payment obligations with respect to any internal restructuring, and our PRC subsidiary may be requested to assist in the filing. Any PRC tax imposed on a transfer of our shares

 

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not through a public stock exchange, or any adjustment of such gains would cause us to incur additional costs and may have a negative impact on the value of your investment in our company.

Implementation of the new labor laws and regulations in China may adversely affect our business and results of operations.

Pursuant to the labor contract law that took effect in January 2008, its implementation rules that took effect in September 2008 and its amendment that took effect in July 2013, 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. Due to lack of detailed interpretative rules and uniform implementation practices and broad discretion of the local competent authorities, it is uncertain as to how the labor contract law and its implementation rules will affect our current employment policies and practices. Our employment policies and practices may violate the labor contract law or its implementation rules, and we may thus be subject to related penalties, fines or legal fees. Compliance with the labor contract law and its implementation rules may increase our operating expenses, in particular our personnel expenses. 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 also 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 our labor costs to increase due to the implementation of these new laws and regulations. As the interpretation and implementation of these new laws and regulations are still evolving, we cannot assure you that our employment practice will at all times be deemed in full compliance with 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.

Further, labor disputes, work stoppages or slowdowns at our company or any of our third-party service providers could significantly disrupt our daily operation or our expansion plans and have a material adverse effect on our business.

Compliance with the laws or regulations governing virtual currency may result in us having to obtain additional approvals or licenses or change our current business model.

The issuance and use of  “virtual currency” in the PRC has been regulated since 2007 in response to the growth of the online games industry in China. On January 25, 2007, the Ministry of Public Security, the MOC, the MIIT and the GAPP jointly issued a circular regarding online gambling which has implications for the use of virtual currency. To curtail online games that involve online gambling, as well as address concerns that virtual currency could be used for money laundering or illicit trade, the circular (a) prohibits online game operators from charging commissions in the form of virtual currency in relation to winning or losing of games; (b) requires online game operators to impose limits on use of virtual currency in guessing and betting games; (c) bans the conversion of virtual currency into real currency or property; and (d) prohibits services that enable game players to transfer virtual currency to other players. On June 4, 2009, the MOC and the MOFCOM jointly issued a notice regarding strengthening the administration of online game virtual currency, or the Virtual Currency Notice. In addition, the Online Games Measures provides, among other things, that virtual currency issued by online game operators may only be used to exchange its own online game products and services and may not be used to pay for the products and services of other entities.

 

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Although we issue different virtual currencies to users on our platform for them to purchase various items to be used on our platform as well in online games, our service does not constitute online game virtual currency transaction services because users cannot transfer or trade these currency among themselves. However, we cannot assure you that the PRC regulatory authorities will not take a view contrary to ours. If the PRC regulatory authorities deem any transfer or exchange on our platform to be a virtual currency transaction, then in addition to being deemed to be engaging in the issuance of virtual currency, we may also be deemed to be providing transaction platform services that enable the trading of such virtual currency. Simultaneously engaging in both of these activities is prohibited under the Virtual Currency Notice. In that event, we may be required to cease either our virtual currency issuance activities or such deemed “transaction service” activities and may be subject to certain penalties, including mandatory corrective measures and fines. The occurrence of any of the foregoing could have a material adverse effect on our business, financial condition and results of operations.

China’s M&A Rules and certain other PRC regulations establish complex procedures for certain 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 effective 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, in 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, also known as Circular 6, which officially established a security review system for mergers and acquisitions of domestic enterprises by foreign investors. Further, MOFCOM promulgated the Regulations on Implementation of Security Review System for the Merger and Acquisition of Domestic Enterprises by Foreign Investors, effective 2011, to implement 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 foregoing MOFCOM regulations, MOFCOM will focus on the substance and actual impact of the transaction when deciding whether a specific merger or acquisition is subject to security review. If MOFCOM decides that a specific merger or acquisition is subject to a security review, it will submit it to the Inter-Ministerial Panel, an authority established under Circular 6 led by the National Development and Reform Commission, 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 internet content or 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

 

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time consuming, and any required approval processes, including obtaining approval from MOFCOM or its local counterparts may delay or inhibit our ability to complete such transactions. We believe that it is unlikely that 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 China, including those by way of entering into contractual control arrangements with target entities, may be closely scrutinized or prohibited.

PRC regulations relating to offshore investment activities by PRC residents may limit our PRC subsidiary’s 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 Circular on Relevant Issues Relating to Domestic Resident’s Investment and Financing and Roundtrip Investment through Special Purpose Vehicles, or SAFE Circular 37, in July 2014 that requires PRC residents or entities 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 investment or financing. In addition, such PRC residents or entities must update their SAFE registrations when the offshore special purpose vehicle undergoes material events relating to any change of basic information (including change of such PRC citizens or residents, name and operation term), increases or decreases in investment amount, transfers or exchanges of shares, or mergers or divisions. According to the Notice on Further Simplifying and Improving Policies for the Foreign Exchange Administration of Direct Investment released on February 13, 2015 by the SAFE, local banks will examine and handle foreign exchange registration for overseas direct investment, including the initial foreign exchange registration and amendment registration, under SAFE Circular 37 from June 1, 2015.

If our shareholders who are PRC residents or entities do not complete their registration with the local SAFE branches, our PRC subsidiary 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 subsidiary. Moreover, failure to comply with the SAFE registration described above could result in liability under PRC laws for evasion of applicable foreign exchange restrictions. Our PRC resident shareholders, Mr. David Xueling Li and Rongjie Dong, had completed their SAFE registration and updated their change of shareholding with the local SAFE branch in relation to their investment in our company. However, we may not at all times be fully aware or informed of the identities of all our shareholders or beneficial owners that are required to make such registrations, 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 residents or entities 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.

PRC regulation of direct investment and loans by offshore holding companies to PRC entities may delay or limit us from using the proceeds of our initial public offering to make additional capital contributions or loans to our PRC subsidiary.

We are an offshore holding company conducting our operations in China through our PRC subsidiary, variable interest entity and its subsidiaries. We may make loans to our PRC subsidiary, variable interest entity and its subsidiaries, or we may make additional capital contributions to our PRC subsidiary.

Any capital contributions or loans that we, as an offshore entity, make to our PRC subsidiary, including from the proceeds of our initial public offering, are subject to PRC regulations. For example, none of our loans to a PRC subsidiary can exceed the difference between its total amount of investment and its registered capital

 

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approved under relevant PRC laws, and the loans must be registered with the local branch of SAFE. Our capital contributions to our PRC subsidiary must be approved by the MOFCOM or its local counterpart.

On March 30, 2015, SAFE issued the Circular on the Reforming of the Management Method of the Settlement of Foreign Currency Capital of Foreign-Invested Enterprises, or SAFE Circular 19, which took effect on June 1, 2015. Under SAFE Circular 19, a foreign-invested enterprise, within the scope of business, may choose to convert its registered capital from foreign currency to RMB on a discretionary basis, and the RMB capital so converted can be used for equity investments within PRC, which will be regarded as the reinvestment of foreign-invested enterprise. See “Regulation—Regulation of Foreign Currency Exchange and Dividend Distribution.”

In light of the various requirements imposed by PRC regulations on loans to and direct investment in PRC entities by offshore holding companies, we cannot assure you that we will be able to complete the necessary registration or obtain the necessary approval on a timely basis, or at all. If we fail to complete the necessary registration or obtain the necessary approval, our ability to make loans or equity contributions to our PRC subsidiary may be negatively affected, which could adversely affect our PRC subsidiary’s liquidity and its ability to fund its working capital and expansion projects and meet its obligations and commitments.

Our PRC subsidiary and PRC variable interest entity 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 incorporated in the Cayman Islands. We rely on dividends from our PRC subsidiary which in turn relies on consulting and other fees paid by our PRC variable interest entity for our cash and financing requirements, such as the funds necessary to pay dividends and other cash distributions to our shareholders, including holders of our ADSs, and service any debt we may incur. Current PRC regulations permit our PRC subsidiary to pay dividends to us only out of their accumulated after-tax profits upon satisfaction of relevant statutory condition and procedures, if any, determined in accordance with Chinese accounting standards and regulations. In addition, each of our PRC subsidiary is required to set aside at least 10% of its accumulated profits each year, if any, to fund certain reserve funds until the total amount set aside reaches 50% of its registered capital. As of December 31, 2017, we had not made appropriations to statutory reserves as our subsidiary and our variable interest entity (including its subsidiaries) reported accumulated loss. Furthermore, if our PRC subsidiary, variable interest entity and its 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. As of December 31, 2017, our subsidiary and our variable interest entity (including its subsidiaries) located in the PRC reported accumulated loss and therefore they could not pay any dividends.

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.

Pursuant to SAFE Circular 37, PRC residents who participate in share incentive plans in overseas non-publicly-listed companies may submit applications to SAFE or its local branches for the foreign exchange registration with respect to offshore special purpose companies. In the meantime, our directors, executive officers and other employees who are PRC citizens or who are non-PRC residents residing in the PRC for a continuous period of not less than one year, subject to limited exceptions, and who have been granted incentive share awards by us, may follow the Notices on Issues Concerning the Foreign Exchange Administration for Domestic

 

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Individuals Participating in Stock Incentive Plan of Overseas Publicly-Listed Company, or 2012 SAFE notices, promulgated by the SAFE in 2012. Pursuant to the 2012 SAFE notices, PRC citizens and non-PRC citizens who reside in China for a continuous period of not less than one year who participate in any stock incentive plan of an overseas publicly listed company, subject to a few exceptions, are required to register with SAFE through a domestic qualified agent, which could be the PRC subsidiaries of such overseas listed company, and complete certain other procedures. In addition, an overseas entrusted institution must be retained to handle matters in connection with the exercise or sale of stock options and the purchase or sale of shares and interests. We and our executive officers and other employees who are PRC citizens or who reside in the PRC for a continuous period of not less than one year and who have been granted options will be subject to these regulations when our company becomes an overseas listed company upon the completion of this offering. Failure to complete the SAFE registrations may subject them to fines, and legal sanctions and may also limit our ability to contribute additional capital into our PRC subsidiary and limit our PRC subsidiary’s ability to distribute dividends to us. We also face regulatory uncertainties that could restrict our ability to adopt additional incentive plans for our directors, executive officers and employees under PRC law. See “Regulation—Regulation of Foreign Currency Exchange and Dividend Distribution—Stock Option Rules.”

The SAT has issued certain circulars concerning employee share options and restricted shares. Under these circulars, our employees working in China who exercise share options or are granted restricted shares will be subject to PRC individual income tax. Our PRC subsidiary has obligations to file documents related to employee share options or restricted shares 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 we fail to withhold their income taxes according to relevant laws and regulations, we may face sanctions imposed by the tax authorities or other PRC governmental authorities. See “Regulation—Regulation of Foreign Currency Exchange and Dividend Distribution—Stock Option Rules.”

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 RMB against the U.S. dollar and other currencies is affected by changes in China’s political and economic conditions and by China’s foreign exchange policies, among other things. In July 2005, the PRC government changed its decades-old policy of pegging the value of the RMB to the U.S. dollar, and the RMB appreciated more than 20% against the U.S. dollar over the following three years. Between July 2008 and June 2010, this appreciation halted and the exchange rate between the RMB and the U.S. dollar remained within a narrow band. Since June 2010, the RMB has fluctuated against the U.S. dollar, at times significantly and unpredictably. On November 30, 2015, the Executive Board of the International Monetary Fund (IMF) completed the regular five-year review of the basket of currencies that make up the Special Drawing Right, or the SDR, and decided that with effect from October 1, 2016, Renminbi is determined to be a freely usable currency and will be included in the SDR basket as a fifth currency, along with the U.S. dollar, the Euro, the Japanese yen and the British pound. In the fourth quarter of 2016, the RMB has depreciated significantly in the backdrop of a surging U.S. dollar and persistent capital outflows of China. With the development of the foreign exchange market and progress towards interest rate liberalization and Renminbi internationalization, the PRC government may in the future announce further changes to the exchange rate system and we cannot assure you that the Renminbi will not appreciate or depreciate significantly in value against the U.S. dollar in the future. It is difficult to predict how market forces or PRC or U.S. government policy may impact the exchange rate between the RMB and the U.S. dollar in the future.

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. Substantially all of our revenues and costs are denominated in 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, our ADSs in U.S. dollars. To the extent that we need to convert U.S. dollars into RMB for capital expenditures and working capital and other business

 

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purposes, appreciation of the RMB against the U.S. dollar would have an adverse effect on the RMB 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 our ADSs, and if we decide to convert RMB into U.S. dollars for the purpose of making payments for dividends on our ordinary shares or ADSs, strategic acquisitions or investments or other business purposes, appreciation of the U.S. dollar against the RMB would have a negative effect on the U.S. dollar amount available to us.

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 revenues 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 substantially all of our revenues in Renminbi. Under existing PRC foreign exchange regulations, payments of current account items, including profit distributions, interest payments 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 subsidiary is 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 our ADSs.

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 seal of the signing entity or with the signature of a legal representative whose designation is registered and filed with the relevant branch of the Administration of Industry and Commerce.

Although we usually utilize chops to enter into contracts, the designated legal representatives of each of our PRC subsidiary, variable interest entity and its subsidiaries have the apparent authority to enter into contracts on behalf of such entities without chops and bind such entities. All designated legal representatives of our PRC subsidiary, variable interest entity and its subsidiaries are members of our senior management team who have signed employment agreements with us or our PRC subsidiary, variable interest entity and its subsidiaries under which they agree to abide by various duties they owe to us. In order to maintain the physical security of our chops and chops of our PRC entities, we generally store these items in secured locations accessible only by the authorized personnel in the legal or finance department of each of our subsidiaries and variable interest entity (including its subsidiaries). 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

 

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representative obtains control of the chops in an effort to obtain control over any of our PRC subsidiary, variable interest entity or its subsidiaries, we or our PRC subsidiary, variable interest entity and its subsidiaries 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 leased property interest may be defective and our right to lease the properties affected by such defects challenged, which could cause significant disruption to our business.

Under PRC laws, all lease agreements are required to be registered with the local housing authorities. We presently lease three premises in China, and the landlords of these premises have not completed the registration of their ownership rights or the registration of our leases with the relevant authorities. Failure to complete these required registrations may expose our landlords, lessors and us to potential monetary fines. If these registrations are not obtained in a timely manner or at all, we may be subject to monetary fines or may have to relocate our offices and incur the associated losses.

Our auditor, like other independent registered public accounting firms operating in China, is not permitted to be subject to inspection by 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 issues the audit reports included in our prospectus filed with the US Securities and Exchange Commission, as auditors of companies that are traded publicly in the United States and a firm registered with the US Public Company Accounting Oversight Board (United States), or the PCAOB, is required by the laws of the United States to undergo regular inspections by the PCAOB to assess its compliance with the laws of the United States and professional standards. Because our auditors are located in the Peoples’ Republic of China, a jurisdiction where the PCAOB is currently unable to conduct inspections without the approval of the Chinese authorities, our auditors are not currently inspected by the PCAOB. On May 24, 2013, PCAOB announced that it had entered into a Memorandum of Understanding on Enforcement Cooperation with the China Securities Regulatory Commission, or the CSRC, and the Ministry of Finance which establishes a cooperative framework between the parties for the production and exchange of audit documents relevant to investigations in the United States and China. PCAOB continues to be in discussions with the CSRC and the Ministry of Finance to permit joint inspections in the PRC of audit firms that are registered with PCAOB and audit Chinese companies that trade on U.S. exchanges.

Inspections of other firms that the PCAOB has conducted outside 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. This lack of PCAOB inspections in China prevents the PCAOB from regularly evaluating our auditor’s audits and its quality control procedures. As a result, investors may be deprived of the benefits of PCAOB inspections.

The inability of the PCAOB to conduct inspections of auditors in China makes it more difficult to evaluate the effectiveness of our auditor’s audit procedures or quality control procedures as compared to auditors outside of China that are subject to PCAOB inspections. Investors may lose confidence in our reported financial information and procedures and the quality of our financial statements.

 

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Additional remedial measures could be imposed on certain PRC-based accounting firms, including our independent registered public accounting firm, in administrative proceedings instituted by the SEC, as a result of which our financial statements may be determined to not be in compliance with the requirements of the Exchange Act, if at all.

In December 2012, the SEC brought administrative proceedings against the PRC-based affiliates of the Big Four accounting firms, including our independent registered public accounting firm, alleging that they had violated U.S. securities laws by failing to provide audit work papers and other documents related to certain other PRC-based companies under investigation by the SEC. On January 22, 2014, an initial administrative law decision was issued, censuring and suspending these accounting firms from practicing before the SEC for a period of six months. The decision was neither final nor legally effective until reviewed and approved by the SEC, and on February 12, 2014, the PRC-based accounting firms appealed to the SEC against this decision. In February 2015, each of the four PRC-based accounting firms agreed to a censure and to pay a fine to the SEC to settle the dispute and avoid suspension of their ability to practice before the SEC. The settlement requires the firms to follow detailed procedures to seek to provide the SEC with access to such firms’ audit documents via the CSRC. If the firms do not follow these procedures or if there is a failure in the process between the SEC and the CSRC, the SEC could impose penalties such as suspensions, or it could restart the administrative proceedings.

In the event that the SEC restarts the administrative proceedings, depending upon the final outcome, listed companies in the United States with major PRC operations may find it difficult or impossible to retain auditors in respect of their operations in the PRC, which could result in financial statements being determined to not be in compliance with the requirements of the Exchange Act, including possible delisting. Moreover, any negative news about the proceedings against these audit firms may cause investor uncertainty regarding PRC-based, United States-listed companies and the market price of our ADSs may be adversely affected.

If our independent registered public accounting firm was denied, even temporarily, the ability to practice before the SEC and we were unable to timely find another registered public accounting firm to audit and issue an opinion on our financial statements, our financial statements could be determined not to be in compliance with the requirements of the Exchange Act. Such a determination could ultimately lead to the delisting of our Class A ordinary shares from the NYSE or deregistration from the SEC, or both, which would substantially reduce or effectively terminate the trading of our ADSs in the United States.

Risks Related to This Offering and our American Depositary Shares

There has been no public market for our shares or ADSs prior to this offering, and you may not be able to resell our ADSs at or above the price you paid, or at all.

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

The market price for our ADSs may be volatile.

The trading price of our 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, including the performance and fluctuation of the market prices of other companies with business operations located mainly in China that have

 

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listed their securities in the United States. In addition to market and industry factors, the price and trading volume for our ADSs may be highly volatile for factors specific to our own operations, including the following:

 

    variations in our revenues, earnings, cash flow and data related to our user base or user engagement;

 

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

 

    announcements of new product and service offerings, solutions and expansions by us or our competitors;

 

    changes in financial estimates by securities analysts;

 

    detrimental adverse publicity about us, our products and services or our industry;

 

    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; and

 

    potential litigation or regulatory investigations.

Any of these factors may result in large and sudden changes in the volume and price at which our ADSs will trade.

In the past, shareholders of public companies have often brought securities class action suits against those companies following periods of instability in the market price of their 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 and require us to incur significant expenses to defend the suit, which could harm our results of operations. 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.

Our dual-class share structure with different voting rights 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 ADSs may view as beneficial.

We have a dual-class share structure such that our ordinary shares consist of Class A ordinary shares and Class B ordinary shares. In respect of matters requiring the votes of shareholders, 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 based on our dual-class share structure. We will sell Class A ordinary shares represented by our ADSs in this offering. Each Class B ordinary share is convertible into one Class A ordinary share at any time by the holder thereof, while 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 to any person or entity other than holders of Class B ordinary shares or their affiliates, such Class B ordinary shares shall be automatically and immediately converted into the equivalent number of Class A ordinary shares

Immediately prior to the completion of this offering, YY and Tencent, our major shareholders, will beneficially own 56.4% and 40.5% of our issued Class B ordinary shares, respectively, which will constitute approximately 44.5% and 32.0%, respectively, of our total issued and outstanding share capital immediately after the completion of this offering and 54.9% and 39.5%, respectively of the aggregate voting power of our total issued and outstanding share capital immediately after the completion of this offering due to the disparate voting powers associated with our dual-class share structure, assuming the underwriters do not exercise their over-allotment option. See “Principal Shareholders.” As a result of the dual-class share structure and the concentration of ownership, holders of Class B ordinary shares will have considerable influence over matters such as decisions

 

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regarding mergers, consolidations and the sale of all or substantially all of our assets, election of directors and other significant corporate actions. Such holders may take actions that are not in the best interest of us or our other shareholders. This concentration of ownership may discourage, delay or prevent a change in control of our company, which could have the effect of depriving our other shareholders of the opportunity to receive a premium for their shares as part of a sale of our company and may reduce the price of our ADSs. 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.

The dual-class structure of our ordinary shares may adversely affect the trading market for our ADSs.

S&P Dow Jones and FTSE Russell have recently announced changes to their eligibility criteria for inclusion of shares of public companies on certain indices, including the S&P 500, to exclude companies with multiple classes of shares and companies whose public shareholders hold no more than 5% of total voting power from being added to such indices. In addition, several shareholder advisory firms have announced their opposition to the use of multiple class structures. As a result, the dual class structure of our ordinary shares may prevent the inclusion of our ADSs representing Class A ordinary shares in such indices and may cause shareholder advisory firms to publish negative commentary about our corporate governance practices or otherwise seek to cause us to change our capital structure. Any such exclusion from indices could result in a less active trading market for our ADSs. Any actions or publications by shareholder advisory firms critical of our corporate governance practices or capital structure could also adversely affect the value of our ADSs.

If securities or industry analysts do not publish research or publish inaccurate or unfavorable research about our business, the market price for our ADSs and trading volume could decline.

The trading market for our 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 our ADSs, the market price for our 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 our ADSs to decline.

Because our initial public offering price is substantially higher than our 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 your ADSs than the amount paid by our existing shareholders for their Class A ordinary shares on a per ADS basis. As a result, you will experience immediate and substantial dilution of US$7.54 per ADS, representing the difference between the assumed initial public offering price of US$11.00 per ADS, the midpoint of the estimated range of the initial public offering price, and our net tangible book value per ADS as of December 31, 2017, after giving effect to the net proceeds to us from this offering, assuming the underwriters do not exercise their over-allotment option. In addition, you may experience further dilution to the extent that our Class A ordinary shares are issued upon the exercise of any share options or vest of any restricted share units. See “Dilution” for a more complete description of how the value of your investment in our ADSs will be diluted upon completion of this offering.

Because we do not expect to pay dividends in the foreseeable future after this offering, you must rely on price appreciation of our 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 our ADSs as a source for any future dividend income.

 

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Our board of directors has complete discretion as to whether to distribute dividends, subject to certain requirements of Cayman Islands law. In addition, our shareholders may by ordinary resolution declare a dividend, but no dividend may exceed the amount recommended by our board of directors. Under Cayman Islands law, a Cayman Islands company may pay a dividend out of either profit or share premium account, provided that in no circumstances may a dividend be paid if this would result in the company being unable to pay its debts as they fall due in the ordinary course of business. 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 subsidiaries, our financial condition, contractual restrictions and other factors deemed relevant by our board of directors. Accordingly, the return on your investment in our ADSs will likely depend entirely upon any future price appreciation of our ADSs. There is no guarantee that our 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 our ADSs and you may even lose your entire investment in our ADSs.

Substantial future sales or perceived potential sales of our ADSs in the public market could cause the price of our ADSs to decline.

Sales of our ADSs in the public market after this offering, or the perception that these sales could occur, could cause the market price of our ADSs to decline. Immediately after the completion of this offering, we will have ordinary shares outstanding including 15,000,000 Class A ordinary shares represented by ADSs, assuming the underwriters do not exercise their over-allotment option. All ADSs sold in this offering will be freely transferable without restriction or additional registration under the Securities Act. The remaining ordinary shares outstanding after this offering will be available for sale, upon the expiration of the 180-day lock-up period beginning from the date of this prospectus, subject to volume and other restrictions as applicable under Rules 144 and 701 under the Securities Act. Any or all of these shares may be released prior to the expiration of the lock-up period at the discretion of the representatives of the underwriters of this offering. To the extent shares are released before the expiration of the lock-up period and sold into the market, the market price of our ADSs could decline.

After completion of this offering, certain holders of our ordinary shares may cause us to register under the Securities Act the sale of their shares, subject to the 180-day lock-up period in connection with this offering. Registration of these shares under the Securities Act would result in ADSs representing 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 form of ADSs in the public market could cause the price of our ADSs to decline.

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 direct the voting of the underlying Class A ordinary shares which are represented by your ADSs.

As a holder of our ADSs, you will only be able to exercise the voting rights with respect to the underlying Class A ordinary shares representing your ADSs 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 vote the underlying Class A ordinary shares representing your ADSs in accordance with these instructions. You will not be able to directly exercise your right to vote with respect to the underlying Class A ordinary shares representing your ADSs unless you withdraw the shares and become the registered holder of such shares prior to the record date for the general meeting. Under our third amended and restated memorandum and articles of association, effective upon the completion of this offering, the minimum notice period required for convening a general meeting is ten days. When a general meeting is convened, you may not receive sufficient advance notice enable you to withdraw the shares underlying your ADSs and become the registered holder of such shares prior to the record date of the general meeting to allow you to vote with respect to any specific matter. In addition, under our third amended and restated memorandum and articles of

 

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association that will become effective immediately upon completion of this offering, for the purposes of determining those shareholders who are entitled to attend and vote at any general meeting, our directors may close our register of members or fix in advance a record date for such meeting, and such closure of our register of members or the setting of such a record date may prevent you from withdrawing the shares underlying your ADSs and becoming the registered holder of such shares prior to the record date, so that you would not be able to attend the general meeting or to vote directly. Where any matter is to be put to a vote at a general meeting, the depositary will use its best endeavors to notify you of the upcoming vote and 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.

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

Under the deposit agreement for the ADSs, if you do not timely and properly give voting instructions to the depository as to how to vote the Class A ordinary shares underlying your ADSs, the depositary will give us or our nominee a discretionary proxy to vote the 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 timely and properly give voting instructions to the depository as to how to vote the Class A ordinary shares underlying your ADSs at shareholders’ meetings, you cannot prevent such 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 ordinary shares are not subject to this discretionary proxy.

Your rights to pursue claims against the depositary as a holder of ADSs are limited by the terms of the deposit agreement.

Under the deposit agreement, any action or proceeding against or involving the depositary, arising out of or based upon the deposit agreement or the transactions contemplated thereby or by virtue of owning the ADSs may only be instituted in a state or federal court in New York, New York, and you, as a holder of our ADSs, will have irrevocably waived any objection which you may have to the laying of venue of any such proceeding, and irrevocably submitted to the exclusive jurisdiction of such courts in any such action or proceeding. The depositary may, in its sole discretion, require that any dispute or difference arising from the relationship created by the deposit agreement be referred to and finally settled by an arbitration conducted under the terms described in the deposit agreement, although the arbitration provisions do not preclude you from pursuing claims under federal securities laws in federal courts. Also, we may amend or terminate the deposit agreement without your consent. If you continue to hold your ADSs after an amendment to the deposit agreement, you agree to be bound by the deposit agreement as amended. See “Description of American Depositary Shares” for more information.

 

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Your right to participate in any future rights offerings may be limited, which may cause dilution to your holdings.

We may from time to time distribute rights to our shareholders, including rights to acquire our securities. However, we cannot make such rights available to you in the United States unless we register both the rights and the securities to which the rights relate under the Securities Act or an exemption from the registration requirements is available. Under the deposit agreement, the depositary will not make rights available to you unless both the rights and the underlying securities to be distributed to ADS holders are either registered under the Securities Act or exempt from registration under the Securities Act. We are under no obligation to file a registration statement with respect to any such rights or securities or to endeavor to cause such a registration statement to be declared effective and we may not be able to establish a necessary exemption from registration under the Securities Act. Accordingly, you may be unable to participate in our rights offerings in the future and may experience dilution in your holdings.

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 our 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 our 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 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 our ADSs.

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 ADS holders 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 our 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.

Certain judgments obtained against us by our shareholders may not be enforceable.

We are an exempted company limited by shares incorporated under the laws of the Cayman Islands. We conduct substantially all of our operations in China and substantially all of our assets are located in China. In addition, a majority of our directors and executive officers reside within China, and most of the assets of these persons are located within China. As a result, it may be difficult or impossible for you to effect service of process

 

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within the United States upon these individuals, or to bring an action against us or against these individuals in the United States in the event that you believe your rights have been infringed under the U.S. 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 the PRC may render you unable to enforce a judgment against our assets or the assets of our directors and officers. For more information regarding the relevant laws of the Cayman Islands and China, see “Enforceability of Civil Liabilities.”

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

We will adopt our third amended and restated memorandum and articles of association that will become effective immediately prior to the completion of this offering. Our post-offering memorandum and articles of association will contain certain provisions to limit the ability of others to acquire control of our company or cause us to engage in change-of-control transactions, including a dual-class structure and a provision that grants authority to our board of directors to establish and issue from time to time one or more series of preferred shares without action by our shareholders and to determine, with respect to any series of preferred shares without action by our shareholders and to determine, with respect to any series of preferred shares, the terms and rights of that series. These provisions could have the effect of depriving our shareholders and ADSs holders of the opportunity to sell their shares or ADSs at a premium over the prevailing market price by discouraging third parties from seeking to obtain control of our company in a tender offer or similar transactions.

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 (2016 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 duties 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 and Wales, 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 duties 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 will have discretion under the post-offering memorandum and articles of association we expect to adopt, 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 resolution or to solicit proxies from other shareholders in connection with a proxy contest.

As a result of all of the above, our 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 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 (2016 Revision) 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.”

 

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The approval of the China Securities Regulatory Commission may be required in connection with this offering under PRC law.

The M&A Rules requires an overseas special purpose vehicle formed for listing purposes through acquisitions of PRC domestic companies and controlled by PRC companies or individuals to obtain the approval of the China Securities Regulatory Commission, or the CSRC, prior to the listing and trading of such special purpose vehicle’s securities on an overseas stock exchange. The interpretation and application of the regulations remain unclear, and this offering may ultimately require approval from the CSRC. In addition, it is reported that the CSRC intended to propose a pre-approval regime that requires all offshore listings by China-based companies with variable interest entity structures, such as ours, that operate in industry sectors subject to foreign investment restrictions to obtain CSRC’s approval. If CSRC approval is required, it is uncertain whether it would be possible for us to obtain the approval and any failure to obtain or delay in obtaining CSRC approval for this offering would subject us to sanctions imposed by the CSRC and other PRC regulatory agencies.

Our PRC counsel, Commerce & Finance Law Offices, has advised us based on their understanding of the current PRC law, rules and regulations that the CSRC’s approval is not required for the listing and trading of our ADSs on the NYSE in the context of this offering, given that:

 

    the CSRC currently has not issued any definitive rule or interpretation concerning whether offerings like ours under this prospectus are subject to this regulation;

 

    we established our PRC subsidiary by means of direct investment rather than by merger with or acquisition of PRC domestic companies; and

 

    no provision in this regulation clearly classifies contractual arrangements as a type of transaction subject to its regulation.

However, our PRC legal counsel has further advised us that there remains some uncertainty as to how the M&A Rules will be interpreted or implemented in the context of an overseas offering and its opinions summarized above are subject to any new laws, rules and regulations or detailed implementations and interpretations in any form relating to the M&A Rules. We cannot assure you that relevant PRC governmental agencies, including the CSRC, would reach the same conclusion as we do. If it is determined that CSRC approval is required for this offering, we may face sanctions by the CSRC or other PRC regulatory agencies for failure to seek CSRC approval for this offering. These sanctions may include fines and penalties on our operations in the PRC, limitations on our operating privileges in the PRC, delays in 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 China subsidiary, or other actions that could have a material and adverse effect on our business, financial condition, results of operations, reputation and prospects, as well as the trading price of our ADSs. The CSRC or other PRC regulatory agencies may also take actions requiring us, or making it advisable for 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 the settlement and delivery may not occur.

You must rely on the judgment of our management as to the use of the net proceeds from this offering, and such use may not produce income or increase our ADS price.

Our management will have considerable discretion in the application of the net proceeds received by us. You will not have the opportunity, as part of your investment decision, to assess whether proceeds are being used appropriately. The net proceeds may be used for corporate purposes that do not improve our efforts to achieve or maintain profitability or increase our ADS price. The net proceeds from this offering may be placed in investments that do not produce income or that lose value.

 

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We have granted, and may continue to grant, share incentive awards, which may result in increased share-based compensation expenses.

We adopted our stock incentive plan, or the 2017 Share Incentive Plan, in July 2017, for purposes of granting share-based compensation awards to employees, directors and consultants to incentivize their performance and align their interests with ours. We adopted an amended and restated 2017 share incentive plan in March 2018, or the Amended and Restated 2017 Plan. We account for compensation costs for all share options using a fair-value based method and recognize expenses in our consolidated statements of comprehensive loss in accordance with U.S. GAAP. Under the Amended and Restated 2017 Plan, we are authorized to grant options to purchase Class A ordinary shares of our company and restricted share units to receive Class A ordinary shares. The maximum number of Class A ordinary shares which may be issued pursuant to all awards under the Amended and Restated 2017 Plan is 28,394,117. As of the date of this prospectus, options to purchase 17,529,555 Class A ordinary shares have been granted and are outstanding but no Class A ordinary shares underlying those options have been issued, and 3,655,084 restricted share units have been granted but none of these restricted share units have been vested. For the year ended December 31, 2017, we recorded share-based compensation of RMB19.5 million related to the Amended and Restated 2017 Plan.

We believe the granting of share incentive awards is of significant importance to our ability to attract and retain employees, and we will continue to grant share incentive awards to employees 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 an emerging growth company 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 of Sarbanes-Oxley Act of 2002 for so long as we are an emerging growth company. As a result, if we elect not to comply with such auditor attestation requirements, our investors may not have access to certain information they may deem important.

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 are a foreign private issuer within the meaning of the rules under the Exchange Act, and as such we are exempt from certain provisions applicable to U.S. domestic public companies.

Because we qualify as a foreign private issuer under the Exchange Act, we are exempt from certain provisions of the securities rules and regulations in the United States that are applicable to U.S. domestic issuers, including:

 

    the rules under the Exchange Act requiring the filing with the SEC of quarterly reports on Form 10-Q or current reports on Form 8-K;

 

    the sections of the Exchange Act regulating the solicitation of proxies, consents, or authorizations in respect of a security registered under the Exchange Act;

 

    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

 

    the selective disclosure rules by issuers of material nonpublic information under Regulation FD.

 

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We will be required to file an annual report on Form 20-F within four months of the end of each fiscal year. In addition, we intend to publish our results on a quarterly basis as press releases, distributed pursuant to the rules and regulations of the NYSE. Press releases relating to financial results and material events will also be furnished to the SEC on Form 6-K. However, the information we are required to file with or furnish to the SEC will be less extensive and less timely compared to that required to be filed with the SEC by U.S. domestic issuers. As a result, you may not be afforded the same protections or information that would be made available to you were you investing in a U.S. domestic issuer.

As an exempted company incorporated in the Cayman Islands, we are permitted to adopt certain home country practices in relation to corporate governance matters that differ significantly from the NYSE corporate governance listing standards; these practices may afford less protection to shareholders than they would enjoy if we complied fully with the NYSE corporate governance listing standards.

As an exempted company incorporated in the Cayman Islands company that is listed on the NYSE, we are subject to the NYSE corporate governance listing standards. However, NYSE rules permit a foreign private issuer like us to follow the corporate governance practices of its home country. Certain corporate governance practices in the Cayman Islands, which is our home country, may differ significantly from the NYSE corporate governance listing standards. Currently, we do not plan to rely on home country practice with respect to our corporate governance after we complete this offering. However, if we choose to follow home country practice in the future, our shareholders may be afforded less protection than they otherwise would enjoy under the NYSE corporate governance listing standards applicable to U.S. domestic issuers.

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

We will be a “passive foreign investment company,” or “PFIC,” if, in 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 intend to treat our variable interest entity (including its subsidiaries) 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 variable interest entity (including its subsidiaries) 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 market price of our ADSs following the offering, we do not believe we were a PFIC for the taxable year ended December 31, 2017 and we do not presently expect to become a PFIC in 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 our ADSs, fluctuations in the market price of our ADSs 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. If we determine not to deploy significant amounts of cash for active purposes or if it were determined that we do not own the stock of our variable interest entity 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

 

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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 holder may be subject to burdensome reporting requirements. Further, if we are a PFIC for any year during which a U.S. holder holds our ADSs or 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 our ADSs or Class A ordinary shares. For more information, see “Taxation—United States Federal Income Tax Considerations—Passive Foreign Investment Company Rules.”

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 SEC and NYSE, impose various requirements on the corporate governance practices of public companies. 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. 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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SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

This prospectus contains forward-looking statements that reflect our current expectations and views of future events. The forward looking statements are contained principally in the sections entitled “Prospectus Summary,” “Risk Factors,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Business.” Known and unknown risks, uncertainties and other factors, including those listed under “Risk Factors,” 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 some of these forward-looking statements by words or phrases such as “may,” “will,” “expect,” “anticipate,” “aim,” “estimate,” “intend,” “plan,” “believe,” “is/are likely to,” “potential,” “continue” or other similar expressions. We have based these forward-looking statements largely on our current expectations and projections about future events that we believe may affect our financial condition, results of operations, business strategy and financial needs. These forward-looking statements include statements relating to:

 

    our goals and strategies;

 

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

 

    the expected growth of the live streaming market in China;

 

    our expectations regarding demand for and market acceptance of our products and services;

 

    our ability to retain and increase the number of users, broadcasters, talent agencies and advertisers, and expand our product and service offerings;

 

    competition in our industry;

 

    general economic and business condition in China and elsewhere; and

 

    relevant government policies and regulations relating to our industry.

These forward-looking statements involve various risks and uncertainties. Although we believe that our expectations expressed in these forward-looking statements are reasonable, our expectations may later be found to be incorrect. Our actual results could be materially different from our expectations. Important risks and factors that could cause our actual results to be materially different from our expectations are generally set forth in “Prospectus Summary—Our Challenges,” “Risk Factors,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” “Business,” “Regulation” and other sections in this prospectus. You should thoroughly read this prospectus and the documents that we refer to with the understanding that our actual future results may be materially different from and worse than what we expect. We qualify all of our forward-looking statements by these cautionary statements.

This prospectus contains certain data and information that we obtained from various government and private publications. Statistical data in these publications also include projections based on a number of assumptions. Our industry may not grow at the rate projected by market data, or at all. Failure of this market to grow at the projected rate may have a material and adverse effect on our business and the market price of our ADSs. In addition, the rapidly changing nature of the live streaming industry results in significant uncertainties for any projections or estimates relating to the growth prospects or future condition of our market. Furthermore, if any one or more of the assumptions underlying the market data are later found to be incorrect, actual results may differ from the projections based on these assumptions. You should not place undue reliance on these forward-looking statements.

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. Except as required by law, we undertake no obligation to update or revise publicly any forward-looking statements, whether as a result of new information, future events or otherwise, after the date on which the statements are made or to reflect the occurrence of unanticipated events. You should read this prospectus and the documents that we refer to in this prospectus and have filed as exhibits to the registration statement, of which this prospectus is a part, completely and with the understanding that our actual future results may be materially different from what we expect.

 

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USE OF PROCEEDS

We estimate that we will receive net proceeds from this offering of approximately US$149.2 million, or approximately US$172.2 million if the underwriters exercise their over-allotment option in full, after deducting underwriting discounts and commissions and the estimated offering expenses payable by us. These estimates are based upon an assumed initial public offering price of US$11.00 per ADS, the midpoint of the price range shown on the front cover page of this prospectus. A US$1.00 increase (decrease) in the assumed initial public offering price of US$11.00 per ADS would increase (decrease) the net proceeds to us from this offering by US$14.0 million, assuming the number of ADSs offered by us, as set forth on the front cover page of this prospectus, remains the same and after deducting the estimated underwriting discounts and commissions and estimated offering expenses payable by us.

The primary purposes of this offering are to enhance our brand recognition, create a public market for our shares for the benefit of all shareholders, retain talented employees by providing them with equity incentives, and obtain additional capital. We plan to use the net proceeds of this offering as follows:

 

    approximately 30% to 40% for investment in our content ecosystem and eSports partners to continue expanding our content genres and improving our content quality;

 

    approximately 30% to 40% for research and development, to continue to invest in and strengthen our technologies; 

 

    approximately 10% to 15% for expanding and enhancing our product and service offerings, including marketing and promotional activities to acquire users and strengthen our brand; and

 

    the balance for general corporate purposes, which may include working capital needs and potential strategic acquisitions, investments and alliances.

Although we may use a portion of the net proceeds to acquire businesses, products, services or technologies, we do not have agreements or commitments for any material acquisitions as of the date of this prospectus. The amounts and timing of any expenditures will vary depending on the amount of cash generated by our operations, and the rate of growth, if any, of our business.

The foregoing represents our current intentions based upon our present plans and business conditions to use and allocate the net proceeds of this offering. Our management, however, will have significant flexibility and discretion to apply the net proceeds of this offering. If an unforeseen event occurs or business conditions change, we may use the proceeds of this offering differently than as described in this prospectus. See “Risk Factors—Risks Related to This Offering and our American Depositary Shares—You must rely on the judgment of our management as to the use of the net proceeds from this offering, and such use may not produce income or increase our ADS price.”

In using the proceeds of this offering, we are permitted under PRC laws and regulations as an offshore holding company to provide funding to our wholly foreign-owned subsidiary in China only through loans or capital contributions and to our variable interest entity only through loans, subject to the approval of government authorities and limit on the amount of capital contributions and loans. Subject to satisfaction of applicable government registration and approval requirements, we may extend inter-company loans to our wholly foreign-owned subsidiary in China or make additional capital contributions to our wholly-foreign-owned subsidiary to fund its capital expenditures or working capital. For an increase of registered capital of our wholly foreign-owned subsidiary, we need to submit recordation of modification documents with the MOC or its local counterparts within 30 days of such increase of registered capital. If we provide funding to our wholly foreign-owned subsidiary through loans, the total amount of such loans may not exceed the difference between the entity’s total investment as approved by the foreign investment authorities and its registered capital. Such loans must be registered with SAFE or its local branches, which usually takes up to 20 working days to complete. We cannot assure you that we will be able to obtain these government registrations or approvals on a timely basis, if at all. See “Risk Factors—Risks Related to Doing Business in China—PRC regulation of direct investment and loans by offshore holding companies to PRC entities may delay or limit us from using the proceeds of our initial public offering to make additional capital contributions or loans to our PRC subsidiary.”

 

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DIVIDEND POLICY

Our board of directors has discretion on whether to distribute dividends, subject to certain restrictions under Cayman Islands law, namely that our company may only pay dividends out of profits or share premium, and provided always that in no circumstances may a dividend be paid if this would result in our company being unable to pay its debts as they fall due in the ordinary course of business. In addition, our shareholders may by ordinary resolution declare a dividend, but no dividend may exceed the amount recommended by our board of directors. Even if our board of directors decides to pay dividends on our ordinary shares, 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 our board of directors may deem relevant.

We do not have any present plan to pay any cash dividends on our ordinary shares in the foreseeable future after this offering. 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 may rely on dividends from our subsidiary in China for our cash requirements, including any payment of dividends to our shareholders. PRC regulations may restrict the ability of our PRC subsidiary to pay dividends to us. See “Regulation—Regulation of Foreign Currency Exchange and Dividend Distribution” and “Taxation—People’s Republic of China Taxation.”

If we pay any dividends, we will pay those dividends which are payable in respect of the Class A ordinary shares underlying our ADSs to the depositary, as the registered holder of such Class A ordinary shares, and the depositary then will pay such amounts to our ADS holders in proportion to the Class A ordinary shares underlying the ADSs held by such ADS holders, 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 Class A 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, 2017:

 

    on an actual basis;

 

    on a pro forma basis to reflect the automatic conversion of all of our outstanding series A-1 preferred shares into 17,647,058 Class A ordinary shares and series A-2 preferred shares into 4,411,765 Class B ordinary shares immediately prior to the completion of this offering; and

 

    on a pro forma as adjusted basis to reflect (i) the automatic conversion of all of our outstanding series A-1 preferred shares into 17,647,058 Class A ordinary shares and series A-2 preferred shares into 4,411,765 Class B ordinary shares immediately prior to the completion of this offering; (ii) the issuance and automatic conversion of all of our outstanding series B-2 preferred shares, which were issued and sold to Linen Investment Limited at a price of approximately US$7.16 per share in March 2018, into 64,488,235 Class B ordinary shares immediately prior to the completion of this offering; (iii) the automatic conversion of 8,382,353 Class B ordinary shares into an equal number of Class A ordinary shares in March 2018 resulted from the sale of such shares by YY to other investors; (iv) the automatic conversion of 367,870 Class B ordinary shares into an equal number of Class A ordinary shares in April 2018 resulted from the transfer of such shares by YY; and (v) the sale of 15,000,000 Class A ordinary shares in the form of ADSs by us in this offering at an assumed initial public offering price of US$11.00 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 underwriters do not exercise their over-allotment option.

 

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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, 2017  
     Actual     Pro Forma
(Unaudited)
    Pro Forma As
Adjusted(1)

(Unaudited)
 
     RMB     US$     RMB     US$     RMB     US$  
     (in thousands, except for share and per share data)  

Mezzanine equity:

            

Series A preferred shares (US$0.0001 par value; 17,647,058 Series A-1 preferred shares and 4,411,765 Series A-2 preferred shares authorized, issued and outstanding as of December 31, 2017; none outstanding on a pro forma basis as of December 31, 2017; and none outstanding on a pro forma as adjusted basis)

     509,668       78,335       —         —         —         —    

Shareholders’ equity:(2)

            

Ordinary shares (US$0.0001 par value; 249,957,163 Class A ordinary shares and 99,007,544 Class B ordinary shares authorized as of December 31, 2017; 992,456 Class A ordinary shares and 99,007,544 Class B ordinary shares issued and outstanding as of December 31, 2017; and 18,639,514 Class A ordinary shares and 103,419,309 Class B ordinary shares outstanding on a pro forma basis as of December 31, 2017; and 42,389,737 Class A ordinary shares and 159,157,321 Class B ordinary shares outstanding on a pro forma as adjusted basis)

     67       10       81       12       136       20  

Additional paid-in capital(3)

     140,792       21,639       650,446       99,972       4,624,551       710,781  

Accumulative deficit

     (80,968     (12,445     (80,968     (12,445     (80,968     (12,445

Accumulated other comprehensive income

     308       47       308       47       308       47  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total shareholders’ equity(3)

     60,199       9,251       569,867       87,586       4,544,027       698,403  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total mezzanine equity and shareholders’ equity(3)

     569,867       87,586       569,867       87,586       4,544,027       698,403  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total capitalization(3)

     569,867       87,586       569,867       87,586       4,544,027       698,403  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

(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) The share capital structure retroactively reflected the re-designation of our ordinary shares to Class A ordinary shares and Class B ordinary shares upon completion of the issuance of series B-2 preferred shares in March 2018.
(3) Assuming the number of ADSs offered by us as set forth on the front 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$11.00 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$14.0 million.

 

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DILUTION

If you invest in our ADSs, your interest will be diluted to the extent of the difference between the initial public offering price per ADS and our pro forma as adjusted net tangible book value per ADS after giving effect to (i) the automatic conversion of all of our outstanding series A-1 preferred shares into 17,647,058 Class A ordinary shares and series A-2 preferred shares into 4,411,765 Class B ordinary shares; (ii) the issuance and automatic conversion of all of our outstanding series B-2 preferred shares, which were issued in March 2018, into 64,488,235 Class B ordinary shares; (iii) the automatic conversion of 8,382,353 Class B ordinary shares into an equal number of Class A ordinary shares in March 2018 resulted from the sale of such shares by YY to other investors; (iv) the automatic conversion of 367,870 Class B ordinary shares into an equal number of Class A ordinary shares in April 2018 resulted from the transfer of such shares by YY; and (v) this offering. Dilution results from the fact that the initial public offering price per ordinary share is substantially in excess of the pro forma as adjusted net tangible book value per ordinary share attributable to the existing shareholders for our presently outstanding ordinary shares.

Our net tangible book value as of December 31, 2017 was approximately US$86.7 million, or US$0.87 per ordinary share and US$0.87 per ADS. Net tangible book value represents the amount of our total consolidated tangible assets, less the amount of our total consolidated liabilities. Dilution is determined by subtracting net tangible book value per ordinary share, after giving effect to the additional proceeds we will receive from this offering, from the assumed initial public offering price of US$11.00 per ordinary share, which is the midpoint of the estimated initial public offering price range set forth on the front cover page of this prospectus adjusted to reflect the ADS-to-ordinary share ratio, and after deducting underwriting discounts and commissions and estimated offering expenses payable by us. Because 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 based on all issued and outstanding ordinary shares, including Class A ordinary shares and Class B ordinary shares.

 

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Without taking into account any other changes in net tangible book value after December 31, 2017, other than to give effect to (i) the automatic conversion of our outstanding series A-1 preferred shares into 17,647,058 Class A ordinary shares and series A-2 preferred shares into 4,411,765 Class B ordinary shares upon the completion of this offering; (ii) the issuance and automatic conversion of all of our outstanding series B-2 preferred shares, which were issued and sold to Linen Investment Limited at a price of approximately US$7.16 per share in March 2018, into 64,488,235 Class B ordinary shares immediately prior to the completion of this offering; (iii) the automatic conversion of 8,382,353 Class B ordinary shares into an equal number of Class A ordinary shares in March 2018 resulted from the sale of such shares by YY to other investors; (iv) the automatic conversion of 367,870 Class B ordinary shares into an equal number of Class A ordinary shares in April 2018 resulted from the transfer of such shares by YY; and (v) our sale of the ADSs offered in this offering at the assumed initial public offering price of US$11.00 per ADS, the midpoint of the estimated range of the initial public offering price, after deduction of the underwriting discounts and commissions and estimated offering expenses payable by us, our pro forma as adjusted net tangible book value as of December 31, 2017 would have been US$697.5 million, or US$3.46 per ordinary share and US$3.46 per ADS. This represents an immediate increase in net tangible book value of US$0.52 per ordinary share and US$0.52 per ADS to the existing shareholders and an immediate dilution in net tangible book value of US$7.54 per ordinary share and US$7.54 per ADS to investors purchasing ADSs in this offering. The following table illustrates such dilution:

 

     Per Ordinary Share      Per ADS  

Assumed initial public offering price

   US$ 11.00      US$ 11.00  

Net tangible book value as of December 31, 2017

   US$ 0.87      US$ 0.87  

Pro forma net tangible book value after giving effect to the conversion of our series A-1 and series A-2 preferred shares

   US$ 0.71      US$ 0.71  

Pro forma as adjusted net tangible book value after giving effect to (i) the automatic conversion of all of our outstanding series A-1 preferred shares into 17,647,058 Class A ordinary shares and series A-2 preferred shares into 4,411,765 Class B ordinary shares; ii) the issuance and automatic conversion of all of our outstanding series B-2 preferred shares, which were issued in March 2018, into 64,488,235 Class B ordinary shares; (iii) the automatic conversion of 8,382,353 Class B ordinary shares into an equal number of Class A ordinary shares in March 2018 resulted from the sale of such shares by YY to other investors; (iv) the automatic conversion of 367,870 Class B ordinary shares into an equal number of Class A ordinary shares in April 2018 resulted from the transfer of such shares by YY and (v) this offering

   US$ 3.46      US$ 3.46  

Amount of dilution in net tangible book value to new investors in this offering

   US$ 7.54      US$ 7.54  

A US$1.00 increase (decrease) in the assumed public offering price of US$11.00 per ADS would increase (decrease) our pro forma as adjusted net tangible book value after giving effect to this offering by US$14.0 million, the pro forma as adjusted net tangible book value per ordinary share and per ADS after giving effect to this offering by US$0.07 per ordinary share and US$0.07 per ADS and the dilution in pro forma as adjusted net tangible book value per ordinary share and per ADS to new investors in this offering by US$0.93 per ordinary share and US$0.93 per ADS, assuming no change to the number of ADSs offered by us as set forth on the front cover page of this prospectus, and after deducting underwriting discounts and commissions and estimated offering expenses payable by us.

 

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The following table summarizes, on a pro forma as adjusted basis as of December 31, 2017, the differences between existing shareholders and the new investors with respect to the number of ordinary shares (in the form of ADSs or shares) purchased from us, the total consideration paid and the average price per ordinary share and per ADS paid before deducting the underwriting discounts and commissions and estimated offering expenses payable by us. The total number of ordinary shares does not include ordinary shares underlying the ADSs issuable upon the exercise of the over-allotment option granted to the underwriters.

 

     Ordinary Shares
Purchased(1)
    Total Consideration     Average
Price Per
Ordinary

Share
     Average
Price Per

ADS
 
     Number      Percent     Amount      Percent       

Existing shareholders

     186,547,058        92.6   US$ 552,050,563        77.0   US$ 2.96      US$ 2.96  

New investors

     15,000,000        7.4   US$ 165,000,000        23.0   US$ 11.00      US$ 11.00  
  

 

 

    

 

 

   

 

 

    

 

 

      

Total

     201,547,058        100.0   US$ 717,050,563        100.0     
  

 

 

    

 

 

   

 

 

    

 

 

      

 

Note:

(1) The discussion takes into consideration the ordinary shares convertible from our issued and outstanding preferred shares and assumes no exercise of any outstanding grants under the Amended and Restated 2017 Plan. As of the date of this prospectus, there are 28,394,117 Class A ordinary shares available for future issuance upon the exercise of grants under the Amended and Restated 2017 Plan. To the extent that any of the options granted are exercised or any restricted share units granted are vested, there will be further dilution to new investors.

The pro forma as adjusted 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 our ADSs and other terms of this offering determined at pricing.

 

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EXCHANGE RATE INFORMATION

Our reporting currency is the Renminbi because our business is mainly conducted in China and all 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. Unless otherwise noted, all translations from Renminbi to U.S. dollars and from U.S. dollars to Renminbi in this prospectus were made at a rate of RMB6.5063 to US$1.00, the noon buying rate on December 29, 2017 set forth in the H.10 statistical release of the U.S. Federal Reserve Board. 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 May 4, 2018, the rate was RMB6.3589 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)  

2013

     6.0537        6.1412        6.2438        6.0537  

2014

     6.2046        6.1704        6.2591        6.0402  

2015

     6.4778        6.2869        6.4896        6.1870  

2016

     6.9430        6.6549        6.9580        6.4480  

2017

     6.5063        6.7350        6.9575        6.4773  

November

     6.6090        6.6200        6.6385        6.5967  

December

     6.5063        6.5932        6.6210        6.5063  

2018

           

January

     6.2841        6.4233        6.5263        6.2841  

February

     6.3280        6.3183        6.3471        6.2649  

March

     6.2726        6.3174        6.3565        6.2685  

April

     6.3325        6.2967        6.3340        6.2655  

May (through May 4)

     6.3589        6.3511        6.3610        6.3325  

 

Source: Federal Reserve Statistical Release

(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;

 

    an effective judicial system;

 

    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 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.

Substantially all of our operations are conducted in China, and substantially all of our assets are located in China. All of our directors and executive officers are nationals or residents of jurisdictions other than the United States and most 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 individuals, or 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 securities laws of the United States or any state in the United States.

We have appointed Law Debenture Corporate Services Inc., located at 801 2nd Avenue, Suite 403, New York, NY 10017 as our agent upon whom process may be served in any action brought against us under the securities laws of the United States.

Maples and Calder (Hong Kong) LLP, our legal counsel as to Cayman Islands law, and Commerce & Finance 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.

We have been advised by our Cayman Islands legal counsel, Maples and Calder (Hong Kong) LLP, that although there is no statutory enforcement in the Cayman Islands of judgments obtained in the federal or state courts of the United States and that the Cayman Islands are not a party to any treaties for the reciprocal enforcement or recognition of such judgments, the courts of the Cayman Islands will, at common law, recognize and enforce a foreign money judgment of a foreign court of competent jurisdiction without reexamination of the merits of the underlying disputes based on the principle that a judgment of a competent foreign court imposes upon the judgment debtor an obligation to pay the liquidated sum for which judgment has been given provided

 

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certain conditions are met. For such a foreign judgment to be enforced in the Cayman Islands, such judgment must be final and conclusive and for a liquidated sum, and must not be in respect of taxes or a fine or penalty and 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. A Cayman Islands court may stay enforcement proceedings if concurrent proceedings are being brought elsewhere.

Commerce & Finance Law Offices has further advised us that the recognition and enforcement of foreign judgments are provided for under the PRC Civil Procedures Law. PRC courts may recognize and enforce foreign judgments in accordance with the requirements of the PRC Civil Procedures Law based either on treaties between China and the country where the judgment is made or on principles of reciprocity between 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 addition, according to the PRC Civil Procedures 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. 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. Under the PRC Civil Procedures Law, foreign shareholders may originate actions based on PRC law against us in the PRC, if they can establish sufficient nexus to the PRC for a PRC court to have jurisdiction, and meet other procedural requirements, including, among others, the plaintiff must have a direct interest in the case, and there must be a concrete claim, a factual basis and a cause for the suit. However, it would be difficult for foreign shareholders to establish sufficient nexus to the PRC by virtue only of holding our ADSs or Class A ordinary shares.

 

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CORPORATE HISTORY AND STRUCTURE

Our Huya platform was launched in 2014, as a game live streaming business unit of our parent company, YY. In August 2016, Guangzhou Huya, our variable interest entity, was established. YY controlled Guangzhou Huya through a set of contractual arrangements. As of December 31, 2016, YY completed the transfer of all assets, including trademarks, domain names, business contracts and tangible assets, relating to our business from YY to Guangzhou Huya, or our carve-out from YY.

YY incorporated Huya Limited in Hong Kong in January 2017 and HUYA Inc. in the Cayman Islands in March 2017 as our holding companies. In April 2017, Huya Limited became a wholly-owned subsidiary of HUYA Inc. In June 2017, Huya Limited established Huya Technology, our wholly owned subsidiary in China. In July 2017, we gained control and became the sole beneficiary of Guangzhou Huya in 2017 through a series of contractual arrangements between Huya Technology, Guangzhou Huya and Guangzhou Huya’s shareholders. In May and July 2017, Guangzhou Huya incorporated Guangzhou Yaoguo and Guangzhou Dachafan, respectively, in China. As such, we formed our current offshore and onshore corporate structure. On December 31, 2016, YY completed the transfer of all assets relating to our business to Guangzhou Huya, or our carve-out.

We are a holding company and we currently conduct our business in China through Huya Technology and our variable interest entity, Guangzhou Huya, and its subsidiaries. See “Risk Factors—Risks Related to Our Corporate Structure.” We rely principally on dividends and other distributions from Guangzhou Huya for our cash needs, including the funds necessary to pay dividends to our shareholders or service any debt we may incur. Guangzhou Huya holds an ICP License and other permits that are necessary for operating our business in China.

 

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The following diagram summarizes our corporate structure chart, including our subsidiaries, our variable interest entity and its subsidiaries, as of the date of this prospectus.

 

LOGO

 

Notes:
(1) Represents 89,698,282 Class B ordinary shares YY beneficially owns as of the date of this prospectus. Please refer to the beneficial ownership table in the section captioned “Principal Shareholders” for more information on beneficial ownership of YY in our company prior to and immediately after this offering.
(2) Represents 64,488,235 Class B ordinary shares issuable upon the conversion of 64,488,235 series B-2 preferred shares on a one-to-one basis. Please refer to the beneficial ownership table in the section captioned “Principal Shareholders” for more information on beneficial ownership of Linen Investment Limited in our company prior to and immediately after this offering.
(3) The shareholders of Guangzhou Huya are Guangzhou Huaduo and Guangzhou Qinlv Investment Consulting Co., Ltd., or Guangzhou Qinlv, holding 99.01% and 0.99% of Guangzhou Huya’s equity interest, respectively. The shareholders of Guangzhou Huaduo are Mr. David Xueling Li, our chairman, and Beijing Tuda Science and Technology Co., Ltd, or Beijing Tuda, a variable interest entity of YY. The sole shareholder of Guangzhou Qinlv is Mr. Rongjie Dong, our chief executive officer and director.

 

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The following diagram sets forth the shareholding structure of our company immediately after this offering, without giving effect to voting power changes.

 

LOGO

 

Notes:
* The computation of beneficial ownership percentages assumes that the underwriters do not exercise their over-allotment option. See “Principal Shareholders.” The shareholding percentages do not take into account the right Tencent has to purchase additional shares to reach 50.1% of the voting power in us, which is exercisable only between March 8, 2020 and March 8, 2021. The shareholding percentages also do not take into account the different votes that Class A ordinary shares and Class B ordinary shares will be entitled to upon the completion of the offering.
(1) We expect the shareholding structure of our subsidiaries and variable interest entities will remain the same immediately after the completion of this offering.

Contractual Arrangements with Guangzhou Huya

PRC laws and regulations impose restrictions on foreign ownership and investment in internet-based businesses such as distribution of online information, value-added telecommunications services. We are a Cayman Islands company and our PRC subsidiary is considered a foreign-invested enterprise. We believe the live streaming services offered through our platform constitute a type of value-added telecommunication services that foreign ownership and investment are restricted; and therefore we should operate our platform through contractual arrangements with a variable interest entity and its shareholders to ensure compliance with the relevant PRC laws and regulations. We have entered into a series of contractual arrangements, through Huya Technology, with Guangzhou Huya and the shareholders of Guangzhou Huya to obtain effective control over Guangzhou Huya and its subsidiaries, through which we operate our live streaming business.

We currently conduct our business through Guangzhou Huya and its subsidiaries based on these contractual arrangements, which allow us to:

 

    exercise effective control over Guangzhou Huya and its subsidiaries;

 

    receive substantially all of the economic benefits of Guangzhou Huya and its subsidiaries; and

 

    have an exclusive option to purchase all or part of the equity interests in Guangzhou Huya when and to the extent permitted by PRC law.

As a result of these contractual arrangements, we have become the primary beneficiary of Guangzhou Huya, and we treat Guangzhou Huya as our variable interest entity under U.S. GAAP. We have consolidated the financial results of Guangzhou Huya and its subsidiaries in our consolidated financial statements in accordance with U.S. GAAP.

The following is a summary of the currently effective contractual arrangements by and among our wholly-owned subsidiary, Huya Technology, our variable interest entity, Guangzhou Huya, and the shareholders of Guangzhou Huya.

 

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Agreements that provide us with effective control over Guangzhou Huya

Shareholder Voting Rights Proxy Agreement

On July 10, 2017, Huya Technology, Guangzhou Huya, and the shareholders of Guangzhou Huya entered into a voting rights proxy agreement. Under the voting rights proxy agreement, each of the shareholders of Guangzhou Huya irrevocably executed a power of attorney and appointed Huya Technology as its attorney-in-fact to exercise such shareholders’ rights in Guangzhou Huya, including, without limitation, the power to vote on its behalf on all matters of Guangzhou Huya requiring shareholder approval under PRC laws and regulations and the articles of association of Guangzhou Huya and rights to information relating to all business aspects of Guangzhou Huya. The term of this agreement is ten years from the execution date of this agreement and will be automatically extended for one more year indefinitely. Huya Technology has sole discretion to terminate the agreement at any time by providing 30 days’ prior written notice to Guangzhou Huya.

Equity Interest Pledge Agreement

On July 10, 2017, Huya Technology, Guangzhou Huya and the shareholders of Guangzhou Huya entered into an equity interest pledge agreement. Pursuant to the equity interest pledge agreement, the shareholders of Guangzhou Huya have pledged all of their equity interests in Guangzhou Huya to Huya Technology to guarantee the performance by Guangzhou Huya and its shareholders’ performance of their respective obligations under the exclusive business cooperation agreement, exclusive option agreement and voting rights proxy agreement. If Guangzhou Huya or its shareholders breach their contractual obligations under those agreements, Huya Technology, as the pledgee, will be entitled to certain rights, including the right to sell the pledged equity interests. This pledge will become effective on the date the pledged equity interests are registered with the competent administration for industry and commerce and will remain effective until the pledgors are no longer the shareholders of Guangzhou Huya. We registered the pledged equity interests with the competent administration for industry and commerce on August 25, 2017.

Agreement that allows us to receive economic benefits from Guangzhou Huya

Exclusive Business Cooperation Agreement

On July 10, 2017, Huya Technology, Guangzhou Huya, and the shareholders of Guangzhou Huya entered into an exclusive business cooperation agreement. Under the exclusive business cooperation agreement, Huya Technology has the exclusive right to provide to Guangzhou Huya technology support, business support and consulting services related to Guangzhou Huya’s business, the scope of which is to be determined by Huya Technology from time to time. Huya Technology owns the exclusive intellectual property rights created as a result of the performance of this agreement. The timing and amount of the service fee payments shall be determined at the sole discretion of Huya Technology. The term of this agreement is ten years from the execution date of this agreement and will be automatically extended for another ten years, unless otherwise agreed upon by Huya Technology and Guangzhou Huya.

Agreement that provide us with the option to purchase the equity interests in Guangzhou Huya

Exclusive Option Agreement

On July 10, 2017, Huya Technology, Guangzhou Huya, and the shareholders of Guangzhou Huya entered into an exclusive option agreement. Under the exclusive option agreement, each of the shareholders irrevocably granted Huya Technology or its designated representatives an exclusive option to purchase, to the extent permitted under PRC law, all or part of his or its equity interests in Guangzhou Huya. Huya Technology or its designated representatives have sole discretion as to when to exercise such options, either in part or in full. Without Huya Technology’s prior written consent, Guangzhou Huya’s shareholders shall not sell, transfer, mortgage or otherwise dispose their equity interests in Guangzhou Huya. The term of this agreement is ten years and may be extended at Huya Technology’s sole discretion.

 

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In the opinion of Commerce & Finance Law Offices, our PRC counsel:

 

    the ownership structures of Huya Technology and Guangzhou Huya, currently and immediately after giving effect to this offering, are in compliance with PRC laws or regulations currently in effect; and

 

    the contractual arrangements among Huya Technology, Guangzhou Huya and the shareholders of Guangzhou Huya governed by PRC law, currently and immediately after giving effect to this offering, are valid, binding and enforceable under PRC law, and do not and will not result in any violation of applicable PRC laws or regulations currently in effect.

However, there are substantial uncertainties regarding the interpretation and application of current and future PRC laws, regulations and rules. In particular, in January 2015, the MOC published a discussion draft of the proposed Foreign Investment Law for public review and comments. Among other things, the draft Foreign Investment Law expands the definition of foreign investment and introduces the principle of “actual control” in determining whether a company is considered a foreign-invested enterprise, or an FIE. Under the draft Foreign Investment Law, variable interest entities would also be deemed as FIEs, if they are ultimately “controlled” by foreign investors, and be subject to restrictions on foreign investments. However, the draft law has not taken a position on what actions will be taken with respect to the existing companies with the “variable interest entity” structure, whether or not these companies are controlled by Chinese parties. It is uncertain when the draft would be signed into law and whether the final version would have any substantial changes from the draft. Accordingly, the PRC regulatory authorities may in the future take a view that is contrary to the above opinion of our PRC counsel. If the PRC government finds that the agreements that establish the structure for operating our live streaming business do not comply with PRC government restrictions on foreign investment in value-added telecommunications services business, such as the internet content provision services, we could be subject to severe penalties, including being prohibited from continuing operations. See “Risk Factors—Risks Related to Our Corporate Structure—If the PRC government finds that the structure we have adopted for our business operations does not comply with PRC laws and regulations, 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. “Risk Factors—Risks Related to Doing Business in China—We may be adversely affected by the complexity, uncertainties and changes in PRC regulation of the internet industry and companies” “Risk Factors—Risks Related to Doing Business in China—Uncertainties in the interpretation and enforcement of PRC laws and regulations could limit the legal protections available to you and us,” and “Risk Factors—Risks Related to Doing Business in China—Substantial uncertainties exist with respect to the enactment timetable and final content of a draft new PRC Foreign Investment Law and how it may impact the viability of our current corporate structure.”

 

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OUR RELATIONSHIP WITH OUR MAJOR SHAREHOLDERS

Our Relationship with YY

YY is a leading live streaming social media platform that enables users to interact with each other in real time through online live media, and has been listed on NASDAQ Global Market since 2012. YY is our controlling shareholder, and will continue to control us after the completion of this offering. We benefit from YY’s experience in live streaming industry as well as technology know-how. We have established our own technology infrastructure, management and business functions separately from YY and we intend to continue to operate independently after we become a public company.

On March 8, 2018, YY and us, through our respective PRC affiliated entities, entered into a business cooperation agreement, which set up standards for our future cooperation in the areas including payment settlement, IT system licensing and broadcaster resources. On the same date, YY and us, through our respective PRC affiliated entities, also entered into a four-year non-compete agreement. For more detailed descriptions of our business collaboration with YY, see “Related Party Transactions—Agreements and Transactions with YY.”

Upon the completion of this offering, YY will have the power to appoint a majority of our board of directors. As a result, we will be a “controlled company” under the New York Stock Exchange Listed Company Manual.

Our Relationship with Tencent

On February 5, 2018, Tencent and us, through our respective PRC affiliated entities, entered into a business cooperation agreement, which became effective on March 8, 2018. Pursuant to this business cooperation agreement, the parties agreed to pursue strategic cooperation in various areas of game live streaming business and game related business. We may promote content related to games owned by or licensed to Tencent at certain prominent places on our platform, the specific location, content, and operations of which are subject to further negotiation pursuant to market principles. The business cooperation agreement has a term of three years, which may be renewed for another three years if certain conditions are met.

In connection with our business cooperation with Tencent, we entered into a share subscription agreement with Linen Investment Limited, a wholly-owned subsidiary of Tencent, on March 8, 2018. Pursuant to the agreement, we issued a total of 64,488,235 of Series B-2 preferred shares to Linen Investment Limited at a price of approximately US$7.16 per share, representing 34.6% of our total shares on an as-converted basis as of the closing of the transaction. Pursuant to our amended and restated shareholders’ agreement, Tencent has a right, exercisable between March 8, 2020 and March 8, 2021, to purchase additional Class B shares in us at the then fair market price to reach 50.1% of the voting power in us. The fair market price is the higher of the ordinary share price based on our post-money valuation upon closing of the series B financing and the Class A ordinary share price based on the average closing prices of our ADS in the last 20 trading days prior to our and YY’s receipt of Tencent’s written exercise notice if we are a public company. In the event that Tencent exercises its right to acquire additional shares, YY can choose to sell its shares to Tencent. If YY does not sell any or YY sells only a portion of the shares that Tencent intends to purchase, we will issue new Class B ordinary shares to Tencent.

For risks in connection with our relationship with Tencent, see “Risk Factors—Risks Related to Our Carve-out from YY and Our Relationship with Our Major Shareholders—We may encounter risks and difficulties in connection with our business cooperation with Tencent, which may materially and adversely affect our business and results of operations” and “Risk Factors—Risks Related to Our Carve-out from YY and Our Relationship with Our Major Shareholders—Our major shareholders will control the outcome of shareholder actions in our company.”

 

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SELECTED CONSOLIDATED FINANCIAL DATA

The following selected consolidated financial data for the years ended December 31, 2016 and 2017 and as of December 31, 2016 and 2017 are derived from our audited consolidated financial statements included elsewhere in this prospectus. Our audited consolidated financial statements are prepared and presented in accordance with U.S. GAAP. Our historical results do not necessarily indicate results expected for any future periods. You should read this Selected Consolidated Financial Data section together with our consolidated financial statements and the related notes and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included elsewhere in this prospectus.

 

    Year Ended December 31,  
    2016     2017     2017  
    RMB     RMB     US$  
    (in thousands, except for share, per share and
per ADS data)
 

Selected Consolidated Statements of Comprehensive Loss:

     

Net revenues:

     

Live streaming

    791,978       2,069,536       318,082  

Advertising and others

    4,926       115,280       17,718  
 

 

 

   

 

 

   

 

 

 

Total net revenues

    796,904       2,184,816       335,800  
 

 

 

   

 

 

   

 

 

 

Cost of revenues(1)

    (1,094,644     (1,929,864     (296,615
 

 

 

   

 

 

   

 

 

 

Gross (loss) profit

    (297,740     254,952       39,185  
 

 

 

   

 

 

   

 

 

 

Operating expenses:(1)

     

Research and development expenses

    (188,334     (170,160     (26,153

Sales and marketing expenses

    (68,746     (87,292     (13,417

General and administrative expenses

    (71,325     (101,995     (15,676
 

 

 

   

 

 

   

 

 

 

Total operating expenses

    (328,405     (359,447     (55,246

Other income

    —         9,629       1,480  
 

 

 

   

 

 

   

 

 

 

Operating loss

    (626,145     (94,866     (14,581
 

 

 

   

 

 

   

 

 

 

Interest income

    518       14,049       2,159  
 

 

 

   

 

 

   

 

 

 

Loss before income tax expenses

    (625,627     (80,817     (12,422

Income tax expenses

    —         —         —    

Loss before share of loss in an equity method investment, net of income taxes

    (625,627     (80,817     (12,422

Share of loss in an equity method investment, net of income taxes

    —         (151     (23
 

 

 

   

 

 

   

 

 

 

Net loss attributable to HUYA Inc.

    (625,627     (80,968     (12,445
 

 

 

   

 

 

   

 

 

 

Accretion to series A redeemable convertible preferred shares redemption value.

    —         (19,842     (3,049
 

 

 

   

 

 

   

 

 

 

Net loss attributable to ordinary shareholders

    (625,627     (100,810     (15,494
 

 

 

   

 

 

   

 

 

 

Net loss

    (625,627     (80,968     (12,445

Foreign currency translation adjustment, net of nil tax

    —         308       47  
 

 

 

   

 

 

   

 

 

 

Total comprehensive loss attributable to HUYA Inc.

    (625,627     (80,660     (12,398
 

 

 

   

 

 

   

 

 

 

Net loss per ordinary share

     

Basic and diluted

    (6.26     (1.01     (0.15

Weighted average number of ordinary shares used in calculating net loss per ordinary share

     

Basic and diluted

    100,000,000       100,000,000       100,000,000  

 

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Note:

(1) Share-based compensation was allocated in cost of revenues and operating expenses as follow:

 

     Year Ended December 31,  
     2016      2017  
     RMB      RMB      US$  
     (in thousands)  

Cost of revenues

     5,677        2,877        442  

Research and development expenses

     19,538        9,174        1,410  

Sales and marketing expenses

     326        791        122  

General and administrative expenses

     26,557        27,266        4,191  

The following table presents our selected consolidated balance sheet data as of December 31, 2016 and 2017.

 

    As of December 31,  
    2016     2017  
    RMB    

RMB

   

US$

 
    (in thousands)  

Selected Consolidated Balance Sheet Data:

     

Cash and cash equivalents

    6,187       442,532       68,016  

Short-term deposits

    95,000       593,241       91,179  

Total current assets

    156,101       1,250,307       192,168  

Total assets

    167,234       1,300,541       199,889  

Total current liabilities

    319,928       685,650       105,383  

Total liabilities

    331,621       730,674       112,303  

Total mezzanine equity

    —         509,668       78,335  

Total shareholders’ (deficit) equity

    (164,387     60,199       9,251  
 

 

 

   

 

 

   

 

 

 

The following table presents our selected consolidated cash flow data for the year ended December 31, 2016 and 2017.

 

    Year Ended December 31,  
    2016     2017  
    RMB     RMB     US$  
    (in thousands)  

Selected Consolidated Cash Flow Data:

     

Net cash (used in) provided by operating activities

    (420,451     242,444       37,262  

Net cash used in investing activities

    (96,135     (559,561     (86,002

Net cash provided by financing activities

    522,773       774,448       119,031  

Net increase in cash and cash equivalents

    6,187       457,331       70,291  

Cash and cash equivalents at beginning of the year

    —         6,187       951  

Cash and cash equivalents at end of the year

    6,187       442,532       68,016  
 

 

 

   

 

 

   

 

 

 

 

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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 entitled “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

We are the No.1 game live streaming platform in China. We have the largest and most active game live streaming community in terms of average MAUs, and average daily time spent on mobile app per mobile active user in the fourth quarter of 2016 and 2017, and the largest number of active broadcasters in 2016 and 2017, according to the Frost & Sullivan Report. As the pioneer and market leader, we are well positioned to expand further in the booming game live streaming market in China. We cooperate with e-sports event organizers, as well as major game developers and publishers and have developed e-sports live streaming as the most popular content genre on our platform. As of December 31, 2016 and 2017, our live streaming content covered over 2,100 and 2,600 different games, respectively, including mobile, PC and console games. Building on our success in game live streaming, we have also extended our content to other entertainment genres, such as talent shows, anime and outdoor activities.

Our open platform also functions as a marketplace for broadcasters and talent agencies to congregate and closely collaborate with us. We have set up effective operating standards and comprehensive incentive mechanisms to encourage healthy competition, good performance and regulatory compliance. The monetization opportunities for broadcasters and talent agencies are linked to their performance, which motivates them to supply high-quality content to our platform. We believe our role as an efficient and transparent marketplace has fueled our continuous growth and success.

We derive our revenues primarily from live streaming services. We derived 99.4% and 94.7% of our total net revenues from such services in 2016 and 2017, respectively, with revenues derived from advertising and other services accounting for the remainder of our revenues.

We have experienced rapid growth since our inception. Our total net revenues increased from RMB796.9 million in 2016 to RMB2,184.8 million (US$335.8 million) in 2017. We had a net loss of RMB81.0 million (US$12.4 million) in 2017, compared to a net loss of RMB625.6 million in 2016.

General Factors Affecting Our Results of Operations

Our business and operating results are affected by general factors affecting China’s live streaming industry, which include:

 

    China’s overall economic growth;

 

    Usage and penetration rate of mobile internet and mobile payment;

 

    Growth of live streaming market, especially game live streaming market; and

 

    Governmental policies and initiatives affecting China’s live streaming industry and game live streaming industry.

Unfavorable changes in any of these general industry conditions could negatively affect demand for our services and materially and adversely affect our results of operations.

 

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Specific Factors Affecting Our Results of Operations

While our business is influenced by general factors affecting the game live streaming industry in China, we believe our results of operations are more directly affected by company specific factors, including the following major factors:

Our ability to attract and grow our user base, as well as to maintain and enhance user engagement

Our ability to attract and grow our user base and to maintain and enhance user engagement affects our profitability. We have a massive and highly engaged user base and have experienced rapid user growth since our inception. We had 86.7 million average MAUs in the fourth quarter of 2017, representing an increase of 17.2% from 74.0 million average MAUs in the fourth quarter of 2016. We had 83.4 million average MAUs in 2017, representing an increase of 30.0% from 64.1 million average MAUs in 2016. We had 38.8 million average mobile MAUs in the fourth quarter of 2017, an increase of 47.6% from 26.3 million in the fourth quarter of 2016. We had 36.2 million average mobile MAUs in 2017, representing an increase of 74.5% from 20.8 million in 2016. Leveraging our diversified live streaming content and vibrant community culture, we are able to attract and retain more users and stimulate our users to participate actively on our platform. Our community had over 98 minutes of average daily time spent on our mobile app per mobile active user in 2017, compared with 91 minutes in 2016.

The growth of our user base and enhancement of user engagement is driven primarily by the growing supply of popular game titles and other entertainment content streamed on our platform, popularity of our broadcasters, continuous improvement in user experience as well as our firmly established brands.

Our ability to attract and retain popular broadcasters and talent agencies and enrich quality content offerings

Our success to date is largely attributable to our popular broadcasters and our ability to increase our popularity by offering new and attractive contents, products and services. We have been focusing on establishing deep cooperation with our broadcasters and talent agencies to ensure a stable and ever-growing supply of quality content. We have maintained steady growth in both active broadcasters and talent agencies that cooperate with us. In 2016 and 2017, we had over 657,000 and 560,000 average monthly active broadcasters, respectively. The decrease in 2017 was due to real-name registration of broadcasters implemented by us starting from the fourth quarter of 2016 in response to the PRC regulatory requirements and industry campaign for more stringent management of broadcasters. The number of our active broadcasters has been steadily growing since then and in the fourth quarter of 2017, we had over 610,000 average monthly active broadcasters, representing an increase of 11.1% from over 550,000 in the fourth quarter of 2016. We have one of the largest game content libraries in China’s live streaming industry and have further enriched our content offerings by expanding to other entertainment categories to capture the growth opportunities.

Active broadcasters and talent agencies are the foundation of our thriving marketplace. The ever-growing supply of quality content generated through our content ecosystem maintains and enhances the attractiveness of our platform to users and therefore drives the growth of our business. We will continue to invest in attracting and retaining popular broadcasters, including professional e-sports teams and commentators and deepening our cooperation with talent agencies. We also plan to strengthen our supports and resources to help broadcasters and talent agencies produce diverse and appealing content in a cost-effective manner.

Our ability to effectively enhance our monetization

Our revenues and results of operations are affected by our monetization ability, including the ability to convert more users to paying users and increase the spending of our paying users. We monetize mainly through sales of various virtual items to users of our live streaming services and offering advertising services on our platform to advertisers. In 2017, our live streaming revenues accounted for 94.7% of our total net revenues, with the remainder of our revenue contributed by advertising and other services.

 

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Our live streaming revenues are driven primarily by the number of paying users. We have experienced significant growth in our paying users. The total number of paying users on our platform increased by 63.2% from 1.7 million in the fourth quarter of 2016 to 2.8 million in the fourth quarter of 2017. We plan to adopt more social features and promote more attractive rewarding system to further incentivize users to purchase on our platform.

Our advertising and other revenues are driven by our advertiser base, satisfaction level of advertisers and advertising price. We plan to actively promote our advertising services, strengthen the effectiveness of our advertising solutions, tap into unutilized advertising capacity and expand our advertiser base.

Our ability to manage our costs and expenses

Our ability to manage and control our costs and expenses is critical to the success of our business. Key components of our costs and expenses are revenue-sharing fees and content costs, bandwidth costs and staff costs. Revenue-sharing fees and content costs consist primarily of payments to broadcasters and talent agencies in accordance with our revenue-sharing arrangements with them and content production costs. Revenue-sharing fees and content costs have historically accounted for the majority of our cost of revenues. Our ability to continue to manage and control our revenue-sharing fees and content costs while maintaining the high-quality of our content and retaining our popular broadcasters affects our results of operations. We expect the absolute amount of our revenue-sharing fees and content costs to increase as our business grow. In addition, we expect bandwidth costs and staff costs to increase in absolute amount but to decrease as a percentage of our total net revenues as we continue to improve our operating efficiency.

Effective investment in technology

Our cutting edge technological capabilities and infrastructure, in particular our AI and big data and audio and video live streaming technologies, support our business development. Our ability to effectively invest in those technologies allows us to create a superior user experience in comparison to our peers and help us timely identify new trends in content offerings. We must continue to innovate to keep pace with the growth of our business and bring forward new technologies. In addition, our technology infrastructure is critical to the scalability and system flexibility of our platform. We must continue to upgrade and expand our technology infrastructure to better serve our community and support our business growth. We expect our research and development expenses to increase in absolute amount but decrease as a percentage of our total net revenues as we continue to improve our operating efficiency.

 

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Results of Operations

The following table sets forth a summary of our consolidated statements of operations for the periods indicated, both in absolute amounts and as percentages of our total net revenues:

 

    Year Ended December 31,  
    2016     2017  
    RMB     %     RMB     US$     %  
    (in thousands, except for percentages)  

Net revenues:

         

Live streaming

    791,978       99.4       2,069,536       318,082       94.7  

Advertising and others

    4,926       0.6       115,280       17,718       5.3  

Total net revenues

    796,904       100.0       2,184,816       335,800       100.0  

Cost of revenues(1)

    (1,094,644     (137.4     (1,929,864     (296,615     (88.3

Gross (loss) profit

    (297,740     (37.4     254,952       39,185       11.7  

Operating expenses(1):

         

Research and development expenses

    (188,334     (23.6     (170,160     (26,153     (7.8

Sales and marketing expenses

    (68,746     (8.6     (87,292     (13,417     (4.0

General and administrative expenses

    (71,325     (9.0     (101,995     (15,676     (4.7
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

    (328,405     (41.2     (359,447     (55,246     (16.5
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Other income

    —         —         9,629       1,480       0.5  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating loss

    (626,145     (78.6     (94,866     (14,581     (4.3
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Interest income

    518       0.1       14,049       2,159       0.6  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Loss before income tax expenses

    (625,627     (78.5     (80,817     (12,422     (3.7
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Income tax expenses

    —         —         —         —         —    

Loss before share of loss in an equity method investment, net of income taxes

    (625,627     (78.5     (80,817     (12,422     (3.7

Share of loss in an equity method investment, net of income taxes

    —         —         (151     (23     —    
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net loss

    (625,627     (78.5     (80,968     (12,445     (3.7
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

Note:

(1) Share-based compensation was allocated in cost of revenues and operating expenses as follows:

 

     Year Ended December 31,  
     2016      2017  
     RMB      RMB      US$  
     (in thousands)  

Cost of revenues

     5,677        2,877        442  

Research and development expenses

     19,538        9,174        1,410  

Sales and marketing expenses

     326        791        122  

General and administrative expenses

     26,557        27,266        4,191  

 

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Net revenues

The following table sets forth the principal components of our total net revenues by amount and as a percentage of our total net revenues for the periods presented.

 

    Year Ended December 31,  
    2016     2017  
    RMB     %     RMB     US$     %  
    (in thousands, except for percentages)  

Net revenues:

         

Live streaming

    791,978       99.4       2,069,536       318,082       94.7  

Advertising and others

    4,926       0.6       115,280       17,718       5.3  

Total net revenues

    796,904       100.0       2,184,816       335,800       100.0  

Total net revenues increased by 174.2% from RMB796.9 million in 2016 to RMB2,184.8 million (US$335.8 million) in 2017.

Live streaming revenues

We generate revenues from our live streaming services through sale of virtual items. Users can access content on our platform free of charge, but are charged for purchases of virtual items. See “Business—Monetization—Live Streaming.” The virtual items sold by us include (i) consumable items, which can be gifted to the broadcasters or used in live streams to create special effects, (ii) time-based items, which provide paying users or receiving broadcasters with certain privileges and rights or special symbols over a period of time, and (iii) multiple virtual items sold in bundles. Revenues derived from consumable items are recognized immediately upon consumption, while revenues derived from time-based items are recognized over their usage period on a straight line basis. Based on our revenue-sharing arrangements with broadcasters, and in some cases, also their talent agencies, we share a percentage of the revenues generated from the sales of virtual items attributed to their live streams. We expect that our revenues from live streaming derived from the sales of virtual items will continue to increase as we capitalize on monetization opportunities.

Live streaming revenues increased by 161.3% from RMB792.0 million in 2016 to RMB2,069.5 million (US$318.1 million) in 2017, primarily attributable to an increase in the number of paying users on our platform from 3.7 million in 2016 to 8.1 million in 2017, to a lesser extent, an increase in the spending per paying user. The increase in the number of paying users was primarily driven by increased social activities and diversification of content offerings on our platform and our continuous efforts in converting active users into paying users.

Advertising and other revenues

We generate advertising revenues primarily from sales of various forms of advertising and promotion campaigns, including (i) display advertisements in various areas of our platform, (ii) native advertisements in cooperation with broadcasters, and (iii) game events advertising and campaigns. See “Business—Monetization —Advertising services.” Advertisements on our platform are generally charged on the basis of duration. We enter into advertising contracts directly with advertisers or with third-party advertising agencies. We expect our advertising revenues to increase in the foreseeable future as we introduce new advertising and marketing solutions and attract more advertisers. We also generate a small portion of revenues from sales of in-game virtual items from certain mobile games that we developed and operated jointly with third-party distribution platforms. See “Business—Monetization—Others.”

Advertising and other revenues significantly increased by 2,240.2% from RMB4.9 million in 2016 to RMB115.3 million (US$17.7 million) in 2017 mainly because we began to offer advertising services in October 2016 and operate online games with third-party distribution platforms in January 2017.

 

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Cost of revenues

The following table sets forth the principal components of our cost of revenues by absolute amount and as a percentage of our total cost of revenues for the periods presented.

 

    Year Ended December 31,  
    2016     2017  
    RMB     %     RMB     US$     %  
    (in thousands, except for percentages)  

Cost of revenues:

 

Revenue sharing fees and content costs

    583,906       53.3       1,394,832       214,382       72.3  

Bandwidth costs

    338,012       30.9       411,027       63,174       21.3  

Salaries and welfare

    62,321       5.7       52,372       8,049       2.7  

Depreciation and amortization

    67,776       6.2       32,562       5,005       1.7  

Payment handling costs

    7,684       0.7       14,071       2,163       0.7  

Others

    34,945       3.2       25,000       3,842       1.3  

Total cost of revenues

    1,094,644       100.0       1,929,864       296,615       100.0  

Revenue sharing fees and content costs

Revenue sharing fees and content costs consist primarily of payments to broadcasters and talent agencies in accordance with our revenue-sharing arrangements and content production costs. Revenue sharing fees and content costs increased by 138.9% from RMB583.9 million in 2016 to RMB1,394.8 million (US$214.4 million) in 2017, primarily due to (i) an increase of 161.3% in sales of virtual items on our platform from RMB792.0 million in 2016 to RMB2,069.5 million in 2017 and (ii) our continued investments in content such as e-sports tournaments. Revenue sharing fees and content costs as a percentage of our total net revenues decreased from 73.3% in 2016 to 63.8% in 2017, primarily because while our revenue sharing ratio remained relatively stable, our content costs, compared with our revenue growth, only increased by 47.5% from 2016 resulting from economies of scale. We expect that our revenue sharing fees and content costs will continue to increase in absolute amount as we continue to expand our content offerings and enhance our user engagement.

Bandwidth costs

Bandwidth costs consist of fees and charges relating to bandwidth usage in our operations. Bandwidth costs increased by 21.6% from RMB338.0 million in 2016 to RMB411.0 million (US$63.2 million) in 2017, primarily due to an increase in bandwidth usage as a result of increased average MAUs on our platform from 64.1 million in 2016 to 83.4 million in 2017 and live streaming video quality improvement, partially offset by our improved efficiency in bandwidth utilization, a decrease of approximately 20% in average bandwidth price from 2016 to 2017 and increased deployment of cloud computing technologies. We started trial deployment of cloud computing technologies in 2016 and cloud computing technologies contributed nearly a half of our bandwidth capacity in 2017. We expect bandwidth costs to continue to increase in absolute amount as we further grow our user base and improve our live streaming quality but be partially offset by our improved efficiency and pricing terms.

Others

Salaries and welfare consist of salaries, bonuses and other benefits for our employees involved in the operations of our platform. Depreciation and amortization expense consists of depreciation of servers and other equipment as well as amortization of intangibles directly related to operating the platform, such as software. Payment handling costs consist primarily of channel fees charged by our third-party payment channels, such as WeChat Pay and AliPay and expenses relating to cash collection services provided by YY. Other costs consist primarily of rental expenses and certain expenses relating to our IT infrastructure.

 

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Salaries and welfare decreased by 16.0% from RMB62.3 million in 2016 to RMB52.4 million (US$8.0 million) in 2017, primarily due to our improved operating efficiency. Depreciation and amortization costs decreased by 52.0% from RMB67.8 million in 2016 to RMB32.6 million (US$5.0 million) in 2017. The decrease was mainly because we reduced the use of physical servers while gradually shifting to cloud services. Payment handling costs increased by 83.1% from RMB7.7 million in 2016 to RMB14.1 million (US$2.2 million) in 2017, primarily due to an increase in sales of virtual items on our platform. Other costs decreased by 28.5% from RMB34.9 million in 2016 to RMB25.0 million (US$3.8 million) in 2017, primarily due to our improved operating efficiency.

Gross (loss) profit

We recorded gross loss of RMB297.7 million in 2016, compared to a gross profit of RMB255.0 million (US$39.2 million) in 2017. Our gross margin improved from (37.4)% in 2016 to 11.7% in 2017.

Operating expenses

The following table sets forth the principal components of our operating expenses by amount and as a percentage of our total operating expenses for the periods presented.

 

    Year Ended December 31,  
    2016     2017  
    RMB     %     RMB     US$     %  
    (in thousands, except for percentages)  

Operating expenses:

 

Research and development expenses

    188,334       57.4       170,160       26,153       47.3  

Sales and marketing expenses

    68,746       20.9       87,292       13,417       24.3  

General and administrative expenses

    71,325       21.7       101,995       15,676       28.4  

Total operating expenses

    328,405       100.0       359,447       55,246       100.0  

Operating expenses increased by 9.5% from RMB328.4 million in 2016 to RMB359.4 million (US$55.2 million) in 2017.

Research and development expenses

Research and development expenses consist primarily of salaries, welfare and share-based compensation for research and development personnel and rental expenses of office premises and servers utilized by the research and development personnel.

Research and development expenses decreased by 9.6% from RMB188.3 million in 2016 to RMB170.2 million (US$26.2 million) in 2017. The decrease was primarily due to a decrease in share-based compensation allocated to research and development expenses. The decrease was because we adopted our 2017 Share Incentive Plan and began to grant options thereunder in August 2017, whereas in the same period of 2016, share-based compensation received by our employees consisted of restricted share units issued by YY, which generally had higher fair value than our options. The decrease in the research and development expenses is, to a lesser extent, attributable to a decrease in the amortization and depreciation by RMB 8.2 million from 2016 mainly because we reduced the use of physical servers while gradually shifting to cloud services. We expect that research and development expenses to continue to increase in absolute amount in the near term due to our investment in research and development of new technologies, particularly relating to the continuous upgrade of our IT system.

Sales and marketing expenses

Sales and marketing expenses consist primarily of advertising and market promotion expenses, salaries and welfare for sales and marketing personnel, and rental expenses of office premises utilized by sales and marketing personnel.

 

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Sales and marketing expenses increased by 27.0% from RMB68.7 million in 2016 to RMB87.3 million (US$13.4 million) in 2017, primarily due to our enhanced efforts in promoting our brand name and cooperating with various marketing channels. We expect that our sales and marketing expenses will increase in absolute amount in the near term as we expect to increase our spending on marketing and promotional activities, particularly relating to strengthening our brand recognition.

General and administrative expenses

General and administrative expenses consist primarily of salaries and welfare for general and administrative personnel, share-based compensation for management and administrative personnel and rental expenses of office premises.

General and administrative expenses increased by 43.0% from RMB71.3 million in 2016 to RMB102.0 million (US$15.7 million) in 2017, primarily due to a one-off expense of RMB20.0 million (US$3.1 million) relating to our carve-out from YY recorded in 2017 and professional fees in anticipation of this offering of RMB10.8 million. We expect our general and administrative expenses to increase in the foreseeable future as we grow our business and incur more costs relating to operating as a public company and complying with relevant reporting obligations under the U.S. securities laws.

Other income

We recorded other income of RMB9.6 million (US$1.5 million) in 2017, primarily due to a gain recognized in connection with the transfer of a cooperation right, with a game team to a third party. We did not record any other income in 2016.

Operating loss

Operating loss decreased by 84.8% from RMB626.1 million in 2016 to RMB94.9 million (US$14.6 million) in 2017.

Interest income

Interest income consists of interest earned on bank deposits. We recorded RMB14.0 million (US$2.2 million) in 2017, compared to RMB0.5 million in 2016. The substantial increase in interest income in 2017 was primarily attributable to interest generated from deposits of the funds we received through our series A financing in 2017.

Income tax expenses

We incurred nil income tax expenses in 2016 and 2017, respectively, due to the accumulated operating loss that we recorded during the relevant periods.

Net loss

Net loss decreased by 87.1% from RMB625.6 million in 2016 to RMB81.0 million (US$12.4 million) in 2017. Our net margin improved from (78.5)% in 2016 to (3.7)% in 2017.

 

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Selected Quarterly Results of Operations

The following table sets forth our historical unaudited consolidated selected quarterly results of operations for the periods indicated. You should read the following table in conjunction with our audited consolidated financial statements and the related notes included elsewhere in this prospectus. We have prepared this unaudited consolidated selected quarterly financial data on the same basis as we have prepared our audited consolidated financial statements. In the opinion of management, all adjustments, consisting of normal recurring adjustments necessary for the fair statement of results for the periods presented, have been included. The results of operations of any interim period are not necessarily indicative of the results of operations for the full year or any other interim period.

 

    For the Three Months Ended,  
    March 31,
2016
    June 30,
2016
    September 30,
2016
    December 31,
2016
    March 31,
2017
    June 30,
2017
    September 30,
2017
    December 31,
2017
 
    RMB     RMB     RMB     RMB     RMB     RMB     RMB     RMB     US$  
    (in thousands)  

Net revenues

                 

Live streaming

    117,674       143,077       196,878       334,349       382,641       441,828       552,359       692,708       106,467  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Advertising and others

    —         —         —         4,926       16,258       19,536       31,175       48,311       7,425  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total net revenues

    117,674       143,077       196,878       339,275       398,899       461,364       583,534       741,019       113,892  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Cost of revenues(1)

    (201,440     (226,242     (279,710     (387,252     (382,762     (403,891     (510,297     (632,914     (97,277
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Gross (loss) profit

    (83,766     (83,165     (82,832     (47,977     16,137       57,473       73,237       108,105       16,615  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating expenses

                 

Research and development expenses(1)

    (38,179     (49,522     (47,551     (53,082     (42,392     (35,136     (48,908     (43,724     (6,720

Sales and marketing expenses(1)

    (13,063     (14,916     (21,753     (19,014     (15,231     (21,315     (21,162     (29,584     (4,547

General and administrative expenses(1)

    (17,727     (17,441     (18,087     (18,070     (10,190     (17,867     (37,336     (36,602     (5,626
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

    (68,969     (81,879     (87,391     (90,166     (67,813     (74,318     (107,406     (109,910     (16,893
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Other income

    —         —         —         —         9,521       10       98       —         —    
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating loss

    (152,735     (165,044     (170,223     (138,143     (42,155     (16,835     (34,071     (1,805     (278
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Interest income

    —         —         —         518       476       1,872       4,767       6,934       1,066  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

(Loss) income before income tax
expenses

    (152,735     (165,044     (170,223     (137,625     (41,679     (14,963     (29,304     5,129       788  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Income tax expenses

    —         —         —         —         —         —         —         —         —    
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

(Loss) income before share of loss in an equity method investment, net of income taxes

 

 

(152,735

 

 

(165,044

 

 

(170,223

 

 

(137,625

 

 

(41,679

 

 

(14,963

 

 

(29,304

 

 

5,129

 

 

 

788

 

 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Share of loss in an equity method investment, net of income taxes

 

 

—  

 

 

 

—  

 

 

 

—  

 

 

 

—  

 

 

 

—  

 

 

 

—  

 

 

 

—  

 

 

 

(151

 

 

(23

 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net (loss) income attributable to HUYA Inc.

 

 

(152,735

 

 

(165,044

 

 

(170,223

 

 

(137,625

 

 

(41,679

 

 

(14,963

 

 

(29,304

 

 

4,978

 

 

 

765

 

 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Accretion to series A preferred shares redemption value

 

 

—  

 

 

 

—  

 

 

 

—  

 

 

 

—  

 

 

 

—  

 

 

 

—  

 

 

 

(9,954

 

 

(9,888

 

 

(1,520

 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net loss attributable to ordinary shareholders

    (152,735 )      (165,044 )      (170,223 )      (137,625 )      (41,679 )      (14,963 )      (39,258 )      (4,910 )      (755 ) 
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

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Note:

(1) Share-based compensation was allocated in cost of revenues and operating expenses as follow:

 

    For the Three Months Ended,  
    March 31,
2016
    June 30,
2016
    September 30,
2016
    December 31,
2016
    March 31,
2017
    June 30,
2017
    September 30,
2017
    December 31,
2017
 
    RMB     RMB     RMB     RMB     RMB     RMB     RMB     RMB     US$  
    (in thousands)  

Cost of revenues

    846       2,003       1,429       1,399       1,243       649       756       229       35  

Research and development expenses

    3,202       8,567       4,234       3,535       3,055       2,263       1,924       1,932       297  

Sales and marketing expenses

    46       227       37       16       204       21       32       534       82  

General and administrative expenses

    8,140       7,649       5,177       5,591       2,489       2,777       1,227       20,773       3,193  

We have experienced rapid growth in our quarterly operating revenues for the eight quarters in the period from January 1, 2016 to December 31, 2017. The growth was mainly attributable to an increase in the number of paying users on our platform, which was primarily driven by increased social activities and diversification of content offerings on our platform and our continuous efforts in converting actives users into paying users. The net revenues trend we have experienced in the past may not apply to, or be indicative of, our future operating results.

Our quarterly operating expenses also experienced continued increase in each of 2016 and 2017, which was mainly due to the continuous growth of our business. The decrease in our quarterly operating expenses from the fourth quarter of 2016 to the first quarter of 2017 was mainly due to the bonuses and other compensations paid to our employees in the year end as well as our enhanced promotion efforts in the fourth quarter. Our quarterly operating expenses as a percentage of our operating revenues generally decreased over the period from January 1, 2016 to December 31, 2017, primarily attributable to the combined effect of our improved operating efficiency and the rapid growth of our net revenues.

As we are at a relatively early stage of development and our business is rapidly growing, our financial results have not been materially impacted by seasonality. Once our business development has reached a more matured stage, our financial results may reflect seasonal effects which may be associated with, among others, the timing of major game tournament events.

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.

Maples and Calder (Hong Kong) LLP, our legal counsel as to Cayman Islands law, has advised us that 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 brought within the jurisdiction of the Cayman Islands. In addition, the Cayman Islands does not impose withholding tax on dividend payments.

Hong Kong

Huya Limited, our subsidiary incorporated in Hong Kong, is subject to 16.5% Hong Kong profit tax on its taxable income generated from operations in Hong Kong. Under Hong Kong tax laws, we are exempted from the Hong Kong income tax on our foreign-derived income. In addition, payments of dividends from our Hong Kong subsidiary to us are not subject to any Hong Kong withholding tax.

 

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PRC

Generally, our PRC subsidiary, variable interest entity and its subsidiaries are subject to enterprise income tax on their taxable income in China at a statutory rate of 25%. The enterprise income tax is calculated based on the entity’s global income as determined under PRC tax laws and accounting standards.

We are primarily subject to value-added tax at a rate of 6% on the services (research and development services, technology services, information technology services and/or culture and creativity services), in each case less any deductible value-added tax we have already paid or borne. We are also subject to surcharges on value-added tax payments in accordance with PRC law.

Commerce & Finance Law Offices, our legal counsel as to PRC law, has advised us that dividends paid by our PRC subsidiary in China to our Hong Kong subsidiary will be subject to a withholding tax rate of 10%, unless the relevant Hong Kong entity satisfies all the requirements under the Arrangement between China and the Hong Kong Special Administrative Region on the Avoidance of Double Taxation and Prevention of Fiscal Evasion with respect to Taxes on Income and Capital. If our Hong Kong subsidiary satisfies all the requirements under the tax arrangement and submits required application materials to the relevant tax authority, the dividends paid to the Hong Kong subsidiary would be subject to withholding tax at the standard rate of 5%. Should the tax authority later decides that the preferential 5% tax rate is inapplicable based on subsequent reviews of the application, additional tax payable and late payment surcharges may be imposed.

Commerce & Finance Law Offices, our legal counsel as to PRC law, has advised us that if our holding company in the Cayman Islands or any of our subsidiaries outside of China were deemed to be a “resident enterprise” under the PRC Enterprise Income Tax Law, it would be subject to enterprise income tax on its worldwide income at a rate of 25%. See “Risk Factors—Risks Related 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.”

Liquidity and Capital Resources

Prior to this offering, our principal sources of liquidity have been net funding provided by YY and cash generated by private equity financing activities. In March 2018, we completed our series B financing with Linen Investment Limited and raised US$461.6 million. As of December 31, 2016 and 2017, we had RMB6.2 million and RMB442.5 million (US$68.0 million), respectively, in cash and cash equivalents and RMB95.0 million and RMB593.2 million (US$91.2 million), respectively, in short term deposits. Our cash and cash equivalents consist primarily of demand deposits placed with banks. Our short-term deposits consist primarily of deposits placed with banks with original maturities of less than one year.

We believe that our current cash and cash equivalents (including the funds raised from our series B financing) and our anticipated cash flows from operations will be sufficient to meet our anticipated working capital requirements and capital expenditures for the 12 months following this offering. As of the date of this prospectus, we are not aware of any trends, uncertainties, demands, commitments or events that are reasonably likely to have a material effect on our liquidity or capital resources or that would cause reported financial information to not necessarily be indicative of future financial condition. We may, however, decide to enhance our liquidity position or increase our cash reserve for future investments or operations through additional capital and finance funding. The issuance and sale of additional equity would result in further dilution to our shareholders. The incurrence of indebtedness would result in increased fixed obligations and could result in operating covenants that would restrict our operations.

As of December 31, 2017, all of our cash and cash equivalents and short-term deposits were held in the PRC, and 53.1% were held by our variable interest entity and its subsidiaries. Although we consolidate the

 

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results of our variable interest entity and its subsidiaries, we only have access to the assets or earnings of our variable interest entity and its subsidiaries through our contractual arrangements with our variable interest entity and its shareholders. See “Corporate History and Structure—Contractual Arrangements with Guangzhou Huya.” For restrictions and limitations on liquidity and capital resources as a result of our corporate structure, see “—Holding Company Structure.”

In utilizing the proceeds we expect to receive from this offering, we may make additional capital contributions to our PRC subsidiary, establish new PRC subsidiaries and make capital contributions to these new PRC subsidiaries, make loans to our PRC subsidiary, or acquire offshore entities with business operations in China in offshore transactions. However, most of these uses are subject to PRC regulations and approvals. For example:

 

    capital contributions to our PRC subsidiaries must be approved by the Ministry of Commerce or its local counterparts; and

 

    loans by us to our PRC subsidiaries to finance their activities cannot exceed statutory limits and must be registered with SAFE or its local branches.

See “Regulation—Regulation of Foreign Currency Exchange and Dividend Distribution.”

A majority of our future revenues are likely to continue to be in the form of Renminbi. Under existing PRC foreign exchange regulations, Renminbi may be converted into foreign exchange for current account items, including profit distributions, interest payments and trade-related and service-related foreign exchange transactions.

Our PRC subsidiary may convert Renminbi amounts that it generates in its own business activities, including technical consulting and related service fees pursuant to its contracts with our variable interest entity, as well as dividends it receives from its own subsidiaries, into foreign exchange and pay them to its non-PRC parent companies in the form of dividends. However, current PRC regulations permit our PRC subsidiary to pay dividends to us only out of its accumulated profits, if any, determined in accordance with PRC accounting standards and regulations. Our PRC subsidiary 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, capital account transactions, which include foreign direct investment and loans, must be approved by and/or registered with SAFE and its local branches. The total amount of loans we can make to our PRC subsidiary cannot exceed statutory limits and must be registered with the local counterpart of SAFE. The statutory limit for the total amount of foreign debts of a foreign-invested company is the difference between the amount of total investment as approved by the Ministry of Commerce or its local counterpart and the amount of registered capital of such foreign-invested company.

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

 

     For the Year Ended December 31,  
     2016     2017  
     RMB     RMB     US$  
     (in thousands)  

Summary Consolidated Cash Flow Data:

      

Net cash (used in) provided by operating activities

     (420,451     242,444       37,262  

Net cash used in investing activities

     (96,135     (559,561     (86,002

Net cash provided by financing activities

     522,773       774,448       119,031  

Net increase in cash and cash equivalents

     6,187       457,331       70,291  

Cash and cash equivalents at beginning of the year

     —         6,187       951  

Effect of exchange rate changes on cash and cash equivalents

     —         (20,986     (3,226

Cash and cash equivalents at end of the year

     6,187       442,532       68,016  
  

 

 

   

 

 

   

 

 

 

 

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Operating activities

Net cash provided by operating activities was RMB242.4 million (US$37.3 million) in 2017. In 2017, the difference between our net cash provided by operating activities and our net loss of RMB81.0 million (US$12.4 million) was primarily due to an increase of RMB220.2 million (US$33.8 million) in deferred revenue due to our business growth, an increase of RMB174.6 million(US$26.8 million) in accrued liabilities and other current liabilities as a result of an increase in accrued revenue-sharing fees, a non-cash item adjustment of RMB40.1 million (US$6.2 million) in share-based compensation, an increase of RMB8.2 million (US$1.3 million) in amounts due to related parties as a result of increased support services provided by YY, partially offset by an increase of RMB104.2 million (US$16.0 million) in amounts due from related parties. The increase in amounts due from related parties was primarily attributable to the cash collected by YY as a payment channel for us but not yet remitted to us. We recorded positive operating cash flow in 2017, primarily due to our strong revenue growth and improved operating efficiency.

Net cash used in operating activities was RMB420.5 million in 2016. In 2016, the difference between our net cash used in operating activities and our net loss of RMB625.6 million was primarily due to an increase of RMB126.5 million in accrued liabilities and other current liabilities as a result of an increase in accrued revenue-sharing fees, a non-cash item adjustment of RMB52.1 million in share-based compensation, and an increase of RMB32.3 million in deferred revenue due to our business growth.

Investing activities

Net cash used in in investing activities was RMB559.6 million (US$86.0 million) in 2017, which was primarily attributable to net placements of short-term deposits of RMB496.7 million (US$76.3 million).

Net cash used in investing activities was RMB96.1 million in 2016, which was primarily attributable to placements of short-term deposits of RMB95.0 million.

Financing activities

Net cash provided by financing activities was RMB774.4 million (US$119.0 million) in 2017, which was attributable to RMB509.5 million (US$78.3 million) in proceeds from our series A financing, RMB164.9 million (US$25.3 million) of investment in us from YY and capital injection of RMB100.0 million (US$15.4 million) from a variable interest entity of YY.

Net cash provided by financing activities was RMB522.8 million in 2016, which was primarily attributable to RMB422.8 million of investment from YY in us and capital injection of RMB100.0 million from a variable interest entity of YY.

Capital expenditures

We made capital expenditures of RMB1.1 million and RMB43.4 million (US$6.7 million) in 2016 and 2017, respectively. In these periods, our capital expenditures were mainly used for purchase of servers and other IT infrastructures. We will continue to make capital expenditures to meet the expected growth of our business.

Contractual Obligations

The following table sets forth our contractual obligations as of December 31, 2017:

 

     Payment due by period  
     Total      Less than
1 year
     1 - 3
years
     3 - 5
years
     More than
5 years
 
     (in RMB thousands)  

Operating lease obligations(1)

     12,206        12,206        —          —          —    

 

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Note:

(1) Represents our non-cancelable leases for our office premises pursuant to operating lease agreements between us and YY, our controlling shareholder, which were renewed in January 2018 and are expected to expire in December 2018. We intend to renew such operating lease agreements upon expiration.

Rental expenses under operating lease for the years ended December 31, 2016 and 2017 were RMB21.9 million and RMB12.8 million (US$2.0 million), respectively.

Other than disclosed above, we did not have any significant capital and other commitments, long-term obligations, or guarantees as of December 31, 2017.

Holding Company Structure

HUYA Inc. is a holding company with no material operations of its own. We conduct our operations primarily through our PRC subsidiary, our variable interest entity and its subsidiaries in China. As a result, HUYA Inc.’s ability to pay dividends depends upon dividends paid by our PRC subsidiary. If our existing PRC subsidiary or any newly formed ones incur debt on their own behalf in the future, the instruments governing their debt may restrict their ability to pay dividends to us. In addition, our wholly foreign-owned subsidiary in China is permitted to pay dividends to us only out of its retained earnings, if any, as determined in accordance with PRC accounting standards and regulations. Under PRC law, each of our subsidiary and our variable interest entity and its subsidiaries in China is required to set aside at least 10% of its after-tax profits each year, if any, to fund certain statutory reserve funds until such reserve funds reach 50% of its registered capital. In addition, our wholly foreign-owned subsidiary in China may allocate a portion of its after-tax profits based on PRC accounting standards to enterprise expansion funds and staff bonus and welfare funds at its discretion, and our variable interest entity may allocate a portion of its after-tax profits based on PRC accounting standards to a discretionary surplus fund at its discretion. The statutory reserve funds and the discretionary funds are not distributable as cash dividends. Remittance of dividends by a wholly foreign-owned company out of China is subject to examination by the banks designated by SAFE. Our PRC subsidiary has not paid dividends and will not be able to pay dividends until it generate accumulated profits and meet the requirements for statutory reserve funds.

The table below sets forth the respective revenues contribution and assets of HUYA Inc. and our wholly-owned subsidiaries and our VIEs as of the dates and for the periods indicated:

 

     Net
revenues(1)
    Total assets(1)  
     For the year
ended
December 31,
    As of
December 31, 2017
 
     2016     2017    

HUYA Inc. and its wholly-owned subsidiaries

     —         0.3     38.2

Variable interest entity and its subsidiaries

     100.0     99.7     61.8
  

 

 

   

 

 

   

 

 

 

Total

     100.0     100     100
  

 

 

   

 

 

   

 

 

 

 

Note:

(1) The percentages exclude the inter-company transactions and balances between HUYA Inc. and its wholly-owned subsidiaries and variable interest entity and its subsidiaries.

Off-balance Sheet Commitments and Arrangements

We have not entered into any off-balance sheet financial guarantees or other off-balance sheet 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

 

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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.

Quantitative and Qualitative Disclosures about Market Risk

Foreign exchange risk

Substantially all of our revenues and expenses are denominated in RMB. We do not believe that we currently have any significant direct foreign exchange risk and have not used any derivative financial instruments to hedge exposure to such risk. Although our exposure to foreign exchange risks should be limited in general, the value of your investment in our ADSs will be affected by the exchange rate between U.S. dollar and Renminbi because the value of our business is effectively denominated in RMB, while our ADSs will be traded in U.S. dollars.

The value of the Renminbi against the U.S. dollar and other currencies is affected by changes in China’s political and economic conditions and by China’s foreign exchange policies, among other things. In July 2005, the PRC government changed its decades-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. Between July 2008 and June 2010, this appreciation subsided and the exchange rate between the Renminbi and the U.S. dollar remained within a narrow band. Since June 2010, the PRC government has allowed the Renminbi to appreciate slowly against the U.S. dollar again, and it has appreciated more than 10% since June 2010. On August 11, 2015, the People’s Bank of China announced plans to improve the central parity rate of the Renminbi against the U.S. dollar by authorizing market-makers to provide parity to the China Foreign Exchange Trading Center operated by the People’s Bank of China with reference to the interbank foreign exchange market closing rate of the previous day, the supply and demand for foreign currencies as well as changes in exchange rates of major international currencies. Effective from October 1, 2016, the International Monetary Fund added Renminbi to its Special Drawing Rights currency basket. Such change and additional future changes may increase volatility in the trading value of the Renminbi against foreign currencies. The PRC government may adopt further reforms of its exchange rate system, including making the Renminbi freely convertible in the future. Accordingly, it is difficult to predict how market forces or PRC or U.S. government policy may impact the exchange rate between Renminbi and the U.S. dollar in the future.

To the extent that we need to convert U.S. dollars into Renminbi for our operations, appreciation of the Renminbi against the U.S. dollar would have an adverse effect on the RMB amount we receive from the conversion. Conversely, if we decide to convert Renminbi into U.S. dollars for the purpose of making payments for dividends on Class A 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.

As of December 31, 2017, we had U.S. dollar-denominated cash and cash equivalents and short-term deposits of US$6.5 million and US$67.8 million, respectively. A 10% depreciation of U.S. dollar against the Renminbi based on the foreign exchange rate on December 29, 2017 would result in a decrease of RMB4.2 million in cash and cash equivalents and RMB44.1 million in short-term deposits. A 10% appreciation of U.S. dollar against the Renminbi based on the foreign exchange rate on December 29, 2017 would result in an increase of RMB4.2 million in cash and cash equivalents and RMB44.1 million in short-term deposits.

We estimate that we will receive net proceeds of approximately US$149.2 million from this offering if the underwriters do not exercise their option to purchase additional ADSs, after deducting underwriting discounts and commissions and the estimated offering expenses payable by us, based on the initial offering price of US$11.00 per ADS, the midpoint of the estimated initial public offering price range shown on the cover page of this prospectus. Assuming that we convert the full amount of the net proceeds from this offering into Renminbi, a 10% appreciation of the U.S. dollar against the Renminbi, from the exchange rate of RMB6.5063 for US$1.00 as

 

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of December 29, 2017 to a rate of RMB7.1569 to US$1.00, would result in an increase of RMB97.1 million in our net proceeds from this offering. Conversely, a 10% depreciation of the U.S. dollar against the RMB, from the exchange rate of RMB6.5063 for US$1.00 as of December 29, 2017 to a rate of RMB5.8557 to US$1.00 would result in a decrease of RMB97.1 million in our net proceeds from this offering.

Interest rate risk

We have not been exposed to material risks due to changes in market interest rates, and we have not used any derivative financial instruments to manage our interest risk exposure.

After completion of this offering, we may invest the net proceeds we receive from the offering in interest-earning instruments. Investments in both fixed rate and floating rate interest earning instruments carry a degree of interest rate risk. Fixed rate securities may have their fair market value adversely impacted due to a rise in interest rates, while floating rate securities may produce less income than expected if interest rates fall.

Inflation

To date, inflation in the PRC has not materially impacted our results of operations. According to the National Bureau of Statistics of China, the year-over-year percent changes in the consumer price index for December 2015 and 2016 were increases of 1.6% and 2.1%, respectively. Although we have not been materially affected by inflation in the past, we can provide no assurance that we will not be affected in the future by higher rates of inflation in the PRC. For example, certain operating costs and expenses, such as employee compensation and office operating expenses may increase as a result of higher inflation. Additionally, because a substantial portion of our assets consists of cash and cash equivalents and short-term investments, high inflation could significantly reduce the value and purchasing power of these assets. We are not able to hedge our exposure to higher inflation in China.

Critical Accounting Policies

An accounting policy is considered critical if it requires an accounting estimate to be made based on assumptions about matters that are highly uncertain at the time such estimate is made, and if different accounting estimates that reasonably could have been used, or changes in the accounting estimates that are reasonably likely to occur periodically, could materially impact the consolidated financial statements.

We prepare our financial statements in conformity with U.S. GAAP, which requires us to make judgments, estimates and assumptions. We continually evaluate these estimates and assumptions based on the most recently available information, our own historical experiences and various other assumptions that we believe to be reasonable under the circumstances. Since the use of estimates is an integral component of the financial reporting process, actual results could differ from our expectations as a result of changes in our estimates. Some of our accounting policies require a higher degree of judgment than others in their application and require us to make significant accounting estimates.

The following descriptions of critical accounting policies, judgments and estimates should be read in conjunction with our consolidated financial statements and accompanying notes and other disclosures included in this prospectus. When reviewing our financial statements, you should consider (i) our selection of critical accounting policies, (ii) the judgments and other uncertainties affecting the application of such policies and (iii) the sensitivity of reported results to changes in conditions and assumptions.

Basis of presentation

Prior to the completion of our carve-out from YY, our business was mainly carried out by a variable interest entity of YY, which is under common control with us. The accompanying consolidated financial statements

 

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include the assets, liabilities, revenue, expenses and cash flows that were directly attributable to our business for all periods presented. However, such presentation may not necessarily reflect the results of operations, financial position and cash flows if we had actually existed on a stand-alone basis during the periods presented before the completion of the reorganization.

The assets and liabilities have been stated at historical carrying amounts. Only those assets and liabilities that are specifically identifiable to our business are included in our consolidated balance sheets. Our statements of comprehensive loss consists all the revenues, costs and expenses of our business, including allocations to the cost of revenues, sales and marketing expenses, research and development expenses, and general and administrative expenses, which were incurred by YY but related to our business prior to our carve-out from YY.

These allocated costs and expenses primarily included:

i) Salaries and welfares of employees of certain shared functions, including research and development and operational support departments and administrative departments supporting different business lines. For salaries and welfares of employees in research and development departments and operation support departments, allocation was based on the proportion of the number of active users of each business line. For salaries and welfare of employees in administrative departments, allocation was based on the proportion of number of staff in each business line.

ii) Bandwidth and server custody costs of certain shared functions. The allocation was based on the proportion of the number of active users of each business line.

iii) Depreciation and amortization. Depreciation and amortization of assets of shared functions was allocated based on the number of active users of each business line.

The following table sets forth the cost of revenues, sales and marketing expenses, research and development expenses, and general and administrative expenses allocated from YY for the year ended December 31, 2016. After the completion of our carve-out from YY, no costs and expenses were allocated from YY.

 

     For the year
ended

December 31,
2016
 
  
     RMB  
     (in
thousands)
 

Cost of revenues

     132,852  

Research and development expenses

     64,380  

General and administrative expenses

     40,110  

Sales and marketing expenses

     3,952  
  

 

 

 

Total

     241,294  
  

 

 

 

Our business was operated within YY for the year ended December 31, 2016 before the completion of the carve-out. For purposes of presentation in our consolidated statements of cash flows, the cash flows from YY to support our business is presented as funding from YY which is included in cash flows from financing activities. The net funding from YY is also presented as “changes in YY investment” in our consolidated statements of changes in shareholders’ (deficit) equity.

Income tax liability is calculated based on a separate return basis as if we had filed separate tax returns before the completion of the carve-out. With the completion of the carve-out and reorganization, we started to file separate tax returns and report the taxation based on actual tax return of each legal entity.

 

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Principle of consolidation

Our consolidated financial statements include the financial statements of HUYA Inc., its subsidiaries, the variable interest entity and the variable interest entity’s subsidiaries for which HUYA Inc. is the primary beneficiary. All transactions and balances among HUYA Inc., its subsidiaries and the variable interest entity and the variable interest entity’s subsidiaries have been eliminated upon consolidation.

A subsidiary is an entity in which HUYA Inc., directly or indirectly, controls more than one half of the voting powers; or has the power to appoint or remove the majority of the members of the board of directors; or to cast a majority of votes at the meeting of directors; or has the power to govern the financial and operating policies of the investee under a statute or agreement among the shareholders or equity holders.

A variable interest entity is an entity in which HUYA Inc., or its subsidiary, through contractual agreements, bears the risks of, and enjoys the rewards normally associated with ownership of the entity, and therefore HUYA Inc. or its subsidiary is the primary beneficiary of the entity. In determining whether HUYA Inc. or its subsidiaries are the primary beneficiary, we considered whether HUYA Inc. has the power to direct activities that are significant to the variable interest entity’s economic performance, and also HUYA Inc.’s obligation to absorb losses of the variable interest entity that could potentially be significant to the variable interest entity or the right to receive benefits from the variable interest entity that could potentially be significant to the variable interest entity. Huya Technology and ultimately HUYA Inc. hold all the variable interests of the variable interest entity and has been determined to be the primary beneficiary of the variable interest entity.

Revenue recognition

Live streaming

We are principally engaged in operating our own live streaming platforms, which enable broadcasters and users to interact with each other during live streaming. We generate revenues from sales of virtual items in the platforms. Users can access the platforms and view the broadcasters’ gameplay freely. We have a recharge system for user to purchase our virtual currency then purchase virtual items for use. Users can recharge via various online third-party payment platforms, including WeChat Pay, AliPay and other payment platforms. Virtual currency is non-refundable and often consumed soon after it is purchased. Unconsumed virtual currency is recorded as deferred revenue. Virtual currencies used to purchase virtual items are recognized as revenue according to the prescribed revenue recognition policies of virtual items addressed below unless otherwise stated.

We design, create and offer various virtual items for sale to users with pre-determined selling price. Sales proceeds are recorded as deferred revenue and recognized as revenue based on the consumption of the virtual items. Virtual items are categorized as consumable and time-based items. Consumable items are consumed upon purchase and use while time-based items could be used for a fixed period of time. Users can purchase and present consumable items to broadcasters to show support for their favorite broadcasters, or purchase time-based virtual items for one or more months for a monthly fee, which provide users with recognizable status, such as priority speaking rights or special symbols over a period of time. Accordingly, live streaming revenue is recognized immediately when the consumable virtual item is used or, in the case of time-based virtual items, revenue is recognized ratably over the fixed period on a straight line basis. We do not have further obligations to the user after the virtual items are consumed immediately or after the stated period of time for time-based items.

Virtual items may be sold individually or in bundles. When our users purchase multiple virtual items in bundles, we evaluate such arrangements under ASC 605-25 Multiple-Element Arrangements. We identify individual elements under the arrangement and determine if such elements meet the criteria to be accounted for as separate units of accounting. Our multiple-element arrangement is the Huya Noble Member Program. Within the Huya Noble Member Program, three elements are identified to be accounted for as separate units of accounting, including the noble member status, the virtual currency coupons and the right of subsequent renewal at a discounted price. A noble member status is valid for one month and users can purchase multiple months up

 

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to a maximum of 24 months. The virtual currency coupons, which have the same purchase power as our virtual currency, are valid for purchase of virtual items for a fixed period. In respect of the right of subsequent renewal at a discounted price, we estimate individual user’s times of renewal based on historical data of users’ spending pattern and average times of renewal. We allocate the arrangement consideration to the separate units of accounting based on their relative selling price. The following hierarchy has generally been followed when determining the relative selling price for each element: (1) vendor specific objective evidence or VSOE, (2) third party evidence or TPE, and (3) best estimate of selling price, or BESP. The VSOE of the selling price cannot be determined for the noble member status and the right of subsequent renewal as they are not sold separately out of the Huya Noble Member Program. The VSOE of the selling price also cannot be determined for the virtual currency coupons as they have expiry dates which are different with our virtual currencies. Therefore, we have adopted a policy to allocate the consideration of the whole arrangement to different virtual item elements based on the TPE of selling price or the BESP for each virtual item element. We determine the fair values of virtual items sold in a bundle based on similar products sold separately on the live streaming platforms based on the TPE of the selling price and determine the fair values of virtual items without similar products sold separately on the live streaming platform based on the BESP. The BESP is generally based on the selling prices of the various elements of a similar nature when they are sold to users on a stand-alone basis. The BESP may also be based on an estimated stand-alone pricing when the element has not previously been sold on a stand-alone basis. These estimates are generally determined based on pricing strategies, market factors and strategic objectives. We recognize revenue for each virtual item element in accordance with the applicable revenue recognition method. For noble member status, revenue is recognized on a straight line basis over the period the status remains valid. For virtual currency coupons, revenue is recognized consistently with how that virtual currency would be recognized as discussed above or upon expiration if the virtual currency coupon is not consumed prior to the expiration date. For the right of subsequent renewal at a discounted price, upon each time a subsequent renewal is purchased, the cash received is recorded as deferred revenue and allocated proportionally to the noble member status and virtual currency coupons based on their relative fair value and revenue is then recognized following the revenue recognition method of noble member status and virtual currency coupons as described above.

We share a portion of the sales proceeds of virtual items with broadcasters and talent agencies in accordance with their revenue sharing arrangements. The revenue sharing fee is accounted for as our cost of revenues. Broadcasters, who do not have revenue sharing arrangements with us, are not entitled to any revenue sharing fee.

Advertising

We primarily generate advertising revenues from sales of various forms of advertising and provision of promotion campaigns on the live streaming platforms by way of advertisement display or integrated promotion activities in shows and programs on the live streaming platforms. Advertisements on our platform are generally charged on the basis of duration, and advertising contracts are signed to establish the fixed price and the advertising services to be provided. Where collectability is reasonably assured, advertising revenues from advertising contracts are recognized ratably over the contract period of display. We enter into advertising contracts directly with advertisers or third party advertising agencies. Contract terms generally range from 1 to 3 months. Both third party advertising agencies and direct advertisers are generally billed at the end of the display period and payments are due usually within 3 months.

We provide sales incentives in the forms of discounts and rebates to advertisers or advertising agencies based on purchase volume. Revenue is recognized based on the price charged to the advertisers or agencies, net of sales incentives provided to the advertisers or agencies. Sales incentives are estimated and recorded at the time of revenue recognition based on the contracted rebate rates and estimated sales volume based on historical experience.

Online games

We generate revenues from offering virtual items in online games developed by us or third parties to game users. We have a recharge system for user who purchased our virtual currency to purchase additional virtual

 

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items for use. Users can recharge via various online third-party payment platforms, including WeChat Pay, AliPay and other payment platforms. Virtual currency is non-refundable and consumed soon after it is purchased.

The majority of online games revenues were derived from our self-developed games for the periods presented.

Revenues derived from self-developed games are recorded on a gross basis. As we take primary responsibilities of game operation, including determining the distribution platforms and payment platforms, providing customer services, hosting game servers, if needed, and controlling game and services specifications and pricing, we consider us to be the principal in these arrangements. Accordingly, fees to be shared with distribution platforms and handling costs charged by payment platforms are recorded as cost of revenues.

Users can play games free of charge and are charged for purchases of virtual items mainly including consumable and perpetual items, which can be utilized to enhance users’ game-playing experience. Consumable items are virtual items that can be consumed by a specific user within a specified period of time. Perpetual items represent virtual items that are accessible to the users’ account over the life of the online games. We maintain information on the consumption details of in-game virtual items, therefore, we recognize revenues based on item-based model: (1) for consumable items, the revenue is recognized immediately upon consumption; (2) for perpetual items, the revenue is recognized ratably over the user relationship period of a specific game as described below.

The estimated user relationship period is based on data collected from those users who have purchased game tokens. We maintain a system that captures the following information for each user: (a) the frequency that users log into each game, and (b) the amount and the timing of when the users charge his or her game token. We estimate the user relationship period for a particular game to be the date a player purchases a game token through the date we estimate the user plays the game for the last time. This computation is completed on a user by user basis. Then, the results for all analyzed users are averaged to determine an estimated end user relationship period for each game. Revenues from in-game payments of each month are recognized over the user relationship period estimated for that game.

The determination of user relationship period is based on our best estimate that takes into account all known and relevant information at the time of assessment. We assess the estimated user relationships on a monthly basis. Any adjustments arising from changes in the user relationship as a result of new information will be accounted as a change in accounting estimate in accordance with ASC 250 Accounting Changes and Error Corrections.

Fair Value of ordinary shares

In determining the grant date fair value of our ordinary shares for purposes of recording share-based compensation expenses in connection with share options and restricted share units under the Amended and Restated 2017 Plan and the shares awarded to Mr. Rongjie Dong, our chief executive officer and director, by YY, or CEO Awards, we, with the assistance of an independent valuation firm, evaluated the use of three generally accepted valuation approaches: market, cost and income approaches to estimate the enterprise value of our company and income approach (discounted cash flow, or DCF method) was relied on for value determination with market approach (guideline companies method, or GCM) taken as reference.

DCF method of the income approach involves applying appropriate weighted average cost of capital, or WACC, to discount the future cash flows forecast, based on our best estimates as of the valuation date, to present value. The WACC was determined based on a consideration of the factors including risk-free rate, comparative industry risk, equity risk premium, company size and non-systematic risk factors.

GCM under the market approach was adopted as reference of the equity valuation for our company. GCM employs trading multiples method of selected public comparable companies including trailing and leading enterprise value/revenue multiples.

 

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In deriving the equity value of each class of shares, we applied the Option Pricing Method. The Option Pricing Method treats different classes of shares as call options on the total equity value, with exercise prices based on the liquidation preference or redemption amount of the certain classes of shares. Under this method, the ordinary share has value only if the fund available for distribution to shareholders exceeds the value of liquidation preference or redemption amounts at the time of a liquidity event, assuming the enterprise has funds available to make liquidation preference or redemption. Given the nature of the different classes of shares, the modeling of different classes of capital as call options on company’s enterprise value is analyzed and the values of different classes of shares were derived accordingly.

We also applied a discount for lack of marketability, or DLOM, which was quantified by the Black-Scholes option pricing model. Under this option-pricing method, which assumed that the put option is struck at the average price of the stock before the privately held shares can be sold, the cost of the put option was considered as a basis to determine the DLOM.

The determination of the equity value requires complex and subjective judgments to be made regarding prospects of the industry and the products at the valuation date, our projected financial and operating results, our unique business risks and the liquidity of our shares.

The following table sets forth the fair value of our ordinary shares estimated at the grant dates of share options and restricted share units under the Amended and Restated 2017 Plan and the CEO Awards, with the assistance from an independent valuation firm.

 

Date of valuation    Fair Value Per Share (US$)      Discount of Lack of
Marketability
(DLOM)
    Discount
Rate
 

August 9, 2017

     2.74        20     24

October 8, 2017

     2.74        20     24

March 15, 2018

     7.16        10     19

March 31, 2018

     7.16        10     19

Significant factors contributing to the difference in fair value determined

The determined fair value of our ordinary shares increased from US$2.74 per share as of August 9, 2017 and October 8, 2017 to US$7.16 per share as of March 15, 2018 and March 31, 2018. We believe the increase in the fair value of our ordinary shares was primarily attributable to the following factors:

 

    We raised additional capital by issuing series B-2 preferred shares at approximately US$7.16 per share on March 8, 2018, which provided us with additional capital for our business expansion;

 

    Our net revenue grew significantly from RMB796.9 million in 2016 to RMB 2,184.8 million (US$335.8 million) in 2017, representing a 174.2% annual growth rate, together with the organic growth of our business;

 

    As we progressed towards an initial public offering, the lead time to an expected liquidity event decreased, resulting in a decrease of DLOM from 20% as of August 9, 2017 and October 8, 2017 to 10% as of March 15, 2018 and March 31, 2018;

 

    As a result of milestone events described above and the continuous growth of our business, the discount rate decreased from 24% as of August 9, 2017 and October 8, 2017 to 19% as of March 15, 2018 and March 31, 2018; and

 

    We adjusted our financial forecast to reflect the anticipated higher revenue growth rate and better financial performance in the future due to the abovementioned developments.

 

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The increase in the fair value of our ordinary shares from US$7.16 per ordinary share as of March 31, 2018 to US$11.00 per ordinary share, the mid-point of the estimated range of the initial public offering price on the front cover of this prospectus, was primarily attributable to the following factors:

 

    The public filing of the registration statement relating to this offering in April 2018 and the subsequent filings reduced the uncertainties associated with this offering, and significantly lowered the discount for lack of marketability from 10% as of March 31, 2018 to 0%;

 

    As we progressed further towards this offering, we increased our estimated probability of a successful offering. As our preferred shares would be automatically converted into and re-designated as ordinary shares upon the completion of this offering, the increase in the estimated probability of this offering’s success results in an allocation of a higher portion of our business enterprise value to ordinary shares;

 

    As part of Tencent’s investment in us in March 2018, our business cooperation agreement with Tencent in various aspects of the game live streaming business and other game related businesses is expected to provide strategic benefits to us, leading to improved growth prospects, which in turn has generated positive market feedback;

 

    We recorded stronger performance in the first quarter of 2018, as evidenced by an increase in the total number of paying users to 3.4 million in the first quarter of 2018 from 2.8 million in the fourth quarter of 2017, an increase in our total revenue to RMB843.6 million in the first quarter of 2018 from RMB741.0 million in the fourth quarter of 2017, and an increase in our net income to RMB31.4 million in the first quarter of 2018 from RMB5.0 million in the fourth quarter of 2017. As we developed a longer track record in reaching revenue growth targets successfully and we progressed further towards this offering in the capital market, we are able to reduce the cost of financing and hence our risk premium. In addition, upon receiving proceeds from this offering, we will become larger and the size premium component in the discount rate would be further reduced. In light of the foregoing, we further reduced our discount rate from 19% as of March 31, 2018 to 16%; and

 

    The launch of this offering, which will provide us with additional capital, enhances our ability to access capital markets, grow our business and raise our profile.

Share-based compensation

Share-based compensation expense arises from share-based awards, including restricted share units granted by YY with its own underlying shares to certain management and other key employees who to some extent provide services to us, share options for the purchase of our ordinary shares, granted by us to our management and other key employees and our shares granted by YY to our chief executive officer.

YY’s share-based awards

On September 16, 2011, the board of directors of YY approved the 2011 Share Incentive Scheme. In October 2012, the board of directors of YY resolved that the maximum aggregate number of Class A common shares of YY which may be issued pursuant to all awards under the 2011 Share Incentive Scheme shall be 43,000,000 plus an annual increase of 20,000,000 on the first day of each fiscal year, or such lesser amount of Class A common shares as determined by the board of directors of YY.

The 2011 Share Incentive Scheme of YY provides for the issuance of YY’s common shares to our employees, which for such purpose includes our employees, mainly including restricted share units.

In determining the fair value of restricted share units granted, the fair value of the underlying shares of YY on the grant dates is applied. The grant date fair value of restricted share units is based on the stock price of YY in the NASDAQ Global Market.

Share-based compensation expense for restricted share units granted under YY’s share-based incentive plans is recognized using the graded vesting method, net of estimated forfeiture rates, over the requisite service period, which is generally the vesting period. Forfeitures are estimated at the time of grant based on historical forfeiture rates and will be revised in the subsequent periods if actual forfeitures differ from those estimates.

 

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As of December 31, 2016, unvested YY restricted share units held by our employees were settleable upon vesting by the issuance of 4,983,052 common shares of YY.

For the year ended December 31, 2016, share-based compensation expense of RMB52.1 million related to these restricted share units was allocated from YY and recognized in our consolidated statement of comprehensive loss.

As of December 31, 2016, there was RMB20.4 million of unrecognized compensation expense related to these unvested restricted share units. This amount is expected to be recognized over a weighted average period of 0.89 year.

As of December 31, 2017, unvested YY restricted share units held by our employees were settleable upon vesting by the issuance of 2,208,659 common shares of YY.

For the years ended December 31, 2016 and 2017, share-based compensation expense of RMB52.1 million and RMB10.5 million (US$1.6 million), respectively, was recognized in our consolidated statements of comprehensive loss.

As of December 31, 2017, there was RMB8.6 million (US$1.3 million) of unrecognized compensation expense related to these unvested restricted share units. This amount is expected to be recognized over a weighted average period of 0.72 year.

HUYA Inc. share-based awards

Grant of options. On July 10, 2017, our board of directors approved the 2017 Share Incentive Plan, which was amended and restated on March 31, 2018. The Amended and Restated 2017 Plan shall be valid and effective until July 10, 2027. The maximum number of shares that may be issued pursuant to all awards (including incentive share options) under the Amended and Restated 2017 Plan shall be 28,394,117 shares. For the year ended December 31, 2017, we granted 11,737,705 share options to our employees pursuant to the 2017 Share Incentive Plan.

Vesting of options. There are two types of vesting schedule under the Amend and Restated 2017 Plan, which are: i) 50% of the options will be vested after 24 months of the grant date and the remaining 50% will be vested in two equal installments over the following 24 months, and ii) options will be vested in four equal installments over the following 48 months.

Theses option shall (i) be exercisable during its term cumulatively according to the vesting schedule set out in the grant notice and with the applicable provisions of the Amended and Restated 2017 Plan, provided that the performance conditions otherwise agreed by the parties (if any) to which the option is subject have been fulfilled upon each corresponding vesting date; (ii) be deemed vested and exercisable immediately in the event of a change of control, regardless of the vesting schedule; (iii) be exercisable upon any arrangement as otherwise agreed by the parties based on their discussion in good faith.

Movements in the number of share options granted to our employees and their related weighted average exercise prices are as follows:

 

     Number of
options
     Weighted
average
exercise
price (US$)
     Weighted
average
remaining
contractual life
(years)
 

As at January 1, 2017

     —          —          —    

Granted

     11,737,705        2.5500        10.00  

Forfeited

     (18,000      2.5500        —    

As at December 31, 2017

     11,719,705        2.5500        9.75  

Expected to vest at December 31, 2017

     10,675,362        2.5500        9.61  

 

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In determining the fair value of share options granted, a binomial option-pricing model is applied by us. The determination of the fair value is affected by the fair value of the ordinary shares as well as assumptions regarding a number of complex and subjective variables, including risk-free interest rates, exercise multiples, expected forfeiture rates, the expected share price volatility rates, and expected dividends. The fair value of the ordinary shares were assessed using the income approach/discounted cash flow method, with a discount for lack of marketability, given that the shares underlying the awards were not publicly traded at the time of grant. Key assumptions are set as below:

 

     For the Year ended
December 31,
 
     2017  
     US$  

Weighted average fair value per option granted

     1.3798  

Weighted average exercise price

     2.5500  

Risk-free interest rate(1)

     2.25

Expected term (in year)(2)

     10  

Expected volatility(3)

     55

Dividend yield(4)

     —    

 

 

(1) The risk-free interest rate of periods within the contractual life of the share option is based on the China Government Bond yield as at the valuation dates.
(2) The expected term is the contract life of the option.
(3) Expected volatility is estimated based on the average of historical volatilities of the comparable companies in the same industry as at the valuation dates.
(4) We have no history or expectation of paying dividend on our ordinary shares. The expected dividend yield was estimated based on our expected dividend policy over the expected term of the option.

Share-based compensation expense for share options granted to our employees is measured based on their grant-date fair values and recognized over the requisite service period, which is generally the vesting period. The number of share-based awards for which the service is not expected to be rendered over the requisite period is estimated, and the related compensation expense is not recorded for the number of awards so estimated. Forfeitures are estimated at the time of grant. If necessary, forfeitures are revised in subsequent periods if actual forfeitures differ from those estimates.

For the year ended December 31, 2017, we recorded share-based compensation of RMB19.5 million (US$3.0 million) using the graded-vesting attribution method.

As of December 31, 2017, there was RMB77.7 million (US$11.9 million) unrecognized share-based compensation expense relating to the 2017 Share Incentive Plan granted to our employees. The expense is expected to be recognized over a weighted-average remaining vesting period of 1.25 years using the graded-vesting attribution method.

CEO Awards

In October 2017, YY transferred, at nominal consideration, 559,039 ordinary shares of HUYA Inc. which were redesignated as 559,039 Class B ordinary shares, to Mr. Rongjie Dong, our chief executive officer, for his service to us. The share awards were immediately vested and we recorded a share-based compensation charge of RMB10.2 million for the year ended December 31, 2017. The fair value of the CEO’s Awards was determined at the grant date by us.

Redeemable convertible preferred shares

On May 16, 2017, we entered into a series A redeemable convertible preferred shares, or series A preferred shares, subscription agreement with the series A investors and pursuant to which, we issued 22,058,823 shares of

 

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series A preferred shares at a price of US$3.4 per share with total cash consideration of US$75 million (equivalent to RMB509.7 million as of the issuance date). The issuance of the series A preferred shares was completed on July 10, 2017.

We classified the series A preferred shares as mezzanine equity in our consolidated balance sheets because they were redeemable at the holders’ option any time after a certain date and were contingently redeemable upon the occurrence of certain liquidation events outside of our control. The Preferred Shares are recorded initially at fair value, net of issuance costs.

As holders of the series A preferred shares who exercise the redemption rights are allowed to request us to issue a convertible note if our assets or funds legally available for redemption are insufficient, the host contract is considered to be a debt host. We determined that there were no embedded derivatives requiring bifurcation from the host contract. The redemption feature is considered clearly and closely related to the host contract. While the conversion feature is not clearly and closely related to the host contract, no bifurcation is required as the conversion feature does not meet the definition of a derivative because the terms of the contracts do not require or explicitly state that it permits net settlement for the conversion feature.

We recognized accretion to the respective redemption value of the series A preferred shares over the period starting from issuance date to the earliest redemption date. We recognized accretion of the series A preferred shares amounted to US$3.0 million (equivalent to RMB19.8 million) for the year ended December 31, 2017.

Our redeemable convertible preferred shares activities for the year ended December 31, 2017 are summarized below:

 

     Number
of shares
     Amount  
            RMB  
            (in thousands)  

Balances as of January 1, 2017

     —          —    

Issuance as of July 10, 2017

     22,058,823        509,730  

Accretion to series A preferred shares redemption value

     —          19,842  

Foreign exchange

     —          (19,904
  

 

 

    

 

 

 

Balance as of December 31, 2017

     22,058,823        509,668  
  

 

 

    

 

 

 

We have used the discounted cash flow method to determine the underlying share value and adopted equity allocation model to determine the fair value of the series A preferred shares as of the dates of issuance.

Key valuation assumptions used to determine the fair value of series A preferred shares are as follows:

 

    

For the year ended

December 31, 2017

 

Discount rate

     25%-35%  

Risk-free interest rate

     1.70%  

Volatility

     50%-80%  

Recently Issued Accounting Pronouncements

In May 2014, the Financial Accounting Standards Board, or FASB, issued Accounting Standards Update, or ASU, No. 2014-09, “Revenue from Contracts with Customers (Topic 606)” or ASU 2014-09. ASU 2014-09 will eliminate transaction-specific and industry-specific revenue recognition guidance under current U.S. GAAP and replace it with a principle-based approach for determining revenue recognition. ASU 2014-09 will require that companies recognize revenues based on the value of transferred goods or services as they occur in the contract. The ASU also will require additional disclosure about the nature, amount, timing and uncertainty of revenues and

 

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cash flows arising from customer contracts, including significant judgments and changes in judgments and assets recognized from costs incurred to obtain or fulfill a contract. In August 2015, the FASB issued ASU 2015-14, which defers by one year ASU 2014-09’s effective date. The amendment will be effective for annual reporting periods beginning after December 15, 2017 including interim periods within that reporting period. Early adoption is permitted only for annual and interim periods beginning after December 15, 2016.

In March 2016, the FASB issued ASU 2016-08, which amends the principal-versus-agent implementation guidance and illustrations in the Board’s new revenue standard (ASC 606). The amendments in this update clarify the implementation guidance on principal versus agent considerations. When another party, along with the reporting entity, is involved in providing goods or services to a customer, an entity is required to determine whether the nature of its promise is to provide that good or service to the customer (as a principal) or to arrange for the good or service to be provided to the customer by the other party (as an agent). The guidance is effective for interim and annual periods beginning after December 15, 2017.

We have set up an implementation team to analyze each of our revenue stream in accordance with the new revenue standard to determine the impact on our consolidated financial statements. We have completed the evaluation and assessment of our adoption of ASC 606. Based on our assessment, the adoption of the new revenue standard will not have a material impact on our consolidated financial statements. We will apply the new revenue standard from January 1, 2018 on a modified retrospective basis.

In January 2016, the FASB issued ASU 2016-01: Recognition and Measurement of Financial Assets and Financial Liabilities. The amendments in this Update make targeted improvements to generally accepted accounting principles (GAAP) as follows: 1) Require equity investments (except those accounted for under the equity method of accounting or those that result in consolidation of the investee) to be measured at fair value with changes in fair value recognized in net income. However, an entity may choose to measure equity investments that do not have readily determinable fair values at cost minus impairment, if any, plus or minus changes resulting from observable price changes in orderly transactions for the identical or a similar investment of the same issuer. 2) Simplify the impairment assessment of equity investments without readily determinable fair values by requiring a qualitative assessment to identify impairment. When a qualitative assessment indicates that impairment exists, an entity is required to measure the investment at fair value. 3) Eliminate the requirement to disclose the fair value of financial instruments measured at amortized cost for entities that are not public business entities. 4) Eliminate the requirement for public business entities to disclose the method(s) and significant assumptions used to estimate the fair value that is required to be disclosed for financial instruments measured at amortized cost on the balance sheet. 5) Require public business entities to use the exit price notion when measuring the fair value of financial instruments for disclosure purposes. 6) Require an entity to present separately in other comprehensive income the portion of the total change in the fair value of a liability resulting from a change in the instrument-specific credit risk when the entity has elected to measure the liability at fair value in accordance with the fair value option for financial instruments. 7) Require separate presentation of financial assets and financial liabilities by measurement category and form of financial asset (that is, securities or loans and receivables) on the balance sheet or the accompanying notes to the financial statements. 8) Clarify that an entity should evaluate the need for a valuation allowance on a deferred tax asset related to available-for-sale securities in combination with the entity’s other deferred tax assets. For public business entities, the amendments in this update are effective for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. We will apply the new standard beginning January 1, 2018 and recognize the changes in fair value for the equity investment measured at fair value through net income (loss). For investment in equity security lacking of readily determinable fair values, we will elect to use the measurement alternative defined as cost, less impairments, adjusted by observable price changes. We anticipate that the adoption of ASU 2016-01 will increase the volatility of our other income (expense), net, as a result of the remeasurement of our equity security upon the occurrence of observable price changes and impairments.

In February 2016, the FASB issued ASU 2016-02: Leases (Topic 842). The core principle of Topic 842 is that a lessee should recognize the assets and liabilities that arise from leases. All leases create an asset and a

 

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liability for the lessee in accordance with FASB Concepts Statement No. 6, Elements of Financial Statements, and, therefore, recognition of those lease assets and lease liabilities represents an improvement over previous GAAP, which did not require lease assets and lease liabilities to be recognized for most leases.

For public business entities, the amendments in this update are effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. We are in the process of evaluating the impact of the standard on our consolidated financial statements.

In June 2016, the FASB issued ASU 2016-13, “Financial Instruments—Credit Losses (Topic 326), Measurement of Credit Losses on Financial Instruments”, which will be effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. The guidance replaces the incurred loss impairment methodology with an expected credit loss model for which a Group recognizes an allowance based on the estimate of expected credit loss. We are currently evaluating the impact of adopting this standard on our consolidated financial statements.

On August 6, 2016, the FASB issued ASU 2016-15, “Statement of Cash Flows—Classification of Certain Cash Receipts and Payments.” The ASU provides guidance on the classification of certain cash receipts and payments including debt prepayment or debt issuance costs and cash payments for contingent considerations. The ASU also provides clarification on the application of the predominance principle outlined in ASC 230. The effective date for public entities will be annual periods beginning after December 15, 2017, including interim periods within those fiscal years. Early adoption is permitted. We are currently evaluating the impact of this standard will have on our consolidated financial statements.

In October 2016, the FASB issued ASU 2016-16, Income Taxes: Intra-Entity Transfers of Assets Other Than Inventory (Topic 740). This standard will require entities to recognize the income tax consequences of intra-entity transfers of assets other than inventory at the time of transfer. This standard requires a modified retrospective approach to adoption. ASU 2016-16 is effective for fiscal years and interim periods within those years beginning after December 31, 2018. We do not expect ASU 2016-16 to have a material impact to our consolidated financial statements.

In May 2017, the FASB issued ASU 2017-09, “Compensation—Stock Compensation (Topic 718), Scope of Modification Accounting”, which clarifies and reduces both (1) diversity in practice and (2) cost and complexity when applying the guidance in Topic 718, to a change to the terms or conditions of a share-based p