Hello, everyone and welcome to the NetEase third quarter 2006 conference call. Just as a reminder, this call is being recorded. I would now like to turn the call over to your host, Ms. Brandi Piacente, Investor Relations for NetEase.com. Please go ahead.

Thank you, operator. Today you will first hear from Mr. William Ding, Chief Executive Officer; and Mr. Michael Tong, Co-Chief Operating Officer; who will discuss some of the financial and operational highlights for the third quarter end September 30, 2006. Finally, Mr. Denny Lee, Chief Financial Officer, will review the financials. Before we continue, please note that the discussion today will contain forward-looking statements relating to future performance of the Company and are intended to qualify for the Safe Harbor from liability as established by the U.S. Private Securities Litigation Reform Act. Such statements are not guarantees of future performance, and are subject to certain risks and uncertainties, assumptions and other factors. Some of these risks are beyond the company's control and could cause actual results to differ materially from those mentioned in today's press release and this discussion. Risks related to the fluctuation in the value of the renminbi with respect to other currencies could also adversely affect the company's business and financial results. The Company does not undertake any obligation to update this forward-looking information, except as required by law. As a reminder, this conference is being recorded. In addition, a webcast replay of this conference call will be available on the NetEase corporate website at corp.netease.com. I will now turn the conference call over to Mr. Michael Tong, CO-Chief Operating Officer, who will read the prepared remarks on behalf of Mr. William Ding, Chief Executive Officer of NetEase.

Thank you for joining us today. I will begin with an overview of each of our services segments. Total revenues for the third quarter decreased 0.6% quarter over quarter, but increased 23.6% year over year to $72.4 million. Online game revenues for the third quarter decreased 3.7% quarter over quarter, but increased 25.6% year over year to $59.2 million for the third quarter of 2006. Our online game revenues were impacted by worse than expected seasonality in the last month of the quarter, in addition to erroneous in-game protests that affected Fantasy Westward Journey user numbers during the quarter. Certain users mistakenly identified an image in the game to be a Japanese flag and subsequently spread erroneous information and perceptions among players. Such erroneous messages had extended to a level that some players actually believe our games have been sold to Japanese investors. Once again, we also would like to take this opportunity to declare that our games are all self-developed by Chinese, in China, and they is no relationship with our game to Japan. Regardless of the impact on third quarter user numbers, Fantasy Westward Journey remains the most popular game in China and continues to dominate the MMORPG markets, based on peak concurrent user numbers, or PCUs. Fantasy Westward Journey achieved peak concurrent users of approximately 1.22 million, down from 1.3 million for the second quarter; and average concurrent users of 468,000. We are looking to improve our Fantasy Westward Journey numbers and return to more normalized growth patterns, with the game’s latest expansion pack which will be released in the end of 2006. Westward Journey Online 2 achieved peak and average concurrent users of approximately 592,000 and 173,000 respectively for the third quarter, compared to 561,000 and 197,000 respectively for the second quarter of ’06. Our latest…

Thank you, Lu Sun. The main reason for the guidance of minus 6% to 9% is mainly because of Fantasy Westward Journey and we are looking at a similar rate of drop for Fantasy Westward Journey, similar to the rates of the decrease in the guidance. The main reason is because we have experienced quite a severe drop of the number of users around September, which is the last month of this quarter. Such a drop, even though we are looking at back on track to a normalized growth, it seems that it is difficult to be able to achieve to a similar level like it was in July. So even compared to December to July, it is difficult for December to catch up with July’s figures. It seems that we are going to experience quite a drop on a quarterly basis in this way. In terms of the competition in the markets, why don’t I just take the chance to go through why there is such a big drop in September. Obviously, because as we explained, the Japanese flag and all of these things. In addition, I would say that obviously there are some games in the market, games like [Sudoku] which is the game offered by GameSoft and also some other games are doing quite well in the markets. I wouldn’t say that they are totally targeting directly at Fantasy Westward Journey, but I think there are more free games in the market, and in some way I would say that gamers definitely would like to try the free games a little bit and this has, in some way, affected Fantasy Westward Journey as well. Lu?

Your next question comes from Wallace Cheung - Credit Suisse.

Operator? Can you let the person who asks to finish or comment on my answer first, or at least we listen to “thank you”? Can you go back to Lu?

Lu, can you press *1? Lu Sun - Lehman Brothers: Thank you for the answer. Do you anticipate a very similar kind of challenge when you launch your Tianxia 2, a more promising 3D game in the market? Because there are actually quite a few 3D titles to be launched by your competitors as well.

(Response in Mandarin)

I will translate into English very quickly. First of all, Tianxia we continue to have very high confidence on the product and we have a very good quality game that we are going to release. Secondly, and most important, is that a similar level of quality products that are in the market right now, all of them are fee-based and charge on an hourly basis or monthly paid. So we don’t believe that what we are facing in Fantasy Westward Journey with the free games would happen to Tianxia. Lu Sun - Lehman Brothers: Thank you. I just have a quick follow-up on the online advertising side. (Question asked in Mandarin) My second question is on the online advertising side. There seems to be a pretty major deceleration in the year-on-year growth rates, especially relative to your competitors. What are the reasons behind that? Thank you.

The simple answer is that we have actually terminated a couple of contracts that are related to, kind of like a branding corporation type of contracts during the quarter. Those branding contracts are like a distribution-type of web spaces. Because those are cooperative branding and our partners have violated their use of our logos and the use of our brands and have made some false marketing to some of the buyers on those websites. We have just terminated those contracts. This has contributed to the majority of the decrease in the growth. Lu Sun - Lehman Brothers: Thank you.

Your next question comes from Wallace Cheung - Credit Suisse. Wallace Cheung - Credit Suisse: Good morning. One question. I will speak in Chinese first. (Question asked in Mandarin) My question is, has the online games [inaudible] and has the management already talked about these issues and maybe express growth prospects on Fantasy in the future? Thank you.

Wallace, why don’t I take this question. We won’t be able to say the worst has passed for the Japanese flag furor, or the offense, how it is affecting Fantasy Westward Journey. In fact, today if you see our homepage, we continue to make a declaration that our game has nothing to do or no relationship with Japan or Seoul. Again, from the numbers that we have seen, we believe we will be able to go back to a normalized growth later on. It is just difficult to be certain on these things, frankly. Denny Lee: I can give you some of the numbers and then you can visualize what you think is the real situation. For Fantasy Westward Journey, it accounted for around 17% of total online game revenue right now. For the month of September, because of various reasons as explained by Michael, the Japanese flag and also the competition, everything; and also the back-to-school season in September. That game dropped by around 24% when compared to the month of August. So it was a big, big drop which is beyond our expectation at that time. For the month of September, as you know, that is a national holiday period and the normal peak season, the game already resumed growth comparing with September. However, based on the September results, we projected that November and December performance of the game couldn’t catch up the loss in September. Also, the growth in October is not big enough. So therefore, we are projecting an overall decline of 6% to 9% of our total online game revenue in the fourth quarter. But we are still optimistic on the Fantasy Westward Journey with the new game and we expect to have our expansion packs to be launched by the end of the year. Wallace Cheung - Credit Suisse: (Question asked in Mandarin) Denny Lee: It was a double-digit growth. Wallace Cheung - Credit Suisse: Double digit, thanks very much.

Your next question comes from Richard Ji - Morgan Stanley. Richard Ji - Morgan Stanley: William, Michael and Denny, I have two questions. One is regarding Datang. Obviously, it is at a low base right now. What is the upside for the game going forward? Especially that you may consider free to play game. The second question is regarding Westward Journey III and this is literally the first time ever we have seen any online game company, Chinese online game company, migrate the entire user base to a new game. Can you comment on that? What kind of risks are involved, and what are the upsides? William Ding: (Response given in Mandarin) Richard Ji - Morgan Stanley: (Question asked in Mandarin) William Ding: (Response given in Mandarin)

Okay, okay. Let me try to summarize all of this in English very quickly. For Datang, right now there has been a lot of similar titles, for example, like martial arts title that is free on the market right now. We believe this is the main reason why Datang has not been doing so well, because as a gamer, when they look at various offers on the market, obviously they will continue to try the free games first. Only those who are more advanced players may choose Datang. For us, right now we will continue to improve the contents of Datang, and we will continue to assume that we are using a fee-based model for Datang. We will not change the game to free, at least for the short- to mid-term. At the same time, the company is researching similar titles, which are like martial arts title, that are existing to become free and based on virtual item sales. We have a team already doing that. At the same time, if there would be a new -- if we are going to make a free game, then we will base on the Datang technology and make a new game out of that and it will be a free game. Right now, we are just planning on that. We will just, for the purpose of this -- I would say that we just assume that Datang will continue to be a fee-based game and we will continue to improve the contents and continue to drive the growth of this game. Thank you.

(Operator Instructions) We will move to Dick Wei with JP Morgan.

Good morning, William, Michael, and Denny. My question is on the online game market going forward, if William can comment on the players growth, business model, and profitability of the industry, that would be great. Thank you.

(Response given in Mandarin)

Dick, this is Michael. I will do a quick translation. In terms of the markets, we believe that [Maru] continues to grow very fast, mainly because the users in terms of the demographics will continue to expand. In terms of the age, we will see more and more older and older users, and in terms of the sex, they are currently a majority of male users, and we continue to see more and more female users as well. The main stream will continue to be RPG and what we call casual games, but at the same time, competition will continue to increase as well. On the business model, it used to be we mostly based on the fee-based games. We continue to see that there are more and more free games being offered in the markets. We believe that there is a segment of the users in the market which we would call demand-based game, or what other people call virtual-item based games. They would be a segment of market users that would like to use this, prefer this kind of game. We believe that this will slowly become the main stream in the market, but it does not mean that there will not be anymore fee-based games. They will also be continued to see a lot of fee-based games, like the one that we have. Those games we believe are higher quality and will continue to be a major part of the market as well.

Great. Thank you. Just a quick question for Denny. The growth in the quarter, could you make some comment on that? Thank you.

What growth, sorry?

The property plant and equipment, in terms of the asset side.

The growth in the fixed asset basically this quarter is mainly due to the Guangzhou NetEase building, because as it is already disclosed in the press release, we are negotiating with the developer to buy Guangzhou office building in the coming quarters. We have already moved into the building and incurred the renovations and also other furniture and fixtures, et cetera. So the increase in this quarter was mainly due to the new Guangzhou NetEase building. We have around 20,000 square meters. You guys are welcome to come and have a look. We are already using this currently.

Thank you.

Thank you. Shall we move on?

Next we will move to [inaudible].

Could you talk about the development on search? Do you see any growth in the third quarter?

The current search revenue that we are recognizing is the majority a partnership with Google right now. For us, the search revenue has been decreasing quarter on quarter. This is mainly because we have not been focusing on this part of our business right now.

Right, but do you plan to launch a search engine sometime soon?

(Response given in Mandarin)

Yes, but -- the search products, we are actually working on a search product right now, which is self-developed. We are looking at the launch of it in six to eight weeks time, and I will report on it early next year. I think it is too early to give out further details on this because it is a new product. We do not have much information right now.

Next we have Tony Gikas with Piper Jaffray.

Good morning. A couple of quick questions for you. I think I missed part of one of the earlier questions on what is the migration risk in moving all of the WWJ2 users over to WWJ3. Does that present a risk? Could we see a decline in the user base there of 5% or 10% or 15%? The second part of that question, is there a pricing opportunity when you are moving on to the new version of the game to take pricing higher? What are your intentions there? Then I have a follow-up.

I can just repeat what William has said. I think the migration of the users from the old Westward Journey 2 to Westward Journey 3, they are always in a risk for users migration. However, as you know, the Westward Journey 2, this is already a very, very old game, operated for more than four years already. Users are leaving us anyway, and we report a continuous decline in revenue in the past few quarters. Therefore, I think the version 3, although there is a risk for the migration of the users from the old game to the new game, however, we will have our mappers to migrate and make sure that they are happy. The most important thing is we are confident in the new title, the Westward Journey 3, and we think that the users will like the new game. There will be a period of transition for the [inaudible] run of the old game, and also for the new game. The users who want to stay with the old game, they can continue to stay, but we will revisit the situation closer to the event to see how many people are actually left with the old game and then decide on how many services will continue to be operating for the old game.

And then pricing on the new game?

We have not yet decided.

It is sounding like there is a greater likelihood of moving to the free-based video games at some point in time. Would that impact sales on a near-term basis? If so, what type of impact would that be? Would it take a one or two quarter sales decline, or not so much?

For the free-based model, I cannot say that this is the norm going forward. I think the market continues to be very extreme. For those successful games, I think users are more than happy to play for an entrance fee, or playing on a time basis. Whereas for some lower quality games, which is huge in numbers, in terms of number, I think it is very difficult for them to charge a fee based on the playing time. For NetEase, we have our own R&D capability, and we believe, for example, Tianxia is a game that we never thought of as free-based. Going forward, we will be flexible. You can see whether for those that can offer [inaudible], that we developed to sift through the gaps of our pipeline, we will be using the free-to-play model or not.

Thank you for taking my question.

Next we have Antonio Tambunan with Bear Stearns.

I just have some follow-up questions. On licensing, I have a two-part question on licensing. The first is where -- this was asked last quarter -- where are you guys now in considering licensing games in the pipeline? The second question I have is I know you guys have always been adverse to licensing games outside of China. I am kind of curious as to whether or not you are going to change that outlook, especially in light of the fact that perhaps Shanda, they just recently announced they are going to take one of the Chinese games in the next quarter. Where are you guys in terms of deciding whether or not you can expand your game to overseas markets, or maybe to less emerging markets like Vietnam or Thailand or something like that? That is all I am curious about right now.

On the second question, no, we have not changed. On the first question, which is basically a no as well, actually. We have a pretty full pipeline ourselves, we believe, and we do not feel that we would like to license games from other game developers right now. Of course, this is still opportunistic. If there is a specifically high quality game in the market, we of course welcome -- we have been talking to some of the companies, but this is very, very remote again.

The second question that I asked, and your answer is no, and I know you have been no for a long time now. I am just kind of curious as to why, or have you not considered that to be some --

Because we are focused on China.

I know, but -- so you have no wishes at all, and it is unlikely to change going forward at all?

No. That is right.

Thank you.

Next we will take Jason Brueschke with Citigroup.

Thank you. My question really revolves around your use of cash. You are sitting on nearly $480 million. You will no doubt be above $500 million at the end of the year. When I look at the business and how various things are performing and some of the issues you are facing, like the Japanese flag, I kind of struggle with the decision just to put that cash to use to buy back shares. I am wondering why you have not been able to deploy that cash in a way that in one quarter, fixes the Japanese flag incident. You have enough money to market directly to every single gamer in China. I guess the question is, do you have any plans to do anything different with your cash going forward, in terms of maybe stepping up your sales and marketing, maybe buying some domestic Chinese casual game companies, or something like that? Or are we just going to continue to see share buy-backs as the primary vehicle that you put the cash key in?

The question is kind of theoretical, but I think the answer is that we continue to believe that the way that we have been using our cash is the optimal way for the company. We have been very lean. We have a very thin R&D and marketing expenses, and we continue to believe this is a very good way to utilize our cash for the good of the company. Repurchase will continue to be a way for us to utilize the cash.

Michael, a follow-up to that. Two questions on Tianxia. One, could you maybe give us some particular differences between Datang and Tianxia, besides the fact that one of them is a 2.5V game and one is a 3D game? Because leading up to the launch of Datang, there was a period of time when you guys were very bullish about the game and its prospects and all the time and effort you put into it. It seems to have struggled, and Tianxia, we still have that same optimism from you. I think giving us some color about where these things differ I think will be helpful.

The product is totally different and it is very difficult to make a comparison between the two products. Just to give you a bit more color, the technology, the game play and the stability and all these things are totally different. In fact, the design group -- I will just make the very simple difference among this is the design group, the programming group for Tianxia has been the core group of our company, who have been working with us for a long time. Comparatively, the Datang team is a bit more junior. That is the major difference I would note.

Okay. Let me ask you one last question. Do you have any plans to significantly market Tianxia more than you have Datang, in open beta and in commercial?

I would say yes, because in terms of the [user] size is much bigger, but compared to that of our competitors, it is still -- it still would not be much bigger than that of our competitors. Again, that is because we are a portal and we have a lot of influence on our users. Also, the way that we have been marketing, a lot of them are word of mouth, and those are lower costs, comparatively. Also, I would say it is performance-based. Compared to our competitor, the answer is no, it is not a huge marketing program. But compared to Datang, yes, the venture is much bigger.

Next we will move to James Mitchell with Goldman Sachs.

I apologize if this seems like another way of asking Jason’s question, but if I look at your guidance of the fourth quarter, it seems like you are guiding for revenue to be up down RMB 50 million to RMB 60 million, and then net income to be down by a similar RMB 50 million to RMB 60 million, or $6 million. Given you had some variable expenses and taxes, does that imply that you see some of your fixed costs increasing quarter on quarter?

I think in computing the guidance for Q4, revenue we have already been transparent on how we see each particular line of business they are doing. For the expense side, basically we are calculating, for example, the G&A expenses to be around flat. Also, the increase in operating expenses is mainly coming from the selling and marketing expenses and also R&D. Within the two, I think the selling and marketing expenses is the area that we have projected will be the huge increase, because of the new product launches, not just for the Tianxia but also other portal products. For R&D, as you know, we have just increased our headcount by around 250 persons this summer, so that will also be fully affecting the fourth quarter results, resulting in an increased in the R&D expenses.

Great, and then just a housekeeping item. For the third quarter, if I got the numbers right, it looked your game average users were down about 7% sequentially, and your game revenue was down [inaudible] sequentially. Is the deviance between game users and game revenue because of a deferred revenue realization on the prepaid cards or higher effective pricing?

I think this is mainly due to the pricing, because more and more users, they are playing directly from us, the points from us rather than using a point card, which the margin is higher.

Okay. Thank you very much for taking my questions.

We will take our last question from Ming Zhao from Susquehanna Financial Group.

Thank you. My question is according to your strategy right now, do you plan in some cases on you will turn the Fantasy Westward Journey Online into a play-to-play model?

(Response given in Mandarin)

We do not have any plan to make it a free game. Okay, I guess we will sum this up. Brandi Piacente: Thank you once again for joining us today. Please feel free to contact us if you have further questions.

That does conclude our conference call. We do thank you for your participation.