UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

Form 20-F/A

(Mark One)

o		REGISTRATION STATEMENT PURSUANT TO SECTION 12(b) OR (g) OF THE SECURITIES EXCHANGE ACT OF 1934

þ		ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended December 31, 2004

o		TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

o		SHELL COMPANY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from           to

GRAVITY CO., LTD.

N/A		The Republic of Korea
(Translation of registrant’s name into English)		(Jurisdiction of incorporation or organization)

14/F Meritz Tower, 825-2 Yeoksam-Dong, Gangnam-Gu
Seoul 135-934 Korea
(Address of principal executive offices)

Title of Each Class		Name of Each Exchange on Which Registered
Common stock, par value Won 500 per share* American depositary		Nasdaq National Market
shares, each representing one-fourth of a share of common stock

     Indicate the number of outstanding shares of each of the issuer’s classes of capital or common stock as of the close of the last full fiscal year covered by this Annual Report: 6,948,900 shares of common stock, par value of Won 500 per share

     Indicated by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.

     Yes o    No þ

     If this report is an annual or transition report, indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934. Yes o    No þ

     Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days:     Yes þ    No o

     Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act.

Large Accelerated filer o      Accelerated filer þ      Non-accelerated-filer o

     Indicate by check mark which financial statement item the registrant has elected to follow: Item 17 o   Item 18 þ

     If this is an annual report, indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o    No þ

 

 

TABLE OF CONTENTS

		Page
FORWARD-LOOKING STATEMENTS			1
EXPLANATORY NOTE			2
RESTATEMENT OF PREVIOUSLY ISSUED FINANCIAL STATEMENTS			3
PART I			5
ITEM 3. KEY INFORMATION			5
3.A. Selected Financial Data			5
3.B. Capitalization and Indebtedness			7
3.C. Reasons for the Offer and Use of Proceeds			7
3.D. Risk Factors			7
ITEM 5. OPERATING AND FINANCIAL REVIEW AND PROSPECTS			22
5.A. Operating Results			27
5.B. Liquidity and Capital Resources			38
5.C. Research and Development, Patents and Licenses, etc.			40
5.D. Trend Information			41
5.E. Off-Balance Sheet Arrangements			41
5.F. Contractual Obligations			41
PART II			42
ITEM 15. CONTROLS AND PROCEDURES			42
PART III			45
ITEM 18. FINANCIAL STATEMENTS			45
ITEM 19. EXHIBITS			45
INDEX TO FINANCIAL STATEMENTS			F-1
EX-12.1 CERTIFICATION OF CEO UNDER RULE 13A-14(A)
EX-12.2 CERTIFICATION OF CFO UNDER RULE 13A-14(A)
EX-13.1 CERTIFICATION OF CEO UNDER SECTION 906
EX-13.2 CERTIFICATION OF CFO UNDER SECTION 906

FORWARD-LOOKING STATEMENTS

     This Amendment No. 1 (this “Amendment No. 1”) to our annual report on Form 20-F for the year ended December 31, 2004, as originally filed with the United States Securities and Exchange Commission (“SEC”) on June 30, 2005 (the “Original Filing”) contains “forward-looking statements,” as defined in Section 27A of the U.S. Securities Act of 1933, as amended, and Section 21E of the U.S. Securities Exchange Act of 1934, as amended (“Exchange Act”). All statements, other than statements of historical facts, included in this Amendment No. 1 that address activities, events or developments which we expect or anticipate will or may occur in the future are forward-looking statements. The words “believe,” “intend,” “expect,” “anticipate,” “project,” “estimate,” “predict,” “considering,” “depends,” “may,” “could,” “should” or “could” and similar expressions are also intended to identify forward-looking statements.

     These forward-looking statements address, among others, such issues as:

	•		future prices of and demand for our products;
	•		future earnings and cash flow;
	•		expansion and growth of our business and operations; and
	•		our prospective operational and financial information.

     These statements are based on assumptions and analyses made by us in light of our experience and our perception of historical trends, current conditions and expected future developments, as well as other factors we believe are appropriate in particular circumstances. However, whether actual results and developments will meet our expectations and predictions depends on a number of risks and uncertainties which could cause actual results to differ materially from our expectations, including the risks set forth in Item 3. “Key Information—Risk Factors” and the following:

	•		fluctuations in prices of our products;
	•		potential acquisitions and other business opportunities;
	•		general economic, market and business conditions; and
	•		other risks and factors beyond our control.

     Consequently, all of the forward-looking statements made in this Amendment No. 1 are qualified by these cautionary statements. We cannot assure you that the actual results or developments anticipated by us will be realized or, even if substantially realized, that they will have the expected effect on us or our business or operations.

     References to “GRAVITY,” the “Company,” “we,” “our company,” “our” and “us” in this Amendment No. 1 are to Gravity Co., Ltd. and its consolidated subsidiaries.

EXPLANATORY NOTE

     This Amendment No. 1 is being filed to reflect the restatement of the Company’s audited consolidated financial statements as of December 31, 2003 and 2004 and for the years ended December 31, 2002, 2003 and 2004 (the “Restated Financial Statements”) (see “Restatement of Previously Issued Financial Statements” and Note 2 of the Notes to the Restated Financial Statements, which are included as Item 18 to this Amendment No. 1) and to revise certain disclosures and presentations in other parts of the Original Filing to be consistent with the Restated Financial Statements.

     The items amended and supplemented are as follows:

	•		Part I, Item 3.A. “Key Information—Selected Financial Data”
	•		Part I, Item 3.D. “Key Information—Risk Factors”
	•		Part I, Item 5.A. “Operating and Financial Review and Prospects—Operating Results”
	•		Part II, Item 15. “Controls and Procedures”
	•		Part III, Item 18. “Financial Statements”

     Please note that with respect to Part I, Item 3.D. “Key Information—Risk Factors,” the risk factors which have been updated from the Original Filing are included in “Risk Factors—Risks Relating to Recent Developments at GRAVITY.” In addition, this Amendment No. 1 amends the exhibit list under Item 19. “Exhibits” to reflect the filing of new certifications of the Chief Executive Officer and the Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002, and furnishing of new certifications of the Chief Executive Officer and the Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

     Other than as expressly set forth above, this Amendment No. 1 does not, and does not purport to, amend, update or restate the information in any other item of the Original Filing or reflect any events that have occurred after the date on which the Original Filing was made.

     The Company has submitted to the SEC various updates regarding the Company. You are urged, therefore, to also refer to such reports submitted by Company on Form 6-K as listed below:

	•		Report of foreign issuer on Form 6-K submitted to the SEC on April 6, 2006;
	•		Report of foreign issuer on Form 6-K submitted to the SEC on March 17, 2006;
	•		Report of foreign issuer on Form 6-K submitted to the SEC on March 16, 2006;
	•		Report of foreign issuer on Form 6-K submitted to the SEC on January 24, 2006;
	•		Report of foreign issuer on Form 6-K submitted to the SEC on January 6, 2006;
	•		Report of foreign issuer on Form 6-K submitted to the SEC on December 27, 2005;
	•		Report of foreign issuer on Form 6-K submitted to the SEC on December 21, 2005;
	•		Report of foreign issuer on Form 6-K submitted to the SEC on December 20, 2005;
	•		Report of foreign issuer on Form 6-K/A submitted to the SEC on November 15, 2005;
	•		Report of foreign issuer on Form 6-K submitted to the SEC on November 15, 2005;
	•		Report of foreign issuer on Form 6-K submitted to the SEC on November 10, 2005;

	•		Report of foreign issuer on Form 6-K submitted to the SEC on November 9, 2005;
	•		Report of foreign issuer on Form 6-K submitted to the SEC on October 25, 2005;
	•		Report of foreign issuer on Form 6-K submitted to the SEC on October 18, 2005;
	•		Report of foreign issuer on Form 6-K submitted to the SEC on October 4, 2005;
	•		Report of foreign issuer on Form 6-K submitted to the SEC on September 29, 2005;
	•		Report of foreign issuer on Form 6-K submitted to the SEC on September 26, 2005;
	•		Report of foreign issuer on Form 6-K submitted to the SEC on September 20, 2005;
	•		Report of foreign issuer on Form 6-K submitted to the SEC on September 13, 2005;
	•		Report of foreign issuer on Form 6-K/A submitted to the SEC on September 9, 2005;
	•		Report of foreign issuer on Form 6-K submitted to the SEC on September 7, 2005;
	•		Report of foreign issuer on Form 6-K submitted to the SEC on August 30, 2005;
	•		Report of foreign issuer on Form 6-K submitted to the SEC on August 26, 2005;
	•		Report of foreign issuer on Form 6-K submitted to the SEC on August 24, 2005;
	•		Report of foreign issuer on Form 6-K submitted to the SEC on August 22, 2005;
	•		Report of foreign issuer on Form 6-K submitted to the SEC on August 19, 2005;
	•		Report of foreign issuer on Form 6-K/A submitted to the SEC on August 8, 2005;
	•		Report of foreign issuer on Form 6-K submitted to the SEC on July 28, 2005;
	•		Report of foreign issuer on Form 6-K submitted to the SEC on July 22, 2005;
	•		Report of foreign issuer on Form 6-K/A submitted to the SEC on July 15, 2005;
	•		Report of foreign issuer on Form 6-K submitted to the SEC on July 15, 2005;
	•		Report of foreign issuer on Form 6-K submitted to the SEC on July 11, 2005; and
	•		Report of foreign issuer on Form 6-K submitted to the SEC on July 1, 2005.

RESTATEMENT OF PREVIOUSLY ISSUED FINANCIAL STATEMENTS

     In November 2005, the audit committee of the board of the directors of the Company (the “Audit Committee”) determined that the Company’s audited consolidated financial statements as of December 31, 2003 and 2004 and for each of the years ended December 31, 2002, 2003 and 2004 (the “Original Financial Statements”) needed to be restated. The need for a restatement arose from the discovery and subsequent investigation by the Audit Committee (the “Investigation”) of the diversion of revenues payable to the Company from certain licensees of its Ragnarok Online game to the former Chairman and former controlling shareholder of the Company, Mr. Jung Ryool Kim (the “former Chairman”). The impact of the diversion was that such revenues were improperly omitted from the Original Financial Statements.

     In January 2006, the Audit Committee, with the assistance of its special Korean counsel, Woo Yun Kang Jeong & Han (“Woo Yun”), its special United States counsel, Cleary Gottlieb Steen & Hamilton LLP and Deloitte Anjin LLC (“Deloitte”),

which was hired by Woo Yun to assist it on accounting matters, completed the Investigation. On January 23, 2006, the Audit Committee presented to the Company’s board of directors and senior management, the final investigation reports of Woo Yun and Deloitte, which summarized the results of the Investigation (the “Investigation Reports”). Based on the results of the Investigation, the Audit Committee recommended to the Company’s board of directors, and the board of the directors resolved that the Company would restate the Original Financial Statements, reflecting certain of the material findings in the Investigation Reports, as soon as practicable, with the assistance of a Korean affiliate of a major international accounting firm, which was hired by the Company as a consultant to assist it in preparing the Restated Financial Statements under accounting principles generally accepted in the United States, or U.S. GAAP.

     The Company has completed the preparation of the Restated Financial Statements, which it is filing as Exhibit 18 to this Amendment No. 1. As discussed in Note 2 of the Notes to the Restated Financial Statements, the Company’s consolidated balance sheets as of December 31, 2003 and 2004 and its consolidated statements of operations, cash flows and change in shareholders’ equity for 2002, 2003 and 2004 have been restated from the Original Financial Statements to reflect the following:

	•		The diversion of revenues attributable to the Company by the former Chairman during the years ended December 31, 2002, 2003 and 2004. The Restated Financial Statements include such revenue in the period when it would have been recognized by the Company, had the diversion not occurred. These amounts are recorded as “Misappropriated funds receivable” in the restated consolidated balance sheets as of December 31, 2003 and 2004. In addition, the Restated Financial Statements include the recognition of expense for royalty payments due to several third parties relating to the Company’s Ragnarok game that were not recognized as expenses in the relevant periods as a result of the diversion of revenues by the former Chairman. The Restated Financial Statements include such expenses as cost of revenue or interest expense, as applicable, in the period when the related revenue is recorded in the restated consolidated statement of operations for the years ended December 31, 2002, 2003 and 2004 and as an amount payable to the relevant parties in the restated consolidated balance sheets as of December 31, 2003 and 2004.
	•		The misappropriation of certain assets, previously recorded as fixed assets in the Company’s consolidated financial statements. The Restated Financial Statements include an adjustment from the Original Financial Statements related to the purchase by the Company of certain assets that were recorded as fixed assets in the Original Financial Statements. The Company determined, based on the Investigation Reports, that these assets could not be identified and management and the audit committee concluded that such assets should have been recorded as expense in the Company’s financial statements at their purchase date, as it is unlikely that the Company received any benefit from the purchase of the assets. Additionally, the Original Financial Statements included depreciation expense related to these assets in the years ended December 31, 2003 and 2004. Depreciation expenses have not been recorded in the Restated Financial Statements for the years ended December 31, 2003 and 2004 as the costs of such assets are fully expensed at their acquisition date in these statements.
	•		Improper and intentional early recognition of certain revenue in connection with the Company’s mobile games revenue and character merchandising, animation and other revenue relating to products in the year ended December 31, 2004. U.S. GAAP requires that revenue should not be recognized until delivery of the product or completion of service. The restated consolidated statement of operations for the year ended December 31, 2004 include adjustments to reduce the amount of revenue recognized in that year as the product contracted for had not been delivered by year end.
	•		The impact of the above adjustments on foreign currency gains(losses), net is recorded in the Restated Financial Statements due to the timing difference in the recognition of revenue and the receipt of the revenues by the Company.
	•		The impact of the above adjustments on the provision for income taxes has been reflected in the year in which the items are recorded in the Restated Financial Statements. Which consists of changes in the deferred tax assets and liabilities resulting from the misappropriation by the former Chairman, and increases in penalties and interest payable for inaccurate reporting of taxes in the years when the diversion took place.
	•		The Company had incorrectly recorded certain foreign tax credits in prior periods. Additionally, the Company had previously amended credits recorded in one period by adjusting the balance of the credits at the end of the subsequent period. The Restated Financial Statements now reflect the correct foreign tax credits in the year in which they should have been recorded.

     The Restated Financial Statements do not reflect all of the issues noted in the Investigation Reports, as certain findings could not ultimately be corroborated based on the available evidence. Subsequent to the discovery of the embezzlement, the former Chairman paid W7.8 billion to the Company in October 2005. In addition, the former Chairman has agreed to pay an additional amount to the Company, in part to reimburse the Company for certain of the costs and expenses incurred by the Company in connection with the Investigation.

     Please refer to Item 5 and Note 2 of the Notes to the Restated Financial Statements for a discussion of the adjustments to specific line items of the Restated Financial Statements.

PART I

ITEM 3. KEY INFORMATION

3.A. Selected Financial Data

     The following table sets forth our selected historical financial data for each of the last five fiscal years and reflects the restatement adjustments, as of December 31, 2003 and 2004 and for each of the years ended December 31, 2002, 2003, and 2004, described in the Explanatory Note to this Amendment No. 1 as well as in Note 2 of the Notes to the Restated Financial Statements included elsewhere in this Amendment No. 1. Such data should also be read in conjunction with “Operating and Financial Review and Prospects” and the Restated Financial Statements and the notes thereto.

     The balance sheet data as of December 31, 2000 and the statement of operations data for the period from our inception on April 4, 2000 through December 31, 2000 are derived from our unaudited financial statements and related notes thereto, which are not included in this Amendment No. 1. The balance sheet data as of December 31, 2001 and the statement of operations data for the year ended December 31, 2001 are derived from our audited financial statements and related notes thereto, which are not included in this Amendment No. 1. The balance sheet data as of December 31, 2002 are derived from our unaudited financial statements and related notes thereto, which are not included in this Amendment No. 1.

		As of and for the Years Ended December 31,
		2000(1)				2001				2002				2003				2004				2004(2)
		(Unaudited)								(Restated)				(Restated)				(Restated)				(Unaudited)
		(In millions of Won and thousands of US$, except share and per share data, operating
		data and percentages)
Statement of operations:
Revenues:
Online games — subscription revenue		W	—			W	—			W	7,310			W	18,560			W	16,253			US$	16,732
Online games — royalties and license fees			—				—				2,330				29,727				45,101				46,429
Mobile games			—				—				—				43				376				387
Character merchandising, animation and other revenue			405				167				427				1,185				2,696				2,775
Total revenues			405				167				10,067				49,515				64,426				66,323
Cost of revenues			336				—				1,738				6,958				10,116				10,414
Gross profit			69				167				8,329				42,557				54,310				55,909
Operating expenses:
Selling, general and administrative			211				354				4,870				11,360				13,660				14,062
Research and development			208				718				815				1,597				2,029				2,089
Operating income (loss)			(350	)			(905	)			2,644				29,600				38,621				39,758
Other income (expense)			—				(3	)			(2,424	)			(6,210	)			(4,879	)			(5,023	)
Income (loss) before income tax expenses, minority interest, and equity in loss of related joint venture			(350	)			(908	)			220				23,390				33,742				34,735
Income tax expenses			—				—				542				4,250				5,406				5,565
Income (loss) before minority interest and equity in loss of related joint venture			(350	)			(908	)			(322	)			19,140				28,336				29,170
Minority interest			—				—				—				—				(17	)			(18	)
Equity in loss of related joint venture			—				—				—				—				296				305
Net income (loss)		W	(350	)		W	(908	)		W	(322	)		W	19,140			W	28,057			US$	28,883
Earnings (loss) per share:
Basic and diluted per share		W	(350	)		W	(492	)		W	(96	)		W	3,730			W	5,056			US$	5.20
Basic and diluted per ADS			—				—				—				—				—				—
Weighted average number of shares outstanding (basic and diluted)			1,000,000				1,846,575				3,355,616				5,130,895				5,548,900				5,548,900
Balance sheet data:											(Unaudited)
Cash and cash equivalents		W	39			W	1,820			W	560			W	5,405			W	16,405			US$	16,888
Total current assets			75				2,383				7,916				17,824				46,868				48,247
Property and equipment, net			88				522				2,254				5,417				14,760				15,195
Total assets			208				3,055				13,617				36,424				68,644				70,665
Total current liabilities			38				1,123				8,251				10,575				12,221				12,581
Total liabilities			58				2,912				13,707				13,960				18,209				18,745

		As of and for the Years Ended December 31,
		2000(1)				2001				2002				2003				2004				2004(2)
		(Unaudited)								(Restated)				(Restated)				(Restated)				(Unaudited)
		(In millions of Won and thousands of US$, except share and per share data, operating
		data and percentages)
Total shareholders’ equity			150				143				(90	)			22,464				50,435				51,920
Selected operating data and financial ratios:
Aggregate peak concurrent Ragnarok Online users (3)			—				—				200,150				597,615				762,585				762,585
Average concurrent Ragnarok Online users (4 )			—				—				79,364				252,457				452,519				452,519
Gross profit margin(5)			17.0	%			100.0	%			82.7	%			85.9	%			84.3	%			84.3	%
Operating profit margin(6)			N/M				N/M				26.3				59.8				59.9				59.9
Net profit margin(7)			N/M				N/M				(3.2	)			38.7				43.5				43.5

Exchange Rates

     Fluctuations in the exchange rate between the Korean Won and U.S. dollar may affect the market price of our ADSs. These fluctuations will also affect the U.S. dollar conversion by the depositary of any cash dividends paid in Korean Won and the Korean Won proceeds received by the depositary from any sale of our common shares represented by our ADSs.

     In certain parts of this Amendment No. 1, we have translated Korean Won amounts into U.S. dollars for the convenience of the investors using noon buying rates. The “noon buying rate” is the rate in The City of New York used for cable transfers in foreign currencies as certified for customs purposes by the Federal Reserve Bank of New York. Unless otherwise stated, all translations from Korean Won to U.S. dollars were made at W971.4 to US$1.00, which was the noon buying rate in effect on March 31, 2006 as quoted by the Federal Reserve Bank of New York. The translation is not a representation that the Korean Won or U.S. dollar amounts referred to herein could have been or could be converted into U.S. dollars or Korean Won, as the case may be, at any particular rate, or at all. The table below sets forth, for the periods indicated, information concerning the noon buying rate for Korean Won, expressed in Won per one U.S. dollar.

Year Ended December 31,		At End of Period				Average(1)				High				Low
		(Won per US$1.00)
2001			1,313.5				1,292.0				1,369.0				1,234.0
2002			1,186.3				1,250.4				1,332.0				1,160.6
2003			1,192.0				1,192.1				1,262.0				1,146.0
2004			1,035.1				1,139.3				1,195.1				1,035.1
2005			1,010.1				1,023.7				1,059.8				997.0
2006 (through May 8, 2006)			927.4				967.6				1,002.9				927.4
January			958.9				981.8				1,002.9				958.9
February			970.9				969.8				976.3				962.0
March			971.4				974.7				982.0				966.8
April			942.8				952.6				970.4				939.6
May (through May 8, 2006)			927.4				937.1				942.7				927.4

Source: Federal Reserve Bank of New York.

Note:

3.B. Capitalization and Indebtedness

     Not applicable.

3.C. Reasons for the Offer and Use of Proceeds

     Not applicable.

3.D. Risk Factors

     Set forth below are certain risks and uncertainties relating to the Company’s business, which have been updated in light of the Investigation and the subsequent decision to issue a restatement of the Original Financial Statements. These are not the only risks and uncertainties the Company faces. In particular, you should refer to Item 15 Controls and Procedures for information regarding certain material weaknesses in our internal controls over financial reporting. Additional risks and uncertainties not presently known to the Company or that the Company currently deems immaterial may also impair the Company’s business. If any of the following risks actually occur, the Company’s business, operating results or financial condition could be materially adversely affected.

Risks Relating to Recent Developments at GRAVITY

Our senior management team is required to devote a significant amount of attention to matters arising from events related to the Investigation

     As of the date of this Amendment No. 1, our Chief Executive Officer, our Chief Financial Officer and all members of our Audit Committee have changed from the time of our Original Filing. Our new senior management team’s ability to manage the Company’s business has been and continues to be hindered by their need to spend significant time, effort and resources addressing our internal review of events related to the Investigation which led to the issuance by the Company of the Restated Financial Statements, including communicating with regulators, auditors and other external advisors, developing effective corporate governance procedures and designing and implementing effective internal control over financial reporting. In addition, certain of our senior management team and our board of directors, including all members of our Audit Committee,

have recently joined the Company, and such members of our senior management and board of directors, by virtue of their relatively short tenure in their respective positions, may be required to expend more time and resources to undertake such efforts as they are not as familiar with our business. We cannot assure you that the demands on our senior management and directors to address such matters will not adversely affect our business, prospects, financial condition and results of operations.

Harm from continued regulatory scrutiny and securities litigation

     We have received and continue to receive requests and inquiries from the SEC, National Association of Securities Dealers, Inc. (“NASD”), shareholders and others seeking information regarding our financial condition and results of operations, accounting and related internal controls over financial reporting and details related to the Investigation and the Restated Financial Statements. We cannot predict if such inquiries will ultimately lead to formal investigations and enforcement actions by the SEC or the NASD, or other government agencies or lead to lawsuits filed by our shareholders. If such formal investigations or enforcement actions occur or lawsuits are brought, we may be required to pay material fines, consent to injunctions on future conduct, be subject to other penalties or be required to expend time and resources on defending against such litigation, each of which could have a material adverse effect on our business, financial condition and results of operations.

     Furthermore, we are currently subject to a class action lawsuit pending in the United States District Court for the Southern District of New York titled In Re Gravity Co., Ltd. Securities Litigation (Consolidated Civ. Act. No. 1:05-CV-4804 (LAP.)). This action combines three separate lawsuits filed in the Southern District in May, 2005, which were consolidated by an order of the Court entered on December 12, 2005. The plaintiffs seek to represent a class of persons who purchased our ADSs in the open market between February 7, 2005 and May 12, 2005. Each of the complaints alleged violations of the Securities Act of 1933 and the Exchange Act of 1934 against us and the former individual directors and officers. The claims arise out of an initial public offering of our ADSs in the United States beginning February 7, 2005. Plaintiffs allege that, in connection with the public offering of the ADSs, we misstated or omitted material information relating to various aspects of our business, including an alleged decline in sales of our core online product, and material adverse trends affecting our mobile animation business and Chinese operations. Plaintiffs seek, for themselves and the class members, compensatory damages, fees and expenses and other unspecified relief. Following the consolidation of the actions, a Stipulation and Order was entered by the Court in which, among other things, it provided for the filing of a single consolidated amended complaint by the later of February 28, 2006 or 45 days after we announce a restatement of our previously issued financial statements. As of the date of this Amendment No. 1, the consolidated amended complaint has not yet been filed or served. We cannot at this time determine what the final conclusion of such litigation will be, including any damages which may need to be paid or any amounts which may be paid in settlement. A judgment against us in such litigation may result in significant damages. Also, any settlement amounts, if we were to agree to settle, may be significant and may have a material adverse affect on our financial condition, results of operations and liquidity.

Risks related to our business

We currently depend on one product, Ragnarok Online, for substantially all of our revenues.

     Substantially all of our revenues are currently derived from a single product, Ragnarok Online. In 2004, we derived approximately 95.2% of our revenues from Ragnarok Online. We expect to continue to derive a substantial majority of our revenues from Ragnarok Online through at least 2005. Failure by us to maintain, improve, update or enhance Ragnarok Online in a timely manner or successfully enter new markets could reduce Ragnarok Online’s user base, decrease its popularity, or reduce revenues generated from it and materially and adversely affect our business, financial condition and results of operations.

We depend on license fees and royalty payments from our overseas licensees for a substantial portion of our revenues.

     In markets other than Korea, the United States and Canada, we license Ragnarok Online to overseas operators or distributors from whom we receive license fees and royalty payments based on a percentage of such operators’ revenues from Ragnarok Online pursuant to license arrangements. Such overseas license fees and royalty payments represented 70.0% of our revenues in 2004. In 2004, we derived 28.5% of our total revenues from GungHo Online Entertainment Inc., our licensee in Japan, and 22.7% of our total revenues from Soft-World International Corporation, our licensee in Taiwan. Deterioration in financial condition or adverse developments in the results of operations of our overseas licensees may materially and adversely affect our business, financial conditions and results of operations.

In many of our markets, we rely heavily on our overseas licensees to operate and distribute our games.

    We rely on our overseas licensees for substantially all aspects of our overseas operations, including:

•		holding the required government licenses for the operation and distribution of our games,
•		publishing, advertising and marketing our games,
•		establishing the pricing of our games after consultation with us,
•		owning and operating the server network and other aspects of game management and maintenance,
•		providing customer service and trouble-shooting,
•		maintaining network security and providing back-up for game data and software, and
•		billing and collecting subscription fees from users and remitting royalty payments to us.

     Under the license arrangements, our overseas licensees may operate or publish other online games developed or offered by our competitors. Therefore, our overseas licensees may devote greater time and resources to marketing their proprietary games or those of our competitors than to ours.

     Our overseas licensees are responsible for complying with local laws, including obtaining and maintaining the requisite government licenses and permits. Failure by our overseas licensees to do so may have a material adverse effect on our business, financial condition and results of operations.

     Our overseas licensees are responsible for remitting royalty payments to us based on a percentage of sales from our games, after deducting certain expenses. We generally are advised by each of our licensees as to the amount of royalties earned by us from such licensee within 30 to 45 days following the end of each month. Online payment systems in China and certain other countries are still in a developmental stage and are not as widely available or used. Payment for online game services in these countries typically take the form of prepaid cards sold in Internet cafés, convenience stores and other distribution channels. Some of our overseas licensees rely heavily on a multilayer distribution and payment network composed of third party distributors for sales to, and collection of payments from, users. Failure by our licensees to maintain a stable and efficient billing, recording, distribution and payment collection network in these markets may result in inaccurate recording of sales or insufficient collection of payments from these markets and may materially and adversely affect our financial condition and results of operations.

     Our reliance on third parties that we do not control exposes us to certain risks that we would not encounter if we were to operate or distribute directly in such markets. If our overseas licensees fail to perform their contractual obligations or suffer from management or other problems in their businesses, our business operations in overseas markets and our ability to collect royalty payments from such markets may be materially and adversely affected. We may not be able to easily terminate our license agreements with our overseas licensees as these agreements do not specify particular financial or performance criteria that need to be met by our licensees. As our overseas licensees generally have the exclusive right to distribute our games in their respective markets typically for a term of two years, we may not be able to enter into a new license agreement in a particular country for the term of the agreement unless it is terminated earlier. In general, we may not unilaterally terminate our license agreements.

If we are unable to consistently develop, acquire, license, launch, market or operate commercially successful online games in addition to Ragnarok Online, our business, financial condition and results of operations may be materially and adversely affected.

     In order to maintain our growth and profitability, we must continually develop or publish commercially successful new online games in addition to Ragnarok Online that will retain our existing users and attract new users. To date, we have acquired a controlling interest of a third party developer that develops R.O.S.E, from whom we used to have an exclusive license to distribute R.O.S.E. Online and are internally developing Requiem and Ragnarok Online 2, a sequel to Ragnarok Online. A game’s commercial success largely depends on appealing to the tastes and preferences of a critical mass of users as well as the willingness of such users to continue as paying subscribers after the completion of the free open beta testing stage, all of which are difficult to predict prior to a game’s development and introduction. Developing games internally requires substantial development costs, including the costs of employing skilled developers and acquiring or developing game engines which enable the creation of products with the latest technological features. In order to succeed, we must acquire, license or

develop promising games at an acceptable cost and ensure technical support for the successful operation of such games. The online game publishing market is highly competitive and we may not be able to acquire or license promising games at an acceptable cost. In order to successfully distribute and operate a game, we also need a sizable game management and support staff, continued investment in technology and a substantial marketing budget. We cannot assure you that the games we develop or publish will be attractive to users or otherwise be commercially successful, launched as scheduled or able to successfully compete with games operated by our competitors. If we are not able to consistently develop, acquire, license, launch, market or operate commercially successful online games, we may not be able to generate enough revenues to offset our initial development, acquisition, licensing or marketing costs, and our future business, financial condition and results of operations will be materially and adversely affected.

We operate in a highly competitive industry and compete against many large companies.

     There are many companies in the world, including over 100 companies in Korea alone, that are dedicated to developing and/or operating online games. We expect more companies to enter the online game industry and a wider range of online games to be introduced in our current and future markets. Our competitors in the massively multiplayer online role playing game industry vary in size from small companies to very large companies with dominant markets shares such as NCsoft and Shanda. We also compete with online casual game and game portal companies such as NHN, Nexon and CJ Internet. In addition, we may face stronger competition from console game companies, such as Sony, Microsoft, Electronic Arts, Nintendo and Sega, many of which have announced their intention to expand their game services and offerings over broadband Internet. Many of our competitors have significantly greater financial, marketing and game development resources than we have. As a result, we may not be able to devote adequate resources to develop, acquire or license new games, undertake extensive marketing campaigns, adopt aggressive pricing policies or adequately compensate our or third-party game developers to the same degree as certain of our competitors.

     As the online game industry in many of our markets is relatively new and rapidly evolving, our current or future competitors may compete more successfully as the industry matures. In particular, any of our competitors may offer products and services that have significant performance, price, creativity or other advantages over those offered by us. These products and services may weaken the market strength of our brand name and achieve greater market acceptance than ours. In addition, any of our current or future competitors may be acquired by, receive investments from or enter into other strategic relationships with larger, longer-established and better-financed companies and therefore obtain significantly greater financial, marketing and game licensing and development resources than we have. Increased competition in the online game industry in our markets could make it difficult for us to retain existing users and attract new users, and could reduce the number of hours users spend playing our current or future games or cause us and our licensees to reduce the fees charged to play our current or future games. In some of the countries in which our games are distributed, such as Korea and Taiwan, growth of the market for online games has slowed while competition continues to be strong. If we are unable to compete effectively in our principal markets, our business, financial condition and results of operations could be materially and adversely affected.

We have a limited operating history, which may make it difficult for you to evaluate our business.

     We have a limited operating history upon which you can evaluate our business and prospects. Our business was established in April 2000 but Ragnarok Online was commercially introduced in August 2002. Our senior management and employees have worked together at our company for a relatively short period of time, including as a result of frequent changes in senior management to date. In addition, the online game industry, from which we derive substantially all of our revenues, is a relatively new industry. The first massively multiplayer online role playing game in Korea was developed and distributed by one of our competitors in 1996. Since then, only a limited number of companies have successfully commercialized such online games on an international scale. You must consider our business prospects in light of the risks and difficulties we will encounter as an early-stage company in a new and rapidly evolving industry. We may not be able to successfully address these risks and difficulties, which could materially harm our business, financial condition and results of operations.

Rapid technological change may adversely affect our future revenues and profitability.

     The online game industry is subject to rapid technological change in areas including hardware, software and content programming. We need to anticipate the emergence of new technologies and games, assess their likely market acceptance, and make substantial game development and related investments. In addition, new technologies in online game programming or operations could render our current or future games obsolete or unattractive to our subscribers, thereby limiting our ability to recover game-related development, acquisition or licensing costs and potentially materially and adversely affecting our business, financial condition and results of operations.

If we fail to retain and hire skilled and experienced game developers or other key personnel in order to design and develop new online games and additional game features, we may be unable to achieve our business objectives.

     In order to meet our business objectives and maintain our competitiveness in the future, we will need to continue to attract and retain skilled and experienced online game developers and other key personnel. We rely on the collective efforts of our game development teams led by the following officers: (i) for Ragnarok Online, Sang Gil Hong, Myung Shin Lee, Jae Woo Ahn, Min Soo Lee, and Dae Hee Chung, (ii) for Ragnarok Online II, Young Woo Park, Jae Chong Rhee, Seung Yoon Woo, Jeong Beom Seo, and Jea Jin Yoo, (iii) for Requiem, Sang Jin Yoon, Myong Park Jung, Yeung Hoon Cha, Chan Gu Jung, and Ja Hwan Gu, and (iv) for overall art direction and graphics of all of our games, Joon Ho Jeong and Myoung-Jin Lee. While certain of our current senior technical officers or staff members are bound by non-competition agreements for six months after termination of employment with us, since our industry is characterized by high demand and intense competition for talent, we may need to offer higher compensation and other benefits in order to retain or replace key personnel. Since our inception in April 2000, our chief executive officer has changed on five occasions and several other executive officers have also changed. In addition, as we are still a relatively young company and our business has grown rapidly since our establishment, at times our ability to train and integrate new employees into our operations may not meet the growing demands of our business.

Undetected programming errors or flaws in our games could harm our reputation or decrease market acceptance of our games, which would materially and adversely affect our results of operations.

     Our current and future games may contain errors or flaws, which may become apparent only after their release. In addition, our online games are developed using programs and engines developed by and licensed from third party vendors, which may include programming errors or flaws over which we have no control. If our users have a negative experience with our games related to or caused by undetected programming errors or flaws, they may be less inclined to continue or resume subscriptions for our games or recommend our games to other potential users. Undetected programming errors and game defects can also harm our reputation, cause our users to cease playing our games, divert our resources or delay market acceptance of our games, any of which could materially and adversely affect our business, financial condition and results of operations.

     Unexpected network interruptions, security breaches or computer virus attacks could harm our business.

     Any failure to maintain satisfactory performance, reliability, security and availability of our network infrastructure, whether maintained by us or by our overseas licensees, may cause significant harm to our reputation and our ability to attract and maintain users. Major risks relating to our network infrastructure include:

	•		any breakdowns or system failures, including from fire, flood, earthquake, typhoon or other natural disasters, power loss or telecommunications failure, resulting in a sustained shutdown of all or a material portion of our servers;
	•		any disruption or failure in the national or international backbone telecommunications network, which would prevent users in certain countries in which our games are distributed from logging onto or playing our games for which the game servers are all located in other countries; and
	•		any security breach caused by hacking, loss or corruption of data or malfunctions of software, hardware or other computer equipment, and the inadvertent transmission of computer viruses.

     From time to time, we detect users that gain an unfair advantage by modifying Ragnarok Online execution files saved on the users’ computers to facilitate progression of game characters. Unauthorized character manipulation may negatively impact the image and users’ perception of Ragnarok Online and could limit our growth. In addition, the number of Ragnarok Online users may be reduced since the deletion of unauthorized character enhancements requires the affected users to restart with a new character at the beginner level and may cause them to cease playing Ragnarok Online.

     Any of the foregoing factors that could interrupt the availability of our games or deteriorate the actual or perceived quality of access to our games, which could reduce our users’ satisfaction and harm our business.

Unauthorized use of our intellectual property by third parties, and the expenses incurred in protecting our intellectual property rights, may adversely affect our business.

     We regard our copyrights, service marks, trademarks, trade secrets and other intellectual property as critical to our

success. Unauthorized use of the intellectual property used in our business, whether owned by us or licensed to us, may materially and adversely affect our business and reputation.

     We rely on trademark and copyright law, trade secret protection and confidentiality agreements with our employees, customers, business partners and others to protect our intellectual property rights. Despite our precautions, it may be possible for third parties to obtain and use our intellectual property without authorization. For example, in April 2003 we discovered that the server-end software of Ragnarok Online was unlawfully released into Korea, China and the United States. The software piracy enabled unauthorized third parties to set up local server networks to operate Ragnarok Online, which may have resulted in a diversion of a significant number of paying subscribers. Since then, we have designated certain employees to be responsible for detecting these illegal servers and reporting them to the relevant enforcement authority in Korea in charge of crimes on the Internet. In overseas markets, we cooperate with and rely on our overseas licensees to seek enforcement actions against operators of illegal free servers. We may incur considerable costs in the future to remedy software piracy and to enforce our rights against the operators of unauthorized server networks.

     The validity, enforceability, enforcement mechanisms and scope of protection of intellectual property in Internet-related industries are uncertain and evolving. In particular, the laws and enforcement procedures of Korea, Japan, Taiwan, Thailand, China and certain other countries in which our games are distributed are uncertain or do not protect intellectual property rights to the same extent as do the laws and enforcement procedures of the United States. Moreover, litigation may be necessary in the future to enforce our intellectual property rights. Future litigation could result in substantial costs and diversion of our resources, and could disrupt our business, as well as have a material adverse effect on our financial condition and results of operations.

We may be subject to future intellectual property rights claims, which could result in substantial costs and diversion of our financial and management resources.

     We cannot be certain that our online games do not or will not infringe upon patents, copyrights or other intellectual property rights held by third parties. We may become subject to legal proceedings and claims from time to time relating to the intellectual property of others in the ordinary course of our business. If we are found to have violated the intellectual property rights of others, we may be enjoined from using such intellectual property, and we may incur licensing fees or be forced to develop alternatives. In addition, we may incur substantial expenses in defending against these third party infringement claims, regardless of their merit. Successful infringement or licensing claims against us may result in substantial monetary liabilities, which may materially disrupt the conduct of our business.

     Certain of our employees were recruited from other online game developers, including certain of our current or potential competitors. To the extent these employees have been and are involved in the development of our games similar to the development in which they have been involved at their former employers, we may become subject to claims that such employees or we have improperly used or disclosed trade secrets or other proprietary information. Although we are not aware of any pending or threatened claims of this type, if any such claims were to arise in the future, litigation or other dispute resolution procedures might be necessary to retain our ability to offer our current and future games, which could result in substantial costs and diversion of our financial and management resources.

The discontinuation of any of the preferential tax treatments currently available to us in Korea could materially and adversely affect our business, financial condition and results of operations.

     Under Korean law and regulations, a small- and medium-sized venture company may be entitled to enjoy a preferential tax treatment from the Korean government in the form of a 50% reduction in corporate income tax rates for the year in which it first generates taxable income and the following five years if such company satisfies a number of financial and non-financial criteria, including the maintenance of its status as a designated venture company. In 2003, when we first generated taxable income, we qualified for the preferential tax treatment and enjoyed the 50% reduction in corporate income tax rates. In 2004, we also qualified for this preferential treatment and our applicable corporate income tax rate (including resident surtax) was 14.85% after the 50% reduction. A company that engages in data processing or computer related businesses, including us, may qualify as a small-and medium-sized enterprise under the Framework Act on Small- and Medium-Sized Enterprises if, among other things, (i) we hire less than three hundred full-time employees or (ii) our total revenue does not exceed W30 billion (US$31 million). In 2004, we failed to satisfy both of these tests. However, even if a company fails to satisfy both of the preceding requirements, it will continue to enjoy its status as a small- and medium-sized enterprise for the following three years so long as that company neither (x) merges into, nor consolidates with, another company nor (y) becomes an affiliate of certain large enterprises. Accordingly, we will continue to qualify as a small- and medium-sized company through 2007 if we do neither of those things. However, after 2004, we may not be able to qualify for the preferential tax treatment because our status as a designated venture company is subject to renewal in 2005 and there is no

guarantee that we will so qualify based on the non-financial criteria, which involve a relatively subjective determination by the regulatory authority as to whether we possess a “superior innovative technological ability”. A designated venture company, including us, must qualify every two years based on the evaluation described above. Accordingly, our tax rate may increase substantially. The discontinuation of this preferential tax treatment could materially and adversely affect our net income. See Item 5.A. “Operating Results—Overview—Income tax expenses”.

Our limited resources may affect our ability to manage our growth.

     Our growth to date has placed, and the anticipated further expansion of our operations will continue to place, a significant strain on our management, systems and resources. In addition to training and managing our workforce, we will need to continue to develop and improve our financial and management controls as well as our reporting systems and procedures, which will especially be the case since we have become a public company after our initial public offering in February 2005. We cannot assure you that we will be able to efficiently or effectively manage the growth of our operations, and any failure to do so may limit our future growth and materially and adversely affect our business, financial condition and results of operations.

We may not be able to successfully implement our growth strategies.

     We are pursuing a number of growth strategies, including the following:

	•		distributing games developed in-house,
	•		publishing games acquired from third parties or developed by third parties through licensing arrangements,
	•		offering our games in countries where we currently have little or no presence,
	•		expanding into games offered over other platforms, such as game consoles,
	•		taking advantage of our popular online games to strengthen our other lines of businesses, such as mobile games, animation and character merchandising, and
	•		selectively pursuing acquisitions of, investments in, or joint ventures with, game development companies, technologies and personnel that are complementary to our existing business if the opportunity arises.

     We cannot assure you that we will be successful in any of these strategies. Some of these strategies relate to new services or products for which there are no established markets, or in which we lack experience and expertise. Our growth potential in many of the markets in which Ragnarok Online is currently distributed or which we intend to enter may be limited since the penetration rate for personal computers is relatively low and the cost of Internet access relative to the per capita income is higher in such markets when compared to some of our principal markets such as Korea and Japan. If we decide to pursue acquisitions, investments or joint ventures to achieve growth, the success of such acquisitions, investments or joint ventures will depend on the availability of suitable acquisition and investment candidates at an acceptable cost, our ability to compete effectively to attract and reach agreement with acquisition candidates or joint venture partners on commercially reasonable terms, and the availability of financing to complete such acquisitions, joint ventures or investments. In certain cases, we may have liabilities that exceed the percentage of our investments, including our interest in a joint venture and may be bound by the decisions of our joint venture partners or other controlling shareholders of our investee companies that we do not necessarily agree with. We cannot be certain that any particular acquisition, investment or joint venture will produce the intended benefits on a timely basis or at all. For example, in May 2003, we invested W1 billion in cash in an online game portal business. Due to poor performance by the investee company, we sought to nullify the investment arrangement in December 2003 and recovered W223 million in cash and recorded the remaining W777 million as an impairment loss. In addition, we may not be able to renew licenses from our licensors at an acceptable cost in a timely manner or at all or obtain from the licensors the technical support necessary for the satisfactory operation of these games. If we are unable to successfully implement our growth strategies, our revenues, profitability and competitiveness may be materially and adversely affected.

We have limited business insurance coverage in Korea.

     The insurance industry in Korea is still at an early stage of development. In particular, Korean insurance companies offer limited business insurance products. As a result, we do not have any business liability or disruption insurance coverage for our operations in Korea. In 2003 and 2004, we derived 33.3% and 21.0% of our total revenues from Korea, respectively. Any

business disruption, litigation or natural disaster might result in our incurring substantial costs and the diversion of our resources.

We may be required to take significant actions that are contrary to our business objectives in order to avoid being deemed an investment company as defined under the Investment Company Act of 1940, as amended.

     Generally, the Investment Company Act provides that a company is not an investment company and is not required to register under the Investment Company Act as an investment company if:

	•		the company is primarily engaged, directly or through a wholly-owned subsidiary or subsidiaries, in a business or businesses other than that of investing, reinvesting, owning, holding or trading in securities, and
	•		40% or less of the fair market value of the company’s assets is represented by investment securities.

     We believe that we are engaged primarily and directly in the businesses of providing online game services, that less than 40% of the fair market value of our assets is represented by investment securities and, consequently, that we are not an investment company as that term is defined under the Investment Company Act. However, in the future we may be required to take actions to avoid the requirement to register as an investment company, such as shifting a significant portion of our long- and short-term investment portfolio into low-yielding bank deposits or other short-term securities which are not considered to be investment securities due to their liquidity and certain other characteristics. These types of investments may reduce the amount of interest on other income that we could otherwise generate from our investment activities. In addition, we may need to acquire additional income or loss generating assets that we might not otherwise have acquired or forego opportunities to acquire minority interests in companies that could be important to our strategy.

     The Investment Company Act also contains regulations with respect to investment companies, including restrictions on their capital structure, operations, transactions with affiliates and other matters which would be incompatible with our operations. If we were to be deemed an investment company in the future, we would, among other things, effectively be precluded from making public offerings in the United States. We could also be subject to administrative or legal proceedings and, among other things, contracts to which we are a party might be rendered unenforceable or subject to rescission.

We may be considered a passive foreign investment company, which could lead to additional taxes for you.

     Based upon the nature of our business activities, we may be classified as a passive foreign investment company, or PFIC, by the United States Internal Revenue Service, or IRS, for U.S. federal income tax purposes. Such characterization could result in adverse U.S. tax consequences to you if you are a U.S. investor. For example, if we are a PFIC, our U.S. investors will become subject to increased tax liabilities under U.S. tax law and regulations and will become subject to burdensome reporting requirements. The determination of whether or not we are a PFIC is made on an annual basis and will depend on the composition of our income and assets from time to time. Specifically for any taxable year, we will be classified as a PFIC for U.S. tax purposes if either (i) 75% or more of our gross income in the taxable year is passive income or (ii) the average percentage of our assets by value in the taxable year which produce or are held for the production of passive income (which includes cash) is at least 50%. The calculation of the value of our assets will be based, in part, on the then market value of our common shares or ADSs, which is subject to change. In addition, the composition of our income and assets will be affected by how, and how quickly, we spend the cash we raised in our initial public offering in February 2005. Based on the projected composition of our income and valuation of our assets, including goodwill, we do not expect to be a PFIC in 2005, or believe that we were a PFIC in 2004, and we do not expect to become one in the future. However, the determination of whether we are a PFIC is made annually and it is possible that we may become a PFIC in 2005 or any future taxable year due to changes in our asset or income composition. If we are a PFIC for any taxable year during which you hold our ADSs or shares, you could be subject to adverse U.S. tax consequences. See Item 10.E. “Taxation—U.S. federal income and estate tax considerations—Passive foreign investment companies”.

We and our auditors have identified certain material weaknesses in our internal controls and if we fail to achieve and maintain an effective system of internal controls, we may be unable to accurately report our financial results or reduce our ability to prevent or detect fraud, and investor confidence and the market price of our ADSs may be adversely affected.

     Prior to our initial public offering in the United States, we were a non-public company incorporated in Korea and thus have traditionally reported our financial statements under Korean GAAP. As a result, we were subject only to minimum corporate governance and reporting standards applicable to unlisted companies in Korea. In the process of converting from a non-public company in Korea to a public company in the US, we have discovered areas of our internal controls and reporting

that need improvement. As examples, our expertise in U.S. GAAP reporting is limited and our current enterprise accounting system is configured to report financial results in Korean GAAP and has not yet been customized to support U.S. GAAP reporting. As a result, in connection with the preparation of financial statements under U.S. GAAP, we have used external consultants to assist us in the preparation of financial statements and have had to use certain manual procedures in preparing our financial statements. In connection with their audit of our financial statements prepared under U.S. GAAP, our independent registered public accountants identified certain material weaknesses (as defined under standards established by the Public Company Accounting Oversight Board) in our finance team’s ability to support the financial reporting requirements of a U.S. registrant. As a result of, among other things, the complexity of our business and the related accounting effects, the significant growth in our business and shortage in staffing of qualified accounting personnel, our independent accountants have specifically referenced the following areas:

	•		our knowledge of general accounting and specific U.S. GAAP issues and our lack of internal accounting resources and reliance on external resources for accounting, U.S. GAAP, advice and bookkeeping support; and
	•		our reliance on spreadsheet programs, which are generally more prone to errors due to the absence of effective controls over such spreadsheet access and use, to perform consolidation and prepare U.S. GAAP financial statements.

     Our management and audit committee are currently executing plans to improve the identified weaknesses in internal controls through efforts to hire personnel with appropriate levels of U.S. GAAP experience and accounting expertise and engaging outside resources to upgrade our enterprise reporting system to support U.S. GAAP reporting. However, we cannot be certain that these measures will ensure that we implement and maintain adequate controls over our financial processes and reporting in the future. As we are now subject to the reporting and other obligations under U.S. federal securities laws, including the Sarbanes-Oxley Act of 2002, we are subject to more stringent obligations than those applicable to unlisted companies in Korea. If we fail to create an effective system of internal controls, we may not be able to accurately report our financial results or prevent fraud, and investor confidence and the market price of our ADSs may be adversely affected.

Risks related to our regulatory environment

Our operations are subject to the regulation of the Internet in certain of the countries in which our games are distributed, such as Korea, China, Taiwan, Japan and Thailand, the impact of which is difficult to predict.

     The regulatory and legal regimes in nearly all of the countries in which our games are distributed have yet to establish a sophisticated set of laws, rules or regulations designed to regulate, among other things, the social, political and financial risks relating to the online game industry. However, in many of our key markets, such as Korea, China, Taiwan and Thailand, the legislators and regulators have, either through public announcements or press releases, indicated their intention to implement laws, rules or regulations regulating and restricting this industry, which include laws or regulations relating to issues such as user privacy, defamation, pricing, advertising, taxation, promotions, financial market regulation, consumer protection, content regulation, quality of products and services, and intellectual property ownership and infringement that may directly or indirectly impact our activities. In some of these countries, distribution of information over the Internet and electronic commerce are currently under legal and regulatory review. Other countries in which our games are distributed or which we intend to enter may adopt similar laws and regulations. The impact of such laws and regulations on our business and results of operations is difficult to predict. However, as we might unintentionally violate such laws or such laws may be modified and new laws may be enacted in the future, any such developments, or developments stemming from enactment or modification of other laws, could increase the costs of regulatory compliance, force changes in business practices or otherwise have a material adverse effect on our business and results of operations.

Our online games may be subject to governmental restrictions or rating systems, which could delay or prohibit the release of new games or reduce the existing and potential range of our user base.

     Legislation is periodically introduced in many of the countries in which our games are distributed to establish a system for protecting consumers from the influence of graphic violence and sexually explicit materials contained in various types of games. For instance, Korean law requires online game companies to obtain rating classifications and implement procedures to restrict the distribution of online games to certain age groups. Similar mandatory rating systems and other regulations affecting the content and distribution of our games have also been adopted or are under review in Taiwan, China, the United States and other markets for our online games. In Thailand, the Thai government has strengthened regulations by setting restricted hours for children under 18 years of age and may introduce additional measures for regulating online game operators. For example, a government minister recently announced a plan to impose additional taxes on online game operators. In the future, we may be required to modify our games or alter our marketing strategies to comply with new governmental regulations or new ratings assigned to our current or future games that may call for restrictions or modifications

to our game content or features, which could delay or prohibit the release of new games or upgrades and reduce the existing and potential range of our user base. Moreover, uncertainties regarding governmental restrictions or rating systems applicable to our business could give rise to market confusion, thereby materially and adversely affecting our business.

The legal systems in some of the countries where our games are distributed have uncertainties which could limit the legal protections available to us.

     The laws, regulations and legal requirements in many of the countries in which our games are distributed are constantly changing, and their interpretation and enforcement involve uncertainties. These uncertainties could limit the legal protections available to us. We cannot predict the effect of future developments in the legal systems in these countries, particularly with regard to the Internet, including the promulgation of new laws, changes to existing laws or the interpretation or enforcement thereof, or the preemption of local regulations by national laws. If the cost of regulatory compliance increases for our licensees as a result of regulatory changes, our licensees may in the future seek to reduce royalties and license fees, which may materially and adversely affect our licensee’s business and our results of operations and financial condition.

If the ROC Consumer Protection Commission imposes additional regulatory burdens on our licensee in Taiwan, our licensee in Taiwan may require us to reduce the license fee or royalties, or share the cost of regulatory compliance.

     In 2003 and 2004, we derived 24.2% and 22.7% of our total revenues from our licensee in Taiwan. As a result of increasing disputes between the online game companies and consumers in Taiwan, the ROC Consumer Protection Commission of the Executive Yuan may promulgate certain standard provisions that must be included in a consumer contract that online game companies must use in order to operate or a model consumer contract that online game companies are encouraged to adopt. If these standard provisions or model consumer contract are implemented, the cost of regulatory compliance may significantly increase for our Taiwanese licensee. Our Taiwanese licensee may in the future seek to reduce royalties and license fees, which may materially and adversely affect our licensee’s business and our results of operations and financial condition.

Our business may be adversely affected by complexities, uncertainties and changes in law and regulations of China regulating Internet companies and businesses operating in China, including those related to online games.

     In 2003 and 2004, we derived 4.2% and 4.4% of our total revenues from our licensee in China. The Chinese government, through various regulatory authorities, heavily regulates the Internet sector, which includes the online game industry. These laws and regulations include the following:

	•		restrictions on content on the Internet, including restriction on distribution of online games containing content that purports to propagate obscenity, gambling or violence, instigate crime, undermine public morality or the cultural traditions of China, or compromise state security or secrets;
	•		license and permit requirements for companies in the Internet industry, including for importing and operating online games, from various regulatory authorities; and
	•		restrictions on and supervision of Internet cafés, including closing of unlicensed Internet cafés and requiring installation of security software to prevent access to subversive sites.

     In addition, there are uncertainties in the interpretation and application of existing Chinese laws, regulations and policies regarding the businesses and activities of Internet companies and businesses in China, including those related to our online games. Any violations of the foregoing laws and regulations as well as other laws and regulations to be introduced in the future could materially and adversely affect the business and results of operations of our Chinese licensee and us.

Restrictions on currency exchange in certain of the countries in which our games are distributed may limit our ability to receive and remit revenues effectively.

     The governments in certain countries, including Taiwan, Thailand and China, in which our games are distributed, impose controls on the convertibility of the local currency into foreign currencies and, in some cases, the remittance of currency outside of their countries. Under current foreign exchange control regulations, shortages in the availability of foreign currency may restrict the ability of our overseas licensees to pay license fees and royalties to us in U.S. dollars. Restrictions on our ability to receive license fees, royalties and other payments from our overseas licensees would adversely affect our financial condition and liquidity.

Restrictions on currency exchange in Korea in certain emergency circumstances may limit our ability to utilize effectively revenues generated in the Korean Won to fund our business activities outside Korea or expenditures denominated in foreign currencies.

     The existing and any future restrictions on currency exchange in Korea, including Korean exchange control regulations, may restrict our ability to convert the Korean Won into foreign currencies under certain emergency circumstances, such as an outbreak of natural calamities, wars, conflict of arms or grave and sudden changes in domestic or foreign economic circumstances, difficulties in Korea’s international balance of payments and international finance and obstacles in carrying out currency policies, exchange rate policies and other macroeconomic policies of Korea. Such restrictions may limit our ability to utilize effectively revenues generated in the Korean Won to fund our business activities outside Korea or expenditures denominated in foreign currencies.

Adverse changes in the withholding tax rates in the countries from which we receive license fees and royalties could adversely affect our net income.

     To the extent we derive revenues from countries other than Korea, we may be subject to income withholding in those countries. Income tax expenses include such withholding taxes. Withholding of such taxes is done by our overseas licensees at the current withholding rates in such countries. To the extent Korea has a tax treaty with any such country, the withholding rate prescribed by such tax treaty may apply. Under the Corporation Tax Law of Korea, we are entitled to, and recognize, a tax credit computed based on the amount of income withheld overseas when filing our income tax return in Korea, up to a limited amount. Accordingly, the amount of taxes withheld overseas may be offset against tax payable in Korea. Adverse changes in tax treaties between Korea and the countries from which we receive license fees and royalties, in the rate of withholding tax in the countries in which our games are distributed or in Korean tax law enabling us to recognize tax credits for taxes withheld overseas could adversely affect our net income.

Risks related to our market environment

Our businesses may be adversely affected by developments affecting the economies of the countries in which our games are distributed.

     Our future performance will depend in large part on the future economic growth of our key markets. Adverse developments in such markets may have an adverse effect on the number of our subscribers and results of operations, which could have a material adverse effect on our business.

     A deterioration in the economies of the countries in which our games are distributed can also occur as a result of a deterioration in global economic conditions. The worldwide economy has experienced periods of economic weakness since the beginning of 2001, which has been exacerbated by the terrorist attacks in the United States on September 11, 2001, recent developments in the Middle East, including the war in Iraq and terrorist attacks and threats across the globe (including Korea), rising oil prices and the economic impact of Severe Acute Respiratory Syndrome, or SARS, a highly contagious form of atypical pneumonia. In addition, if investors perceive that there is a crisis in the region, such as due to SARS or economic difficulties similar to those that Asian economies experienced in the late 1990s, companies and economies in that region may be adversely effected irrespective of their economic soundness.

     Any future deterioration in global economic conditions, or a significant adverse change in politics and economies in Asia or a loss of investor confidence in the financial systems of emerging and other markets could have a material adverse effect on our business, financial condition and results of operations.

Fluctuations in exchange rates could result in foreign currency exchange losses.

     In 2004, approximately 79.0% of our revenues were denominated in foreign currencies, primarily in the U.S. dollar and the Japanese Yen. In most of the countries in which our games are distributed, other than the United States, Japan and Europe, the revenues generated by our licensees in those markets are denominated in local currencies, which include the NT dollar, the Baht and the Renminbi. Depreciation of these local currencies against the U.S. dollar will result in reduced license fees and monthly royalty payments in U.S. dollar terms and may materially and adversely affect our financial condition and results of operations.

     While we receive our monthly royalty revenues from our overseas licensees in foreign currencies, primarily the U.S. dollar, the Japanese Yen and the Euro, substantially all of our costs are denominated in the Korean Won. Our financial statements are also prepared and presented in the Korean Won. We receive monthly royalty payments from our overseas

licensees based on a percentage of revenues confirmed and recorded at the end of each month applying the foreign exchange rate applicable on such date. We generally receive these royalty payments 20 to 30 days after such record date (except in Europe, where such payments are received up to 45 days after the record date). Appreciation of the Korean Won against these foreign currencies during this period will result in foreign currency losses that may materially and adversely affect our financial condition and results of operations.

     To date, we have not engaged in any foreign currency hedging activities to reduce our exposure to exchange rate fluctuations. We may enter into hedging transactions in the future to mitigate our exposure to foreign currency exchange risks, but we may not be able to do so in a timely or cost-effective manner or at all.

Risks related to specific countries in which our products are distributed

     We are incorporated and headquartered in Korea, and derived 21.0% of our revenues in 2004 from our operations in Korea. In addition, in 2004, we derived an aggregate of 64.2% of our revenues from Japan, Taiwan, Thailand and China. Accordingly, our business, financial condition, results of operations and prospects are subject, to a significant extent, to economic, political, legal and regulatory conditions and developments in these countries.

Slow growth or contractions in the Internet café industry in Korea may affect our ability to target a core group of potential users.

     According to the 2004 report issued by the Korean Game Development and Promotion Institute, or KGDI, the number of active Internet cafés in Korea has declined since 2002. Intensifying competition and more widespread availability of personal computers, or PCs, in homes in Korea could trigger further declines in the number of Internet cafés. Future reductions in the number of Internet cafés operating in Korea could adversely affect our ability to target a core group of potential users.

Increased tensions with North Korea could adversely affect us.

     Relations between Korea and North Korea have been tense over most of Korea’s modern history. The level of tension between Korea and North Korea has fluctuated and may increase or change abruptly as a result of current and future events, including ongoing contacts at the highest levels of the governments of Korea and North Korea. The level of tension between Korea and North Korea, as well as between North Korea and the United States, has increased as a result of North Korea’s admission in October 2002 to the maintenance of a nuclear weapons program in breach of the peace accord executed in October 1994. In response, the United States, Japan, Korea and the European Union (which became party to the 1994 accord in November 2002) decided to suspend shipments of oil to North Korea called for by the 1994 accord and reiterated their demands for the dismantling of North Korea’s nuclear weapons program. Following the suspension of oil shipments, North Korea removed the seals and surveillance equipment from its Yongbyon nuclear power plant and evicted inspectors from the United Nations International Atomic Energy Agency, or IAEA, and has reportedly resumed activity at its Yongbyon power plant. In January 2003, North Korea announced its intention to withdraw from the Nuclear Non-Proliferation Treaty, demanding that the United States sign a non-aggression pact as a condition to North Korea dismantling its nuclear program. In August 2003, representatives of Korea, the United States, North Korea, China, Japan and Russia held multilateral talks in an effort to resolve issues relating to North Korea’s nuclear weapons program. While the talks concluded without resolution, participants in the August meeting indicated that further negotiations may take place in the future and, in February and June 2004, six-party talks were held in Beijing, China. In June 2004, the third round of the six-party talks resumed in Beijing, which ended with an agreement by the parties to hold further talks by the end of September 2004, which failed to take place as planned due to North Korea’s refusal to participate.

     In February 2005, North Korea announced that it possesses nuclear weapons and that it is suspending indefinitely its participation in the six-party talks. Since then, various efforts have been made to pressure North Korea to resume participation in the six-party talks, with little success. In April 2005, tensions increased due to rising suspicions that North Korea is preparing to engage in nuclear testing and allegations that North Korean nuclear weapons material had been sold to Libya. In May 2005, two senior U.S. officials met with North Korean diplomats in “working-level contact” (a term that refers to diplomatic contact below the highest levels) in an effort by the United States to bring North Korea back to the negotiation table. On June 11, 2005, South Korean President Roh Moo-hyun met with US President George W. Bush in Washington and they confirmed that the nuclear issue of North Korea should be settled in a peaceful manner. Recently, North Korean leader Mr. Kim Jong-il reportedly expressed its intention to rejoin the international nuclear disarmament negotiations on conditions, among others, that the United States take measures to show respect to North Korea.

     There can be no assurance that the level of tensions will not escalate, as has frequently happened in the past. Any further increase in tensions, which may occur, for example, if military hostilities break out, could hurt our business, financial

condition and results of operations.

Disruptions in Taiwan’s political environment could seriously harm our business and operations in Taiwan.

     The government of China asserts sovereignty over mainland China and Taiwan and does not recognize the legitimacy of the government of Taiwan. The government of China has indicated that it may use military force to gain control over Taiwan if Taiwan declares independence or a foreign power interferes in Taiwan’s internal affairs. On December 31, 2003, the Republic of China Referendum Law was promulgated allowing referenda on a range of issues to be proposed and voted upon. The law allows a referendum on key constitutional issues in the event that Taiwan comes under military attack from a foreign power and its sovereignty is threatened. On March 19, 2004, Taiwan’s incumbent president was injured in an assassination attempt, and the next day narrowly won a majority of votes in Taiwan’s presidential election. The incumbent president was sworn into office for a second term on May 20, 2004 after a vote recount resulting from a legal challenge to the election results filed by the opposition party. The High Court of Taiwan ruled in two different lawsuits against the opposition party in November and December 2004, against which the opposition party appealed. In June 2005, the Supreme Court of Taiwan ruled in one of the lawsuits against the opposition party and such judgment is final and conclusive. The other lawsuit is still pending with the Supreme Court of Taiwan. In 2003 and 2004, we derived 24.2% and 22.7% of our total revenues from our licensee in Taiwan. Deteriorations in the relationship between Taiwan and China and other factors affecting Taiwan’s political environment may materially and adversely affect our Taiwanese licensee’s business and our results of operations.

The economic, political and social conditions, as well as government policies in China, could adversely affect our operations in China.

     In 2003 and 2004, we derived 4.2% and 4.4% of our total revenues from our licensee in China, respectively. While the Chinese economy has experienced significant growth in the past twenty years, 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. For example, our financial condition and results of operations may be adversely affected by government control over capital investments or changes in tax regulations that are applicable to us or our licensees.

     The Chinese economy has been transitioning from a planned economy to a more market-oriented economy. Although the Chinese government has implemented measures since the late 1970s emphasizing the utilization of market forces for economic reform, the reduction of state ownership of productive assets and the establishment of sound 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 China’s economic growth through the allocation of resources, controlling payment of foreign currency-denominated obligations, setting monetary policy and providing preferential treatment to particular industries or companies.

Risks Relating to Our American Depositary Shares

Mr. Jung Ryool Kim, one of our executive directors and our largest shareholder, has substantial control over us and can delay or prevent a change in corporate control.

     As of June 29, 2005, Mr. Jung Ryool Kim, one of our executive directors and our largest shareholder, beneficially owned, in the aggregate, approximately 48.9% of our outstanding common shares. As a result, Mr. Kim can exert significant control over all matters requiring shareholder approval, including the election of directors and approval of significant corporate transactions. This voting power can delay or prevent an acquisition of us on terms that other shareholders may desire. Mr. Kim also has the power to prevent or cause a change in control. In addition, the rights of minority shareholders and the fiduciary obligations of directors and majority shareholders in Korea may not be as extensive as those in the United States, and the ability to assert shareholder rights may be comparatively limited. Mr. Kim owns our corporate headquarters building which we lease from him.

The public shareholders of our ADSs may have more difficulty protecting their interests than they would as shareholders of a U.S. corporation.

     Our corporate affairs are governed by our articles of incorporation and by the laws and regulations governing Korean corporations. The rights and responsibilities of our shareholders and members of our board of directors under Korean law may be different from those that apply to shareholders and directors of a U.S. corporation. For example, minority shareholder

rights afforded under Korean law often require the minority shareholder to meet minimum shareholding requirements in order to exercise certain rights. Under applicable Korean law, a shareholder must own at least (i) one percent of the total issued shares to bring a shareholders’ derivative lawsuit, (ii) three percent to demand an extraordinary meeting of shareholders, demand removal of directors or inspect the books and related documents of a company, (iii) ten percent to apply to the court for dissolution if there is gross improper management or a deadlock in corporate affairs likely to result in significant and irreparable injury to the company or to apply to the court for reorganization in the case of an insolvency and (iv) 20 percent to block a share exchange approved only by a board resolution. In addition, while the facts and circumstances of each case will differ, the duty of care required of a director under Korean law may not be the same as the fiduciary duty of a director of a U.S. corporation. Although the concept of “business judgment rule” exists in Korea, there is insufficient case law or precedent to provide guidance to the management and shareholders as to how it should be applied or interpreted in a particular circumstance. Holders of our ADSs may have more difficulty protecting their interests against actions of our management, members of our board of directors or controlling shareholder than they would as shareholders of a U.S. corporation.

Any dividends paid on our common shares will be in the Korean Won and fluctuations in the exchange rate between the Won and the U.S. dollar may affect the amount received by you.

     If and when we declare cash dividends, the dividends will be paid to the depositary for the ADSs in Won and then converted by the depositary into U.S. dollars in connection with the deposit agreement. Fluctuations in the exchange rate between the Won and the U.S. dollar will affect, among other things, the U.S. dollar amounts you will receive from the depositary as dividends. Holders of ADSs may not receive dividends if the depositary does not believe it is reasonable or practicable to do so. In addition, the depositary may collect certain fees and expenses, at the sole discretion of the depositary, by billing the holders of ADSs for such charges or by deducting such charges from one or more cash dividends or other cash distributions from us to be distributed to the holders of ADSs.

Your ability to deposit or withdraw common shares underlying the ADSs into and from the depositary facility may be limited, which may adversely affect the value of your investment.

     Under the terms of our deposit agreement, holders of our common shares may deposit such shares with the depositary’s custodian in Korea and obtain ADSs, and holders of our ADSs may surrender the ADSs to the depositary and receive our common shares. However, to the extent that a deposit of common shares exceeds the difference between:

	•		the aggregate number of common shares we have consented to be deposited for the issuance of ADSs (including deposits in connection with offerings of ADSs and stock dividends or other distributions relating to ADSs); and
	•		the number of common shares on deposit with the custodian for the benefit of the depositary at the time of such proposed deposit,

such common shares will not be accepted for deposit unless (i) our consent with respect to such deposit has been obtained or (ii) such consent is no longer required under Korean laws and regulations or under the terms of the deposit agreement.

     Under the terms of the deposit agreement, no consent is required if the common shares are obtained through a dividend, free distribution, rights offering or reclassification of such shares. Under the terms of the deposit agreement, we have consented to any deposit, provided that such deposit may be made only after 180 days from February 8, 2005, the date of our initial offering, to the extent that, after the deposit, the aggregate number of deposited common shares does not exceed 3,552,229 common shares (including common shares sold in the form of ADSs), or any greater number of common shares we determine from time to time (i.e., as a result of a subsequent offering, stock dividend or rights offer), unless the deposit is prohibited by applicable laws or violates our articles of incorporation; provided, however, that if the over-allotment option granted to the underwriters is exercised or in the case of any subsequent offer by us or our affiliates, the limit on the number of common shares on deposit shall not apply to such over-allotment or offer and the number of common shares issued, delivered or sold pursuant to the over-allotment or offer (including common shares in the form of ADSs) shall be eligible for deposit under the deposit agreement, except to the extent such deposit is prohibited by applicable laws or violates our articles of incorporation, or, in the case of any subsequent offer by us or our affiliates, we determine with the depositary to limit the number of common shares so offered that would be eligible for deposit under the deposit agreement in order to maintain liquidity of the shares in Korea as may be requested by the relevant Korean authorities. We might not consent to the deposit of any additional common shares. As a result, if a holder surrenders ADSs and withdraws common shares, it may not be able to deposit the common shares again to obtain ADSs.

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

     The Korean Commercial Code and our articles of incorporation require us to offer shareholders the right to subscribe for new common shares in proportion to their existing ownership percentages whenever new common shares are issued, except under certain circumstances as provided in our articles of incorporation.

     Such exceptions include offering of new shares:

	•		through a general public offering,
	•		to the members of the employee stock ownership association,
	•		upon exercise of a stock option,
	•		in the form of depositary receipts,
	•		to induce foreign direct investment necessary for business in accordance with the Foreign Investment Promotion Act of Korea,
	•		for the purpose of raising funds on an emergency basis,
	•		as necessary for the inducement of technology, to certain companies under an alliance arrangement with us, or
	•		by a public offering or subscribed for by the underwriters for the purpose of listing on the Korean public stock markets.

     Accordingly, if we issue new shares to non-shareholders based on such exception, a holder of our ADSs will be diluted. If none of the above exemptions is available under Korean law, we may be required to grant subscription rights when issuing additional common shares. However, under U.S. law, we would not be able to make those rights available in the United States unless we register the securities to which the rights relate or an exemption from the registration requirements of the U.S. Securities Act is available. Under the deposit agreement governing the ADSs, if we offer rights to subscribe for additional common shares, the depositary under the deposit agreement, after consultation with us, may make such rights available to you or dispose of such rights on behalf of you and make the net proceeds available to you or, if the depositary is unable to take such actions, it may allow the rights to lapse with no consideration to be received by you. The depositary is generally not required to make available any rights under any circumstances. We are under no obligation to file a registration statement under the Securities Act to enable you to exercise preemptive rights in respect of the common shares underlying the ADSs, and we cannot assure you that any registration statement would be filed or that an exemption from the registration requirement under the Securities Act would be available. Accordingly, you may not be entitled to exercise preemptive rights and may thereby suffer dilution of your interests in us.

You will not be treated as our shareholder and you will not have shareholder rights such as the voting rights of a holder of common shares.

     As an ADS holder, we will not treat you as one of our shareholders and you will not have the rights of a shareholder. Korean law governs shareholder rights. The depositary will be the shareholder of the common shares underlying your ADSs. As a holder of ADSs, you will have ADS holder rights. A deposit agreement among us, the depositary and you, as an ADS holder, sets out ADS holder rights as well as the rights and obligations of the depositary. New York law governs the deposit agreement and the ADSs. Upon receipt of the necessary voting materials, you may instruct the depositary to vote the number of shares your ADSs represent. The depositary will notify you of shareholders’ meetings and arrange to deliver our voting materials to you only when we deliver them to the depositary with sufficient time under the terms of the deposit agreement. If there is a delay, we cannot ensure that you will receive voting materials or otherwise learn of an upcoming shareholders’ meeting in time to ensure that you may 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 the manner of carrying out voting instructions.

You would not be able to exercise dissent and appraisal rights unless you have withdrawn the underlying common shares from the depositary facility and become our direct shareholders.

     In some limited circumstances, including the transfer of the whole or any significant part of our business, our acquisition of a part of the business of any other company having a material effect on our business, our merger or consolidation with

another company, dissenting shareholders have the right to require us to purchase their shares under Korean law. However, if you hold our ADSs, you will not be able to exercise such dissent and appraisal rights unless you have withdrawn the underlying common shares from the depositary facility and become our direct shareholder prior to the record date for the shareholders’ meeting at which the relevant transaction is to be approved.

We may amend the deposit agreement and the ADRs without your consent for any reason and, if you disagree, your option will be limited to selling the ADSs or withdrawing the underlying securities.

     We may agree with the depositary to amend the deposit agreement and the American depositary receipts, or ADRs, without your consent for any reason. If an amendment adds or increases fees or charges, except for taxes and other governmental charges or expenses of the depositary, for registration fees, facsimile costs, delivery charges or similar items, or prejudices a substantial right of ADS holders, it will not become effective for outstanding ADRs until 30 days after the depositary notifies ADS holders of the amendment. At the time an amendment becomes effective, you are considered, by continuing to hold your ADSs, to agree to the amendment and to be bound by the ADRs and the deposit agreement as amended. If you do not agree with an amendment to the deposit agreement or the ADRs, your option is limited to selling the ADSs or withdrawing the underlying securities. No assurance can be given that the sale of ADSs would be made at a price satisfactory to you in such circumstances. In addition, as of the date hereof, the common shares underlying the ADSs are not listed on any stock exchange in Korea. Your ability to sell the underlying common shares following withdrawal and the liquidity of the common shares may be limited.

You may be subject to Korean withholding tax.

     Under Korean tax law, if you are a U.S. investor, you may be subject to Korean withholding taxes on capital gains and dividends in respect of the ADSs unless an exemption or a reduction under the income tax treaty between the United States and Korea is available. Under the United States-Korea tax treaty, capital gains realized by holders that are residents of the United States eligible for treaty benefits will not be subject to Korean taxation upon the disposition of the ADSs. However, under the United States-Korea income tax treaty, the following holders are not eligible for such tax treaty benefits: (i) in case the holder is a United States corporation, if by reason of any special measures, the tax imposed on such holder by the United States with respect to such capital gains is substantially less than the tax generally imposed by the United States on corporate profits, and 25% or more of the holder’s capital is held of record or is otherwise determined, after consultation between competent authorities of the United States and Korea, to be owned directly or indirectly by one or more persons who are not individual residents of the United States and (ii) in case the holder is an individual, if such holder maintains a fixed base in Korea for a period or periods aggregating 183 days or more during the taxable year and the holder’s ADSs or common shares giving rise to capital gains are effectively connected with such fixed base or such holder is present in Korea for a period or periods of 183 days or more during the taxable year.

You may have difficulty bringing an original action or enforcing any judgment obtained outside Korea against us, our directors and officers or other offering participants, such as underwriters or experts, who are not U.S. persons.

     We are organized under the law of Korea, and all of our directors and officers reside in Korea. All or a significant portion of our assets and the assets of such persons are located outside of the United States. As a result, it may not be possible for you to effect service of process within the United States upon these persons or to enforce against them or us court judgments obtained in the United States that are predicated upon the civil liability provisions of the federal securities laws of the United States or of the securities laws of any state of the United States. We have, however, irrevocably appointed an agent in New York to receive service of process in any proceedings in the State of New York relating to our ADSs. Notwithstanding the foregoing, there is doubt as to the enforceability in Korea, either in original actions or in actions for enforcement of judgments of United States courts, of civil liabilities predicated on the federal securities laws of the United States or the securities laws of any state of the United States.

ITEM 5. OPERATING AND FINANCIAL REVIEW AND PROSPECTS

     The following discussion of the Company’s financial condition and results of operations has been revised to reflect the restatement and certain events occurring subsequent to the filing of the Original Filing, as well as to incorporate certain conforming changes. The following discussion should be read in conjunction with the Restated Financial Statements and the Notes thereto appearing elsewhere in this Amendment No. 1.

Overview

     As described in Note 2 (Restatement) of the Notes to the Restated Financial Statements, the restatements principally relate to the following:

	•		The diversion of revenues attributable to the Company by the former Chairman during the years ended December 31, 2002, 2003 and 2004. The Restated Financial Statements include such revenue in the period when it would have been recognized by the Company, had the diversion not occurred. These amounts are recorded as “Misappropriated funds receivable” in the restated consolidated balance sheets as of December 31, 2003 and 2004. In addition, the Restated Financial Statements include the recognition of expenses for royalty payments due to several third parties relating to the Company’s Ragnarok game that were not recognized as expense in the relevant periods as a result of the diversion of revenues by the former Chairman. The Restated Financial Statements include such expenses as cost of revenue or interest expense, as applicable, in the period when the related revenue is recorded in the restated consolidated statement of operations for the years ended December 31, 2002, 2003 and 2004 and as an amount payable to the relevant parties in the restated consolidated balance sheets as of December 31, 2003 and 2004.
	•		The misappropriation of certain assets, previously recorded as fixed assets in the Company’s consolidated financial statements. The Restated Financial Statements include an adjustment from the Original Financial Statements related to the purchase by the Company of certain assets that were recorded as fixed assets in the Original Financial Statements. The Company determined based on the Investigation Reports, that these assets could not be identified and management and the audit committee concluded that such assets should have been recorded as expense in the Company’s financial statements at their purchase date, as it is unlikely that the Company received any benefit from the purchase of the assets. Additionally, the Original Financial Statements included depreciation expense related to these assets in the years ended December 31, 2003 and 2004. Depreciation expenses have not been recorded in the Restated Financial Statements for the years ended December 31, 2003 and 2004 as the costs of such assets are fully expensed at their acquisition date in these statements.
	•		Improper and intentional early recognition of certain revenue in connection with the Company’s mobile games revenue and character merchandising, animation and other revenue relating to products in the year ended December 31, 2004. U.S. GAAP requires that revenue should not be recognized until delivery of the product or completion of service. The restated consolidated statement of operations for the year ended December 31, 2004 include adjustments to reduce the amount of revenue recognized in that year as the product contracted for had not been delivered by year end.
	•		The impact of the above adjustments on foreign currency gains(losses), net is recorded in the Restated Financial Statements due to the timing difference in the recognition of revenue and the receipt of the revenues by the Company.
	•		The impact of the above adjustments on the provision for income taxes has been reflected in the year in which the items are recorded in the Restated Financial Statements. Which consists of changes in the deferred tax assets and liabilities resulting from the misappropriation by the former Chairman, and increases in penalties and interest payable for inaccurate reporting of taxes in the years when the diversion took place.
	•		The Company had incorrectly recorded certain foreign tax credits in prior periods. Additionally, the Company had previously amended credits recorded in one period by adjusting the balance of the credits at the end of the subsequent period. The Restated Financial Statements now reflect the correct foreign tax credits in the year in which they should have been recorded.

     The Restated Financial Statements do not reflect all of the issues noted in the Investigation Reports, as certain findings could not ultimately be corroborated based on the available evidence. Subsequent to the discovery of the embezzlement, the former Chairman paid W7.8 billion to the Company in October 2005. In addition, the former Chairman has agreed to pay an additional amount to the Company, in part to reimburse the Company for certain of the costs and expenses incurred by the Company in connection with the Investigation.

     Please refer to Note 2 of the Notes to the Restated Financial Statements for a discussion of the adjustments to specific line items of the Restated Financial Statements. This Amendment No. 1 does not modify or update disclosures presented in the Original Filing, except as required to reflect the effects of the restatements. Except for disclosures affected by the restatements, this Amendment No. 1 speaks as of the filing date of the Original Filing and does not modify or update disclosures in the Original Filing, including the nature and character of such disclosures, to reflect events occurring or items discovered after the filing date of the Original Filing. Accordingly, this Amendment No. 1 should be read in conjunction with the Company’s filings and submissions made with the SEC subsequent to the filing date of the Original Filing, including any amendments to those filings and submissions.

Restatement of the Original Financial Statements

     The following sets forth certain items of the Company’s consolidated statement of operations as previously reported in the Original Financial Statements and as restated for each of the periods indicated and a description of such restatements.

		For the year ended December 31,
		2002								2003								2004								2004(1)
		(As								(As								(As
		previously				(As				previously				(As				previously				(As				(As
		reported)				restated)				reported)				restated)				reported)				restated)				restated)
		(In millions of Won and thousands of Dollars)
Revenues
Online games-royalties and license fees		W	2,079			W	2,330			W	22,804			W	29,727			W	44,236			W	45,101			US$	46,629
Mobile games			—				—				43				43				480				376				387
Character merchandising, animation and other			427				427				1,024				1,185				3,471				2,696				2,775
Total net revenues			9,816				10,067				42,431				49,515				64,440				64,426				66,323
Cost of revenues			1,735				1,738				6,866				6,958				10,309				10,116				10,414
Operating Expenses			5,771				5,685				12,712				12,957				15,749				15,689				16,151
Other income (expense)-interest expense			(2,480	)			(2,583	)			(5,947	)			(6,465	)			(4,309	)			(4,732	)			(4,871	)
Other income (expense)-foreign currency translation			58				76				178				135				(716	)			(625	)			(644	)
Income tax expenses			467				542				2,535				4,250				4,402				5,406				5,565
Equity in loss of related joint venture			—				—				—				—				(248	)			(296	)			(305	)
Net income (loss)		W	(496	)		W	(322	)		W	14,669			W	19,140			W	29,201			W	28,057			US$	28,883

Note:

Revenues

     As a result of the activities which necessitated the restatements to the Company’s Original Financial Statements, our total net revenues increased by W251 million and W7,084 and decreased by W14 million in 2002, 2003 and 2004, respectively, from the previously reported amounts for such periods in the Original Financial Statements of W9,816 million, W42,431 million and W64,440 million in 2002, 2003 and 2004, respectively, to W10,067 million, W49,515 million and W64,426 million in 2002, 2003 and 2004, respectively, due to the following adjustments:

	•		online games — royalties and license fees increased by W251 million, W6,923 million and W865 million in 2002, 2003 and 2004, respectively, from the previously reported amounts for such periods in the Original Financial Statements of W2,079 million, W22,804 million and W44,236 million in 2002, 2003 and 2004, respectively, to W2,330 million, W29,727 million and W45,101 million in 2002, 2003 and 2004, respectively, to account for the license fees and monthly running royalties which were omitted from the consolidated statement of operations in such years resulting from the diversion of revenues due to the Company by the former Chairman;
	•		mobile games revenue and character merchandising, animation and other revenue decreased by W104 million and W775 million in 2004, respectively, from the previously reported amount for 2004 in the Original Financial Statements of W480 million and W3,471 million, respectively, to W376 million and W2,696 million, respectively, to account for the improper and intentional early recognition of certain revenue in connection with the Company’s mobile games revenue and character merchandising and other revenue relating to products in the year ended December 31, 2004. U.S. GAAP requires that revenue should not be recognized until delivery of the product or completion of service. The restated consolidated statement of operations for the year ended December 31, 2004 includes an adjustment to reduce the amount of revenue recognized in that year as certain of the products contracted for had not been delivered by year-end.
	•		character merchandising, animation and other revenue increased by W161 million in 2003 from the previously reported amount in the Original Financial Statements of W1,024 million to W1,185 million due to the diversion of running royalties related to character merchandising by the former Chairman.

Cost of Revenues

     As a result of the activities which necessitated the restatements to the Company’s Original Financial Statements, our cost of revenues increased by W3 million and W92 million and decreased by W193 million in 2002, 2003 and 2004, respectively, from the previously reported amounts for such periods in the Original Financial Statements of W1,735 million, W6,866 million and W10,309 million in 2002, 2003 and 2004, respectively, to W1,738 million, W6,958 million and W10,116 million in 2002, 2003 and 2004, respectively. The increases in cost of revenues for each of the years were attributable to increased expenses that should have been recorded at the same time as the omitted revenues as these amounts are royalty payments due to a third party relating to the Company’s Ragnarok Online game that were not recognized as an expense in the relevant periods as a result of the diversion of revenues by the former Chairman. The decrease in the cost of revenues was due to:

	•		decreases in depreciation expense of W4.0 million in 2003 and W 47.0 million in 2004 related to certain misappropriated assets, as the Company fully expensed the purchase costs of these assets at the time of their acquisition in the Restated Financial Statements; and
	•		decreases in license fees payable to third parties of W159 million resulting from reduction in revenue in the year ended December 31, 2004 attributable to the improper and intentional early recognition of certain revenue in connection with the Company’s character merchandising, animation and other revenue relating to products sold in 2004.

Operating Expenses

     As a result of the activities which necessitated the restatements to the Company’s Original Financial Statements, our operating expenses decreased by W86 million, increased by W245 million and decreased by W60 million in 2002, 2003 and 2004, respectively, from the previously reported amounts for such periods in the Original Financial Statements of W5,771 million, W12,712 million and W15,749 million in 2002, 2003 and 2004, respectively, to W5,685 million, W12,957 million and W15,689 million in 2002, 2003 and 2004, respectively.

     The restatements of the operating expenses reflect the following principal adjustments:

	•		Tax and dues — increased in 2002 and 2003 due to value added tax penalties;
	•		Advertising — expenses related to advertising decreased in 2002 and 2003 due to increased advertising reimbursement received from a third party as a result of increased royalty payments paid to such third party in such years arising from increased revenues recognized in such years due to the diversion of royalty payments by the former Chairman; and
	•		Expenses related to certain misappropriated assets and depreciation expenses — recognition of expense for certain assets purchased and paid for by the Company and previously recorded as fixed assets in the Original Financial Statements and decreases in depreciation expenses related to the misappropriated assets as such assets were fully expensed at their acquisition date in the Restated Financial Statements.

Other Income (Expense)

     Other expenses increased by W85 million, W561 million and W331 million in 2002, 2003 and 2004, respectively from W2,339 million, W5,649 million and W4,548 million, in 2002, 2003 and 2004, respectively to W2,424 million, W6,210 million and W4,879 million in 2002, 2003 and 2004, respectively, as a result of the activities which necessitated the restatements to the Company’s Original Financial Statements. The increases primarily reflect the following adjustments:

	•		Interest expenses — interest expense increased in 2002, 2003 and 2003 due to increased payment attributable to interest in connection with payments made to third parties resulting from increased revenues due to the former Chairman’s diversion of certain royalty payments; and
	•		Foreign currency gains (losses), net — foreign currency gains (losses), net increased in 2002 and 2004 and decreased in 2003 due to the timing difference in the recognition of revenue and the receipt of the revenues by the Company.

Income Tax Expenses

     Income tax expenses increased by W75 million, W1,715 million and W1,004 million in 2002, 2003 and 2004, respectively from W467 million, W2,535 million and W4,402 million, in 2002, 2003 and 2004, respectively to W542 million,

W4,250 million and W5,406 million in 2002, 2003 and 2004, respectively due to changes in deferred tax assets and liabilities and increases in penalties and interest payable by the Company, all as a result of the foregoing changes in the Company’s revenues and expenses.

     The following sets forth certain items of the Company’s consolidated balance sheets as previously reported in the Original Financial Statements and as restated for each of the periods indicated and a description of such restatements.

		As of the year ended December 31,
		2002								2003								2004								2004(1)
		(As				(As				(As								(As
		previously				restated-				previously				(As				previously				(As				(As
		reported)				unaudited)(2)				reported)				restated)				reported)				restated)				restated)
		(In millions of Won and thousands of Dollars)
Assets:
Accounts receivable, net		W	5,852			W	6,008			W	6,988			W	7,011			W	7,321			W	7,377			US$	7,594
Misappropriated funds receivable-current			—				—				—				—				—				7,482				7,702
Deferred expense			558				793				651				963				2,530				2,588				2,664
Current deferred income tax asset			—				—				504				536				2,684				1,692				1,742
Other current assets			455				555				2,156				2,309				2,258				2,424				2,495
Total current assets			7,425				7,916				17,304				17,824				40,098				46,868				48,247
Property and equipment, net			2,254				2,254				5,694				5,417				14,951				14,760				15,195
Misappropriated funds receivable-non current			—				1,235				—				7,441				—				—				—
Other non current assets			735				1,117				1,854				1,829				2,893				2,824				2,907
Total assets		W	11,509			W	13,617			W	28,765			W	36,424			W	62,134			W	68,644			US$	70,665
Liabilities:
Accounts Payable		W	1,981			W	1,995			W	2,432			W	2,518			W	3,576			W	3,742			US$	3,852
Deferred income			1,056				1,497				2,671				3,409				4,392				5,639				5,805
Current portion of long-term debt			3,382				3,479				2,633				2,630				1,278				1,150				1,184
Accrued interest			1,037				1,059				678				749				271				318				327
Income tax payable			211				211				476				1,109				478				1,172				1,207
Other current liabilities			10				10				161				160				324				200				206
Total current liabilities			7,677				8,251				9,051				10,575				10,319				12,221				12,581
Long-term deferred income			486				1,253				380				849				1,918				1,958				2,016
Long-term debt			3,445				3,333				1,164				1,046				—				—				—
Long-term accounts payable			—				706				—				1,138				—				1,063				1,094
Other non current liabilities			—				—				8				10				7				7				7
Total liabilities			11,772				13,707				10,945				13,960				15,204				18,209				18,745
Retained earnings			(1,753	)			(1,580	)			12,916				17,560				42,117				45,617				46,960
Accumulated other comprehensive loss			(210	)			(210	)			(2	)			(2	)			(141	)			(137	)			(141	)
Total shareholder’s equity			(263	)			(90	)			17,820				22,464				46,930				50,435				51,920
Total liabilities and shareholder’s equity		W	11,509			W	13,617			W	28,765			W	36,424			W	62,134			W	68,644			US$	70,665

(1)		For convenience, the Won amounts are expressed in U.S. dollars at the rate of W971.4 to US$1.00, the noon buying rate in effect on March 31, 2006 as quoted by the Federal Reserve Bank of New York.
(2)		The balance sheet data as of the year ended December 31, 2002 are derived from our unaudited financial statements and related notes thereto, which are not included in this Amendment No. 1.

Total assets

     As a result of activities which necessitated the restatements to the Company’s Original Financial Statements, our total assets increased by W2,108 million, W7,659 million and W6,510 million in 2002, 2003 and 2004, respectively, from the previously reported amounts in the Original Financial Statements of W11,509 million, W28,765 million and W62,134 million for 2002, 2003 and 2004, respectively, to W13,617 million, W36,424 million and W68,644 million in 2002, 2003 and 2004, respectively, principally due to the following adjustment:

•

Misappropriated funds receivable-current increased by W7,482 million in 2004 from the previously reported amount in the Original Financial Statements of nil to W7,482 million in 2004, and due from misappropriated funds receivable-non current increased by W1,235

million and W7,441 million in 2002 and 2003, respectively, from the previously reported amounts in the Original Financial Statements of nil in 2002 and 2003, respectively, to W1,235 million and W7,441 million in 2002 and 2003, respectively, in each of the years to account for the omitted revenue resulting from the diversion of revenues attributable to the Company by the former Chairman.

     In addition, there were certain adjustments to deferred expense, accounts receivable, net, current deferred income tax asset and other current assets in each of the years.

Total liabilities

     As a result of activities which necessitated the restatements to the Company’s Original Financial Statements, total liabilities increased by W1,935 million, W3,015 million and W3,005 million in 2002, 2003 and 2004, respectively, from the previously reported amounts in the Original Financial Statements of W11,772 million, W10,945 million and W15,204 million in 2002, 2003 and 2004, respectively, to W13,707 million, W13,960 million and W18,209 million in 2002, 2003 and 2004, respectively, principally due to the following adjustments:

	•		Deferred income increased by W441 million, W738 million and W1,247 million in 2002, 2003 and 2004, respectively, from the previously reported amounts in the Original Financial Statements of W1,056 million, W2,671 million and W4,392 million in 2002, 2003 and 2004, respectively, to W1,497 million, W3,409 million and W5,639 million in 2002, 2003 and 2004, respectively, and long-term deferred income increased by W767 million, W469 million and W40 million in 2002, 2003 and 2004, respectively, from the previously reported amounts in the Original Financial Statements of W486 million, W380 million and W1,918 million in 2002, 2003 and 2004, respectively, to W1,253 million, W849 million and W1,958 million in 2002, 2003 and 2004, respectively, in each case due to increase in additional initial license fees which should be recognized over the relevant contract terms, resulting from the former Chairman’s diversion of royalty payments due to the Company and the decrease in revenues attributable to the improper and early recognition of revenues relating to the Company’s mobile games and character merchandising, animation and other revenues in 2004;
	•		Income tax payable increased by W633 million and W694 million in 2003 and 2004, respectively, from the previously reported amounts in the Original Financial Statements of W476 million and W478 million in 2003 and 2004, respectively, to W1,109 million and W1,172 million in 2003 and 2004, respectively, due to the tax penalty; and
	•		Long-term accounts payable increased by W706 million, W1,138 million and W1,063 million in 2002, 2003 and 2004, respectively, from the previously reported amounts in the Original Financial Statements of nil in 2002, 2003 and 2004, respectively, due to the recording of additional payments due to certain third parties as a result of the increase in revenues in such year.

5.A. Operating Results (as restated)

     We are based in Korea and are a leading developer and distributor of online games in Japan, Taiwan and Thailand based on the number of peak concurrent users. From our inception in April 2000 until commercialization of our first online game, Ragnarok Online, in August 2002, our operating activities were limited primarily to developing Ragnarok Online and rolling out a free test, or beta-test, version of Ragnarok Online in November 2001. During this period, we generated revenues of W405 million in 2000 by purchasing and reselling computer components and W167 million in 2001 from the sale of Arcturus, a PC-based game.

     Ragnarok Online is currently commercially offered in Korea, the United States and Canada by us and in 17 other overseas markets by our overseas licensees, and has accounted for 95.2% of our revenues in 2004. Revenues generated from Ragnarok Online are determined largely by the following factors: pricing and pricing structure, the number of Ragnarok Online users and the average number of hours users spend playing Ragnarok Online. In order to play Ragnarok Online, users either pay a flat monthly fee or purchase a fixed number of game hours. The pricing structure of Ragnarok Online in a given country is determined primarily based on the cost of publishing and operating Ragnarok Online, the playing and payment patterns of users, the pricing of competing games and the income per capita of consumers in that country. The pricing of Ragnarok Online is determined by us in Korea, the United States and Canada, and, in other countries, by our overseas licensees after consultation with us and has remained generally stable since its commercial launch in each of the countries in which it is distributed. Due to competitive pressure and in line with market practice, we and our licensees have not raised prices for Ragnarok Online following its commercial launch in a country. The aggregate number of Ragnarok Online users has increased as we have entered into new markets primarily through our licensees and as the number of Ragnarok Online users in existing markets has increased. The number of Ragnarok Online users and the amount of Ragnarok Online usage in a given

country depend in part on the perceived quality of Ragnarok Online and the level of local competition. While it is difficult to accurately determine what accounts for the superior quality of an online game, we believe that Ragnarok Online’s storyline, graphics and community-oriented themes, together with our ability to timely maintain, update and enhance the content and technical aspects of the game, have been largely responsible for the game’s commercial success.

     In Korea, Sunny YNK Inc. has the exclusive right to distribute Ragnarok Online until July 2005, although we have handled marketing, operation and billing of Ragnarok Online since its commercial launch. In overseas markets other than the United States and Canada, our licensees handle such functions under a licensing agreement with us, under which we generally receive license fees and royalty payments. The term of the licensing agreement is typically two years, and renewing licensees typically pay a lump-sum renewal fee in addition to ongoing royalty payments. The major overseas markets in which we offer Ragnarok Online through our licensees are Japan, Taiwan, Thailand and China in terms of revenue contribution, and our licensees are GungHo Online Entertainment Inc. in Japan, Soft-World International in Taiwan, Value Central in China and Asia Soft International in Thailand.

     Since Ragnarok Online’s initial commercial launch in August 2002, we have experienced significant growth in revenues and net income. Our revenues increased by 30.1% to W64,426 million (US$66,323 thousand) in 2004 from W49,515 million in 2003 and by 391.9% to W49,515 million in 2003 from W10,067 million in 2002. Our net income increased by 46.6% to W28,057 million (US$28,883 thousand) in 2004 from W19,140 million in 2003 and we recorded net income of W19,140 million in 2003 as compared to net loss of W322 million in 2002. Our gross profit margin also increased from 82.7% in 2002 to 85.9% in 2003 and to 84.3% in 2004 and our operating margin increased from 26.3% in 2002 to 59.8% in 2003 to 59.9% in 2004. We attribute our revenue growth largely to our early entry into additional markets since Ragnarok Online’s commercial launch and the continuing popularity of Ragnarok Online among users in the existing markets. We attribute our margin improvement to the scalability of the online game business. Once a game is launched and the initial development and marketing costs have been expensed, relatively low marginal costs are incurred to expand into additional markets through licensing arrangements. Our revenue growth may be adversely affected in the future by the popularity of online games newly introduced by our competitors. Our future success depends largely on our ability to develop or publish commercially successful new online games.

     In January 2005, we commercially launched R.O.S.E. Online, our second online game, in Korea. We currently plan to commercially launch R.O.S.E. Online in one or more of our other key markets. Despite our commercial launch of R.O.S.E. Online, our revenues and net income declined in the first quarter of 2005 as compared to those of the first quarter of 2004 and the fourth quarter of 2004. The decrease in revenues was primarily due to the continuing decline in subscription revenues from Ragnarok Online in Korea. Royalties and license fees from overseas markets remained relatively constant in the first quarter of 2005 as compared to the fourth quarter of 2004. Our operating expenses for the first quarter of 2005 increased as compared to those of the first quarter of 2004 and the fourth quarter of 2004 due primarily to the stock options expenses that we incurred and the increase in labor-related expenses. Our future results of operations will also be affected by our ability to renew our status as a designated small- and medium-sized venture company and qualify for preferential treatment of the 50% reduction in corporate income tax rate through 2007 as described in “—Income tax expenses.” Our income tax rate in 2004 was 14.85%. In September 2005, the company was designated as a venture company and is entitled to 50% reduction in corporate income tax in 2005 and 2006, which was not reflected in deferred income tax in 2004.

Revenue recognition

     We derive, and expect to continue to generate, most of our revenues from online game subscription fees paid by users in Korea, the United States and Canada, and royalties and license fees paid by our licensees in the overseas markets. Our revenues can be classified into the following four categories:

	•		online games — subscription revenue,
	•		online games — royalties and license fees,
	•		mobile games, and
	•		character merchandising, animation and other revenue.

Online games — subscription revenue

     Prepaid online game subscription fees are deferred and recognized as revenue on a monthly basis in proportion to the number of days lapsed or actual hours used of the subscription purchased.

Online games — royalties and license fees

     We license the right to market and distribute our games in exchange for an initial license fee. In addition, we receive royalties based on a percentage of the licensees’ sales and, currently in China, guaranteed minimum royalty payments. We generally are advised by each of our licensees as to the amount of royalties earned by us from such licensee within 15 to 25 days following the end of each month.

     Initial license fees. The initial license fees are deferred and recognized ratably as revenue over the license period, which typically does not exceed two years. For a table setting forth details of each license agreement, see Item 4.B. “Business Overview—Our markets—Overseas markets”. When the license agreements are renewed upon the expiration of their terms, we generally receive renewal license fees.

     Guaranteed minimum royalty payments. In China, in addition to the initial license fee, we are entitled to receive a guaranteed minimum royalty payment for licensing the right to market and distribute Ragnarok Online. The minimum guaranteed royalty payment is US$400,000 to be paid on a semi-annual basis, in May and in November of each year during the term of the license agreement. This guaranteed minimum royalty payment is deferred and recognized as the royalties are earned. In addition, we receive a royalty payment based on a specified percentage of the licensees’ sales. Royalties that exceed the guaranteed minimum are recognized on a monthly basis as they are earned by the licensee.

     Monthly royalty revenues. We also receive royalty revenues from our licensees based on an agreed percentage of the licensee’s revenues from Ragnarok Online. Royalty revenues are recognized on a monthly basis after the licensee confirms its revenues based on the licensees’ sales from Ragnarok Online during the month.

Mobile games revenue

     Mobile games are played using mobile phones and other mobile devices. Mobile game revenues are derived from a percentage of the per-download fees that users pay to mobile telecommunication operators in Korea after deducting their service charges.

Character merchandising, animation and other revenue

     We license the right to commercialize our Ragnarok characters into a variety of merchandise in exchange for an initial prepaid license fee and guaranteed minimum royalty payments. The guaranteed minimum royalty payments are deferred and recognized as the royalties are earned. In addition, we receive a royalty payment based on a specified percentage of the licensees’ sales. Royalties that exceed the guaranteed minimum are recognized on a monthly basis as they are earned by the licensee.

Cost of revenues

     Our cost of revenues consists principally of the following:

	•		operational expenses, server depreciation expenses, server maintenance costs and related personnel costs and amortization of development-related costs as described in “—Critical accounting policies—Capitalized software development costs”; and
	•		royalty payments to Mr. Myoung-Jin Lee, on whose cartoon series Ragnarok Online is based, pursuant to our license from Mr. Lee as described below.

License from Myoung-Jin Lee

     In developing Ragnarok Online, we obtained an exclusive license from Mr. Myoung-Jin Lee to use the storyline and characters from his cartoon titled “Ragnarok” for the production of online games, animation and character merchandising. In return, we paid Mr. Lee an initial license fee of W40 million and are required to pay royalties based on 1.0% or 1.5% of adjusted revenues (net of value-added taxes and certain other expenses) or 2.5%, 5% or 10% of net income generated from the use of the Ragnarok brand, depending on the type of revenues received from the operation or licensing of Ragnarok Online.

     The cost of revenues from the payments to Mr. Lee was W641 million for 2003 and W787 million for 2004. This

agreement expires in January 2033.

Selling, general and administrative expenses

     Selling, general and administrative expenses consist of sales commissions paid to independent promotional agents that distribute our online games to our Internet café subscribers in Korea, commissions paid to payment settlement providers, administrative expenses and related personnel expenses of executive and administrative staff, and marketing and promotional expenses and related personnel expenses.

Research and development expenses

     Research and development expenses consist primarily of payroll and other overhead expenses which are all expensed as incurred until technological feasibility of a game is reached. Once technological feasibility of a game is reached, these costs are capitalized and, once commercial operation commences, amortized as cost of revenues. See “—Critical accounting policies—Capitalized software development costs”.

Interest expense

     In February and April 2002, we entered into agreements with Sunny YNK, an online game publisher in Korea listed on the KOSDAQ Market Division of the Korea Exchange, or KOSDAQ, pursuant to which we granted it the exclusive right to distribute Ragnarok Online for a contractual period of three years from the date Ragnarok Online was first commercialized. In consideration, we received a lump sum payment in the amount of W7,000 million at the inception of these agreements, which we recorded as debt on our balance sheet. Under the sales agency agreement that we entered into with Sunny YNK in April 2002 granting to it the exclusive distribution right, Sunny YNK owns the right to distribute Ragnarok Online in Korea. However, in practice, we perform all of the relevant marketing, advertising and selling activities, and distribute Ragnarok Online from our websites and host it on our servers.

     As there is no interest rate stated in the agreement with Sunny YNK, the interest is imputed based on the difference between the principal amount of the loan and the total payments expected to be made pursuant to the agreement. Accordingly, the repayment of principal balance to Sunny YNK is variable each year in accordance with the amount of annual revenues generated from distribution of Ragnarok Online and deduction of annual interest expense allocated using the interest rate method. Pursuant to the terms of these agreements, we are obligated to make payments to Sunny YNK based on a percentage of adjusted revenues (net of value-added taxes and certain other expenses) related to Ragnarok Online as follows:

	•		until the accumulated payments amount to W7,000 million, 50% of our domestic and overseas adjusted revenues from Ragnarok Online, which amount was reached in March 2003; and
	•		once the accumulated payments exceed W7,000 million, 20% of our domestic adjusted revenues from Ragnarok Online and 10% of our overseas adjusted revenues from Ragnarok Online.

     We incurred interest expense of W6,256 million in 2003 and W4,731 million (US$4,870 thousand) in 2004 as a result of our arrangement with Sunny YNK. As of December 31, 2004, the outstanding balance of our debt incurred from Sunny YNK was W1,150 million (US$1,184 thousand). Our agreement with Sunny YNK expires in July 2005, at which time we will no longer be obligated to make payments to Sunny YNK. In accordance with this agreement, in 2003 and 2004, we made payments of W7,923 million and W6,670 million, respectively to Sunny YNK. Additionally the Company accrued W403 million and W367 million due to Sunny YNK in 2003 and 2004, respectively. Of these payments, W2,843 million and W2,391 million were allocated to principal, and W5,483 million and W4,646 million were allocated to interest, respectively.

     Pursuant to the terms of the agreement with Sunny YNK, once the cumulative royalty payments to Sunny YNK reached W7 billion, it is required to use 15% of future royalty payments, paid by us, to fund additional marketing of the RAGNAROK game. In March 2003, cumulative royalty payments to Sunny YNK reached W7 billion. After January 1, 2004, these marketing activities were performed by us and therefore, Sunny YNK reimbursed us for these costs, which was credited to advertising expenses within selling, general and administrative expenses in the accompanying statement of operations.

Foreign currency effects

     In 2004, 79% of our revenues were denominated in foreign currencies, primarily in the U.S. dollar and the Japanese Yen. In most of the countries in which our games are distributed, other than the United States, Japan and European countries, the revenues generated by our licensees are denominated in local currencies, which include the NT dollar, the Baht and the

Renminbi, and converted into the U.S. dollar for remittance of monthly royalty payments to us. Depreciation of these local currencies against the U.S. dollar will result in reduced monthly royalty payments in U.S. dollar terms, thereby having a negative impact on our revenues.

     While we receive our monthly royalty revenues from our overseas licensees in foreign currencies, primarily in the U.S. dollar, the Japanese Yen and the Euro, substantially all of our costs are denominated in the Korean Won. Our financial statements are also prepared and presented in the Korean Won. We receive monthly royalty payments from our overseas licensees based on a percentage of revenues confirmed and recorded at the end of each month applying the foreign exchange rate applicable on such date. We generally receive these royalty payments 20 to 30 days after such record date (except in Europe, where such payment could be received up to 45 days after the record date). Appreciation or depreciation of the Korean Won against these foreign currencies during this period will result in foreign currency losses or gains and affect our net income.

     In 2005, we began entering into derivatives arrangements to hedge against the risk of foreign currency fluctuations. As of June 29, 2005, we had foreign currency forward contracts outstanding in the aggregate notional amount of US$70 million. See Item 11 “Quantitative and Qualitative Disclosures about Market Risk”.

Income tax expenses

     Under Korean law and regulations, certain designated small- and medium-sized venture companies may be entitled to enjoy preferential tax treatment from the Korean government in the form of a 50% reduction in corporate income tax rate during the year in which they first generated taxable income and the following five years if such venture companies satisfy a number of financial and non-financial criteria (including the maintenance of their status as designated venture companies). We have had the benefit of the 50% reduction in corporate income tax rate in 2003 and 2004. Our current applicable corporate income tax rate (including resident surtax) is 14.85% after applying the 50% tax reduction rate. To become a designated venture company, a company must qualify as a small- and medium- sized enterprise under the Framework Act on Small- and Medium-Sized Enterprises and be found to have, among other things, a superior ability to provide innovation in technology and business by the Small and Medium Business Administration of Korea. Under the first prong of this test, a company that is engaged in data processing or computer-related business may qualify as a small- and medium-sized enterprise under the Framework Act on Small- and Medium-Sized Enterprises if, among other things, (i) it hires less than three hundred full-time employees or (ii) the total revenue of such company does not exceed W30 billion. In 2004, we failed to satisfy both of these tests. However, even if a company fails to satisfy both of the preceding requirements, it will continue to enjoy its status as a small-and medium-sized enterprise for the following three years so long as that company neither (x) merges into, nor consolidates with, another company nor (y) becomes an affiliate of certain large enterprise. Accordingly, we will continue to qualify as a small- and medium-sized company through 2007 if we neither merge into, nor consolidate with, another company nor become affiliated with large enterprises under Korean law.

     The second prong of this test involves evaluation and due diligence of non-financial criteria such as adequacy of human resources, technological superiority, business plan and prospects, industry prospects, marketing strategy and plan, organizational information and management. The non-financial criteria of determining and declaring a company as a designated venture company may involve subjective judgment. A designated venture company, including us, must qualify every two years based on the evaluation described above. As the Company was designated as a venture company in September 2005, we will be able to enjoy this preferential treatment through 2006, after which we will be subject to the normal corporate tax rate without the 50% reduction.

     To the extent we derive revenues from countries other than Korea, we may be subject to income withholding in those countries in which our products, including online games, are distributed. Such withholding taxes are included under income tax expenses. Withholding of such taxes is done by our overseas licensees at the current withholding rates in such countries. The effective withholding tax rates in our major overseas markets are 10% in Japan and China, 20% in Taiwan and 15% in Thailand. To the extent Korea has a tax treaty with any such country, withholding rates prescribed by such tax treaty apply. Under the Corporation Tax Law of Korea, we are entitled to, and recognize, a tax credit computed based on the amount of income withheld overseas when filing our income tax return in Korea, up to a limited amount. Accordingly, the amount of taxes withheld overseas may be offset against taxes payable in Korea. Adverse changes in tax treaties between Korea and the countries from which we receive license fees and royalties or adverse changes in Korean tax law that prevent us from recognizing tax credits for taxes withheld overseas could materially and adversely affect our net income.

Recent Accounting Changes

     No material change.

Critical Accounting Policies

     Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates, judgments and assumptions that affect the reported amounts of assets and liabilities, contingent liabilities, and revenue and expenses during the reporting period. We evaluate our estimates on an ongoing basis based on historical experience and other assumptions we believe are reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. The policies discussed below are considered by our management to be critical because they are not only important to the portrayal of our financial condition and results of operations but also because application and interpretation of these policies require both judgment and estimates of matters that are inherently uncertain and unknown. As a result, actual results may differ materially from our estimates.

Revenue recognition

     We derive, and expect to continue to generate, most of our revenues from online game subscription fees paid by users in Korea, and royalties and license fees paid by our licensees in the overseas markets. Our revenues can be classified into the following four categories: (i) online games — subscription revenue; (ii) online games — royalties and license fees; (iii) mobile games; and (iv) character merchandising, animation and other revenue. For details, see "—Overview—Revenue recognition”.

     We recognize revenue in accordance with accounting principles generally accepted in the United States, as set forth in Securities and Exchange Commission Staff Accounting Bulletin No. 104, Revenue Recognition, and other related pronouncements.

Allowances for doubtful accounts

     We maintain allowances for doubtful accounts receivable for estimated losses that result from the inability of our customers to make required payments. We base our allowances on the likelihood of recoverability of accounts receivable based on past experience and current collection trends. Allowances for accounts receivable generally arise when individual PC account subscribers who elect to make their payments through their fixed-line or mobile phone service provider fail to make such payment. We record allowances for doubtful accounts based on historical payment patterns of our customers and increase our allowances as the length of time such receivables become past due increases.

     We use the services of several collection agencies to facilitate and manage the collection of our accounts receivables. Effective July 1, 2003, we changed our arrangement with these collection agencies so that we no longer assume any collection risk.

Capitalized software development costs

     We account for capitalized software development costs in accordance with Statement of Financial Accounting Standards (“SFAS”) No. 86, Accounting for the Costs of Computer Software to be Sold, Leased, or Otherwise Marketed. Software development costs incurred prior to the establishment of technological feasibility are expensed when incurred and treated as research and development, or R&D, expenses. Once the game has reached technological feasibility, all subsequent software development costs for that product are capitalized until it is released for sale. Technological feasibility is evaluated on a product-by-product basis, but typically occurs once the online game has a proven ability to operate on a massively multi-player level. After the game is commercially released, the capitalized product development costs are amortized and expensed over the game’s estimated useful life, which is deemed to be three years. This expense is recorded as a component of cost of revenues.

     We evaluate the recoverability of capitalized software development costs on a product-by product basis. Capitalized costs for those products whose further development or sale is terminated are expensed in the period of cancellation. In addition, a charge to cost of revenues is recorded when management’s forecast for a particular game indicates that unamortized capitalized costs exceed the net realizable value of that asset.

     Significant management judgments and estimates are required to assess the timing of technological feasibility as well as the ongoing recoverability of capitalized costs.

Income taxes

     We account for income taxes under the provisions of SFAS No. 109, Accounting for Income Taxes. Under SFAS No. 109, income taxes are accounted for under the asset and liability method.

     Management judgment is required in determining our provision for income taxes, deferred tax assets and liabilities and the extent to which deferred tax assets can be recognized. A valuation allowance is provided for deferred tax assets to the extent that it is more likely than not that such deferred tax assets will not be realized. Realization of future tax benefits related to the deferred tax assets is dependent on many factors, including our ability to generate taxable income within the period during which the temporary differences reverse, the outlook for the economic environment in which the business operates, and the overall future industry outlook.

     Based on our review of these factors, as of December 31, 2001 and 2002, we concluded that the historical losses presented sufficient evidence to require a full valuation allowance on the deferred tax assets. However, as of December 31, 2003, there was sufficient taxable income to support the reversal of this allowance.

     As described in “—Overview—Income tax expenses,” we enjoyed in 2004 a reduced tax rate of 14.85%, which is 50% of the statutory tax rate and applied to certain designated venture companies. In 2005, while we will reapply for our designation as a venture company, it is uncertain as to whether we will obtain this designation. However, even if we cease to enjoy the 50% reduction in corporate income tax rate in 2005, we will instead be entitled to a special tax exemption of 10% in corporate income tax rate for the fiscal year 2005 by virtue of being a small- and medium-sized company. Accordingly, deferred income taxes as of December 31, 2004 were calculated based on the rate of 24.75% and 27.50% for the amounts expected to be realized during the fiscal year 2005 and 2006 and thereafter, respectively.

     In September 2005, the Company was designated as a venture company and continues to enjoy a 50% reduction in the applicable corporate income tax rate in 2005 and expects to do so in 2006. Such benefit was not reflected in deferred income tax.

Results of Operations (as restated)

2004 Compared to 2003

The following table summarizes our results of operations for the periods indicated.

		Year Ended December 31,
		2003				2004				2004(1)				% Change
		(Restated)				(Restated)				(Restated)
		(In millions of Won and thousands of US$)
Revenues:
Online games — subscription revenue		W	18,560			W	16,253			US $16,732					(12.4	)%
Online games — royalties and license fees			29,727				45,101				46,429				51.7
Mobile games			43				376				387				N/M
Character merchandising, animation and other revenue			1,185				2,696				2,775				127.5
Total revenues			49,515				64,426				66,323				30.1
Cost of revenues			6,958				10,116				10,414				45.4
Gross profit			42,557				54,310				55,909				27.6
Gross profit margin(2)			85.9	%			84.3	%			84.3	%
Operating expenses:
Selling, general and administrative			11,360				13,660				14,062				20.2
Research and development			1,597				2,029				2,089				27.1
Total operating expenses			12,957				15,689				16,151				21.1
Operating income			29,600				38,621				39,758				30.5
Operating profit margin (3)			59.8	%			59.9	%			59.9	%
Other income (expense):
Interest income			94				479				493				409.6
Interest expense			(6,465	)			(4,732	)			(4,871	)			(26.8	)
Foreign currency gains			413				430				442				4.1
Foreign currency losses			(278	)			(1,055	)			(1,086	)			279.5
Others, net			26				(1	)			(1	)			N/M
Total net other expense			(6,210	)			(4,879	)			(5,023	)			(21.4	)
Income before income tax expenses, minority interest, and equity in loss of related joint venture			23,390				33,742				34,735				44.3

		Year Ended December 31,
		2003				2004				2004(1)				% Change
		(Restated)				(Restated)				(Restated)
		(In millions of Won and thousands of US$)
Income tax expenses			4,250				5,406				5,565				27.2
Income before minority interest and equity in loss of related joint venture			19,140				28,336				29,170				48.0
Minority interest (4)			—				(17	)			(18	)			N/M
Equity in loss of related joint venture (5)			—				296				305				N/M
Net income (loss)		W	19,140			W	28,057			US$	28,883				46.6	%

Notes:

(1)

For convenience, the Won amounts are expressed in U.S. dollars at the rate of W971.4 to US$1.00, the noon buying rate in effect on March 31, 2006, as announced by the Federal Reserve Bank of New York.

(2)		Gross profit margin is calculated as gross profit divided by total revenues.
(3)		Operating profit margin is calculated as operating income divided by total revenues.
(4)		Represents the minority interest in GRAVITY Entertainment Corporation, our Japanese subsidiary. We acquired the remaining 50% of voting equity interest in RO Production in October 2004, resulting in RO Production becoming our wholly-owned subsidiary.
(5)		Represents the losses from our 30% equity investment in Animation Production Committee, a Japanese joint venture to produce and market “Ragnarok the Animation” through GRAVITY Entertainment Corporation, our Japanese subsidiary. This investment was accounted for using the equity method of accounting.

Revenues

     Our total revenues increased by 30.1% to W64,426 million (US$66,323 thousand) in 2004 from W49,515 million in 2003, primarily due to:

	•		an increase in royalties and license fees from Ragnarok Online to W45,101 million (US$46,429 thousand) in 2004 from W29,727 million in 2003, which primarily resulted from an increase in royalties from the overseas markets in which Ragnarok Online had already been commercialized and the commercialization of Ragnarok Online in new markets. During the periods under review, the increase in revenue attributable to existing markets was W13,795 million and attributable to an entry into new markets was W1,579 million. In April 2004, we commercialized Ragnarok Online in Singapore and Malaysia, from which we derived revenue of W1,103 million, and in the five European countries in April 2004, from which we derived revenue of W441 million, in each case in 2004. In December 2004, we commercialized Ragnarok Online in Australia and New Zealand, from which we derived revenue of W35 million in 2004; and
	•		a 127.5% increase in character merchandising, animation and other revenue to W2,696 million (US$2,775 thousand) in 2004 from W1,185 million in 2003, which resulted primarily from a 72.9% increase in character merchandising revenue to W2,028 million (US$2,088 thousand) in 2004 from W1,173 million in 2003, a 2,330.77% increase in technical support revenue to W316 million (US$325 thousand) from W13 million in 2003 and W247 million (US$254 thousand) in revenue from animation in 2004 compared to none in 2003;
			which more than offset
	•		a 12.4% decrease in subscription revenue to W16,253 million (US$16,732 thousand) in 2004 from W18,560 million in 2003. This 12.4% decrease resulted primarily from a 21.4% decrease in subscription revenue in Korea from Ragnarok Online to W12,724 million (US$13,099 thousand) in 2004 from W16,186 million in 2003, mainly due to a decrease in playing time by our users of Ragnarok Online in Korea. This decrease was partially offset by a 48.7% increase in the subscription revenue in the United States to W3,528 million (US$3,632 thousand) in 2004 from W2,373 million in 2003.

Cost of revenues

     Our cost of revenues increased by 45.4% to W10,116 million (US$10,414 thousand) in 2004 from W6,958 million in 2003, which was primarily due to:

	•		a 63.4% increase in salaries and wages to W4,403 million (US$4,533 thousand) in 2004 from W2,695 million in 2003, which mainly resulted from an increased hiring of game developers and overseas support staff from 130 as of December 31, 2003 to 174 as of December 31, 2004;
	•		a 58.4% increase in fee payments to W1,893 million (US$1,949 thousand) in 2004 from W1,195 million in 2003, which mainly resulted from an increase in fees we paid to Mr. Myoung-Jin Lee and server housing fees we paid to the KIDC; and
	•		a 41.5% increase in depreciation to W1,559 million (US$1,605 thousand) in 2004 from W1,102 million in 2003, which mainly resulted from the addition of servers and software in 2004 to better service Ragnarok Online.

Gross profit and margin

     As a result of the foregoing, our gross profit increased by 27.6% to W54,310 million (US$55,909 thousand) in 2004 from W42,557 million in 2003. Our gross profit margin decreased to 84.3% in 2004 from 85.9% in 2003.

Operating expenses

     Selling, general and administrative expenses. Our selling, general and administrative expenses increased by 20.2% to W13,660 million (US$14,062 thousand) in 2004 from W11,360 million in 2003, primarily due to:

	•		a 81.6% increase in salaries and wages to W3,156 million (US$3,249 thousand) in 2004 from W1,738 million in 2003, primarily as a result of an increase in the number of employees for administrative and other support functions from 86 in 2003 to 148 in 2004;
	•		a 174.7% increase in depreciation expense to W989 million (US$1,018 thousand) in 2004 from W360 million in 2003, which mainly resulted from depreciation attributable to leasehold improvements in property and the addition of servers for the introduction of R.O.S.E. Online; and
	•		a 9.0% increase in advertising expenses to W4,614 million (US$4,750 thousand) in 2004 from W4,233 million in 2003, which resulted from the hosting of the Ragnarok World Championship in August 2004, a significant increase in marketing expenses related to the introduction of R.O.S.E. Online and our participation in the Tokyo Game Show in September 2004.

     Research and development expenses. Our research and development expenses increased 27.1% to W2,029 million (US$2,089 thousand) in 2004 from W1,597 million in 2003, primarily due to expensing of all costs, including salaries and wages, and provision for severance indemnities, relating to the development of Requiem and Ragnarok Online 2.

Operating income and operating margin

     As a result of the cumulative effects of the reasons stated above, our operating income increased 30.5% to W38,621 million (US$39,758 thousand) in 2004 from W29,600 million in 2003, and our operating margin improved to 59.9% in 2004 from 59.8% in 2003.

Net other income (expense)

     Our net other expense decreased 21.4% to W4,879 million (US$5,023 thousand) in 2004 from W6,210 million in 2003 primarily due to:

	•		a 26.8% decrease in interest expense from W6,465 million in 2003 to W4,732 million (US$4,871 thousand) in 2004 as a result of reduction in payment rates on the loan from Sunny YNK, effective in March 2003, from 50% of all revenues from Ragnarok Online to 20% for domestic adjusted revenues and to 10% for overseas adjusted revenues from Ragnarok Online despite the significant increase in such revenues; and
	•		an increase in interest income from W94 million in 2003 to W479 million (US$493 thousand) in 2004 resulting from

			an increase in short-term financial instruments in 2004
			which more than offset
	•		an increase in loss in foreign currency transaction from W278 million in 2003 to W1,055 million (US$1,086 thousand) in 2004 resulting from the appreciation of the Korean Won against the U.S. dollar.

Income tax expenses

     We recorded income tax expenses of W5,406 million (US$5,565 thousand) in 2004, as compared to W4,250 million in 2003. Our income tax expenses increased as a result of an increase in our taxable income, in particular, royalties and license fees from revenues generated in overseas markets. In both 2003 and 2004, however, we were entitled to a reduced tax rate of 14.85% by virtue of the Special Tax Treatment Control Law of Korea.

Minority interest

     Minority interest represents the net loss from GRAVITY Entertainment Corporation, our Japanese subsidiary, which is attributable to the third-party minority interest holders. In October 2004, we acquired the remaining minority interest in GRAVITY Entertainment Corporation.

Equity in loss of related joint venture

     Equity in loss of related joint venture represents the 30% of the net loss incurred from Animation Production Committee, the Japanese animation joint venture in which we, through GRAVITY Entertainment Corporation, our Japanese subsidiary, made a 30% equity investment. This investment was accounted for using the equity method of accounting.

Net income

     As a result of the cumulative effects of the reasons stated above, our net income increased 46.6% to W28,057 million (US$28,883 thousand) in 2004 from W19,140 million in 2003.

2003 Compared to 2002

     The following table summarizes our results of operations for the periods indicated.

		Year Ended December 31,
		2002				2003				% Change
		(Restated)				(Restated)
		(In millions of Won and thousands of US$)
Revenues:
Online games — subscription revenue		W	7,310			W	18,560				153.9	%
Online games — royalties and license fees			2,330				29,727				1,175.8
Mobile games			—				43				N/M
Character merchandising, animation and other revenue			427				1,185				177.5
Total revenues			10,067				49,515				391.9
Cost of revenues			1,738				6,958				300.3
Gross profit			8,329				42,557				410.9
Gross profit margin(1)			82.7	%			85.9	%
Operating expenses:
Selling, general and administrative			4,870				11,360				133.3
Research and development			815				1,597				96.0
Total operating expenses			5,685				12,957				127.9
Operating income			2,644				29,600				1,019.5
Operating profit margin(2)			26.3	%			59.8	%
Other income (expense):
Interest income			84				94				11.9
Interest expense			(2,583	)			(6,465	)			150.3
Foreign currency gains			93				413				344.1
Foreign currency losses			(17	)			(278	)			1,535.3
Others, net			(1	)			26				N/M
Total net other expense			(2,424	)			(6,210	)			156.2

		Year Ended December 31,
		2002				2003				% Change
		(Restated)				(Restated)
		(In millions of Won and thousands of US$)
Income before income tax expenses			220				23,390				N/M
Income tax expenses			542				4,250				684.1
Net income (loss)		W	(322)			W	19,140				N/M

Notes:

(1) Gross profit margin is calculated as gross profit divided by total revenues.

(2) Operating profit margin is calculated as operating income (loss) divided by total revenues.

Revenues

     Our total revenues increased by 391.9% to W49,515 million in 2003 from W10,067 million in 2002, primarily due to:

	•		an increase in royalties and license fees from Ragnarok Online to W29,727 million in 2003 from W2,330 million in 2002, which primarily resulted from substantial increases in royalties from overseas markets, primarily due to the full year of commercial availability of Ragnarok Online in Taiwan and Japan in 2003 as compared to only a few months in 2002 and generation of revenues from markets we newly entered in 2003, mainly Thailand and China; and
	•		a 153.9% increase in subscription revenue, primarily representing the increase in domestic subscriptions from Ragnarok Online, which reflects the recording of revenues from Ragnarok Online for the full year of 2003 as compared to five months in 2002 following the commercial launch of Ragnarok Online in August 2002.

Cost of revenues

     Our cost of revenues increased by 300.3% to W6,958 million in 2003 from W1,738 million in 2002, which was primarily due to:

	•		a 360.7% increase in salary and wages to W2,695 million in 2003 from W585 million in 2002 resulting from an increase in the number of game developers and overseas support staff from 92 in 2002 to 130 in connection with significant hiring for game development and support;
	•		a 753.6% increase in fee payments to W1,195 million in 2003 from W140 million in 2002, which mainly resulted from increases in fees payable to Mr. Myoung-Jin Lee, Web hosting costs, server housing fees to KIDC and software maintenance costs; and
	•		a 161.1% increase in depreciation to W1,102 million in 2003 from W422 million in 2002, which mainly resulted from the purchase of servers and, to a lesser extent, personal computers in 2003.

Gross profit and margin

     As a result of the foregoing, our gross profit increased by 410.9% to W42,557 million in 2003 from W8,329 million in 2002. Our gross profit margin increased to 85.9% in 2003 from 82.7% in 2002.

Operating expenses

     Selling, general and administrative expenses. Our selling, general and administrative expenses increased by 133.3% to W11,360 million in 2003 from W4,870 million in 2002, primarily due to:

	•		a 217.3% increase in advertising expenses to W4,233 million in 2003 from W1,334 million in 2002, which mainly resulted from the introduction of increased marketing campaigns, including online and celebrity marketing;
	•		a 111.4% increase in fee payments consisting of fees paid to payment service providers and sales commissions paid to promotional agents distributing Ragnarok Online to Internet cafés to W2,602 million in 2003 from W1,231 million in 2002, primarily due to an increase in revenue in Korea;
	•		a 119.7% increase in salaries and wages to W1,738 million in 2003 from W791 million in 2002, primarily as a result

			of increase in the average number of employees during the periods under review; and
	•		our recording an impairment loss of W777 million in 2003, resulting from our W1 billion cash investment in an online game portal business in May 2003. In December 2003, due to poor performance and operating results, we sought to nullify the investment arrangement and recovered W223 million in cash and recorded the remaining W777 million as impairment loss.

     Research and development expenses. Since technological feasibility had not yet been reached with respect to R.O.S.E. Online, Requiem and Ragnarok Online 2, our research and development expenses increased 96.0% to W1,597 million in 2003 from W815 million in 2002, primarily due to expensing of all costs, including salaries and wages and provision for severance indemnities, relating to the licensing of R.O.S.E. Online and development of Ragnarok Online 2 and Requiem.

Operating income and operating profit margin

     As a result of the cumulative effects of the reasons stated above, we recorded operating income of W29,600 million in 2003, as compared to operating income of W2,644 million in 2002, and our operating margin improved to 59.8% in 2003 from 26.3% in 2002.

Net other expense

     Our net other expense increased 156.2% to W6,210 million in 2003 from to W2,424 million in 2002 primarily due to a 150.3% increase in interest expense to W6,465 million in 2003 from W2,583 million, resulting primarily from a 144.6% increase in payments to Sunny YNK to W6,256 million in 2003 from to W2,558 million, which are linked to our revenues based on Ragnarok Online, which significantly increased in 2003 compared to 2002 as described above. See “—Overview—Foreign currency effects”.

Income tax expenses

     Our income tax expenses increased as a result of an increase in our taxable income. In 2003, however, we were entitled to a reduced tax rate of 14.85% by virtue of the Special Tax Treatment Control Law of Korea. Applying this reduced tax rate, we recorded income tax expenses of W4,250 million in 2003.

Net income (loss)

     As a result of the cumulative effects of the reasons stated above, we recorded net income of W19,140 million in 2003, as compared to net loss of W322 million in 2002.

Impact of inflation

     In view of our brief operating history, we believe that inflation in Korea and our other principal markets has not had a material impact on our results of operations. Inflation in Korea was 4.1% in 2001, 2.7% in 2002, 3.6% in 2003 and 3.6% in 2004.

Impact of foreign currency fluctuations

     See Item 11 “Quantitative and Qualitative Disclosures about Market Risk”.

Government, Economic, Fiscal, Monetary or Political Policies or Factors

     See Item 3.D. “Risk Factors—Risks Related to The Republic of Korea”, Item 4.B. “Business Overview—Laws and Regulations” and Item 10.E. “Taxation”.

5.B. Liquidity and Capital Resources

Liquidity

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

		Year Ended December 31,
		2001				2002				2003				2004				2004 (US$)
						(restated)				(restated)				(restated)				(restated)
Cash and cash equivalents at beginning of period		W	39			W	1,820			W	560			W	5,405			US$	5,564
Net cash provided by (used in) operating activities			922				(4,299	)			15,823				32,642				33,603
Net cash used in investing activities			(589	)			(3,520	)			(10,564	)			(19,007	)			(19,566	)
Net cash provided by (used in) financing activities			1,448				6,559				(414	)			(2,635	)			(2,713	)
Net increase (decrease) in cash and cash equivalents			1,781				(1,260	)			4,845				11,000				11,324
Cash and cash equivalents at end of period		W	1,820			W	560			W	5,405			W	16,405			US$	16,888

(1)

For convenience, the Korean Won amounts are expressed in U.S. dollars at the rate of W971.4 to US$1.00, the noon buying rate in effect on March 31, 2006 as quoted by the Federal Reserve Bank of New York.

     Prior to the commercial launch of Ragnarok Online, our principal sources of liquidity were cash from equity financing and incurrence of debt, including the debt we incurred from Sunny YNK. Following the commercial launch of Ragnarok Online, our principal sources of liquidity have been cash flows from our operating activities and equity financing and, to a lesser extent, short-term borrowings. Net cash used in investing activities have consisted primarily of investments in game engines, network servers and, to a lesser extent, personal computers. As a result, our net property and equipment increased from W5,417 million as of December 31, 2003 to W14,760 million (US$15,195 thousand) as of December 31, 2004.

     In order to resolve short-term liquidity issues that may arise from time to time in the course of our business, we have in the past obtained short-term borrowings at market rates from other game developers. In February 2003, we obtained a loan of W3 billion at an annual interest rate of 18% from IAMBiz Co., Ltd., which subsequently changed its name to Rhoceo Co., Ltd., to satisfy short-term liquidity needs relating to marketing and promotional activities for Ragnarok Online and for working capital. In September 2003, we fully repaid this loan with positive cash flow generated by Ragnarok Online. Since then, we have not incurred any additional short-term borrowing and no short-term borrowings were outstanding as of December 31, 2004. In order to resolve long-term liquidity issues, we have traditionally resorted to the issuance of equity securities such as the rights offering that we conducted in March 2003. In 2002, in order to resolve long-term liquidity issues prior to the commercial launch of Ragnarok Online, we entered into an exclusive distribution agreement with Sunny YNK pursuant to which we received a lump sum payment in the amount of W7,000 million at the inception of the agreement, which we recorded as debt on our balance sheet. Since then, we have been able to satisfy our liquidity needs with cash flow from operations and do not expect to enter into such arrangements in the future. Our cash investment policy emphasizes liquidity and preservation of principal over other portfolio considerations. We deposit our cash in demand deposits, short-term financial instruments, which primarily consist of time deposits with maturity of one year or less, and money market funds with a rolling maturity of 90 days or less. Our short-term financial instruments increased from nil as of December 31, 2002 to W1,600 million as of December 31, 2003 and to W8,900 million (US$9,162 thousand) as of December 31, 2004 primarily as a result of increased net cash from our operations during the period.

     Cash received in the form of initial license fees are recognized as revenues on a monthly basis over the life of our license agreements as described in Item 5.A. “—Overview—Revenue recognition”. The portion of initial license fees not yet recognized as revenues are reflected in our balance sheet as deferred income. Our total deferred income, both short-term and long-term, increased from W2,750 million as of December 31, 2002 to W4,258 million as of December 31, 2003 and to W7,597 million (US$7,821 thousand) as of December 31, 2004 primarily due to our recognizing an increased portion of initial license fees that we received in 2002, 2003 and 2004 as revenues.

     Cash flows from operating activities. Our increase in net cash provided by operating activities from 2001 to 2004 was primarily the result of our recording net income in 2003 and 2004 compared to net losses in 2001 and 2002. Our increase in net cash provided by operating activities in 2003 also reflected an adjustment of W1,619 million for depreciation and amortization. This increase was partially offset by W912 million in deferred income taxes that we recorded in 2003. Our increase in net cash provided by operating activities in 2004 reflected an adjustment of W3,217 million (US$3,312 thousand) for depreciation and amortization, of W3,339 million (US$3,437 thousand) for deferred income from the renewal of sales contract, and of W913 million (US$940 thousand) for provision for accrued severance benefits. This increase was partially offset by W1,156 million (US$1,190 thousand) in deferred income taxes that we recorded in 2004. The increases in deferred expense and accounts payable on our balance sheet as of December 31, 2004 primarily reflected the fees that we incurred in connection with our initial public offering on NASDAQ in the amount of W1,735 million (US$1,786 thousand), which were unpaid as of December 31, 2004, and then paid in full in February and May 2005.

     Cash flows from investing activities. Our increase in net cash used in investing activities from 2001 to 2004 reflected purchases of property and equipment in these years in connection with the general growth of our businesses and the increase in payment of leasehold deposits. In addition, our net cash used in investing activities in 2003 and 2004 reflected our investment of our excess cash in short-term financial instruments in the amount of W2,200 million in 2003 and W7,300 million (US$7,515 thousand) in 2004, investment of W1 billion in a game portal business and acquisition of golf membership in the amount of W892 million in 2003, and an investment of W1,243 million (US$1,280 thousand) through our Japan subsidiary in the Animation Production Committee, a joint venture for the production and marketing of Ragnarok the Animation, in 2004. In March 2004, we entered into an agreement to purchase from Choongang Mutual Savings Bank an office building to house part of our headquarters for W8,150 million in cash, which has been fully paid.

     Cash flows from financing activities. Our net cash provided by financing activities has been primarily affected by the issuance of common shares in 2003 and the incurrence of debt from Sunny YNK in 2002. In March 2003, we received net proceeds of W3,206 million from the sale of 2,148,900 common shares at W1,500 per share. Our net cash provided by financing activities in 2001 and 2002 consisted of proceeds from the issuances of common stock, consisting of 600,000 shares in January 2001, 1,200,000 shares in October 2001 and 600,000 shares in January 2002, each at W500 per share. In February and April 2002, we entered into agreements with Sunny YNK pursuant to which we granted it the exclusive right to distribute Ragnarok Online for a contractual period of three years from the date Ragnarok Online was first commercialized. In consideration, we received a lump sum payment in the amount of W7,000 million at the inception of these agreements, which we recorded as debt on our balance sheet.

Capital resources

     As our overseas operations are conducted primarily through our subsidiaries and our overseas licensees, our ability to finance our operations and any debt that we or our subsidiaries may incur depends, in part, on the payment of royalties and other fees by our overseas licensees and, to a lesser extent, the flow of dividends from our subsidiaries.

     As of December 31, 2004, our primary source of liquidity was W16,405 million (US$16,888 thousand) of cash and cash equivalents. We believe that our available cash and cash equivalents and net cash provided by operating activities, will be sufficient to meet our capital needs for at least the next 12 months. However, we cannot assure you that our business or operations will not change in a manner that would consume available capital resources more rapidly than anticipated. We may, however, require additional cash resources due to changed business conditions or other future developments, including any significant investments or acquisitions. If these sources are insufficient to satisfy our cash requirements, we may seek to sell additional securities either in the form of equity or debt. In the past, we raised cash resources through the issuance of common shares. See note 11 to our audited consolidated financial statements as of December 31, 2003 and 2004 and for the years ended December 31, 2002, 2003 and 2004. The sale of additional equity securities or convertible debt securities could result in additional dilution to our shareholders. In the past, we also raised cash by entering into indebtedness arrangements such as the transaction entered into with Sunny YNK as described in Item 5.A. “—Overview—Interest expense”. In addition, we may seek to incur indebtedness through the issuance of debt securities or by obtaining a credit facility. The incurrence of indebtedness would result in increased debt service obligations and could result in operating and financial covenants that would restrict operations. As of December 31, 2004, we had no lines of credit or other credit facilities. We also have not entered into any material financial guarantees or similar commitments to guarantee the payment obligations of third parties. Financing may not be available in amounts or on terms acceptable to us, if at all.

     We expect to have capital expenditure requirements for the ongoing expansion into other markets, including hardware expenditures for continuous expansions and upgrades to our existing server equipment, and also for game development, acquiring and publishing third party game developers or games developed by them and continuing to invest in enhancing our technological, marketing, distribution and service capabilities. We believe that our internal cash flow from operations, together with our proceeds from our initial public offering in February 2005 will be sufficient to satisfy our working capital requirements through at least the first quarter of 2006, including our new game development expenditures for Requiem and Ragnarok Online 2.

5.C. Research and Development, Patents and Licenses, etc.

     See Item 5.A. “Business Overview—Game development and publishing” for our research and development.

     Our intellectual property is an essential element of our business operations. We rely on copyright, trademark, trade secret and other intellectual property law, as well as non-competition, confidentiality and license agreements with our employees, suppliers, licensees, business partners and others to protect our intellectual property rights. Our employees are generally required to sign agreements acknowledging that all inventions, trade secrets, works of authorship, developments and other

processes generated by them on our behalf are our property, and assigning to us any ownership rights that they may claim in those works. With respect to copyrights and computer program rights created by our employees within their employment scope and which are made public bearing our name, we are not required to pay any additional compensation to our employees.

     In developing Ragnarok Online, we obtained an exclusive license from Mr. Myoung-Jin Lee to use the storyline and characters from his cartoon titled “Ragnarok” for the production of online games, animation and character merchandising. See Item 4.B. “Business Overview—Our products—Massively multiplayer online role playing games—Massively multiplayer online role playing games currently offered—Ragnarok Online” above.

     We are the registered owner of two registered software copyrights to Ragnarok Online and Arcturus, a PC-based game, each of which we have registered with the Program Deliberation and Mediation Committee of Korea. As of December 31, 2004, we owned over 32 registered domain names, including our official website and domain names registered in connection with each of the games we offer. We also had registered trademarks and trademark applications pending at patent and trademark offices in 15 countries covering eight discrete trademarks, two design patents and three analogous design patents, which are variations of the two design patents, registered with the Korea Intellectual Property Office, and registered copyrights covering 11 game characters, in each case as of December 31, 2004.

5.D. Trend Information

     Trends, uncertainties and events which could have a material impact on our sales, operating revenues and liquidity and capital resources are discussed above in Item 5.A. “—Operating Results” and Item 5.B. “—Liquidity and Capital Resources”.

5.E. Off-Balance Sheet Arrangements

     As of December 31, 2004, we did not have any outstanding derivative financial instruments, off-balance sheet guarantees, interest rate swap transactions or foreign currency forward contracts. We do not engage in trading activities involving non-exchange traded contracts. In 2005, we began entering into derivatives arrangements to hedge against the risk of foreign currency fluctuations. As of June 29, 2005, we had foreign currency forward contracts outstanding in the aggregate notional amount of US$70 million. See Item 11 “Quantitative and Qualitative Disclosures about Market Risk”.

5.F. Contractual Obligations

     We have financed our operations primarily through incurrence of debt from third parties, such as Sunny YNK, cash flows from operations as well as equity investments by our founder and current shareholders. The following table sets forth a summary of our contractual cash obligations due by period as of December 31, 2004.

		Payments Due by Period
						Between 1				Between 3
		Up to				and				and				Beyond
		1 Year				3 Years				5 Years				5 Years				Total
		(In millions of Won)
Long-term debt obligations		W	1,150			W	—			W	—			W	—			W	1,150
Operating lease obligations			728				5				—				—				733
Purchase obligations(1)			—				—				—				—				—
Total		W	1,878			W	5			W	—			W	—			W	1,883