Can Zynga Overcome Its Greatest Threat?

Mobile gaming trouble-hive Zynga (NASDAQ: ZNGA  ) reports earnings this week that will hopefully appease investors' and analysts' long-running concerns. As of the last earnings statement, the company was facing headwinds in the customer retention department, while the C-suite had to install a revolving door. The biggest question on Thursday afternoon may not be whether the company is in the black or red, but rather the focus will be on stabilizing its user base, the stickiness of its games, and whether its efforts at online gambling are progressing at a rate that can salvage the company.

Crash cart
Last April, Zynga was able to deliver a profit to investors that doubled as an earnings beat, along with a healthy-looking bump in EBITDA (up 66% over the prior year's number). Though revenue dipped, investors seemed encouraged that a turnaround was in store.

One glaring issue, though, was its user retention. For that quarter, daily active users hit 52 million, a drop of more than 10 million year over year. Monthly active users dropped 50 million to 250 million. These numbers represented a record low -- a scary thought for a company that went public only a year before.

Since then, the biggest piece of news out of the company was founder and CEO Mark Pincus' abdication, which sent shares rightfully higher. Pincus, though undoubtedly a smart and capable founder, was not a great CEO. He is, however, staying on as chairman and chief product officer. A more concerning executive exit was that of Dan Porter, the creator of Draw Something and a high-profile member of the Zynga team following the $180 million acquisition of OMG POP! (Porter's company). That Pincus-driven buyout has since been written down to nearly nothing on the balance sheet.

So what should investors expect come Friday, as well as further down the road?

One small loss today, one big threat for tomorrow
In April's earnings release, management guided for a $0.03-$0.05 per share loss for the coming quarter. Disappointing, sure, but not a terrible number given the intense investments the company must make to steer the ship away from the giant iceberg that is irrelevancy.

Zynga has the online gambling venture, which admittedly has potential, along with its new CEO, former Microsoft Xbox honcho Don Mattrick. Mattrick was responsible for the Xbox's tremendous success, and before that he led an effective turnaround over at Electronic Arts. It was reported that Mattrick had wanted Microsoft to acquire Zynga a few years back.

Still, the risk here is tremendous. Zynga's development costs for games that have falling user rates are too high. We've seen it again and again, every fad game is just that: a fad. Everyone plays them until no one plays them.

Zynga has a long road ahead of convincing not only investors and analysts that the company is worth a glance, but gamers as well. Friday's earnings report will show some status updates, but the long-term picture for investors is far more important in this case. Do not buy just on Zynga's earnings, whether bad or good. Take the whole story into account.

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