Is Now the Time to Bail on Zynga?

At the close of the market on April 25, shares of Zynga (NASDAQ: ZNGA  )  fell more than 6% to finish the session at $4.08. With the video game maker's stock trading at a 31% discount from its 52-week high of $5.89, some investors might be asking themselves if now is a prime time to jump in and buy a nice stake. While it's possible that Zynga could be a nice investment going forward, should investors buy a piece of the company or bail and consider King Digital (NYSE: KING  )  instead?

Zynga's been experiencing some growth problems lately!
For the past three years, Zynga has been somewhat of a mixed bag for its shareholders. Between 2011 and 2012, the maker of games like PetVille, FarmVille, and Words with Friends saw its revenue tick up 12% from $1.1 billion to $1.3 billion. In its 2012 annual report, management attributed this rise in sales  to a 7% increase in online game revenue and an impressive 84% jump in advertising revenue; both of those metrics were driven by a 24% improvement in monthly active users (MAUs) from 240 million to 298 million.

ZNGA Revenue (Annual) Chart

Zynga revenue (annual) data by YCharts

This did, however, change for the worse during 2013. For the year, revenue dropped a whopping 32% from $1.3 billion to $873.3 million. While advertising revenue for the company dropped 17% year over year, the largest driver behind lower revenue was the 34% decline in online game revenue; the number of MAU's plummeted 62% from 298 million to 112 million.

Probably the only thing Zynga's had going for it over this time frame was its improving profitability. Even though the business booked a net loss every year between 2011 and 2013, its loss narrowed each year, falling from $404.3 million to $37 million.

Despite higher sales, management reported that its research and development fell from 64% of sales to 48%, while its selling, general, and administrative expenses declined from 21% of sales to 12%. In its annual report, management chalks up the drop in its R&D expenses to decreased stock-based expenses, while its SG&A expenses dropped because of a mixture of stock-based expenses and lower content-acquisition costs.

Is King Digital the true face of online gaming?
Between 2011 and 2013, King Digital has done far better than Zynga. During this three-year period, the video game maker reported that revenue soared 284% from $63.9 million to $1.9 billion. Unlike Zynga, King Digital's success has been the result of a significant increase in MAUs over this period. Unfortunately, the company's earliest disclosure for MAUs was the first quarter of its 2012 fiscal year, but since then its user count has increased 1,260% from 30 million to 408 million.

KING Revenue (Annual) Chart

King Digital revenue (annual) data by YCharts

Although the company enjoyed an attractive rise in revenue from its web operations, the main contributor to its meteoric rise was its mobile operations, which saw sales increase from $30 million to $1.3 billion. The driver behind this was the company's release of Candy Crush Saga, which became immensely popular among mobile users.

This revenue increase allowed the business to post significant bottom-line growth over the past three years. Between 2011 and 2013, King Digital's net income rose from -$1.3 million to $567.6 million. In addition to benefiting from higher revenue, the company reported a reduction in most of its costs as a percentage of sales, mostly because of improvements in its economies of scale.

Foolish takeaway
Right now, Zynga is having a pretty difficult time. Mr. Market seems to understand that, hence the discount in share price. The situation appears to be getting worse. Management expects revenue to fall between 31% and 39% to between $140 million and $160 million from the $230.7 million the company reported during the second quarter of 2013. 

Meanwhile, rival King Digital looks to be picking up where Zynga has fallen short and doesn't look to be losing steam just yet. For this reason, combined with the company's higher profitability metrics, it's hard to argue that Zynga is a better prospect than King Digital.

Moving forward, King Digital will have to retain its customer base if it wants to avoid following in Zynga's footsteps. Whether or not this can happen is something that investors will have to observe as developments take place; but if the company can hold onto its customers, then the potential for returns could be phenomenal. In the event that it loses user appeal like its rival has, the company (and its shareholders) could be in for a great deal of pain down the road.

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Read/Post Comments (3) | Recommend This Article (2)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On April 28, 2014, at 9:20 PM, Chicky wrote:

    The real reason that Zynga lost so much revenue in late 2013 - early 2014 is because of the mass boycott of their games after the announcement to sunset YoVille. To some, Yoville became a way of life, an opportunity for those who were housebound to live life outside, for those who could not walk to walk among friends. When the announcement came, the reaction from the passionate Yo community was swift - a complete boycott of every game on the Zynga roster. Now that Zynga sold it's rights to Yoville to the Canadian gaming company, Big Viking Games (effective May 14, 2014), we've announced that it's okay to come back to Zynga, however, the announcement might be too late for Zynga. A lot of us are still stinging from the complete lack of feeling toward loyal players who spent real money in Yoville. I, for one, found that I didn't miss Words, Scramble, Gems or Matching with Friends as much as I thought I would and have no real desire to spend any money with a company who has so little regard for it's players...and I don't seem to be alone in my thinking. With so many of us in this mindset, King Games might be in the perfect position to cash in.

  • Report this Comment On April 29, 2014, at 9:40 AM, steveat wrote:

    YOu're dealing with a lot of information here and I am not sure if you can compare and Zynga. Bother are in the casual gaming space, but both got to where they are through totally different ways.

    Zynga usually develops turn-based-games. Like chess or checkers. They seem to use the same game engine for every game and i do not know why. They buy games that they are not creative enough to develop. There start was on facebook, then they decided to create a portal.

    King.Com started out as a portal first and they make their money from receiving payments (in-game) OR they promote other people's games and receive commission payments. It's just a website with a whole lot of games, like an arcade. Apparently they stole the idea for their top game. Can they be creative enough to make another hit? Maybe?

  • Report this Comment On April 29, 2014, at 9:42 AM, ArchieBunker wrote:

    Run , Run while you can before you lose your pants , Zynga will fail. There a lot of hate for this company and its founder Mark Pincus after cheating many people out of money and time. Hope the low life is proud of his self and I really don't see it new CEO being able to repair the damage that's been done already. Customers don't forget.

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Daniel Jones

Dan is a Select Freelance writer for The Motley Fool. He focuses primarily on the Consumer Goods sector but also likes to dive in on interesting topics involving energy, industrials, and macroeconomics!

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