Zynga (NASDAQ:ZNGA) has been very successful in recent years using acquisitions to fuel its revenue growth. Since 2011, Zynga has spent billions on these acquisitions, typically with small-size deals. But earlier in 2019, Zynga swung its bat a little harder by acquiring 80% of Small Giant Games for $718 million.
On June 1, Zynga hit a grand slam by announcing a deal to buy Istanbul-based Peak for a price tag of $1.8 billion -- its largest acquisition yet. The deal should close in the third quarter and will be financed by a combination of $900 million in cash and newly-issued Zynga stock.
Zynga CEO Frank Gibeau called the deal "transformational" for the company. Here are three ways Peak will boost Zynga's long-term growth profile.
1. Player base
One thing top gaming companies are trying to accomplish is gaining scale, which basically involves developing more content or releasing new games to grow revenue. Zynga has been accomplishing this by acquiring new studios and game properties. As revenue increases, game companies can spread the cost of making a game over a larger player base, therefore improving profit margins.
Peak brings two of the top grossing mobile games in the market -- Toon Blast and Toy Blast -- which together have 12 million daily active users and 29 million monthly active users. This will increase Zynga's daily active users by 60% and monthly active users by 40%.
During a conference call on June 1, Gibeau described how this increased audience will benefit Zynga's business: "With Toon Blast and Toy Blast, we are expanding our portfolio from six to eight forever franchises, boosting our live services by approximately one third," he said. "This additional live services scale is expected to generate significantly more recurring revenue and bookings while also driving overall margin expansion and strong operating cash flow."
By live services, Gibeau is referring to the common business model used by mobile game companies, where players can download games for free and then purchase additional content within the app. This is the primary means by which Zynga makes money, with advertising contributing just 15% to total revenue in the first quarter.
2. Geographic reach
One of the ways Zynga is aiming to expand its player base is through international expansion. Peak will enhance Zynga's international growth strategy pretty significantly.
Zynga has been particularly impressed with Peak's performance in Japan. During the call, Gibeau said: "The majority of their business internationally, outside the United States, comes from Japan, which is a strategic mobile market for our company and for the industry. So we're very encouraged with their performance there."
The company generated 41% of its net bookings outside the U.S. in the first quarter. Japan's mobile game market was valued at $13.3 billion in 2018, according to Japan's Mobile Content Forum. For perspective, the global mobile game market is expected to reach $77 billion this year, according to market researcher Newzoo.
3. Margin improvement
Zynga is experiencing strong momentum during the COVID-19 crisis. On June 1, management raised its full-year guidance and now expects bookings to be up 18% year over year to reach $1.84 billion. Adjusted EBITDA, which is often used as a proxy for cash from operating activities, is expected to more than double to $223 million.
The company expects Peak to generate $300 million of revenue and bookings in the second half of the year, but less than that will flow to Zynga since the deal doesn't close until the third quarter. Additionally, because Peak doesn't currently account for deferred revenue, Zynga will recognize a minimal amount of revenue in 2020 from the acquisition, with Peak's bookings deferred to future periods.
Long term, Zynga is targeting an adjusted EBITDA margin of 30%. It currently generates 12% relative to net bookings based on 2020 guidance. One analyst during the call asked how Peak will get Zynga to its 30% goal. CFO James Griffin answered, "Obviously, given the opportunities in terms of having two forever franchises at scale with highly engaged retentive audiences, we believe Peak will be a strong contributor to our overall margin expansion over the coming years."
It's important to know that Zynga and Peak have a prior history. Zynga previously acquired Peak's casual card game business in the fourth quarter of 2017. These management teams already know each other well and are eager to share best practices across the company to improve player retention metrics and new user acquisition, and unlock opportunities to grow advertising revenue.
The future looks very bright for this interactive entertainment provider.