Source: King Digital.
Friday was more crush than candy for King Digital Entertainment (KING.DL) investors. The company behind Candy Crush Saga, Farm Heroes Saga, and others took a hit after posting unimpressive quarterly results.
The numbers may have seemed decent on the surface. King Digital bragged about scoring 3 of the 10 highest grossing games on the leading iOS and Android app marketplaces during the quarter. Gross bookings -- the revenue metric of choice in this niche -- clocked in at the high end of its earlier guidance. Adjusted EBITDA margins may have slipped to 41% from 42% a year earlier, but we're still looking at an impressive streak of eight quarter in a row above 40%. Adjusted earnings landed ahead of Wall Street expectations.
However, the cold and stock-crushing truth is that bookings, revenue, and adjusted earnings all posted double-digit percentage declines from a year earlier. King Digital has been able to expand its portfolio of games, even recently entering into new categories. That has helped grow the number of daily and monthly active users firing up its digital diversions, but the number of folks actually paying to play one of its games has decreased sharply over the past year. The number of monthly unique payers has plunged by 27%, going from 10.4 million a year ago to 7.6 million now.
All of this is problematic, leading one to wonder if we're just seeing a rerun of Zynga's (ZNGA) crash and burn. Zynga's bookings peaked in 2012, and it seems as if King Digital's bookings topped off in 2014. Both companies fired back by pumping out a growing variety of games, but the sum of all of those parts was never enough to offset the waning popularity of its flagship titles.
Candy Crush Saga is the game that put King Digital on the map, but its gross bookings peaked during the third quarter of 2013. King Digital went public a few months later at $22.50. Investors seemed to know that something wasn't right. They had seen Zynga's hyped IPO fizzle a couple of years earlier. The fickle nature of the mobile gamer and the challenges of monetizing casual apps were well known at the time. It's why King Digital stock opened lower on its first day of trading in March of last year, and outside of an intraday spike last summer has remained a busted IPO.
The trend isn't pretty, and even the rare welcome ones on a year-over-year basis -- the growth in overall monthly and daily active users -- actually declined sequentially. The good news for opportunistic investors is that both out-of-favor companies could be compelling values here. Zynga's decimated share price actually places it closer to its cash balance. King Digital's sell-off on Friday pushes its earnings multiple into the single digits. This would seem to limit the potential downside of both stocks, but the catch here is that gross bookings and bottom-line results can't keep shrinking. Zynga can't keep eating into its cash mattress just as King Digital's profitability can't continue to contract if we're going to use liquidity and P/E multiples as the basis for support. That's not a floor. That's quicksand.
Both companies have plenty of time to get it right. A single hit franchise could spark new life into the niche. However, investors may want to wait and see that happen before stepping in under the assumption that fundamentals have paved over the quicksand. That's not a fun game to play.
