Zynga's (ZNGA) recent quarterly report was probably better than expected, however better than expected might not mean much. Non-GAAP earnings were in line at a loss of $0,01 per share, and revenue was a little better than expected, totaling $168 million vs. analysts expectations of $147 million, but when one looks at the year-over-year picture, everything was down across the board:
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Revenue was $168 million for the first quarter of 2014, a decrease of 36% compared to the first quarter of 2013
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Online game revenue was $132 million, a decrease of 42% compared to the first quarter of 2013
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Adjusted EBITDA was $14 million for the first quarter of 2014 compared to $29 million for the first quarter of 2013
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Non-GAAP net loss was $6 million for the first quarter of 2014, compared to non-GAAP net income of $9 million in the first quarter of 2013
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Cash, cash equivalents and marketable securities stood at $1.14 billion, compared to $1.54 billion as of December 31, 2013. A substantial decrease primarily due to the purchase of NaturalMotion last quarter.
The pace of deterioration seems to leveling off
The only bright spot was advertising and other revenue that came in at $36 million, an increase of 5% compared to the first quarter of 2013 and an increase of 49% compared to the fourth quarter of 2013. However that is not enough to make up for everything else. No cigar here.
Another bright spot might be considered the fact that bookings were 10% higher sequentially compared to last quarter, and daily active users rose by 7%. But again, looking at the year-over-year picture, the 28 million daily active users pale in comparison to the 52 million daily active users the company had the same quarter last year. So even though we see that things are leveling off on a quarter-over-quarter basis, the continues deterioration on a yearly basis is nothing to cheer about. No cigar here either.
An increased float is not investor friendly
Another issue that investors need to consider is the increase of the float. If a company's EPS and revenue growth is lower than the increase in the total outstanding number of shares (the float), then investors are basically losing in real terms, even if the company seems to be doing well.
ZNGA Shares Outstanding data by YCharts
In Zynga's case however (as pointed out above), on a year-over-year basis the company continues to see deteriorating fundamentals across the board. If it was actually doing better, one can make a case for the increase in total shares (the float), but that is not the case.
And as per management's guidance for 2014, non-GAAP EPS is projected to be in the range of $0.01 to $0.03, based on a share count of approximately 930 million shares. Please note that today the total share count stands at 877 million shares, so that means additional dilution to the tune of about 6% by the end of the year.
In my book over the long term, and to the extent that Zynga continues to issues shares in this fashion, investors will be facing a headwind in their quest for long term price appreciation. Definitely no cigar here, and if anything else, this could be a reason for the market might punish the stock even further.
Warren Buffet says you have to buy at the right price, if you want to make money over the long term
Against all of the above, there is also the issue of valuation. Zynga currently has a market cap of about $3.5 billion. Management's guidance for 2014 calls for revenue to come in between $770-$810 million, as compared to revenue of $873 million for 2013. For a company that is barely breaking even (an a non-GAAP basis), with decreasing revenue and with an increasing float, its market cap is not exactly a bargain. When a stock has a price/sales ratio of 4-5, the least you expect is decent growth and profits. Not the case here, yet.
Zynga is not the only kid on the block anymore
Competition today is a whole lot tougher than when Zynga started in the space. While Zynga pioneered the space, it is not the only one in the space. Today companies like King (KING.DL) are on the rise and catching up to Zynga fast, not mention many other start-ups like Wooga, Arkadium and Socialpoint. These companies are all backed by venture capital funding and will be seeking to raise capital from the market soon. And when that happens, these companies will be even more competition for Zynga, because they will be flush with cash. Even Zynga co-founder Eric Schiermeyer launched a new game studio called Luminary that is preparing to release its first game soon.
Now I would not call myself superstitious, but consider this: Google (GOOG 1.25%)paid $182 million for social gaming company Slide in 2010, and even after it poured about $200 million in the effort, it shut it down one year later. Google's decision to cut its losses short might mean that it does not see money to made in the long term. Of course Google might be wrong about this, but since I think the people at Google are a bunch of smart cookies, I do not consider Google abandoning its effort so fast as bullish for the sector.
Bottom line
Zynga's overall performance continues to deteriorate on a year-over-year basis, even if sequentially the deterioration is losing pace.
But even if the company seems to be stabilizing, the current market cap, the fact that the company is still not profitable, the competition in the space and most of all, the dilution headwind that stockholders are facing, does not make Zynga a compelling long term play, yet.
