When it comes to the biggest tech IPOs from the past few years, the name Zynga (ZNGA) will live in infamy. After going public in late 2011 and bolting out of the gate, it only took a few months for the party to end for ZNGA. A series of estimate cuts sent ZNGA shares plummeting in early 2012 and the stock hasn’t recovered since.
However, with shares up slightly on Q3 earnings, could this signal a turnaround for the troubled social media gaming company?
Let’s take a quick look at what the numbers can tell us:”
Founded in 2007 in San Francisco, Zynga broke out into social media gaming two years later with its launch of Farmville. After the Facebook (FB)-based game amassed 10 million daily active users within just six weeks, Zynga began cranking out other titles, including Texas HoldEm Poker and ChefVille. The way Zynga makes money differs from traditional video game developers; while the games themselves are free, players have to pay for credits in order to enhance gameplay. With just over 3,000 employees, Zynga brought over $1.2 billion in revenue in 2012, but as I’ll discuss shortly, that’s about to change.
In the third quarter, Zynga reported a 36% year-over-year decline in revenue as its user base plunged 49% to 30 million. Q3 2013 bookings came in at $152.1 million and the company posted a loss of $68,000. Adjusted loss for the quarter was 2 cents per share. However, analysts had expected adjusted loss of 4 cents per share on $142.67 million in bookings so Zynga topped expectations. Investors responded to the sales and earnings surprise so shares surged 12% at today’s open. I’m not buying into the hype. Zynga’s sales are expected to plunge 40% this year (and the next) and it’s expected to continue to be in the red through the end of 2014.
While we haven’t yet seen another social game developer gain quite as much traction as Zynga, this company still has to compete with the likes of Electronic Arts (EA). EA is responsible for a range of video games designed for various gaming consoles as well as PCs, smartphones and tablets. With roots going back to 1982 and over double Zynga’s market cap, it’s no surprise that the better-established developer pulls off a cleaner balance sheet.
Right now, Electronic Arts beats Zynga in terms of operating margin growth, cash flow and return on equity. However, given how poorly Zynga is doing, this isn’t saying much. EA is currently a cautious buy because while buying pressure is good now, the company is headed towards a 20% drop in profits this quarter. So as we approach its earnings announcement on October 29, we could very well see buying pressure fall past the point where I feel comfortable having it at a buy.
Before you buy any stock, you should always run it through my free Portfolio Grader ratings system. I added ZNGA to my Portfolio Grader screening tool in December 2012 and I must say that it hasn’t gotten off on the best foot. By now, institutional investors have been burned too many times by this this aggressively-rated stock, so buying pressure has taken a while to recover.
So ZNGA receives a C for its Quantitative Grade. And when it comes to fundamentals, there’s plenty of room for improvement. Zynga manages mediocre grades for operating margin growth, earnings growth, earnings surprises and cash flow. However, it outright fails in terms of sales growth, earnings momentum, analyst earnings revisions and return on equity. So ZNGA earns a D for its Fundamental Grade.
Bottom Line: As of this posting on October 25, 2013, I consider ZNGA a C-rated hold.