But, as I mentioned in a post yesterday, a deal probably will not happen. If anything, Zynga still is in the early stages of a turnaround. Wall Street is already showing some enthusiasm, as ZNGA shares have been bid up nearly 63% since Jan. 1.
So despite this big run-up — and on the bet that a buyout won’t happen — should you buy Zynga? Or should investors be wary? To see, let’s take a look at the pros and cons:
The Platform: It’s massive, with 298 million monthly average players, 72 million of whom are on mobile. Zynga still has a variety of franchise games, which include titles like Zynga Poker, FarmVille and Words With Friends. Zynga also can crank out hits (albeit of the sequel variety) — FarmVille 2 has turned out to be the most successful launch in the past two years. A key was building the game on Flash 3D, which greatly improved the performance. Over the past four years, the FarmVille franchise has generated more than $1 billion in revenues.
Mobile-First: Mobile’s the obsession at other social companies like Facebook (NASDAQ:FB) and Groupon (NASDAQ:GRPN), and that’s no different at Zynga. ZNGA currently is ranked No. 5 in terms of its daily audience for mobile in the U.S., and the company now has more new game teams focused on mobile than the desktop; that kind of aggression should help the company continue pumping out the needed breakout hits to keep the stock driving through 2013. With such an aggressive push, it seems like a good bet that it will come up with some breakout hits — which could be a nice driver in 2013.
Real-Money Gambling: Nevada and New Jersey both have just legalized real-money gambling, and Zynga could be in a position to benefit. Its Poker app, which launched six years ago, has 37 million monthly active players — and it’s not dying, as those users actually increased 8% last year. Zynga hopes to push the franchise further — the question is whether Zynga can use its Zynga Poker platform in a way that appeases gaming commissions. Zynga also has other apps, such as Elite Slots, that potentially could be used for real-money purposes.
Turnover: Zynga’s C-suite has come complete with a revolving door. Among Zynga’s departures: COO John Schappert, Mike Verdu (chief creative officer), Allan Leinwand (chief technology officer of infrastructure), Ya-Bing Chu (vice president of mobile) and Alan Patmore (general manager of CityVille). There’s something to be said about shaking things up at a struggling company, but CEO Mark Pincus’ moves have been extremely aggressive and could foster a culture of fear.
Facebook: Zynga still is highly dependent on the social network, with 86% of the company’s revenues coming from FB, but the relationship has been rocky. For example, Facebook has tightened up its policies to reduce spammy marketing pitches. Then late last year, Zynga terminated its exclusive contract with Facebook, which required the social network to deliver a minimum number of users. Without this support, there could be a drag on user growth.
Concentrated Customer Base: Zynga relies on the so-called “freemium” business model. This means users can play a game for free, but then are encouraged to pay for extras, such as a weapon or a new level. The problem? Currently, only about 2% of Zynga’s user base actually pays! In other words, just a small change in this percentage could have a big impact on overall revenues (of course, this works both ways). This might be even more problematic with mobile games, as it’s still not clear what the general conversion ratio will be.
Until last year, there seemed to be no stopping Zynga. The company was growing at a rapid clip and had an uncanny ability to crank out top-notch games. Then, of course, that streak came to an end, and down went ZNGA.
The good news is that Pincus has taken some key steps to get things back on track. The organization is more streamlined thanks to cuts in the workforce and closures of various studios (in the latest quarter, operating expenses fell by about $23 million). The company also has a mobile-first strategy, and the real-money gambling business — while very much an X-factor — could be a nice growth driver.
So, should you buy Zynga? Yes — throw in an attractive valuation (ZNGA currently trades at an EV-to-revenue ratio of 1.26), and the pros outweigh the cons for now.
Tom Taulli runs the InvestorPlace blog IPO Playbook. He is also the author of “How to Create the Next Facebook” and “High-Profit IPO Strategies: Finding Breakout IPOs for Investors and Traders.”Follow him on Twitter at @ttaulli. As of this writing, he did not hold a position in any of the aforementioned securities.