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Zynga’s Not Dead, Just Really Ill

And any cure for Zynga's issues will need time to take effect


Has Zynga (NASDAQ:ZNGA) bought the farm?

There wasn’t much to like about the company’s latest earnings report, and investors were already showing their displeasure with a 7% haircut in shares as of this writing, putting ZNGA at just above $3.

For anyone who doesn’t remember: Just a year ago, the stock was trading at more than $14.

True, Zynga was able to post a $4.13 million profit in its first quarter, which was up from a loss of $85.4 million in the year-ago period. But the glaring flaw was an 18% decline in sales to $263.6 million. The next quarter’s outlook was terrible, too, with Zynga forecasts of a 3-to-4-cent loss on $225 million to $235 million in revenues falling short of expectations for a 1-cent loss on $260 million in sales.

A variety of factors are responsible for the slide in the business. Most prominently, the company has lost its exclusive agreement with Facebook (NASDAQ:FB), which provided huge amounts of traffic. Making matters worse, Zynga has been on a creative dry spell.

As a result, the company’s user base has taken a hit. On a year-over-year basis, the number of monthly users has gone down from 292 million to 253 million, and the number of paid users has dropped from 3.5 million to 2.5 million.

Yesterday, Zynga announced plans to shut down four underperforming games, including The Ville. If numbers don’t turn around, more could follow.

Now, Zynga is focused on getting its mojo back — the company has been restructuring its organization and putting a big focus on mobile. The the wild success of FarmVille 2 shows that Zynga has a talented group of game designers who know how to create hits. (The game had 40 million monthly active users, as of January.)

The company also has another promising title, Draw Something 2, which launched yesterday. Based on initial tests in the Canadian market, it the game set to repeat its predecessor’s success. (Draw Something peaked at 9.1 million active daily users.)

But perhaps the biggest opportunity for Zynga is real-money gambling. Recently, the company formed a partnership with a British operator to test the platform. But the U.S. market may ultimately prove a bigger source of revenue for Zynga. States like Nevada and New Jersey — big players in traditional gambling — have already legalized online gambling, which should get the ball rolling in other states.

However, investors will likely have to wait at least a few quarters until some of Zynga’s efforts get traction, and that could be agonizing. But if the company wants to rekindle growth, it needs to focus on the long-term.

The other saving grace is Zynga’s cash situation. Free cash flow came to $23 million in Q1, and it has about $1.7 billion in the bank.

So ignore the buzz that Zynga’s dead; it’s not.

It’s just not particularly healthy, either.

Tom Taulli runs the InvestorPlace blog IPO Playbook. He is also the author of High-Profit IPO StrategiesAll About Commodities, and All About Short Selling. Follow him on Twitter at @ttaulli. As of this writing, he did not hold a position in any of the aforementioned securities.

Article printed from InvestorPlace Media,

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