Can Zynga Bounce Back?

Ashit is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

With the rise in the number of internet users and advent of social media, there has been a phenomenal rise in the number of online gamers. NPD group’s report on online gaming indicates that 72% of the gamers in the U.S. are hooked to online games, reporting a 5% increase from 2012. The number of hours spent playing online games has gone up 6%.

However, the leading social gaming developer, Zynga (NASDAQ: ZNGA), has been struggling for a long time now. With the company burdened by declining sales, 18% of its employee force was laid off amid restructuring the business in a highly volatile and increasingly tough online gaming industry.

In addition, the company suffered another setback on the news of the company withdrawing its plans of entering the real money gambling market in the U.S.

Why is Zynga struggling?

Zynga’s problems are also compounded by a volatile gaming industry, a slow shift from social gaming to mobile gaming. While Zynga has made efforts to provide platforms to shift its current games to the mobile platform and despite its game “Running With Friends” holding the overall number one spot in the Apple iOS top-downloaded charts, much is still desired.

There are a lot of established mobile gaming developers like Gameloft and other start-ups, many of which are started by former Zynga employees that would provide a stiff competition.

Take a look at Zynga’s finances and you will notice it still has $1.1 billion in cash and short-term investments and no long-term debt on its books. The company recently reported a second-quarter loss of $15.8 million, compared to a loss of $22.8 million during the same period last year. Revenue for the quarter that ended June 30, 2013, fell 31% year-over-year to $231 million. It is, therefore, evident that Zynga needs to restructure its business and come up with something radical in order to regain confidence of the market .

Zynga’s investors had their hopes pinned on real money gaming in the U.S. as the next big thing for the company. Zynga already launched an online casino portal in the U.K., which has been greeted with success already. But with Dan Mattrick confirming that the focus of the company will be on getting back to basics and work on its existing products, coupled with better execution of processes across the firm, there have been disgruntled voices across brokerages

Wide competitive landscape 

Zynga’s most famous online gaming products like Farmville and Mafia Wars have been consistently reporting a drop in active monthly users with a slew of alternate gaming options from competitors such as King (developer of Candy Crush) and Crowdstar (developer of Top Girl). There have also been voices of dissent among the users of Zynga’s games, who complain of decreasing customer satisfaction and far too much emphasis on making money at the expense of the users rather than improving the quality of games. has emerged as an outperformer in the tough gaming industry, as its games are available on multiple platforms simultaneously. The company is increasingly following an approach where "users play anywhere, anytime."

Its most popular offering is Candy Crush Saga, with an average 8.1 million users daily. has now emerged as the second-largest game developer on Facebook behind Zynga. 

Other than these game developers, Zynga also competes with  Electronic Arts (NASDAQ: EA). During the last one year, Electronic Arts' stock price has witnessed an exponential growth of 110%. The strong growth reported by the company is primarily due to its digital revenue, which grew 17% during the first quarter of fiscal 2014.

During the first quarter of fiscal 2014, Electronic Arts' digital revenue through consoles and smartphones grew 32% and 73%, respectively, however, digital revenue through PC's only grew 1%. Electronic Arts generates the highest percentage of its revenue through digital gaming. As this business operates on lofty margins, it allows Electronics Arts to boast relatively higher margins than its peers.

As per Trefis, Electronic Arts produces its maximum value through consoles at around 45%, which is followed by PC's and Handheld at around 16% and 10%, respectively. Considering the company is experiencing strong growth in digital revenue through consoles, its overall earnings are bound to report strong growth with launch of new generation gaming consoles from Microsoft and Sony.

Similary, Activision Blizzard (NASDAQ: ATVI) offers plenty to investors. Just like Electronic Arts, Activision Blizzard possesses robust fundamentals, as it operates on a PEG ratio which is well under one and carries no long-term debt on its balance sheet. Additionally, its stock has appreciated approximately 30% during the last twelve months.

At present, the company is initiating complete independence from its parent company Vivendi. Currently, Vivendi holds 60% stake in the company, however, after the strategically planned share buy back, Vivendi's stake will be reduced to only 12%.

Activision Blizzard posted impressive second-quarter results in spite of severe subscriber loss for its World of Warcraft. The decline in revenue through subscriber loss was offset by its digital revenue, which witnessed an exponential increase.

Its Call of Duty: Black Ops II was one of the most successful games during the previous year, and it has gathered even more momentum this year. According to VG Chartz, during the past five years, annual editions of its Call of Duty became one of the top ten best selling games worldwide.

Going forward, Activision Blizzard will look to capitalize on the remarkable success of Skylanders Giants, which was the best selling console and hand held game across U.S, Canada, and Europe during the first two quarters of 2013. The company plans to launch new editions of the game at regular intervals in the future, however, it's all set to launch the all new Skylanders Swap Force later this year during October.

The online gaming industry: What does the future hold?

According to Newzoo’s 2013 Global Games Market Report, game revenues will grow at a compound annual growth rate (CAGR) of 6.7% to $86.1 billion by 2016. Further, the number of gamers worldwide will rise from 1.21 billion this year to 1.55 billion.

The multiplayer online (MMO’s) games have reported a 14% year on year growth in the year gone by. Also, with huge untapped potential in countries such as India and China, the online gaming industry is bound to reach greater heights in the foreseeable future.

Therefore, when Zynga's new CEO talks about getting back to basics and concentrate on core competencies of online games, it all adds up. While the Street may be abuzz with disappointing revenue figures, Zynga seems to be focusing in the right direction. It may be an immediate underperformer, however, I believe if it can improve its execution process across all its offerings, whilst grow on the mobile platform, Zynga's stock could be a good pick for the long term.

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Ashit Gulati and Equity Dimensions have no position in any stocks mentioned. The Motley Fool recommends Activision Blizzard. The Motley Fool owns shares of Activision Blizzard. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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