Where Does Facebook and Zynga Go From Here?

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

Last week the news that rocked the market came from social media gaming company Zynga (NASDAQ: ZNGA), when it once again lowered guidance. The company stated that struggles in winning audiences for new titles has led to this decline, and that its recent acquisition of OMGPOP had seen daily users “tumble” since the acquisition. The company now says that unspecified “cost reductions” will occur, therefore it appears the company is going on the defensive to try and stay alive. This news may have surprised some investors, but honestly it should not have. This is a company that has continuously lowered its guidance and is down nearly 80% since IPO. However, with such large problems, some believe it is a reflection of Facebook (NASDAQ: FB). We already know that Zynga is most likely doomed, unless it can release more blockbuster titles, therefore how does this affect Facebook?

Allow me to jump straight to the point: I don’t think this affects Facebook in a drastic manner. Yes, I know, Facebook earned 14% of its revenue from Zynga in Fiscal 2011. However, despite the countless analyst cuts and the doom and gloom outlooks for Facebook, in light of the Zynga guidance, this is still a company that is growing in users and has created even more revenue producing services. In fact, the Zynga guidance will most likely have zero effect on Facebook.

Zynga posted $1.140 billion in revenue in 2011, and is now expecting full-year revenue of $1.085 billion in 2012. Therefore, despite the fact that the company is expecting a year-over-year loss, by a very slight margin, it is still going to contribute to Facebook’s annual revenue. There is a misconception among investors that Zynga’s lower guidance indicates a 14% loss of last year’s revenue for Facebook, but when you look at what Zynga announced last year and then compare it to the 2012 guidance, Facebook will not lose revenue it just won’t gain revenue from Zynga.

The majority of Zynga’s losses are coming as a result of the switch from desktop to mobile. According to a study, by Macquarie Research, 56% of participants from the ages of 15-25 use Facebook on mobile devices, compared to 24% last year. This number is expected to continue rising, with 70% using mobile in 2013. This fact has been the source of problems for both Zynga and also Facebook. But luckily, Facebook has learned how to monetize mobile, according to the company’s CEO at the Tech Crunch interview. He said that the new mobile ads have been more effective than traditional desktop ads. This is a great sign for the company and it shows that Facebook is now prepared for the transition, although late to the party.

Thanks to the transition into mobile, Facebook is no longer dependent on Zynga to succeed, and for growth. While Zynga contributed 14% of its revenue in 2011, the social gaming company will most likely account for roughly 10% of its sales in 2013, perhaps less. Facebook has rolled out a number of new services, and expanded on older services, including: Facebook Exchange, Mobile-Ads, Facebook Gifts, Sponsored Search, and the new Promoted Posts. Therefore, with the company’s current valuation of just 32.39x next year’s sales and top line growth of more than 30%, I believe the stock is presenting value, and significant upside potential over the next year as it becomes less dependent on Zynga and more successful in mobile. 

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Zynga's post-IPO performance has been dreadful, and investors are beginning to wonder if it's game-over for this newly public company. Being so closely related to the world's largest social network can be a blessing and a curse at the same time. You can learn everything you need to know about this company and whether they're a buy or a sell in The Motley Fool’s new premium research report. Don't even think about picking up shares before you read what the Fool’s top tech analyst has to say about Zynga. Click here to access your copy.  

BrianNichols has no positions in the stocks mentioned above. The Motley Fool owns shares of Facebook and has the following options: long JAN 2014 $20.00 calls on Facebook. Motley Fool newsletter services recommend Facebook. 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.If you have questions about this post or the Fool’s blog network, click here for information.

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