Zynga stock dives 40%, misses Q2 bookings estimates

Zynga withers because user retention, virtual goods sales were not as strong as they hoped

Wall Street slammed Zynga after the social gaming company released its disappointing second quarter earnings report late Wednesday, resulting in a 40% drop in its shares.

Zynga shares opened Thursday at a battered and broken $3.06, only a smidge higher than $3.00 low it met in after-hours trading overnight and a far cry from the $5.08 it closed at on Wednesday.

The company has had a tumultuous time on the public market since debuting in mid-December with an IPO price of $10, and peaking at $14.69 in early March when its close ties with Facebook were boosted by pre-IPO anticipation for the social network giant. 

Shares of Facebook are down roughly 7% as investors anticipate a less-than-glowing report out of Facebook when it reports on late Thursday. Zynga accounts for a significant chunk of Facebook's overall revenue. 

For the second quarter of the year, Zynga reported a loss of 3 cents a share, or a 1 cent profit on an adjusted basis, on revenue of that grew 19% to $332 million, far short of analysts' expectations of 5 cents a share on revenue of $345 million. Zynga also sharply reduced its forecast, dropping its full-year bookings to $1.15 billion to $1.23 billion. Zynga had previously estimated bookings to be $1.43 billion to $1.5 billion.    

CEO and founder, Mark Pincus pointed out that the three big factors that pushed the company below its own expectations (as well as the industry expectations) were: the decline in engagement existing games, the late release of "The Ville" game and the fact that "Draw Something" underperformed the company expectations.

Zynga's shortcomings are greatly due to a drop in sales of virtual goods, according to the company and one analyst from Sterne Agee & Leach, Arvind Bhatia pointed out that this is greatly due to user fatigue. 

“It’s a disaster,” Bhatia told Bloomberg Businessweek . “It’s starting to look more and more like a fad, and any hope of a second-half recovery is shot with these kinds of numbers.”

Pincus and other Zynga executives said that the decline in engagement of existing game was greatly due to gaming changes that occured with Facebook's Play Now system. Zynga expects that it can weather through and adjust to those change in future quarters but did suffer from these changes for this quarter. 

One analyst, Richard Greenfield of BTIG, pointed out to Pincus on the earnings call, that he had sold stock at $12 a share just after the company made its public offering and questioned the company's ability to continue any significant growth.

After the call, Greenfield downgraded Zynga’s stock to neutral from buy in a report titled, “We are sorry and embarrassed by our mistake.”

Zynga also explained that when the company set its expectations for Q2, several months back, it expected "The Ville" to jump out of the gate closer to May than late June. On the debut day of "The Ville," Zynga saw record dowloads of 4.5 million in a single day and is currently the number two game on Facebook.

And, while Draw Something was responsible for most of the monetization growth that the company saw, the gaming franchise did not reach the high expectations that Zynga had for it.

Many analysts felt that Zynga would exceed expectations for Q2 and create a bullish atmosphere -- something that clearly did not happen.  

"We . . . faced new short-term challenges which led to a sequential decline in bookings," said Pincus, in the earnings statement. " Despite this, we're optimistic about the long-term growth prospects on mobile where we have a window of opportunity to drive the same kind of social gaming revolution that we enabled on the web."

Also notable is the fact that Zynga is holding onto a LOT of cash. For Q2, Zynga reported that it is holding onto $1.6 billion, up from $964 million from last year and up from the exceptional $1 billion last quarter.  

Expectations

Zynga stated that its bookings for the year should fall within $1.15 billion to $1.225 billion. This is a significant drop from the $1.4 billion to $1.5 billion that they stated last quarter. And the company sees its full year's non-GAAP EPS to end up in the range of 4 cents to 9 cents.

Last quarter, Zynga also stated that the non-GAAP earnings would be in the range of 23 cents to 29 cents a share -- yet another readjustment showing the weakening hand of the social gaming giant. 

Pincus did point out that despite this grim report, there are some great things coming just around the corner as Zynga sees its mobile environment driving future revenue more efficiently.

"In the near term we see positive opportunities to grow in our existing categories on Facebook," Pincus noted on the earnings call. "But as we look at the macro environment . . . we see a bigger long-term growth opportunities in mobile."

Bookings

Zynga reported a only a 10% increase in bookings since last year -- $302 million, up from $275 million for the same quarter last year. This also represents a drop in bookings since last quarter's $329.2 million. Citi Research stated in its analyst guidelines that Q2 bookings that are anything less than $335 million are going to be considered terrible by industry experts - any they fell far short of that low line.

For Zynga, bookings are often considered a more accurate measure of how the company did during the period. Bookings represent what Zynga sells in the quarter whereas revenue that are allotted over multiple quarters as virtual goods are spent within games.

Customer base and acquisitions

This past quarter, Zynga was able to maintain 306 million users, up 34% from the previous year's 228 million. This is only a moderate growth from last quarter's 292 million MAUs. This is a fairly good indicator that the company can still grow and attract new users.

According to AppData, Zynga’s monthly active users through the Facebook platform has slid back more than 4% over the last month.

Part of the battle to combat this leveling-off has included Zynga's effort to build its gaming catalog with creation, acquisition and third-party connections.

R+D

Zynga has upped its research and development budget noticeably each quarter and Q2 was no exception. Last quarter, Zynga spent nearly 171 million on research and development, up from 95 million the year prior. This is nearly twice the amount of money being poured into R=D year-over-year and still exceptionally more than the $90 million dedicated to R+D in Q1 this year.

Customer base and acquisitions

This past quarter, Zynga was able to maintain 306 million users, up 34% from the previous year's 228 million. This is only a moderate growth from last quarter's 292 million MAUs. This is a great indicator that the company can attract new users, but wasn't enough to help boost the revenue or bookings enough to meet expectations.

According to AppData, Zynga’s monthly active users through the Facebook platform has slid back more than 4% over the last month.

Part of the battle to combat this leveling-off has included Zynga's effort to build its gaming catalog with creation, acquisition and third-party connections.

There is also another measuring factor in users and how many of them are entering their credit card numbers to get virtual goods -- its MUP or monthly unique payers. The MUP number is up 16% quarter-over-quarter with 4.1 million payers compared to the 3.5 million payers in the quarter prior.

Facebook changes

Facebook has recently made some changes to promote new games and more varieties of games, this was a big issue for Zynga. The strength that Zynga feels is that it can afford Facebook advertising, it can cross-promote within its games and has a lot of virility but when it comes to having a lot of new games, the company lost out to smaller gaming groups. 

Mobile/other

Zynga continues to point out how strong mobile will become, but has not reached the point that it is giving significant data on the dollars rolling in from that alley. A few good indicators that mobile is perking up is that 56% of the mobile users have crossed over from the Web platforms and 21% of the mobile users have also logged in on Web outlets -- showing a fair amount of crossover relevance.

Last month, Zynga announced some upcoming games that it anticipates a strong future such as The Ville and FarmVille 2. Zynga has also expressed its attempt to become a gaming platform that will accept third party creators -- thus increasing the opportunity to cross-promote as well as build a larger user base. 

The company is also working on bringing its Zynga platform and advertising community to mobile for a more vibrant and interconnected experience, but has not reached that point just yet. 

(Image Source: Conservativepapers)