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Zynga's IPO: What Went Wrong?
Zynga's IPO: What Went Wrong?
December 16, 2011 | By Chris Morris

December 16, 2011 | By Chris Morris
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    29 comments
More: Console/PC, Social/Online, Business/Marketing



Shares in Zynga's Wall Street debut may have started strong today, but minutes after they began trading, the stock's pricing chart looked like something that even the most extreme skier would have avoided.

By the time all was said and done, the company was down 5 percent, closing at $9.50 per share (and was down as much as 10 percent at one point during the day), bucking the trend of the year's other hot internet stocks, like LinkedIn and Groupon -- despite the fact that Zynga is profitable, while those companies are not. What went wrong?

There are plenty of culprits to blame, actually. Let's run 'em down:

Analysts - Zynga hasn't won a lot of friends in the analytical community. In fact, it really hasn't found one.

Before shares even began trading, one of the gaming industry's more notable analysts -- Sterne Agee's Arvind Bhatia -- initiated coverage with a "sell" rating, citing the notable slowdown in the company's growth in recent months. Bhatia set his target price for the stock at $7.

"FarmVille, the company’s flagship title which helped generate hyper-growth in the past, has peaked and the other titles are coming on line at a much slower pace," he wrote in a note to clients. "While we believe in the potential for social games, we think Zynga's growth is slowing even faster than what is obvious at first. Its margins are under pressure, and free cash flow has been declining recently; thus we believe the implied valuation in the IPO is not justified."

While some outsiders questioned such a harsh rating before shares began trading, many in the Wall Street community said they agreed with the call.

The pile-on continued Friday with Cowen and Company's Doug Creutz giving the company a "neutral" rating, also citing a slowdown in growth and increasing expenses as well as the fact that Zynga's share of the Facebook gaming space is slowing down.

Investors - This might have been the biggest IPO the market has seen since Google's 2004 launch, but the tech world isn't real hot on internet stocks these days. There's plenty of talk about another bubble growing on Wall Street. And traders who have bet big on the year's other notable offerings haven't fared well.

Groupon, for example, might have spiked 40 percent on its opening day, but it plummeted after that, hitting a low of $15 before rebounding slightly. Pandora, meanwhile, has been essentially flat since it started trading six months ago.

Zynga might have cash, but when the company didn't exceed the high level of its range (which was from $8.50-$10), it sent a message to investors that interest had faded in the company. (It could have easily gone to $12 or issued additional shares without having to refile with the SEC.)

A silent voice - Investors like to have a say in a company when they put their money in it -- especially institutional investors. With Zynga, they really won't.

After all, founder Mark Pincus holds 70 times more voting power than all of the common stock that went up for sale today. In reality, the performance of the stock has no impact on him. If the company tanks and investors call for his head, he can ignore them. If it soars to Google or Apple territory, he profits. It's a true win-win -- unless you're an investor.

Even with the disappointing debut, Zynga is now, technically, the second biggest publisher in the industry, with a market cap that exceeds Electronic Arts and Grand Theft Auto publisher Take-Two Interactive.

But it could have been a lot bigger -- and let's hope that the folks at Rovio are taking notes about this debut as they contemplate listing in Hong Kong.


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Comments


Martain Chandler
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Cynics of every stripe are proven correct today no matter how you look at it.

Daniel Boy
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Isn't Zynga's market cap now lower than EA's because of today's 5% dip?

Marc Schaerer
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Lets wait a while. Their major decline in player base and the fact that the average player is finally realizing that they were tricked to be stupid living macro programs will sooner or later turn around and send their cap to a freefall flight.



Zynga might have a lot around at the time and is well known, but its empire is all built around more or less the same mechanic so they can't keep users that are pissed about one of their games with alternative games and their brainset seems to be completely incapable to think outside the "bought timeslice" style of game at all, creating new boring 'monkey click a button and wait for interaction time to fill up' games.



I would love to see them dip much worse to send out a signal to the industry that this style of game is inacceptable, after EA trashed the sims game that had so much potential until someone looked at zyngas morronic designs :(

Majd Abdulqadir
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Hear hear!



From a game designer's perspective, it would be better to abandon the "gameplay mechanics" popularized by the Ville games, the sooner the better.

Harry Fields
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Doesn't really matter. Pincus just made a boatload of money today and that's what this is all really about.

Matthew Cooper
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I too am jealous of Pincus' success.



Am I doing this right?

Harry Fields
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Not until you screw everyone under you and lie to both them and your investors.

Florian Putz
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What could have possibly gone wrong? Zynga to start with, is not a game development company. Mark Pincus is not a game developer, and he never will be. The only reason why he started this company, was to make boatloads of money and sell it, not to make games. Who would do longterm investments in a company that is not dedicated to their products? Zynga doesn't have a single original game. All they have is "games" that they simply cloned. Ok, lots of people do that, but, if sillicon valley wasn't almost as incestuous as hollywood, zynga would have already perished a long time ago - together with the dozens of other unnoticed flash game developer that did not even get close to facebooks doors. Maybe its also zynga's doubtable business model that relies mostly on tricking people into ringtone and other subscriptions through third party scammers. I dnt know what it is, but I know zynga is for sure not the biggest publisher today, but the biggest bubble in computer game history. Any sane investor should think twice before getting involved into of zynga's business. Maybe they started thinking, maybe thats what happend yesterday...

David Hottal
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Investors don't care about all that. They just care about the financials.

Bruno Xavier
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This is music to my ears. Die zynga, die.

Still they have too much money to stay around for a long lonnnng time -.-

Michael Joseph
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What Zynga needs is a way to lock in it's users. It's just too easy for users to walk away from a facebook game. They need some gamification equivalent to frequent flier miles or something. LOL. Seriously, if they can find some way to do that (maybe files some related patents along the way), I think investors will feel their stock is significantly less volatile. But it has to be legit and not some veiled ponzi scheme. But even so, there's always the danger that users will feel entrapped somehow or that they're not getting any/enough real value from the arrangement.



They can also follow the AOL model and use their stock to purchase more traditional game companies or start branching out and creating more traditional games on their own.



/devil's advocate



p.s. If I was in charge, I would've changed the name from Zynga to something that sounds less like an undesirable microbe or fungus years ago.



EDIT: As an aside, Gamasutra is one of the most popular game industry insider talkback sites. there's been a fair bit of negativity towards Zynga here. i wonder if these talkbacks (specifically the ones leading up to the IPO) influenced wallstreet/investors at all re: zynga? wishful thinking?



EDIT 2: Marcus Pincus video interview from Dec 10th of last year. http://www.bloomberg.com/video/82779674/

Russ Menapace
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Perhaps they could branch out into prison services, and force their inmates to play.

Jeremy Reaban
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That AOL model actually would be wise, because in many ways, Facebook basically IS AOL.



Kind of funny how people ditched that and Prodigy/Genie/Compuserve/Delphi for the "real" internet, then now are basically flocking back to Facebook which is very similar to AOL (far more than the others).



I'm not saying they should take their money and buy a traditional game company, or a movie company, but they might be wise to start buying up some of the small big names in the casual gaming business

Dave Smith
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facebook is nothing like AOL. ridiculous.

David Hottal
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Facebook does have many similarities to AOL. They aren't supplying Internet service. But they want you to get your content through Facebook. Do some research on how Facebook is taking on Google (which largely controls what is accessible on the Internet).

Alternate Procellous
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@Michael: I will agree that there's been a fair bit of negativity on Gamasutra lately, but in general. I don't quite understand it myself, but it is to the point that I won't post my own opinions under my real name. I've noticed a considerable lack of objectivity and rational thought from a fair number of people posting comments here. I know we're all very passionate about what we do, and sometimes it gets the better of us, but some of the comments lately have made me question whether or not I should bother contributing to the discussion.





I'm not sure anything went wrong with this IPO at all. Zynga put up 100 million shares at $10. What happened was the result of deliberate strategy. There are at least two things going on here: price skimming (or something like it) and anchoring.



I'd give an explanation, but I think it'd be a bit tedious and we have Wikipedia for that. The point is, by pricing at $10 a share, Zynga got exactly what they wanted: $1 billion in additional capital. If they had priced at $8 a share, they might have lost out on $200 million.



Once those 100 million shares are sold by Zynga, they have what they want. Any exchange in shares after that point happens between individual investors and doesn't involve Zynga at all, so any gain or loss realized in those transactions has no direct impact on Zynga's balance sheet. They still have $1 billion more than they had prior to the IPO and they only sold 14% of the company!

Ben Rice
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Thank you for this well thought out response. After researching those concepts I have a much better understanding of the situation.



By the way, I remember back when Gama would get upset when people didn't post with their real names. This isn't the same Gamasutra of even a few years ago.

Alex Covic
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reminding some people: in the end, the markets reflect the expectation for 'future' earnings and possibilities - not the past. True, some market mechanisms apply. And those corporate investors don't really give a darn, if you think these are 'real' games or not. That's a different debate.

Michael Joseph
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Not necessarily a different debate. If enough actual game developers feel Zynga's games are not "real" games and are vocal about it then in some investors' minds that could suggest that eventually players will come to the same conclusion. And that's bad for Zynga. In other words, a bunch of industry insiders are pointing at the lack of clothes of the emperor and eventually the rest of the on-lookers will see it as well.. the industry insiders just being the first ones to notice.



In that sense, the "real" game developers could be acting as leading indicators. Time will tell...



There's clearly a place for casual games. There always has been. Social games however... have to stop being so lame and return to their gaming roots.

David Hottal
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Right on Alex. The investment media is not talking the quality of the games but the potential for growth. If investors cared about "quality" of the company's products no one would invest in Wal-Mart, BP, Monsanto, etc. Investing is not a form of utilitarianism, but gambling.

Marc Schaerer
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Not exactly. if we realize they aren't real games then analysts sooner or later will realize that these aren't real games either and that they as such will lose market appeal more sooner than later cause everyone else can play the same stupid copy clone game Zynga did and grab from their open share of hot air.



And thats exactly what has happened in 2011 in the end with a major decline in userbase and the resulting cut down in forcast from the analysts.

As I said above: gamers are finally realizing how shitty Zynga games are and stop playing these 'monkey in a ball' style time wasters (lets stop calling them games as even games during mayan days were more like games than what zynga created - independent of which definition of game we use, the cultural one or the others). A player base drop by around 40% within less than 12 months is pretty major even for zynga

Ramon Carroll
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Learn this: At the end of the day, the consumer is the one running the show, not you. Forget this simple point, and you fail.

Daniel Martinez
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Before we continue the arguments of what a real game is or should be, whether the company is profitable or not is all that matters to investors. If it doesn't make dollars it doesn't make sense. Right now the company is profitable, the article screams speculation but once the noise dies down, if the company is still profitable, the investors will eventally catch on. So don't count all your eggs just yet...

Harry Fields
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With the common stock release accounting for 13% of company equity, the problem is that no matter what Pincus does, he is accountable to no one but himself. Through the IPO, he brought in a billion dollars cash-- stock value is now irrelevant to him-- only to those who "invested". Since he has no board or other major equity holders to oversee his compensation or keep his decisions rooted in reality, he can simply turn the 1B into compensation for himself and then run the company into the ground and sell it off only to start again somewhere else. If the shareholders have essentially no voice in the affairs of the company, it's hard to call it an "investment" and much easier to call it "Pincus' Christmas Bonus". It's crap like this that creates bubbles and crashes. On one hand, I'd love to see some sort of SEC regulation regarding IPOs like this, where a majority or 50% stake in the company must be released through stock. On the other hand, anyone foolish enough to give this guy their money... well... I hate it for them come next December.

Dave Smith
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let the market take care of itself, no need for regulation. if people are dumb enough to invest, they get what they deserve.

Gerald Belman
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If a company issues stock during their growth - that is a good sign - they need money to continue growing and competing.



If a company issues stock at their peak - that is a bad sign - all the money has been made - now they are just trying to cash out.



If a company issues stock during their decline - that is a really bad sign - they are trying to stave off bankruptcy - this usually harms confidence so much that they go into bankruptcy anyways.



There is a price where Zynga's stock is going to be worth it to buy it - my point is not that you should NEVER buy Zynga stock. But people who are basing valuations on a expectation of growth are delusional.



The markets are NOT efficient.



Will Zynga continue growing or has it reached it's peak? That is the question.

Nicholas Lovell
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I disagree with D :-)



The economic model that drives the market theory assumes that all players are fully rational: behaviourial economics is beginning to challenge that assumption pretty hard, while the implicit government guarantee behind most major market participants skews the market heavily.



So I fear that the "temporary inefficiencies" are not as temporary as we all might like.

Nicholas Lovell
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My gut instinct is that Zynga went public about 9 months too late. I wouldn't have invested in the stock.



And I'm a believer in all this free-to-play, social games future malarkey.

Kevin Reilly
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Zynga always had one glaring weakness: Facebook. They have plenty of experienced talent and cash to create quality products (and profitable), but Facebook owns their user base and can impact their business model at will. Even with 1.5B in revenue, the R&D costs and marekting expenses will increase as Zynga attempts to expand into other markets which will shrink profit margins. I wish them luck, but I doubt their success (to date) can be repeated on a closed platform like Facebook.


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