Will Zynga Survive?

Nobody expected Zynga’s results for this quarter to be great, so nobody was exactly surprised when the company announced a decline in almost every number that matters. It turned a small profit, but that’s a bright spot in an otherwise deeply unimpressive set of results. The really important figures – the number of people playing and, crucially, the number of people paying – are all down. Zynga’s business may not be hemorrhaging money, but it’s losing audience, and in a business so heavily focused on scale, that’s a really bad thing.

The company likes to present itself as being on the cusp of a turnaround, or perhaps already embarked upon a slow but steady turn. If so, it’s the oddest turnaround imaginable. The firm’s MAUs – Monthly Active Users – dropped from 292 million to 253 million year on year, so nearly 40 million people have simply stopped logging in to a Zynga game even once a month. Worse still, though, is the disproportionate fall in the number of Monthly Unique Payers – those who make at least one transaction during a month-long period. This number fell from 3.5 million to 2.5 million, a precipitous year-on-year drop of almost 30%.

It bears emphasising just how bad that actually is. For a social gaming business, MUPs are the real customers. There is huge value to having a large audience (MAUs), of course, and companies need to be very careful about not trying to force players into becoming paying customers before they’re good and ready – but ultimately, non-paying users are like footfall in a store. They’re not customers, in a strict business sense. Zynga’s not-quite-so-bad loss of 13% of its players (MAUs) is a side-show compared to the fact that it’s lost 30% of its paying customers (MUPs). Imagine, by comparison, a shop loudly announcing that the number of people walking past its window had fallen 13%, distracting from the fact that the number who came in and bought something had fallen 30%.

Of course, the two figures are related, and the disproportionately large drop in MUPs figures into that relationship to some degree. The process of encouraging players of a social game to spend money is focused around a number of principles, but the key temptation lies in buying items or currency that will give you the ability to match or overtake your friends’ progress, or to create a fantastic character, farm, castle or whatever which will “impress” the many friends who are also playing the same game.

For that psychology to work, of course, you actually need to have lots of friends playing the game. Most social games, as the name suggests, don’t work terribly well if you don’t have friends active in the game. “Active” is a key aspect here too – if you see that your friends are losing interest, logging in less often or spending less time tending to their farm, castle, town or whatever, then you also tend to lose interest rapidly. Hence, a game that gives the impression of being “in decline” – with players losing interest in some visible manner – will likely experience a precipitous decline in revenue, because even though lots of people are still playing, the sense of decline removes the key psychological drive to spend money on the game. (It doesn’t help, of course, that social game operators have established a pattern of shutting down unsuccessful games rapidly, which creates a feedback loop in which players are unwilling to spend money on a game they think might be in commercial trouble.)

The psychology of what Zynga is experiencing is clear enough, then, but the figures on the bottom line are still pretty dreadful. Whatever the reasons or the mechanism, the company is losing paying customers, and that kind of damage is extremely hard to recover from.

A stark contrast to Zynga’s woes can be found on the other side of the Pacific, where mobile developer GungHo this week topped a $9 billion valuation on the Osaka Stock Exchange, making it into a larger mobile gaming company than even fellow Japanese giants GREE and DeNA. GungHo’s valuation is ridiculous, a bubble that will inevitably pop in relatively short order, but there’s a genuine success driving the excitement – a single game, Puzzle and Dragons, which is the most successful mobile game in Japan (and is launching in other territories as well). Puzzle and Dragons reportedly makes about $2 million a day; it certainly makes enough to justify prime-time adverts in evening slots on Japanese TV.

GungHo is an extreme example of a phenomenon which is completely unavoidable in the social and casual game sphere. Mobile utterly dominates this sphere. Facebook, it turns out, was a flash in the pan in gaming terms. Smartphones, and to some extent tablets (though they’re arguably more “midcore”), are the social gaming platforms of today. Zynga, for all its cash (the company still has plenty of liquid assets), its clout and its former dominance, still hasn’t made a successful transition to being a mobile-first company. Clinging to the wreckage of the Facebook social gaming model which it so successful exploited (in doing so, perhaps hastening the downfall), Zynga is being overtaken time and again by smaller companies who have mobile gaming in their DNA from the outset. With this week’s results came a fresh claim that the company will be focusing more heavily on mobile, but a good, nimble firm would have accomplished that focus shift 12 months ago, at least. Zynga right now feels like it’s plodding along in everyone else’s wake.

The other great white hope for the company, of course, is gambling. It has cautiously launched gambling services – what it calls “real money gaming” – in the UK, and wants to expand into other territories. Plenty of pundits like to tap their noses sagely and suggest that Zynga will become a gambling giant down the line – although in doing so, they’re just following in the well-worn footsteps of a large number of video games industry pundits, executives and even developers who have regarded the gambling industry with something like the avaricious wonder of wannabe prospectors hearing about a new gold rush.

I don’t see any gold rush for Zynga in “real money gaming”. Investors and executives consistently overstate the allure and possibilities of this kind of gaming, because by dint of being investors and executives, they tend to be exactly the sort of person who is very attracted to gambling risks (you wouldn’t have an investment, or a career, anywhere within spitting distance of tech stocks otherwise). Moreover, by moving into the online gambling arena, Zynga is entering a market that’s already incredibly crowded with companies who are deeply, deeply expert in this field – not just in the customer-facing psychology of the casino, but also in the legal and regulatory minefield of operating a gambling enterprise online. Many major markets simply aren’t open to this kind of business; most others require you to jump through all manner of hoops simply in order to set up shop. The notion of Zynga having an open goal in “real money gaming” is born either from complete naivety or utter desperation – it could make money in the gambling business, but it has its work cut out for it.

It’s worth highlighting, all the same, that Zynga did make a small profit this quarter – it may only be one bright spot, but it’s bright all the same. The company’s scale still also arguably works in its favour, allowing it to buy talent and IP that smaller firms could never afford. Yet after several grim quarters, it’s also worth highlighting that talk of a “turnaround” is optimistic at best. Something about Zynga – its culture, its leadership or a combination of both – is blocking this company from moving in the agile, intelligent way a firm in its position desperately needs. Inventing fairy stories about the magical potential of gambling games or constantly reassuring the world that a pivot to mobile is definitely happening any day now won’t cover up the cracks for much longer. If Zynga wants the world to buy the “turnaround” story, it needs to start showing evidence; if not, it needs to start making big changes, starting right at the top.

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iPhone Adds To Sprint’s Losses

Sprint Nextel posted a bigger loss, reflecting the higher costs of offering Apple Inc’s iPhone. But the loss was smaller than expected because its signed up fewer new customers than expected.

Since Sprint subsidizes the cost of some of its phone sales, its costs rise and profit dwindles the more customers it wins. But since subscriptions fell short of expectations, its loss was smaller than expected.

Sprint’s loss was 35 cents per share excluding unusual items compared with Wall Street expectations for a loss of 37 cents per share, according to Thomson Reuters.

Its profit margin based on operating earnings before interest, depreciation and amortization (OIBDA) fell to 9.5 percent from 16 percent a year earlier but beat expectations for 8.6 percent, according to eight analyst estimates Reuters compiled.

“It’s still unbelievably depressed and subscribers were below expectations,” said Roe Equity Research analyst Kevin Roe who also noted that Sprint’s targets for the full year were not particularly impressive.

The margin decline was hurt by the hefty cost of selling the iPhone.

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Facebook Growth Very Good

Facebook Inc’s business is growing faster than forecast several months ago and the social media company is on track to surpass $2 billion in earnings before interest, taxes, depreciation and amortization in 2011, according to a story in The Wall Street Journal.

Facebook’s growth is above the growth projections that circulated when Goldman Sachs and Digital Sky Technologies invested in the closely held Internet company, the newspaper said in its online edition.

The newspaper did not indicate by how much Facebook may exceed those original expectations.

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