Time To Fold The Zynga Bet And Wait

| About: Zynga (ZNGA)

Zynga Inc. (NASDAQ:ZNGA) no longer has the preferential treatment on Facebook Inc. (NASDAQ:FB), the world's No. 1 online social network. "ZNGA and FB loosened terms of longstanding alliance, giving themselves greater leeway to pursue social gaming independently and heightening concern that the companies will one day be rivals," as reported from Bloomberg. This surprising announcement immediately raised a few serious concerns for ZNGA investors as the share price dropped 12.60% after hours.

Potential Impact

The latest agreement is seen as a move by Facebook to level the playing field between Zynga and other game makers, which Facebook is trying to attract. On the positive side, Zynga will gain more flexibility to offer games on its own website and has the option not to use Facebook's payments mechanism to collect revenue or display Facebook's ads. In the long-term, these could give Zynga more freedom to build its platform with more controls. However, numerous challenges needed to be addressed in the short-term. Below is a list of risks and opportunities for this partnership change.

Long-Term Risk: Facebook will ultimately become Zynga's competitor.

Near-Term Risk: Zynga derives nearly all of its revenue from games on Facebook.

Near-Term Risk: Increased competitions for Zynga on Facebook platform.

"We're not in the business of building games and we have no plans to do so," Menlo Park, California-based Facebook said in an e-mailed statement. "We're focused on being the platform where games and apps are built." Facebook may not join the gaming market; however, it will for sure open up the market which will give Zynga more competitive pressure on its games.

Long-Term Opportunity: Zynga can better adapt to the growing mobile trend on Facebook.

While Zynga is hurt by the growing number of Facebook users accessing the social network using mobile devices instead of computers, Zynga will be able to come up with its own strategy and platform to leverage its own portfolio of games. Facebook is determined to develop into the mobile market and Zynga has to work on its own strategy.

Long-Term Opportunity: Zynga can market its games to the world outside of Facebook and possible venture into higher margin markets.

While Zynga is committed to providing consumers with the best social gaming experiences, Mark Pincus, Chairman and CEO of Zynga, has the idea of building a single-branded interface to Zynga network, where the brands will allow Zynga to move faster. Once the users learn and understand the rules of engagement, they will know what to expect and how to interact, when they see the brand again. There is also a possibility that Zynga will establish a platform to distribute third-party games.

The Big Question

Zynga has been spending a majority of time talking to its players, trying to find out what they are excited about and want next. While Mark Pincus's focus is on users' experiences, instead of competitor's movement, it allows Zynga to focus and concentrate on its core business and lead in the social gaming market. However, Mark Pincus sees Zynga as a web services company rather than a game developer, and he plays by the rules of that more dryly competitive industry. So, the big question for Zynga now is where is its edge?

Fold the Options Bet on Zynga

On Oct. 6, 2012, my option bet on Zynga was published. The options play consisted of buying 1x Jan, 2013 $2 call and short 2x Jan, 2013 $2 put. Luckily, I was able to close the positions with profit yesterday due to recent jump to $2.62 from 52-week low of $2.09. If the bet was not closed yesterday, I would have had to fold the bet for this Zynga poker game now. One of the reasons for my bet had been changed due to the new agreement with Facebook, as quoted "with Zynga's strong tie with Facebook and its huge user base, Zynga still has an edge over other social game developers." Although Zynga still has some long-term opportunities with this Facebook change, the short-term risk is too high. Zynga is yet to present a sound plan on how to adjust and where to develop after this change. I will consider another short put for $1.5 or $2 strike price on Zynga again only when things become clearer and short-term selling pressure eases. As a Zynga gambler, it is a good time to take a break.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.