Zynga (ZNGA) is the world's biggest social gaming company. Zynga's games can be played in different platforms such as Zynga.com, Facebook, iOS and Android devices.
The aim of this article is to value Zynga in an objective way because people are saying a lot of incorrect things about the company regarding how much is it really worth. In this article, I'm going to compute the fair value of the company thanks to the FCFF (free-cash-flow-to-the-firm) valuation model, and I will explain why I stay bullish on the company.
Some months ago, the company has entered the real-money gambling market in the U.K., and has applied for an online gambling license in the Nevada. This new market space will constitute an important growth opportunity in the near future and will improve the revenues and the future operating cash flow. Moreover, Zynga has launched today two real-money gambling games in the U.K.
As I said in my previous article about Zynga, the company won't buy Glu Mobile (GLUU) for three reasons; the different market space, the cash preservation and the focus on real-money gambling. The valuation model I will apply to Zynga is accurate because it won't be altered by the potential acquisition of Glu Mobile in the near future.
Now, let's talk about the valuation of the company. First of all, I have to compute the WACC (Weighted Average Cost of Capital). Based on 2012 annual report and cost of capital estimation from NYU Stern, the WACC is at 7.16%. Afterwards, I use the cash flow from operations (CFO) and the capital expenditures to compute the FCFF. The capital expenditures include acquisition of property, plant & equipment, and business acquisition. Finally, I have discounted the FCFF by the WACC to obtain the present value of FCFF for the coming years.
- In 2012, the CFO was negatively impacted by deferred revenues (- $133 million), which explains the relatively low level at $ 195 million.
- In 2013, the CFO estimation is based on the average of the last three years (2010, 2011 and 2012). Afterwards, I assume a 10% growth rate until 2016, which takes into account the potential new stream of revenues from the real-money gambling.
- Acquisition of PP&E is estimated to $120 million for 2013. Afterwards, I assume a growth rate of 7% for the next three years.
- Business acquisition is estimated to $ 40 million for the coming years and won't grow in the next three years (because Mark Pincus won't repeat the mistake he has made with OMGPOP in 2012).
- Infinite (∞): I assume a constant growth rate of 2% as the U.S. GDP which is conservative for a company as Zynga).
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When I apply the FCFF valuation model to Zynga, I get a fair value per share of $ 5.72, which represents a potential increasing of 63% based on a price per share of $ 3.5.
According to the FCFF valuation model, the company is undervalued by 63%, which represents a good opportunity to invest right now to take advantage of this market mispricing. Moreover, the company still has a treasury of $ 1283 million (cash and equivalents of $ 385 million, and marketable securities of $ 898 million). Zynga has also entered the real-money gambling market, which will offer a new stream of revenues in the near/mid-term. Those are all the reasons why I'm bullish on Zynga and why I still believe in Zynga's strategy for the coming years.
Additional Disclosure: This analysis is based on current market conditions which include a positive U.S. GDP growth for the following years and a non-deteriorating situation in the Euro Zone.