Is it time to buy Glu Mobile?
Glu Mobile (GLUU) shares have been making big moves lately in both directions. Just in the last month it jumped from about $2.25 to $3.86 a share. The beginning of April it came all the way back down to $2.54 and now has broken the $3 mark. Back in September of 2012 it rose all the way to $5 only to drop under $3 again within a month. To be fair Glu Mobile is a small cap software company so big price swings as investor sentiments change is probably the norm. I notice two big swings in July of both 2011 and 2012. A little research on the Glu Mobile website shows Frontline Commandos being released in July 2012 on the App Store followed quickly with Gun Bros and Contract Killer released for Xbox Live. I would think this generated some excitement for the stock. In July of 2011 Gun Bros becomes a multi-player game at the App store and Eternity Warriors is debuted. Multi-player games are widely seen as the next phase of mobile gaming and probably provided a little punch for the stock to rise.
Glu Mobile is a small company that builds action adventure games for the mobile platforms and are sold from various digital storefronts; Apple App Store, Google Play, Amazon App Store, Xbox Live, and Samsung Apps. Its current market cap is approximately $190 million and a quick review of the analyst opinions on my Fidelity.com website shows they are mostly bearish on this stock. There is also an approximate short interest of 18% of shares outstanding, so the bears are out for Glu Mobile. Glu Mobile makes freemium games and generates its revenue from the in-app purchase of items for the game and advertising. They provide advertising offers where the player can execute an action and receive virtual currency in the game. I personally play Glu Mobile's Contract Killer Zombies game and see this method of advertising as fairly productive. You can request quotes from insurance companies, for example, through the game and earn some virtual currency. If I was already possibly interesting in getting quotes why not get them through my favorite game and get a little more benefit. It worked on me and I started going through the offers to see what I was interested in a couple times during the months I have been playing it. The 10-K did break out revenue from smartphones to illustrate how effective this model is which I included in the chart below:
Not knowing what "Other" means I excluded it but revenue from ads and offers was roughly 43% of In-App purchases or almost 28% of total revenues from smartphones. To put that in perspective I just reviewed Zynga (ZNGA) and in the last 10-K the advertising revenue for Zynga was almost 12% of total revenue implying Glu Mobile is doing a better job of adding value for advertisers. The scale is obviously different since Zynga has a market cap of $2.8 billion compared to Glu Mobile at $190 million but the appearance of better execution in this area is a positive sign.
Keeping on the revenues topic, Glu Mobile had revenue growth over last year of approximately 32%. This is solid growth but there are other factors that make this even more attractive for the company. Even with an increase of revenue the company managed to drop the cost of revenue by over 30% from last year. Revenue had been declining for Glu Mobile since 2009. 2011 generated a positive revenue growth rate of less than 3%. 2012 Glu finally earns real growth in revenues and almost reaches the highs of 2008, short about $2.5 million. What is even more interesting in the cost of revenue is now less than a third of what it was in 2008 so while revenue is slightly below the 2008 level gross profit is 50% higher. .
Glu Mobile's management has an eye on increasing revenue and is focused on some excellent ideas for the long-term sustainability of the company. First, the CEO recognizes the increased monetization of Glu Mobile's games has to be a focus of the company. To do so they hired Matt Richetti as the President of Studios with the specific mission of building deeper monetization for their games. Glu Mobile even delayed the launch of the titles in the last quarter of 2012, so Mr. Richetti could improve their monetization before Glu Mobile launched them. There is a risk that Mr. Richetti and the staff they hired will not make a material impact on the monetization of Glu Mobile's games but to consciously focus on this metric is good news for the stock. The company currently has a rate of less than 1% of users being payers when the average is around 2%. If Glu Mobile could successfully reach the average for the industry last year's results would have yielded a net income of $52 million or $.81 EPS instead of the $20 million net loss.
The CEO, Niccolo M. De Masi, is also adding to the current offering from Glu Mobile to include titles in categories that typically have a higher monetization rate. I like the expansion into different categories as a way to diversify the revenues allowing them to take advantage of whichever category is hot with consumers at that particular moment. The company is also launching the Glu Publishing Division which was created to allow 3rd party game developers to create titles to be distributed through the Glu Mobile distribution and marketing system. This should take advantage of gaining developers with a lower amount of risk attached to the success of the title. While they would earn less revenue from titles launched out of the new division it would again allow them to diversify the revenue streams. The final thought I have for the management of this company is that it has consistently beat analyst expectations. While Glu Mobile has yet to produce positive earnings, consistently beating expectations demonstrates the excellent caliber of Glu Mobile's management team.
I am a little hesitant with Glu Mobile mostly because they have not turned a profit, are burning approximately $8 million in cash annually, and have seen outstanding shares more than double since 2008. But the positive growth of revenues while keeping the cost of revenue at historically low levels for Glu Mobile coupled with the management focus on increasing monetization of the titles help me to feel bullish on Glu Mobile.
The company is, like Zynga, expanding into the real money gambling (RMG) industry with a partnership in the UK that is producing two titles. The growth of that industry is forecasted to be strong which when considered with the other positives for Glu Mobile's revenues tells a story of increasing earnings. According to H2 Gambling Capital the worldwide RMG market is $30 billion with 54% of that market centered in the UK and Europe. The US market is expected to reach $7.4 billion by 2017 so entering the RMG market is a smart move. I am cautious to not put too much emphasis on this market as I expect it to be very competitive like the rest of the gaming markets. I would not be surprised to see the shift to profitability to happen in the second half of 2013 as they continue to leverage the company's brands and distribution network and work to increase monetization rates of the titles.
There has also been broad speculation of Glu Mobile being acquired by Zynga which is probably pushing the stock price up a little bit. Zynga has the cash to acquire this company but it would take quite a bit of its cash hoard to do so. My feeling is the price would be north of $500 million fully a third of Zynga's cash. Glu Mobile would give them strong brands in the action game markets and additional exposure to the RMG market. Even so I don't think Zynga is going to pull the trigger and make an offer for Glu Mobile. I believe they will push into Glu Mobile's markets through the use of the Zynga publishing platform not through large acquisitions. I am still bullish on Glu Mobile not on the speculation of an acquisition but rather because of their focus on the bottom line and expanding into what I see as very promising markets for it. Glu Mobile is also well positioned to take advantage of the market's shift to multi-player games as it has already added this element to many of its existing brands.