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Zynga Inc. (NASDAQ:ZNGA)

Q1 2013 Earnings Call

April 24, 2013 5:00 pm ET

Executives

Krista Bessinger – Director-Investor Relations

Mark J. Pincus – Chairman, Chief Executive Officer and Chief Product Officer

David Ko – Chief Operations Officer

Mark Vranesh – Chief Financial Officer and Chief Accounting Officer

Analysts

Heath Terry – Goldman Sachs

John A. Abraham – Morgan Stanley & Co. LLC

Kaizad Gotla – JPMorgan

Doug Creutz – Cowen & Company

Colin Sebastian – Robert W. Baird & Co.

James Cakmak – Telsey Advisory Group

Arvind Bhatia – Sterne Agee

Michael Olson – Piper Jaffray

Justin Post – Bank of America Merrill Lynch

Eric J. Sheridan – UBS Securities LLC

Nathaniel G. Brogadir – Stifel, Nicolaus & Co., Inc.

James Lee – CLSA

Operator

Good day, ladies and gentlemen, and welcome to the Zynga’s First Quarter 2013 Results Conference Call. At this time all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time. (Operator Instructions) As a reminder, this conference call is being recorded.

I would now like to introduce your host for today's conference, Krista Bessinger, Director of Investor Relations. Ma'am, you may begin.

Krista Bessinger

Good afternoon, everyone, and welcome to Zynga's first quarter 2013 earnings conference call. With us are Mark Pincus, Chief Executive Officer; David Ko, Chief Operations Officer; and Mark Vranesh, Chief Financial Officer.

Before we begin, I would like to remind you that during the course of today's call, we will make forward-looking statements, which are subject to risks and uncertainties. These include statements related to, among other things, our outlook for Q2 and 2013, our plans to enter into new game categories, our plans for our game network, future game launches, the growth of the social games market, including mobile and advertising growth, our entry into the RMG market and our operational plans and strategy.

Actual results may differ materially from the results predicted. Factors that could cause or contribute to such differences include our relationship with Facebook or changes in the Facebook platform, our ability to launch new games in a timely manner that are successful across platforms, our ability to control expenses, the changing interest of players, regulatory or licensing issues, litigation, acquisitions by us and possible changes in management or corporate strategy.

More information about factors that could affect our results is included under the captions Risk Factors and management's discussion and analysis of financial condition and results of operation in our Quarterly Report on Form 10-Q filed with the SEC on October 26, 2012 and in our Annual Report on Form 10-K for the year ended December 31, 2012. Also I’d like to remind you that during the course of this call, we will discuss certain non-GAAP financial measures. Reconciliations to the most directly comparable GAAP financial measures are provided in the tables in the press release and on our Investor Relations website.

These non-GAAP measures are not intended to be considered in isolation from or as a substitute for our GAAP results. Given the SEC’s recent guidance regarding the use of social media to disclose material information, you should note that we might communicate material information via social media channels in the future.

Therefore, we encourage investors, the media, our players and others interested in our company to review the information we post on our company blog and our company Facebook site and information we tweet via our company Twitter account. The addresses for these social media channels are listed on the Investor Relations page of our company website, investor.zynga.com.

This conference call is being webcast on the internet and is available through Zynga’s Investor Relations website. An audio replay of this call will also be available on our website in a few hours. And with that, I’ll turn the call over to Mark.

Mark J. Pincus

Thanks, Krista. Hi, everyone. Thanks for joining our call today. I want to start by giving you a sense of how we’re thinking about our opportunity, strategy and execution in Q1 and throughout the rest of the year. In terms of the long-term opportunity for free to play social gaming, our conviction today is even higher than it was three months ago.

We’re encouraged by the early progress the team made in the first quarter in executing on our strategy of developing the leading franchises, building the leading network and driving profitability. In the first quarter, we generated $230 million in bookings, exceeding our own expectations. The biggest driver of this upside was FarmVille 2, a breakout hit that increases our conviction in our own franchise strategy. The game outperformed with audience engagement and bookings hitting near peak levels in the quarter seven month after launch.

That said, 2013 remains a transition year and we continue to expect uneven, non-linear results. To that end, we’re expecting a significant decline in our Q2 bookings. This reflects the challenging environment on the web and our need to execute more consistently on new game development similar to what you’ve seen us do with FarmVille 2. This also exacerbated by our decision in the quarter to kill two unreleased games that were franchise contenders while these games would have delivered better short-term performance that would have also been short lived. These were hard decision for us, but we’re confident they were the right ones for the future of our company and our business.

Our best growth opportunities are clearly on mobile, which is the next frontier in social gaming. For our 253 million monthly active users, we can now offer them a connected experience they can follow our players from work or school to home and everywhere in between. We’ve already seen the success of this connected experience with our Poker and Words with Friends games, and you will see several more fully connected games across web and mobile coming from us this year.

So, lead on mobile, we’re pursing the same strategy of franchise network and profitability that drove our leadership on the web. First, in terms of franchise execution on mobile, we are focused on delivering the best games across any genre, and we started to see some good progress from our team.

We’re proud that War of the Fallen a new mid-core title has already been played by Kotaku, we said it was a revolutionary way to make a card battle. Even more importantly we’re seeing great player feedback with average ratings of 4.5 stars and monetization that’s running at roughly 15 times what we’ve seen across With Friends title on a per-player basis. Another key mobile franchise opportunity is Draw Something 2, which we are excited to announce is launching later today. This game, which already received 4.5 stars from our players in Canada, is the first game to incorporate social media features like feeds and followers and it represents a terrific opportunity to re-engage to more than 100 million players who downloaded and enjoyed the original game.

The second step in leading on mobile is to build the leading game network that offers the best distribution and the best player liquidity. From a player’s point of view this means making it easier to find the best game and making those games playable with other people. In terms of distribution, we’re focused on introducing our newest games to our mobile audience of 65 million monthly active users. In the quarter, this approach helped to drive What's the Phrase to the number one free app position on iOS within two days of turning on class promotion.

In terms of liquidity, we recently launched our own Zynga account on zynga.com, which is an important first milestone in connecting our players through our network. We registered 3.5 million MAUs in the first few weeks after launching. And we expect to roll out Zynga account as well as more player focused network features on mobile throughout the rest of the year.

And finally, in terms of driving profitability on mobile, even though we are in the early days, we’re encouraged that adverting bookings per DAU and average bookings per paying user both more than doubled year-over-year.

So in summary, we are the biggest believers in the opportunity for social gaming across all platform from web to mobile. We’re following a playbook we’ve proven on the web to lead on mobile with a disciplined approach and we’re encouraged by early execution. This year, we will measure our progress by our ability to bring our existing franchise to mobile while creating new ones, convert our existing audience to numbers of our network, while maintaining profitability while we invest in our players, products, and people.

With that, I'll turn it over to David Ko.

David Ko

Thanks, Mark, and good afternoon, everyone. I’m going to provide an update on our Q1 performance around franchise, network, and profitability. Our teams have been laser-focused on execution and our first quarter results demonstrates our progress.

With that said, we know that 2013 is the year of transition. We are continuing to invest better player experiences by developing innovative new games, and franchises that push the boundaries of how and where games are played. We know there are challenges ahead. We expect to exit the year well position to lead in mobile.

Turning to our first quarter results, in Q1 our largest franchise, FarmVille continued to perform well. The FarmVille franchise including both FarmVille 1 and 2 grew bookings year-over-year, demonstrating the value of an enjoying franchises. We achieved these results in a more challenging environment. While the market for social gaming is estimated to be $9 billion opportunity, it’s also an environment where only the strong will drive. We are seeing increased K rates particularly on the web. And the bar for successful content has increased exponentially.

These challenges does help perfectly with our strategy to create hit that become core franchises like FramVille. As Mark mentioned, seven months post-launch, FarmVille 2 continues to be the expectation by delivering fun, innovative, and social content, our FarmVille 2 team was able to drive multiple days with growth bookings exceeding $1 million per day. Growth bookings include the amounts retained by Facebook.

Despite a tough climate on the web, FarmVille 2 is bucking the trend by demonstrating its continued success as a breakout hit. Our ability to consistently engage our players in new and exciting ways enables us to enjoy strong retention across our franchises. In the same vein, FarmVille 1 has enjoyed continued success largely driven our teams’ ability to deliver ball beads in the games.

These ball beads are new dimension or innovations within a game that excites players and keeps them coming back. In Q1, the FarmVille 1 team delivered two of these ball beads in the form of expansion Enchanted Glen and Atlantis reinvigorating our players’ enthusiasm in the game, these ball beads help to drive continued engagement and monetization.

Another key franchise for us Zynga Poker also rolled out a ball bead with the introduction of a new web leader board. Leader board showcase the weekly leaders in Zinga Poker based on the chips they’ve won and are driving an increase in new buyers and the average amount spent.

Zynga Poker on the web, however, experienced a sequential decline in bookings in Q1 was negatively impacted by legitimate credit productivity and the corrective actions that Facebook and Zynga are taking. This will likely have an adverse effect on our Poker Web bookings in the near-term. We successfully dealt with similar threats in the past and are working closely with our partners to implement actions to address the issue.

The good news is that we maintain brokers leadership position on web and mobile. And we believe it still represents one of our best long-term growth opportunities. As I mentioned last quarter, we plan to aggressively diversify our mobile into new genres such as mid-core. We recently launched were the following; our Second Card-Battler game, which is demonstrating impressive early performance. It’s also great to see the gaming community enjoy or the phone as much as our players.

Additionally, in the next few weeks, the launch of Battlezone will mark our entry into Action RPG. These two games represent a step forward to capturing new audiences in the growing mid-core genre. In the casual genre, we’ll continue to leverage With Friends brands with the upcoming launch of Running with Friends, our first entrant into the popular running category.

Early results of the game in Canada show promise with a 4.5 star rating in the App Store. By leveraging the cultural phenomenon of Draw Something, the largest mobile social game of 2012 with more than 10 billion drawing to date, we are also releasing a sequel in Draw Something 2. Coming on the heels of one of the most success pop culture mobile hit, we believe Draw Something 2 has huge potential to grow and ignite the large and passionate fan base enjoyed by the original game.

After a fun tweet from Ryan Seacrest, we recently announced Draw Something 2 through Twitter, which led to more than 40 million Twitter impressions in just one day. We’re also encouraged by early results in our launch in Canada, where the game has consistently been in the top 5 free apps. Furthermore, we continue to get better across promotion, especially on mobile.

When we launched What's the Phrase in Q1, we propelled the game to number one top 3 on iOS within two days primarily by cross promoting the game to our existing mobile audience. This example demonstrates our ability to grow games without relying heavily on advertising. In March 2013, Zynga was one of the top mobile game developers in terms of daily reach and time spent in the U.S. according to comScore’s mobile metrics. We rank number 6 in total time spent on mobile with 11.2 billion minutes behind only Facebook, Apple, Microsoft, Google and Pandora.

Furthermore, We’re just Friends, was a top mobile app on mobile in terms of monthly time spent. As we continue to focus more of our efforts on mobile. These stats demonstrate that we are delivering the right experiences for our players. In terms of game launches in Q1, as previously indicated, it’s a light launch quarter with one new mobile game, What's the Phrase and one new web game, Zynga Slots

We temporarily paused our launch cadence in the first quarter as we rationalized our product pipeline and increased our mobile focus. As we continue to match the right teams with the right leaders, we expect our launch cadence to pick up over the next several months. In order to ensure that we are focused on our big bets and fully funding games we’re passionate about, we’re also moving to shutdown lower performing games.

In addition to the games that Mark mentioned that we keep funding in Q1, we’ll also be shutting down four additional games in Q2 including The Ville, Empires & Allies, Dream Zoo and Zynga City on Tencent. We’re confident that we’re making the tough decisions to rationalize our business and double down on our big bet.

On the network, we’ve made progress on the launch of our standalone Zynga.com website. And we are becoming a well known destination for world class developers who are taking advantage of our networks of engaged players. We also showed the strength of our audience reach with the full promotion of Playdemic's Village Life, pushing the game close to 6.5 million MAU.

With regards to profitability, we continue to make solid progress. On the revenue side, we’re focused on growing our advertising business and a new business in real money gaming. Q1 ad revenue was strong at $34 million, up 21% year over year. Our direct sales team secured significant renewals from Marquette branding in Q1 including Honda and NBC Universal.

Additionally, we’ll be the first game company ever to participate in the digital content new front from digital advertisers demonstrating the awareness interaction we are gaining with large brand advertisers. The real-money gaming, last quarter we told you that we would launch our first product in the first half of the year and we did just that.

In April, we launched our first ever real-money games we played in the UK. Now players aged 18 and over in the UK can experience Zynga’s first real-money game. Zynga Plus Poker and Zynga Plus Casino powered by Bwin.party, one of the largest and most reputable real-money gaming operators world wide. And we look forward to launching real-money games in the UK on Facebook and mobile later this year.

On the expense side, as we stated last quarter, we reman committed to maintaining a disciplined approach to managing our costs. In a moment, Mark Vranesh will discuss this in more detail. So in summary, as I stated last quarter, 2013 will be a year of mobilization for Zynga. Our original mission is to connect the world through games remains more important than ever. And we believe we are making the right decision to position Zynga for long-term growth.

With that, I will turn it over to Mark Vranesh.

Mark Vranesh

Thanks, David. Good afternoon, everyone. From a bookings perspective despite only few launches in the quarter and accelerating declines in web games, the FarmVille franchise through bookings upside against our previously announced guidance. This along with our efforts to contain cost produce better than expected adjusted EBITDA results.

We generated $23 million of free cash flow as we continue to rationalize capital expenditure, which drove our cash and marketable securities to $1.7 billion and further strengthened our balance sheet. While we are encouraged by these earlier signs of progress, we recognize that we are still very early in the transition of mobile.

Now let me take you through the detail. I’ll begin by covering Q1 results and conclude by providing our outlook for Q2 and full year.

Note that many financial measures herein are expressed on non-GAAP basis. We should look at our earnings release issued this afternoon for a reconciliation of non-GAAP measures to the comparable GAAP metrics. Q1 bookings were $230 million and exceeded the top end of our range by $20 million. Web bookings were down 37% year-over-year and 15% quarter-over-quarter driven primarily by lower web user pay with the largest decline year-over-year and quarter-over-quarter coming from older bill games. Mobile bookings were up 21% year-over-year, but down 8% quarter-over-quarter driven by a light slate of new game launches over the past two quarters that would normally offset aging live games.

Mobile bookings grew from 12% of bookings a year ago to 22% of bookings in the first quarter. Facebook related bookings represented 76% of total.

Next, let’s move on to audience metrics, on a year-over-year and quarter-over-quarter basis key audience metrics were down. MUUs were 150 million, MAUs were 253 million and DAUs were 52 million.

With respect to mobile audience, in Q1, DAUs were flat sequentially at 20 million while MAUs declined from 72 million to 65 million as only one mobile game launched to offset the natural decline of existing games.

As David mentioned, after positive clean up the slate, we expect to launch several mobile titles in Q2 and we expect to see our audience metrics rise in the second half of the year. In fact, we recently launched War of the Fallen and I am also excited that we will be launching Draw Something 2 tonight.

On the monetization front, average bookings per DAU or ABPDAU was $4.09 in Q1, down a 11% year-over-year due to a mix shift from older higher monetizing games to the newer, lower monetizing games, and down 2% quarter-over–quarter due to continued bookings decline on existing games and seasonality in advertising.

Next, monthly unique payers or MUPs were $2.5 million, down 30% year-over-year and 14% quarter-over-quarter. Payer conversion came in at 1.7%. This was unchanged from last quarter. GAAP revenue in the first quarter was $264 million, down 18% year-over-year, online game revenue was $230 million, down 22% and advertising revenue was $34 million, up 21% year-over-year.

U.S. revenue was $157 million or 59% of total while international revenue was $107 million or 41%. Our top revenue generating games for the first quarter were Zynga Poker and FarmVille, which comprised 22% and 16% of our online game revenue respectively, no other game contributed more than 10% in the quarter.

In the first quarter, we delivered a better than expected adjusted EBITDA of $29 million, this resulted in a 13% adjusted EBITDA to bookings margin. In Q1, we reported a non-GAAP tax benefit of $8.5 million, which included a non-recurring $6.8 million tax benefit related to federal R&D tax credit. This resulted in non-GAAP net income of $9 million or $0.01 per share. Our non-GAAP diluted weighted average share count was 828 million shares in Q1 above the $790 million in our previous outlook, which was based on the assumption that we’ve reported non-GAAP net loss for the quarter.

Shifting to operating expenses, note that the amounts I am bout to mention exclude stock-based expense of $30 million and excludes restructuring cost of $5 million. Cash operating expenses were down $14 million quarter-over-quarter primarily driven by lower technology outside services, labor costs, and marketing.

In addition to the progress we’ve made, we remain focused on improving our cost structure and continue to see incremental opportunities to drive further savings in 2013. In Q1, excluding restructuring, cost of revenue was $68 million, down 19% year-over-year driven primarily by lower technology, amortization and lower customer support spend. R&D expense in Q1 was $105 million, down 4% year-over-year largely due to lower labor cost.

Sales and marketing was $26 million, down 41% year-over-year due to decreased marketing spend and G&A expense was $35 million, down 2% year-over-year driven primarily by lower labor costs. Overall, head count was 2,902 at the end of Q1, down 156 people quarter-over-quarter.

With regards to our GAAP results for Q1 note that our net income includes stock-based expense of $30 million, up $15 million in the prior quarter as Q4 expenses included higher forfeitures of equity awards.

Looking at cash flow, cash flow from operations was $26 million. CapEx was $5 million in Q1 and overall, we delivered positive free cash flow of $23 million in the quarter. Turning to balance sheet, we ended Q1 in a strong position with cash and marketable securities of approximately $1.7 billion, which was up $19 million from Q4. Due to the strength of our cash balance in April, we retired $100 million of debt on our balance sheet, which will decrease interest expense after Q2.

Let me now turn to our outlook. For Q2, 2013 we expect bookings between $180 million and $190 million, down sequentially from Q1 reflecting the decay of older existing games in a slate of new releases in Q2 with bookings that are skewed towards the end of the quarter. As noted by Mark earlier, we have defunded some games that we originally expect to meaningfully contribute to Q2 bookings.

These tough decisions are necessary as we focus to invest on our games that can drive long-term enterprise value and back away from games that may offer short-term bookings, but that don’t contribute meaningfully to the brand and takeaway from management’s focus. We see Q2 adjusted EBITDA between negative $10 million and break-even and non-GAAP loss per share between $0.04 and $0.03 based on a share count of approximately 785 million shares, 785 million to 795 million shares.

On a GAAP basis, we expect revenue between $225 million and $235 million, net loss between $36.5 million and $26.5 million, and GAAP loss per share between $0.05 and $0.03 based on the same share count of 785 million to 795 million shares. For the full year 2013, we’re continuing to target adjusted EBITDA margins in the range of 0% to 10% and a few other notes.

With the launch of our first RMG product in the UK, we are now expecting modest bookings from RMG this year. However, we do not believe they will be significant to 2013 results. Stock-based expense for Q2 is expected to be approximately $33 million and CapEx for 2013 is expected to be $35 million down from our previous guidance of $48 million.

With respect to taxes, we expect to take foreign and state cash taxes of $3 million to $5 million in 2013. But otherwise, we do not expect to be a cash tax payer. We expect to begin paying federal cash taxes in the U.S. within the next three years after we deplete our stock-based compensation deductions. And we expect our long-term normal operating tax rate to be approximately 25%.

For the full year, we expect equity grants to employees net of forfeitures to result in a 5% to 6% increase in diluted share count from the end of 2012. This share count includes grants that could potentially be awarded pursuant to our previously announced executive compensation program.

In summary, we remain focused on executing in a transition year. Although a challenge, the migration of mobile also represents a tremendous opportunity for growth. We have continued to make progress in reducing costs, redeploying resources and cleaning up the slate, but we still have more work to do. It’s not about keeping score for the quarter, but for the long game. As such we are focused on consistently looking for ways to get that and strengthen the balance sheet and make that part of culture here at Zynga.

We expect the road will be bumpy, but Q1 is a testament of the strength of our franchises and our steadfast cost consciousness and commitment to profitability even as we invest in our strategic properties. We are confident that Zynga will exit 2013 in a better position to be the leader in social gaming across platforms.

With that operator, I’d like to open the call for questions.

Question-and-Answer Session

Operator

Thank you. (Operator Instructions) Our first question comes from Heath Terry of Goldman Sachs. Your line is now open.

Heath Terry – Goldman Sachs

Great. I was wondering if you can give us a sense, you mentioned the development or the roll out of Zynga payments on zynga.com, can you give us a sense of what kind adoption you’ve seen? And how the profile of a zynga.com player compares to your more traditional Facebook or even your mobile players?

Mark J. Pincus

Thanks. This is Mark. So as you’re noting by the end of the quarter, we turned zynga.com on with our own Zynga account and began taking our own Zynga payments. The player base on zynga.com represents some of our more dedicated, more hardcore players that have come and already established ongoing play patterns with us, it’s too early for us to give you clear metrics on how either that audience or their ARPU or any of those things compares to the broader since we’re just a couple of weeks into it.

Heath Terry – Goldman Sachs

But would it suggest that with your – and certainly makes sense that your more dedicated, hardest core users are moving or migrating to zynga.com, but is there potential for either better take rate or better margin from those users and does that have or that margin having sort of a disproportionate impact relative to say the number of users that we see moving on whether we’re looking at comScore or that kind of thing?

Mark Vranesh

Yes, I do think that given that we are on our own payments and not using our partner’s payments and no longer paying a 30% fee that those players will be at higher margins than what we would see on average.

Heath Terry – Goldman Sachs

Great thank you.

Mark J. Pincus

Thanks. Sam, can we have next question please.

Operator

Our next question comes from Scott Devitt of Morgan Stanley. Your line is now open.

John A. Abraham – Morgan Stanley & Co. LLC

Hi, this is John Abraham for Scott. I just had a question about the Battlestone launch, I know you have a few weeks of data from select markets and U.S. is one of them, but have you seen anything to suggest that this title monetizes a lot better than the traditional mobile titles? And just a follow-up on the zynga.com question, could you give us any indication of how much of web game – ignore the payment side in the converting to Zynga credits, but how much time spent of web is on Zynga.com versus traditional Facebook Canvas? Thanks.

David Wehner

I’ll take the first part of that and then turn it over to Mark. So this is David. In terms of what we’re seeing in the mid-core as we move to expand our player basin to the mid-core genre, it really started and we talked about this a little bit in the last earnings call with the launch of Ayakashi, which was one of our – which gave us a little bit more conviction about the space and our players were interested in playing these types of games.

At the time, Ayakashi had one of the largest revenue per DAU games in the company, and then we have moved to – we’re looking to move to launch or to follow Next and then Battlestone. So while it’s early to say on Battlestone, we are encouraged by some of the early results we’re seeing across our two games.

Mark J. Pincus

Hi, John. Just following up on GDC and time spent, we do see that our users are more engaged on Zynga.com, I mean they tend to play longer and they tend to be more games and trick players. But I would say, it’s still a little bit too early to tell how that’s going to play out over the long-term.

John A. Abraham – Morgan Stanley & Co. LLC

Thanks.

Krista Bessinger

Our next question please, operator.

Operator

Our next question comes from Douglas Anmuth of JPMorgan. Your line is now open.

Kaizad Gotla – JPMorgan

Great, thanks for taking the question. This is Kaizad Gotla in for Doug. I had a couple of questions. First, can you help us with the trajectory as game launches in the second half of the year, should we expect a similar rate to the second quarter? And then second on costs, you’ve made some good progress, cutting costs in the last couple of quarters. So can you just give us a sense for where you see additional room to improve efficiencies?

David Wehner

Yeah. I’ll take the first part of that. this is David and then Mark Vranesh to take the second part of that. So in terms of our pipeline in the later half of last year we reorganized refocus on four major genres and that was across Casual, Casino, Mid-Core, and Investor express. As you heard today, we’re really excited about our launches that we are doing in the Casual space two in particular. First with Draw Something 2, which is launching today and then also later on that you can see things like Running With Friends, for example.

Another thing we ended up doing last quarter was putting a little bit of a pause in our title play as we focus the right teams and the right leaders around some of our biggest step. And so you will see an update in our number of launches in the back half of the year.

Mark Vranesh

Hi, Kaizad. And with respect to cost cuts and driving efficiencies, like I said in my prepared remarks, we do see room for additional efficiencies in areas like technology, customer support, sometimes there is a lighter customer support touch associated with mobile games versus web games, for example, and we will be driving these efficiencies throughout the rest of the year.

Kaizad Gotla – JPMorgan

Great. Thank you.

Krista Bessinger

Okay. Next question please.

Operator

Thank you. (Operator Instructions) Our next question comes from Doug Creutz of Cowen. Your line is now open.

Doug Creutz – Cowen & Company

Hi, yes, thanks. I wonder if you could maybe give us some insight on what you are seeing as far as customer acquisition cost on mobile right now with a lot of especially with the Japanese companies coming into the market in a very aggressive way? Thanks.

Mark Vranesh

Hey, Doug, this is Mark. So let me give you the higher level contacts and how we are thinking about customer acquisition and then Dave and Mark can give you more specifics. The best way that we can be competitive in the market and move positively move customer acquisition cost is by investing in our network and better leveraging our large audience, and so you should expect to continue to see us bring more features to our users that gives them cross game benefits, and continue to see us on mobile cross promoting and marketing our games as you see them come out, and over the longer-term, building a much more direct relationship with our players. We’ve all seen the cost of customer acquisition on a per installed basis on mobile build up substantially in the last year and I think analyst project that they’ll continue to go up, and so the value of that distribution and those efficiencies I think will continue to pay off and go up in the future.

Mark J. Pincus

And with respect to mobile acquisition cost or player acquisition cost, as Mark mentioned, we think it will get more competitive and we are seeing rates that are above what were normally seen in the web space.

Doug Creutz – Cowen & Company

Right. Thanks, that’s helpful

Krista Bessinger

Great. Operator, next question please.

Operator

Our next question comes from Colin Sebastian of Robert W. Baird. Your line is now open.

Colin Sebastian – Robert W. Baird & Co.

Thanks. I have a couple of questions. First on the franchise strategy, you had good success obviously with FarmVille 2, but also previously some mixed results with CityVille and Mafia Wars 2. So I wonder which other games you think will perform more like FarmVille and perhaps will differentiate those titles in terms of expanding them through the sequels?

Mark J. Pincus

Yeah, this is Mark. So, Colin, you bring up a great really essential question to that we think about a lot in terms of our strategy. There’s a lot of lessons for us in the success of FarmVille 2. I’d say that the biggest lesson that we’ve seen is when we combine our best brands with our best teams and their passions, we see almost magical results. Some of the results that we saw in FarmVille 2, in terms of quick through rates, whether it was on ads or player invitations. And the results we saw, future releases, couldn’t even be explained by RPMs and the best data and analytics.

There was a lift that we saw that came from the investment in the Polish and the investment in the brand equity that we have made over the prior years. And so that really informs us as we double down on this franchise strategy. I think as you see the web market get more mature and as you see the mobile market get more competitive, the power of these brands and franchise if treated right and if we’re making these investments in them, I think will really show and will really payoff.

Colin Sebastian – Robert W. Baird & Co.

But there are metrics or there are parts of the game that you think you can duplicate or what you’ve learned from those prior sequels that you can duplicate across the other franchises?

Mark J. Pincus

I’d say that the lessons that we’re taking, the playbook that we’re developing around producing these franchises, the sequels, bringing them to mobile is spreading through the company. And I think when you look at the success of FarmVille 2 in a challenging web environment as we’ve all seen, it’s generating great player heat and great engagement. And it’s leveraging the best of Zynga from technology that enables content personalization with state of the art that enables for instance hardcore players to get more heavy frequency hardcore content, lighter players to get much lighter cadence of content to the investment in multiple feature and content update a week whereon mobile we see single updates per month or per quarter. There is a lot of lesson that we think we can apply directly to create – recreating these franchises and winning in the long run on mobile.

Colin Sebastian – Robert W. Baird & Co.

Okay. Great. Thanks, Mark.

Krista Bessinger

Great. Next question please operator?

Operator

Our next question comes from Richard Greenfield of BTIG. Your line is now open. Mr. Greenfield, please check your mute button. We’ll move on to our next question. Our next question comes from James Cakmak of Telsey Advisory Group. Your line is now open.

James Cakmak – Telsey Advisory Group

Hi. Thanks. Looking at the four buckets of genres that you guys operating in and the superior monetization profile of the mid-core games, how would you say you’re allocating resources across the four buckets? Is it weighted towards the one genre over the other? And it seems like you’re getting a little bit more stringent on the thresholds – the return thresholds on the games even more so than I anticipated from the last call. Is that the case and can you just talk about those thresholds and how many title aside from the ones you discussed are on the review at this point?

Mark J. Pincus

Hi, Jim, this is Mark. And I’ll separate your question in two parts, and I’ll answer first and Dave Ko can answer the second. So in terms of our commitment to make core in allocation of resources, I would say that of the teams that are focused on new IP today, we probably have more resources investing in the mid-core in mobile opportunity either mid-core mobile or mid-core multi-platform mobile and web than any other genre.

So it’s obviously, the biggest and fastest growing part of our market. And as you would expect we are making the biggest investment there as well. It’s also important to note the approach we are taking to mid-core. In everything that you see us do, we are focusing on making these great mechanics and genres appealing to a mass market, a much more casual audience.

We are not trying to compete in the most hardcore spaces even within mid-core. What you should expect to see is that we are making even if it is traditionally a more hardcore game style or genres, what we are trying to do is make that much more accessible to a broader audience who could never really participate in that kind of game genre before. And I think, Dave Ko, can answer the second part of your question, which related to our guard rails and thresholds.

David Ko

Yeah, James, one of the things that we’ve been doing, I just want to add to Mark’s point a little bit is also making sure we have the right leaders with the right teams. And going after our biggest steps, which could be franchises. While it’s hard to predict which games we franchise is one of the metrics that we’ve been looking at is even within our internal play testing and we are testing these games now all throughout the process. And so one of the things that we saw and got excited about was one of our games that are right now about to launch whether it’s DS2 or Running with Friends, for example, we had some of the highest fun scores within the company, which gave us a little bit more data points into how these games would be once we release them globally because we believe we have some of the best gaming talent in the industry.

So while it’s hard to tell you right now how many games we are going to release for the rest of the year, we do believe our launched games are going to pick up, but we also want to make sure that we are launching the right types of games which have the biggest chance to become franchises.

James Cakmak – Telsey Advisory Group

Thank you.

Krista Bessinger

Thank you, James. Next question?

Operator

Our next question comes from Arvind Bhatia of Sterne Agee. Your line is now open.

Arvind Bhatia – Sterne Agee

Yeah, thank you. I was wondering if you guys can provide some more color as far as your second quarter guidance is concerned. And what I mean by that is, is your second quarter guidance in anyway reflecting the change in your relationship with Facebook? That’s one.

Second, I’m wondering what you’re baking in for Draw Something 2 and also the impact as Zynga Poker, the credit card fraud that you talked about? So and then extending that further, should we think of the second quarter as sort of the trough quarter in terms of bookings? Is that how you’re thinking when you’re guiding to that 10% EBITDA margin at the top end? Thanks.

Mark J. Pincus

Okay. Arvind, I’ll answer that. I think that might have been a series of four or five questions. I’ll do my best to address those and turn it over to Mark Vranesh to go into more detail about the way that we’re developing the guidance for the quarter. The first question you had was how much any of these changes are reflective of our relationships with Face book, and these changes are not – any new reflection on the relationship with Facebook, other than that we believe the best growth opportunity for our company is mobile and multi-platform focusing on developing, enduring great franchises and a network for our players around those franchises. We continue to have a very strong relationship with Facebook around the business partnership that we have on the web and the teams continue to work closely together around that business and that partnership. I’m going to turn it over to Mark Vranesh who can answer some of the rest of your questions.

Mark Vranesh

Hi, Arvind, it’s Mark. Yeah, I did want to get a couple of the other questions that you asked. First of all, I think a couple of data points that are important, so guidance for Q2, $180 million to $190 million and still targeting overall positive EBITDA for 2013. What’s key is we’re not presuming that the aggregate bookings from new releases again, offset the declines in our existing games. So from that standpoint, we are seeing declines in our existing games and we’re not adding back a lot of upside for the games that we’re currently launching. That goes for DS2 as well. And with respect to Poker, we do see a little bit of a decline in Poker in Q2 as we bring that franchise back up to health and get it back into growth mode.

Arvind Bhatia – Sterne Agee

So would it be fair to assume that 2Q is the trough, at least in the near-term?

Mark Vranesh

I mentioned earlier in my prepared remarks that I thought that our user metrics had all improved towards the second half of the year, and if we launch the right games and we get the right sort of engagement, there is opportunity that revenues will go up as well.

Arvind Bhatia – Sterne Agee

Okay. Great. Thank you.

Krista Bessinger

Great. Next question please, operator.

Operator

Thank you. (Operator Instructions) Our next question comes from Mike Olson of Piper Jaffray. Your line is now open.

Michael Olson – Piper Jaffray

Hey, good afternoon. Can you just talk about EBITDA guidance that you’re thinking for the year, you kind of addressed this in the last question to some degree, but with the full year guidance that you gave it would suggest the potential for second half 2013 EBITDA margin of positive single digits, so do you expect both Q3 and Q4 to have positive EBITDA? And then where do you think we are in kind of just overall ABPDU trend? And at what point do you expect higher monetizing mid-core games to sort of contribute to the overall mix enough to begin seeing an uptick in blended ABPDU? Thank you.

Mark Vranesh

Hi, Mike. It’s Mark Vranesh. I’ll take this. With respect to EBITDA, I mean, I want to point out that we think 2013 is going to be bumpy. And as Mark mentioned, it’s also going to be non-linear, so its’ a little bit hard to predict. And just given limited visibility, we’re not going to give guidance – specific guidance for Q3 and Q4 at this point, but we’re comfortable with the 0% to 10% range that we laid out for all of 2013. And with respect ABPDU, we’re early in the mid-core, we do think that’s going to be one of the things that’s going to generate higher ABPDUs for 2013, but also mobile monetization has picked up as well. So that – we’re hoping that’s going to be another contributor.

Michael Olson – Piper Jaffray

All right, thank you.

Krista Bessinger

Great. Next question please?

Operator

Our next question comes from Brian G of Bank of America. You line is now open.

Justin Post – Bank of America Merrill Lynch

Thank you, this is Justin. I wanted to ask you about your Zynga Poker mix of audience if you give us any details on North America versus international or maybe even Europe. And then what your outlook is for that in the U.S. Do you think there is a high probability of your users converting to real money gambling and do you see a much bigger take rate potential if they do convert in the future years? Thank you.

Mark J. Pincus

Hi Josh, this is Mark. I’ll answer the second part of your question and then Mark Vranesh can come back to the first part. So in terms of, let me give you the bigger context. So we’re excited about the entire category of the social casino from poker to the growth we’re seeing in other parts of free like Slots and Bingo and integrated casinos especially on mobile where we are seeing a very broad market for a range of products and a fairly broad audience.

On top of that there is – the growth potential in the future to bring real money gaming to many of these same players at a point when obviously it’s possible from a regular standpoint. As we think about that, first of all, we realize that both there is regulatory obstacles to offering the real money gaming that we can’t predict or control. And once we get to a point of offering it, it remains in our industry unproven as to what the take rate will be. But I will say why long-term, we’re pursuing it interested and excited about it, as we’ve tested with our Poker players what they are interested in, real money gaming is one of the highest testing new play opportunities that we’ve seen our player feedback tell us. So we think that it’s exciting from a player engagement standpoint to be able to offer them more real world opportunities. It eventually could be a edifying business in the U.S., obviously we can’t tell you when the regulatory environment will let us start testing, improving that business, and Mark Vranesh can talk to the rest of your question about Poker audience.

Mark Vranesh

Hi, Justin. Yeah, with respect to Poker audience, we view that information as very competitive and very sensitive data. So I hope you can appreciate that and I would say that we have more of our audience international today than we do domestic.

Justin Post – Bank of America Merrill Lynch

Okay, great. Thank you. Maybe, one follow-up, can you just give us what’s public in the regulatory process in the U.S., how that’s progressing and what your outlook is? Thanks.

Mark Vranesh

Sure. So we filed our preliminary application in State of Nevada for licensing, and I think at the time we filed it, we said it would be 12 months to 18 months until we sort of got to the next stage. So I would say we’re on track with that, it feels like we’re making progress, and if that was seven months or eight months ago, we’ve got that kind of time left to get to the next step.

Justin Post – Bank of America Merrill Lynch

Okay, thank you, I appreciate it.

Mark Vranesh

You bet.

Krista Bessinger

Great. Next question please?

Operator

Our next question comes from Eric Sheridan of UBS. Your line is now open.

Eric J. Sheridan – UBS Securities LLC

Thanks so much. Wanted to get an update on the way in which the company was thinking about the buy back at this point, you guys have been in the market with the buy backs but at a smaller size than we would have thought, can you just help us think about now that you’ve retired that piece of debt and thinking about stability in the business going forward, how do you think about shareholder remuneration? Thanks.

Mark J. Pincus

Sure, you bet. So first and foremost, we continue to evaluate the best use of our cash to fund growth in the long-term enterprise value of the business. So we’re going to use our cash accordingly. The relevant data points around the share repurchase program, we’ve used $14 million to date, so we still have a $186 million left under the authorized pool and with respect to the repayment of debt; that was a treasury decision. It was an opportunity to use our cash wisely to reduce cash expenses going forward. So we took advantage of that.

Eric J. Sheridan – UBS Securities LLC

Great. Thanks.

Krista Bessinger

Great. Next question please, operator.

Operator

Our next question comes from Nat Brogadir of Stifel Nicolaus. Your line is now open.

Nathaniel G. Brogadir – Stifel, Nicolaus & Co., Inc.

Thanks, guys. Thanks for the time. Two quick ones; on EBITDA, you guys were guiding a minus 4% margin to midpoint EBITDA plus 12, and then the EBITDA guidance really didn’t change. I think there are a couple of questions been asked, the real question I think is will you guys find spending more in the next three quarters? And then secondly, on MUPs, you guys have lost roughly a third of your paying user base, how do you guys kind of spend that losses even though monetization is better on those bigger areas, it’s got to be a concern when it’s gone from 3.5 million paying users to 2.5 million, how do you guys kind of flip that around. Thanks a lot.

Mark J. Pincus

Yeah, I’ll take the EBITDA question first, so we did outperform in Q1 and I think that was largely attributable to the success of the FarmVille franchise and quite frankly, some of the cost initiatives that we undertook. We do think there is opportunity to improve our spend Q2, Q3 and Q4. So you should see us and in fact, I think the way we’ve guided and where the math works, we are forecasting to take spend down further in Q2. And with respect to MUPs that’s driven significantly by new game launches and it’s also driven by in app game purchases. And when you think about our business skewing towards mobile now, the game downloads are significantly part of MUPs. So MUPs will be dramatically impacted as we launch new mobile titles.

Nathaniel G. Brogadir – Stifel, Nicolaus & Co., Inc.

So we should expect that to decline further?

Mark J. Pincus

I think one of my comments was that we would be picking up on audience metrics towards the back half of the year. So I don’t think you should expect it to decline further.

Nathaniel G. Brogadir – Stifel, Nicolaus & Co., Inc.

Okay, that's great.

Mark J. Pincus

And just Mark I guess, the biggest driver on MUPs is going to be our ability to drive new mobile hits and franchises and it's really going to follow that, not lead that.

Nathaniel G. Brogadir – Stifel, Nicolaus & Co., Inc.

Okay.

Krista Bessinger

Great, and operator, I think we have time just for one more, one last question please?

Operator

Yes. (Inaudible) we have time for one more question. Our final question comes from James Lee of CLSA. Your line is now open.

James Lee – CLSA

Thanks for taking my question. Can you just help us understand your strategy regarding RPG games from a creative and also from a feature design standpoint? And obviously, this genre has been much more sophisticated and mature in Asia. I was wondering specifically what have you learned from that. What’s going to be working in U.S., what elements may not work in the U.S. audience based on you’re testing? Thank you.

Mark J. Pincus

James, I’ll answer this. To start with and I think David Ko can answer more in regards to the games in our pipeline. I think that we’re excited about the RPG genres within mid-core and you’ll see some games coming out within that from us this year. The key, I think, you get to is that wow, this is obviously a very large category. In Asia, it’s highly likely that it grows in the U.S. especially in the mass market in a way that looks a lot different than Asia.

While we expected to get traction here, we think that the western market has been growing in some different ways, especially as we get to much more mass market, broader audiences in these games. And so, our approach is definitely learning from the success that we see with these mechanics in Asia. But we really need the hard R&D for us is to find what formula really can catch on with a much more casual audience in the west. And Dave…

David Ko

And I just want to reiterate that one point, as we look to create franchises within these different categories, we look at them defined by how we think about quality, social and accessibility. And that’s why it’s such a key point of our franchise strategy.

Another part of our strategy is the network fees, because as you move into mobile today, discoverability becomes such an important factor in how apps are found. We know now with billions of apps being downloaded monthly across the different platform and it’s really hard to get your apps found. So if you kind of put together the network, also focus on franchises, we really do believe there will be part of what differentiates us versus everybody else.

Mark J. Pincus

Okay. With that, we’d like to thank you all for joining us today, and have a great day.

Operator

Ladies and gentlemen, thank you for participating in today's conference. This concludes today's program. You may all disconnect. Everyone have a great day.

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