Games are entertaining for a while, and then we get bored. The omnipresent need to create the next popular game and turn a profit is a daunting task, and game makers face fierce competition.
Creating flash-based games is much easier than people believe, and most intelligent 12-year-old kids could make the games. So while Zynga (ZNGA) convinces the world it is genius for creating games a child could write, the real genius is how they are able to convince people that they are a good investment.
Their goal is to get you to buy virtual items, and less than 3% of the user base is willing to throw away real world currency on a virtual garden rake.
When I contacted Zynga and asked what government agency provides oversight to assure games are honest the representative said she did not know and was investigating the issue and refused comment when I tried to follow-up.
If you visit Atlantic City, Las Vegas or any casino in the USA you can rest assured knowing they are kept honest by the Gaming Control Board, which enforces federal gaming laws. Historically, casinos were dishonest and were known to cheat clients. In the US, federal laws now protect game players, and odds-based games like slots are especially scrutinized.
The Internet is a relatively new technology, and online "pay to play" or "free" games have become common, yet there is no oversight. There are no safeguards on behalf of the consumers to assure the games are not tilted to inspire purchase. The ease and possibility of fraud exists on a billion-dollar scale, yet no one is questioning this issue.
It is not my intention to say Zynga or companies like Zynga cheat their clients (because no one knows for certain). My issue with companies like Zynga is there is no oversight into the programming or databases that comprise the games.
What we know about Zynga:
So far all we know about Zynga is that they seem able to generate endless millions in real world currency repeatedly from the 3% of their user base that is willing to spend real money on a virtual garden rake.
We know that their current model is not to innovate and create new and exciting games, but instead to gobble up any company that has a popular flash game, to the tune of nearly $200 million a pop. Borrowing from a recent Bloomberg interview with Mark Pincus of Zynga:
The biggest maker of social games paid $180 million last month to acquire OMGPop Inc., after spending a combined $147.2 million for 22 companies in 2010 and 2011. Chief Executive Officer Mark Pincus expects to do "a few" deals the size of OMGPop or larger in the next three to five years, he said in an interview at the company's San Francisco headquarters.
Many of the top programmers from the acquired companies have defected, and one (Mark Shay) has gone as far as to call Zynga an "evil company." If Zynga can't keep game developers during acquisitions then they are essentially paying hundreds of millions of dollars for a game.
A whopping 90% of Zynga's gross income is directly due to it's relationship with Facebook. Should something affect the Facebook / Zynga relationship, Zynga will be nearly worthless.
We also know no one is protecting the game players from being cheated. Zynga makes the games and controls the odds of winning. It would be very easy for them to cheat the paying 3% to keep the cash flowing simply by turning a zero into a 1.
What we currently know about Zynga may not be as important compared to what we don't know.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.