The people who said that Zynga (ZNGA) would pop on its IPO are the same people who said Zynga would rise in anticipation of Facebook's (FB) IPO. The opposite happened in both cases, because the market knows how to price in obvious information ahead of time and sold off in disappointment when the stock was supposed to be popping but didn't.
But now the dumb money is getting shaken out, and it is time for smart money to step in.
I am mad at myself, as a Zynga perma-bull, for not turning short-term bearish when it was obvious that the dumb money was overrepresented in the last couple months. The good news is the false prophets will probably go away for a while, after Zynga did the exact opposite of what they predicted it would do preceding Facebook's IPO.
Zynga supposedly should trade around double its current price in order to be proportionate to Facebook's revenue, but this math assumes that Zynga will grow profits in general correlation with Facebook. That's a messy comparison; Facebook and Zynga have different business models. My position is that Facebook news can offer a signal to Zynga traders, but Zynga's valuation should generally stand alone.
The market is currently pricing Zynga as a weaker division within Facebook. Zynga is currently responsible for 19% of Facebook's revenue. On that basis alone, compared to Facebook at $73 billion, Zynga would be at $14 billion. The market's clear assumption is the two balance sheets will progress generally the same, except Facebook has better chances of profit growth. Through this paradigm, Zynga will continue to rise and fall with Facebook's market cap. This future expectation dominates Zynga's current pricing.
Shenanigans on the Nasdaq are not what really led to Zynga's sell-off last Friday. And the continued weak demand for Facebook shares are part of Zynga's symptom, not the disease. The disease is a media circus that has little interest in the actual business models of the companies. This media anti-intellectualism has produced Zynga's recent exodus of impatient dumb money, and the market's continued insistence on pricing Zynga and Facebook together.
Who can blame the media for clouding the discussion of social media? Facebook is, after all, its biggest competitor. Plus, the media, whether on the left or the right, has always pandered to the lowest common denominator of reactionaries.
The media wouldn't matter if people didn't rely on it. This is the kicker. Most investors who haven't lost their money yet know how to look beyond the front page of the Wall Street Journal. But for the industry of social media, which is especially uncertain, financial professionals rely more on the media than other industries because the media projects a false sense of intellectual credibility while no one else tries.
Bottom line: Zynga is like Starbucks. Facebook is like Starbucks' landlord. The market is currently pricing "Starbucks" at a revenue-discounted coupling to the share performance of Starbucks' landlord.
This coupling will eventually lead to decoupling, which creates a superior investment opportunity in the interim on the basis of Zynga's strong fundamentals.
The fundamental insight about Zynga is demographics. Zynga doesn't just make games for gamers. It serves games to a wider audience. And gaming is the secular growth area within entertainment. While Facebook has fed on users' self-absorption, Zynga is more about having fun.
Starbucks (SBUX) took the uncommon act of espresso consumption, reconstructed it, and served it to the common consumer in a standardized -- yet magical and addictive -- commodity. Starbucks is a commoditized pseudosocial experience, where you enjoy having people around you but not necessarily talking with them. That's what Zynga is doing with games. Have 10 minutes and a desire for fun online? Zynga wants to offer you a standardized flavor.
What excites me most about Zynga is online gambling, which is speculation at this point. But I think Zynga can reinvent online gambling for a wider audience in the same manner that Benjamin Siegel reinvented Vegas gambling around a more mainstream demographic. I think within five years it will become clear that Mark Pincus is an experiential visionary on a continuum of social responsibility somewhere between Howard Shultz of Starbucks and Siegel of the Genovese Mafia.
Double standards within common accusations against the company are distracting from Zynga's value. Zynga steals games from other companies, blatantly copying. But so do the other companies; everyone builds on each other. Zynga sometimes makes life difficult for employees. Welcome to capitalism. Zynga games are not high art and are not particularly challenging. Hey, neither is Starbucks. For every reason to hate Zynga, there is a hateful media pundit ignoring that these reasons are not exclusive to Zynga.
What is exclusive to Zynga is a visionary named Mark Pincus, who six years ago foresaw Amazon (AMZN) beating eBay (EBAY), who made one-fifth of a billion dollars (5.3 million shares) investing in Facebook with $40,000, who understands the product/experience balance between creativity and consumability. What is exclusive to Zynga is dominance in social gaming. What is exclusive to Zynga is a B2B brand that will lubricate dealmaking with new partners, like casino operators and social game developers.
To understand the stock, you must understand the demographics that move it.
There is tech media, composed of nerds who like to play video games and resent the fact that many prefer a simple gaming experience. They will never shut up, so ignore them.
There is Wall Street, made up of glorified accountants, shameless opportunists, and fools in fancy suits. Most of them don't understand social media. Listen to them, but don't trust them. They made false predictions about Zynga's IPO and Zynga's reaction to Facebook's IPO. Jim Cramer, for example, blessed Zynga on March 22 and it never recovered.
There are the social media speculators who fell victim to Wall Street's siren song. This is the dumb money. They won't always be wrong, but they make it more expensive to be right. So try to buy when they have sold, like now.
There are the shorts. This is smart money gone dumb, fundamentalists who won't admit that they hate all stocks related to growth and online, not just Zynga. Don't waste your time arguing with fundamentalists. They're more talk than action anyway -- a useful contrarian indicator. The less coherent their argument for shorting Zynga, the more repetitive they become in asserting their claims, the more you should be buying.
I love Zynga at these levels. Take some profits the next time conventional wisdom gets loudly bullish, probably around $18 next year. Looking for a pairs trade? Consider shorting LinkedIn (LNKD), which is one of Cramer's current favorites. It feels to me like 2011 trading styles are coming back, meaning it's time to bet against the dumb money.
Disclaimer: As with all articles, this is purely exploratory and is not investment advice.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.