Zynga Still Has Potential Value

Aug. 7.12 | About: Zynga (ZNGA)

After its latest precipitous decline, is it time for investors to "double down" or "go all in" on a speculative position in Zynga (NASDAQ:ZNGA)? While I would never actually advocate following these misplaced gambling metaphors (especially the latter), I believe they are apropos to Zynga's future as a company. The latest horrendous earnings report may have demonstrated that Zynga can never be consistently profitable by producing fad games. Especially when Zynga shells out almost $200M for them like they did with OMGPOP, which already looks like a losing bet unless they can strike gold with a potential TV game show adaptation of Draw Something (although apparently, Ryan Seacrest is prominently involved, so I don't like those odds).

The only game that has consistently attracted and retained users is Zynga Poker, and I believe that this and perhaps other real money gambling games will be the company's future salvation. I also think that Zynga CEO Mark Pincus has seen the writing on the wall and believes it as well, as he has more frequently alluded to Zynga's push into online gambling.

I am still surprised by how little credence investors (and especially short sellers) give to even the slightest possibility that Zynga will be able to make this happen, acting as if bankruptcy is a foregone conclusion at this point. Unfortunately for this argument, there's still the dirty little secret that Zynga now has $1.6B in cash, $1.90/share even considering the fully diluted share count of 845M expected by the end of the year. Contrary to short sellers' rumors, Zynga is not going to use this cash as kindling to burn down its newly completed $275M corporate headquarters for the insurance money.

Consider that Pokerstars will shell out $225M to buy Full Tilt Poker, even though the latter had been ravaged by a Ponzi scheme that left a $730M shortfall in its customer accounts that Pokerstars will have to cover as part of the deal. Full Tilt's CEO, Ray Bitar, was actually arrested and charged with fraud by the U.S. attorney's office in New York. That's certainly more serious than being charged with insider trading in the court of public opinion, like Zynga's CEO Mark Pincus has been, even though Pincus sold his shares back at the beginning of April. That was before Zynga released its yearly estimates, which proved to be wildly overoptimistic, but it's not necessarily fraudulent, and certainly was not a ploy to prop up the stock price, considering that Pincus and most insiders had already sold.

If Full Tilt is worth $225M just for its mistreated and potentially now disloyal players and tainted brand name, then surely the Zynga Poker franchise is worth something, even though the market is currently giving no value to it or any other game in Zynga's lineup. Instead, most analysts and their flock are currently assigning zero worth to any of Zynga's current or future games, which still attract players in numbers that would make other game companies envious. In fact, it has apparently done so, given that Electronic Arts (NASDAQ:EA) is joining the raft of lawsuits aimed at Zynga. EA alledges that Zynga's new "The Ville" game is a carbon (or maybe silicon) copy of "The Sims Social."

While Zynga Poker currently is prohibited from running real money games, it still generated $50M in revenues last quarter, and the sheer number of players it attracts would make the franchise extremely valuable if online poker were legalized, because of the network effect. More players means that's where others will go to try to take advantage of their perceived edge in skill. To paraphrase the cult classic poker movie "Rounders" -- if you can't spot the sucker at a table of 35 million players, then you probably are the sucker.

I urge you to look into making a calculated bet on Zynga shares at a time when they are so hated by the market that you can get a free roll on the potentially lucrative future of the company as a disruptive force in the burgeoning online gambling market.

Disclosure: I am long ZNGA.