Zynga's Next Acquisition Target: Glu Mobile

by: Natty Greene

The consolidation in the hot, mobile social gaming sector finally hit the mainstream financial press when a deal closed in this space for over $1 billion. That deal was Electronic Arts’ (ERTS) buyout of Popcap for $1.3 billion.

It is no surprise why Electronic Arts wanted a footprint in the mobile gaming space so bad that they outbid many suitors [Zynga (ZYNG) and China’s Tencent (OTCPK:TCEHY)], , to win the day. As consoles become the past and mobile gaming devices (smart phones & tablets) become the future, EA had to swing for the fences and acquire a proven name in the mobile arena.

But the $1 billion questions in the season of Zynga’s much anticipated IPO to consider going forward are:

  1. Why would Zynga join the Popcap bidding war and offer $1 billion cash?
  2. Who will Zynga look to acquire next after failing to acquire Popcap?

First, why did Zynga want Popcap?

1. Zynga clearly wants to diversify from Facebook onto other platforms (iOS , Android and Windows Phone 7). According to reports, virtually all of Zynga’s $235 million in Q1 sales were attributed to the Facebook link.

2. Zynga wants to gain a foothold in China and Asia. This fact was reported by All Things Digital mobile gaming pro Tricia Duryee.

What company has major strengths in these two areas?

The quick answer is San Francisco based Glu Mobile (NASDAQ:GLUU). Glu's unique technology platform enables its titles to be accessible to a broad audience of consumers all over the world -- supporting iOS, Android, Palm, Windows Phone 7 devices.

Glu also has recently acquired major talent and assets by acquiring Griptonite Games and Blammo Games doubling their studio capacity.

And, Glu has a growing presence in China based on their 2007 acquisition of China mobile gaming company, MIG China Co. Ltd, gaining Glu a license to publish games on the platform of China Mobile Ltd.

Most recently, Glu has announced a partnership with TOM Group to develop an online, smart phone storefront community in Asia.

You can get a glimpse into what that storefront concept will be here.

Another attractive aspect of Glu for Zynga is its mature penetration in the important “total cumulative installs” metric. According to Glu CEO Niccolo de Masi, he said in the Q2 2011 conference call:

“We are very pleased with the continuing momentum during the second quarter, as non-GAAP smart phone revenues accounted for over half of our total non-GAAP revenue for the first time,” stated Niccolo de Masi, Chief Executive Officer of Glu. “The combination of demand for newly launched and existing titles resulted in Glu reaching over 100 million total cumulative installs to date across smart phone platforms and social networking websites. In addition, we are very excited to have completed the acquisitions of two new studios – Griptonite and Blammo – which will both add significant scale to our product portfolio in 2012. The integration of these acquisitions will approximately double our internal studio capacity as well as add proven, casual, freemium DNA to our team.”

If Glu has the assets and attributes that Zynga is looking for as evidenced by their interest and $1 billion cash failed offer for Popcap, what would they spend for Glu Mobile.

Consider that Popcap should sell at a premium to GLUU because of its greater user saturation and more mature games. GLUU will be a Popcap valued company before too long, but not yet.

Popcap sold out to Electronic Arts for $1.3 billion, or 13X its 2010 rev of $100 million and 10.8X its 2011 expected revenue of $120 million.

If GLUU sold at that kind of a Popcap valuation today, it would fetch $975 million (based on 13X its expected $75 million in 2011 rev), or $16.25/share (based on 60 million shares).

A much fairer buyout valuation for GLUU today would be 8X 2011 revenue or at a 40% discount to Popcap's $1.3 billion buyout valuation. That would value GLUU at $600 million, or $10/share.

And if GLUU holds out and says "no" to buyout offers, then they will get closer to Popcap valuation levels as they organically grow. After all, in the most recent Q2 2011 conference call, Glu Mobile guided for 90% smart phone year over year revenue growth in 2012.

Whether Zynga buys GLUU or whether Glu Mobile goes it alone, investors have an interesting risk/reward proposition whichever direction GLUU decides to go.

Disclosure: I am long GLUU.