September 23, 2011 at 12:38 PM EDT
Zynga IPO: The Game Just Got Harder
Zynga watched profits plunge amid rising expenses to make social games -- and fewer bookings. Competition from EA's "The Sims Social" isn't helping, either.

Wasn’t Zynga supposed to be a slam-dunk IPO? It sure seemed like it when the company filed its S-1 back in early July. But of course, since then the equities markets have experienced extreme volatility. As a result, Zynga has delayed its offering.

But Zynga might have more to worry about. According to its latest filing, the company has experienced a slowdown in the business. In the second quarter, Zynga attracted 59 million average daily users, which compares to 62 million in the prior quarter. As a result, bookings dropped by about 4% — this never has happened for Zynga.

The problem? The company has had a dry spell with its games.

Let’s face it: Zynga’s audience can be extremely fickle. And it is getting more expensive to develop social games. In the latest quarter, Zynga hiked expenses as profits plunged from $16.8 million to $1.4 million. During the past year, the headcount has gone from 1,483 to 2,451.

Zynga also is feeling strong competitive pressures, especially from Electronic Arts (NASDAQ:ERTS). Once considered a has-been, the company has made some savvy acquisitions, such as for Playfish and PopCap.

Electronic Arts also has been leveraging its extensive gaming franchises. For example, it launched “The Sims Social” title just three months ago and it already is the No. 2 game on Facebook, with 53 million monthly active users.

Zynga still is a great company and is growing at a rapid clip, so the company still should be able to pull off its IPO. As seen with the shares of LinkedIn (NYSE:LNKD), investors still are hungry for social plays. But Zynga might have to get more realistic about its valuation. And during the next couple years, it is likely Zynga’s growth rate will continue to trail off as more competition enters the market.

Tom Taulli is the author of “All About Short Selling” and “All About Commodities.” You can also find him at Twitter account @ttaulli. He does not own a position in any of the stocks named here.


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