Red Flags at Zynga Inc (ZNGA)

Earnings from media giant sustained euphoria

Investors assumed that the rosy quarter Facebook Inc (NASDAQ:FB) reported would mean better times ahead for Zynga, too. But Facebook Inc (NASDAQ:FB) is de-emphasizing the importance of games in its social network, in favor of rapidly growing revenue from advertising and search. As its games become harder to find on Facebook Inc (NASDAQ:FB), Zynga Inc (NASDAQ:ZNGA)’s user activity will dwindle, diminishing its chances to make money off its gaming audience.

OMGPOP staff cut

Zynga surprised the market when it decided it was shutting down the OMGPOP studio, maker of the successful gameDraw Something, as part of a 520-employee layoff. The cut will save Zynga $80 million, but also reduce the company’s overall value. Zynga paid $180 million only a year ago.

Zynga Inc (NASDAQ:ZNGA) is admitting that not only was the OMGPOP acquisition a big mistake, but Zynga’s fickle user base is shrinking so quickly that Zynga does not think the unit will be profitable.

For instance,Draw Something 2had astrongstart as the No. 1 download on iOS within two days of its release, when the game was released on April 25, 2013. By early May, the game dropped to number 31 spot. The Android version of the game was released in May, has 466 reviews and a 3.5 star rating. The low statistics suggests that the game will not likely grow in popularity on the Android.

Foolish Bottom Line

Speculative investors will look at the sharp drop in Zynga as a chance to load up, but the social networking channels that were once available to grow its user base are shrinking. Real-money online gambling could still interest bulls. Zynga launched gambling services in the UK in April, but its partner, bwin.party, made only $32 million in profits in 2012.

Online gambling will have little impact on Zynga’s bottom line, and will not be meaningful until the service is offered in the U.S. — a prospect that faces numerous delays. This will only mean a lower share price for Zynga Inc (NASDAQ:ZNGA) in the short term.

Chris Lau has no position in any stocks mentioned. The Motley Fool recommends Activision Blizzard, Inc. (NASDAQ:ATVI) and Facebook Inc (NASDAQ:FB). The Motley Fool owns shares of Activision Blizzard and Facebook.

The article Watch Out for These Red Flags at Zynga originally appeared on Fool.com.

Chris is a member of The Motley Fool Blog Network — entries represent the personal opinion of the blogger and are not formally edited.

Copyright © 1995 – 2013 The Motley Fool, LLC. All rights reserved. The Motley Fool has a disclosure policy.