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This Zynga Board Member Thinks It’s Not Game Over Yet

Zynga Inc (NASDAQ:ZNGA) has been consistently declining. The stock is down 8% in the last month, 22% in the last three months, 73% in the last six months, and down 76% from its IPO last December. Well, one Board member has had enough. A trust held by Ellen Siminoff, formerly a Yahoo executive and CEO of search advertising company Efficient Frontier, along with her husband purchased 250,000 shares on October 31st at an average price of $2.22 per share. This purchase, which came in accordance with a 10b5-1 plan that the Siminoffs adopted in late August, puts considerable capital behind the thesis that Zynga has adjusted for the decline in its business and might be fairly valued for the worth of its current operations and its potential to be acquired. Insider purchases tend to be bullish signals, so we track these filings and noticed this big buy at Zynga.


However, we’re still skeptical of Zynga’s prospects. Its report for the third quarter of the year showed total revenue up 3% from the third quarter of 2011, with better numbers in advertising revenue more than offsetting a slight decline in games. Higher costs- though these included a large impairment expense related to the Draw Something acquisition and a whopping 36% increase in R&D as well- flipped the $33 million in pretax earnings in Q3 2011 to a pretax loss of $96 million last quarter (pretax earnings were about flat if those two factors are ignored). For the year, Zynga Inc has lost 22 cents per share as its large investments in R&D have yet to pay off in terms of higher revenues.

Wall Street analysts expect 2 cents per share in earnings in 2013, which of course gives Zynga Inc a very high forward P/E. Exchange records show that 12% of the shares outstanding were held short as of mid-October; our database of hedge fund filings shows that no fund or other major investor that we track owned more than $15 million in stock- a fairly low level for what are often multi-billion dollar funds- at the end of June.

In terms of online activities, including games, Zynga can be compared to Facebook Inc (NASDAQ:FB) and to Chinese online gaming company Limited (NASDAQ:CYOU). In our most recent analysis of Facebook, we concluded that the social network’s pricing was still high even after the decline from its IPO price; for example, it trades at 32 times forward earnings estimates. Operating income was down despite a rise in revenue (though as at Zynga, considerable investments were made in R&D). Read our discussion of Facebook. Changyou is very cheap when looking at its financial reports- the trailing P/E is only 5, and it has been experiencing growth in earnings- but as with many Chinese-based companies investors should take precautions and do considerable due diligence before buying (you don’t want to end up like John Paulson!).

Electronic Arts Inc. (NASDAQ:EA) and Activision Blizzard, Inc. (NASDAQ:ATVI) are two additional peers for Zynga. Neither of these companies is having a good year: their stock prices are down by double-digit percentages since a year ago, with EA’s stock falling nearly 50%. Revenue at each company was down in their most recent quarter compared to the same period in the previous year. However, the net income here is real and both EA and Activision trade at 11 times consensus earnings for 2013. We’d have to see these businesses halt their decline before trusting the Street and buying, however. See our analysis of EA and other gaming companies.

An insider purchase of over half a million dollars is not something that Zynga watchers- especially short sellers- should ignore. However, we still don’t see the company delivering earnings and its R&D investments are starting to look a little more like spending. We’d still advise against buying the stock.

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