Why Zynga’s Stock Looks Undervalued At $9?

by Trefis Team
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  • Zynga’s stock (NASDAQ: ZNGA) has gained over 50% of its value since the recent market lows of March 23, primarily because the company is seeing increased demand for gaming in the event of lockdowns and social distancing due to Covid-19. 
  • Despite the massive run up over the recent weeks, we believe that there is more room for growth, and we estimate Zynga’s Valuation to be over $10 per share – roughly 10% ahead of the current market price. Our price estimate takes into account the latest earnings as well as the company’s guidance.

#1 Company Overview

  • Zynga is engaged primarily in developing social games, such as Zynga Poker, CSR, Words With Friends, and Merge Dragons, that use a variety of social platforms to enable gaming interaction, and features the ability to have multiple players engaged at any point in time if needed. The company provides its games for different platforms including Facebook, iOS Store, and Google Play Store.
  • Zynga’s total bookings, which includes total revenue and change in deferred revenue, grew a strong 18% in Q1 2020. The growth was led by the company’s live services offerings. This trend is expected to continue in Q2 as well, given the current Covid-19 crisis, with several cities under lockdown and people confined to their homes. As such, demand for gaming has increased, and this should benefit companies, such as Zynga. 
  • Looking at Zynga’s valuation, we derive our price estimate for the company’s stock using our detailed forecasts for its Revenues, Net Income Margin, Shares Outstanding, and P/E Multiple while also comparing trends in key metrics with competitors Electronic Arts and Activision Blizzard. Key elements of this are discussed below.

#2 Overview of Zynga’s Revenues

Zynga reported $1.3 billion in Total Revenues for full-year 2019. This includes 2 operating segments:

  • Online Games Segment: $1.0 billion in 2019 (77% of Total Revenues). Online Games refers to sales of all of Zynga’s games. Key franchises ~ Poker, FarmVille, CSR, Merge Dragons.
  • Advertising Segment: $0.3 billion in 2019 (23% of Total Revenues). Advertising refers to revenues generated by Zynga through advertising services by helping marketers reach and engage with their audience in a targeted manner.

For 2020, we expect the company to see sharp revenue growth of 40% and add $526 million to its top line due to strong growth in its Online Games as well as Advertising Segments, benefiting from the social distancing norms, as well as from its recent acquisitions of games from Gram Games and Small Giant Games. This implies revenues of $1.8 billion for Zynga for full-year 2020, as detailed in Zynga Revenues dashboard. 

#3 Deriving Net Income and EPS

  • Adjusted net income margin increased from 13.1% in 2017 to 25.3% in 2019, led by improved efficiency, and a lower effective tax rate.
  • Notably, the company’s general & administrative expenses as a percentage of revenue have declined roughly 500 bps between 2017 and 2019. Moreover, certain Non-GAAP adjustments, including change in deferred revenue and acquisition related expenses boosted the adjusted margins over the recent years.
  • Looking forward, we expect Zynga’s margins to contract nearly 800 basis points, from 25.3% in 2019 to about 17.2% in 2020, due to a tough comparison with the prior year, which benefited from certain adjustments discussed above. 
  • Zynga’s share count has increased steadily from 897 million in 2017 to 974 million in 2019, as a result of share issuance. We expect the trend to continue in 2020 – resulting in the number of shares outstanding to grow to 983 million for the year.
  • Our estimates for revenues, adjusted net income margin, and shares outstanding for Zynga in 2020, imply a 5.9% reduction in the company’s adjusted EPS for the year compared to 2019.

#4 Conclusion

  • Based on trends in the P/E multiple for Zynga as well as its peers Activision Blizzard, and Electronic Arts over the years, we believe that the appropriate P/E multiple to use for Zynga’s stock is 32.0x.
  • As detailed in the chart below, our forecasts point to a fair value of over $10 for Zynga’s Stock, which is roughly 10% ahead of the current market price.

Looking for more insights on gaming stocks in the current Covid-19 crisis? Look at Why Did Activision Blizzard Stock Double While Its Sales Grew A Mere 2%? and Consider Electronic Arts Over Take Two Interactive As Demand For Gaming Increases?

See all Trefis Price Estimates and Download Trefis Data here

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