Zynga: Cheaper Than Virtual Coins

Editor's note: As part of our partnership with Nightly Business Report, TheStreet's Debra Borchardt will join NBR Monday (check local listings) to look at video game stocks as Zynga continues to lose the game.

NEW YORK ( TheStreet -- Expectation runs high for Zynga ( ZNGA), but if investors leave the virtual world and compare real numbers, Zynga loses. This newbie stock is a waste of investors' money.

The top game companies include Activision ( ATVI), Electronic Arts ( EA) and Take Two ( TTWO). All three saw their shares hit highs before the financial crisis. Since then, Activision is the only stock to attempt an uptrend in its share price. EA and TTWO have both languished.

Zynga fans will point to its mobile/social gaming aspect and say that this is the wave of the future and a growing gaming segment. Zynga is a leader in the mobile and social media space with its popular Farmville and Words with Friends games, and it generates 12% of Facebook's ( FB) revenue and was nearing $1 billion in revenue in just four years.

But Zynga is looking more like a flameout than a FarmVille. The gamer is being sued by new shareholders who allege the company committed securities fraud by making misleading statements when it went public. Zynga substantially cut its bookings and earnings outlook shortly after the stock began trading. Zynga is also getting sued by Electronic Arts, which says Zynga copied key elements of The Sims Social.

If investors want to make a bet on a digital game company, they don't have to look much further than the existing ones. Activision has seized on the popularity of mobile games and will be developing an Angry Birds game with Rovio Entertainment. The hope is to capitalize on the successful mobile game. EA is making its move into mobile with its Nucleus platform, which has 225 million registered members. That isn't too far behind Zynga's 292 million active users.

Even GameStop ( GME) has jumped into the mobile space. GameStop is taking pre-orders for the Google ( GOOG) Nexus 7 tablet and offering a 30% trade bonus towards the pre-order. So Zynga really doesn't have a lock on the mobile gaming space that some think it has.

For some inexplicable reason, the market has rewarded Zynga with a forward price-to-earnings ratio of 19.87. Activision and EA are both at roughly 10, while Take Two is dragging in at 3.47.

When you unlock the fundamentals, Activision is at a different level. It's the giant of the group with a market cap of $13 billion, and it leads the pack with 22.8% in profit margins and a 32% return on equity.

Electronic Arts is next with a market cap of $4 billion. EA limps in with a profit margins of 1.8%, but a respectable return on equity of 14.66.

Zynga, with a market cap of $2 billion, is in between the big guys and Take Two, which has a market cap of only $703 million. However the market has rewarded Zynga with a price-to-sales ratio of 1.7, whereas EA and Take Two clock in at 0.9. Zynga's profit margin is -35.5% and its return on equity is -43.99%.

Take Two is most famous for its Grand Theft Auto franchise and having successfully fought off a takeover bid from EA in 2008. Take two's profit margins are dead at -13.2%, and it has an abysmal return on equity of -91.6%.

They all have a parasitic partner. Zynga is dependent upon Facebook, which has been pushing the older game titles to less prominent positions on its site. Zynga is attempting to reduce its dependence on Facebook, but really, where will it go?

The others are held hostage by the console makers. Nintendo's ( NTDOY) Wii U is the only new console planned for this holiday season, and the last updated systems were not exactly "game-changers." Microsoft's ( MSFT) Xbox is wildly successful and it has outsold the Wii and Playstation. But the technology is six years old, and the company is in no rush to deliver a new product until 2013 at the earliest. Not helpful to the gamers.

However, if your quest is for performance, skip Zynga and look to old-school Activision. Activision has no debt and just increased its full year outlook. Its net income fell in the second quarter and its World of Warcraft users dropped, causing some selling in the stock.

But things are looking up for the holidays with Call of Duty: Black Ops II and Skylander Giants coming out, and the stock tends to move at the end of the year. In 2010, the stock rose 12% from August to December. It rose 11% over the same period in 2011.

Tony Bartel, president of GameStop, believes it will be a strong holiday for games. " Halo 4 is coming in November, and also Ubisoft's Assassins Creed 3. There's no football lockout, so that's good for EA's Madden," said Bartel. GameStop is also expecting lots of traffic with the Wii U. All this could detract from PC games.

Sadly, it costs more to buy farm cash in Zynga than it costs to buy the stock. If you're playing with Zynga stock, play with only virtual coins.

-- Written by Debra Borchardt in New York.

>To contact the writer of this article, click here: Debra Borchardt.

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Disclosure: TheStreet's editorial policy prohibits staff editors, reporters and analysts from holding positions in any individual stocks.

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