Red Flags suggest Zynga may be in Trouble

September 07, 2013, 09:52 am ET, BY Neal- Contributor| Editor: Thomas H. Kee Jr. (Follow on LinkedIn)

Social and mobile game provider Zynga Inc (NASDAQ:ZNGA) has been struggling to make profits. The surge of tablet computers and smart phones has given mobile gaming companies many ways to create revenue. Zynga’s popular Farmville games helped the company get its start selling virtual goods in its games. The stock is down 17% since mid-July, but still up about 20% YTD. Is this dip a buying opportunity or a start of a downtrend in the stock?

Zynga has not had a hit game in a while, and the company has seen a decline in its user base as a result. In the past, the company was able to introduce new games by advertising on games that were very popular. With monthly unique visitors declining over the last year, and no hit games, a recovery will not be easy. The company has had numerous management changes recently, and made significant cuts to its workforce, normally red flags for investors.

Other mobile gaming companies like Rovio, the maker of Angry Birds, and King, creator of Candy Crush, have done very well. King just passed Zynga as the largest platform on Facebook, and Rovio raked in over $200 million last year. More completion will be coming from companies like GameStop Corp.  (NYSE:GME) and The Walt Disney Company (NYSE:DIS) this year, both in the mobile space and in traditional gaming consoles.  

The pre-holiday upcoming software releases will not be good news for Zynga either. Next month, Take-Two Interactive Software, Inc. (NASDAQ:TTWO) launches the widely popular Grand Theft Auto V, which always creates a buzz among gamers. Disney will release Infinity, which is a $1.5 billion market for Activision Blizzard. However, the biggest of all could be the release of Activision’s Call of Duty game and its competition from Electronic Arts’ Battlefield 4.

Casino Update:  Investors had hoped that after filing for an application with the Nevada Gaming Control Board, ZYNGA would partner with a casino, as the federal government is expected to approve online gambling. The stock broke below long-term support, and it continues to trade below that support level, based on the Stock Traders Daily trading report.

Zynga still has potential because of its social nature, as social games can explode in popularity quickly. Zynga’s games are shared on mobile devices, so you play against friends who have also downloaded the games. You tell other friends, and they tell others, and so on. However, games can become unpopular just as fast. Last year, Zynga paid over $200 million for former game studio OMGPOP, and its big hit Draw Something, which saw its popularity decline dramatically. The company eventually closed the studio and wrote off half of the purchase price.

Zynga has enough cash to invest in new projects, but it cannot afford to keep changing management teams and confusing vendors regarding the company’s direction. The company might be able to get back on track if they spend money wisely, and manufacture a hit game soon, but according to the real time report offered by Stock Traders Daily, long-term support has broken lower, which raised sell/short signals, and as long as the stock remains below long-term support, we expect shares to trade lower.

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