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[ | 24 Jul 2015 | No Comment | 200 views ]

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Last week, I made the case to purchase Zynga stock in anticipation of their August 6th Q3 report. (BTW, you’ll be able to find the Q3 earnings report and conference call link on the Zynga Investor Relations site.) At the time, ZNGA was trading around $2.85 per share. Since then, the stock has dropped to around $2.60, recovering to around $2.70 at the time of writing this post.

My apologies to anyone who purchased on my recommendation last week and is now down about 5%. The thesis was to hold through earnings though, so hopefully you didn’t get scared out. It’s important to know both your exit from a trade and your tolerance for pain while holding through the trade. If you’re really following me, you are still holding. If you end up losing money after earnings, I apologize again, but I am not a financial adviser… this is not financial advice… please don’t sue… etc etc.

In my case, I’m bullish on Zynga as a company long term and looking to purchase as many shares as possible as cheaply as possible. I feel that $2.50 and definitely $2.00 are very strong support for the stock price and so barring any big screw ups in the company, it’s unlikely to go much lower than it is now. I think the current quarter’s earnings are likely to be good because the company has been turning around in general and also because their games have maintained high ranks in the app store “top grossing” charts while new games have come out. Existing games have had their video ad systems updated, and there is growth in general in both smartphone use and ads on smartphones. So things should be good. If they are, this might be my last chance to load up on Zynga stock before it starts to get expensive.

My Zynga holdings are about 8% of my retirement fund, which is on the mid to high side. I’m hesitant to add more, but I’ve also been hesitant to add more to other companies I had hunches about like this, and I’m trying to trust my gut more… especially when stocks are trading in value territory with lots of support. It would have been nice of me to have bought more Tesla, Amazon, and Activision at their recent lows. So I wouldn’t mind adding here even more before earnings.

Then the question becomes, what is the best way to add to my position? Should I buy more stock? Or purchase out of the money call options?

1. Just Buying Shares

This case is easy to analyze. I can buy about 300 shares at $2.7 each for a total of $810. If the stock moves to $3.10, I’ll make $0.40 on each share or $120. I’ll also have 300 shares in Zynga stock going forward. For my long term focused fund, it’s almost more important to track how many shares of a company you have (the assumption being you’ve picked great companies that will be valuable in the future) vs how much the stock price is up from your basis.

If earnings are poor or just not good enough and ZNGA shares trend lower, I’ll obviously lose X cents per share on 300 shares. Here is where things would stand at various price points:

$2.30: -$120
$2.60: -$30
$3: $90
$3.10: $120
$3.25: $165
$3.50: $240

2. Purchasing Call Options

When you consider buying options, things can get complicated. When purchasing stock, there’s basically two things you can do: purchase stock at the market price or wait. With options, you have to figure out not only when to buy but at which strike price and on which strike date. Here’s a view of the Zynga options chains in Etrade.

znga_options_2015-07-24

 

Figuring out which options to buy can be confusing and is the topic for another post (maybe there is one in our archive), but for now let’s assume I choose the options striking on August 7th (one day after the earnings call) at $3.00 (a good balance of risk reward).

Buying 140 contracts at $0.06, conveniently comes to $810. That would be $0.06 x 100 (100 options per contract) x 140 contracts. This purchase would give me the “option” to purchase 14000 shares of ZNGA stock at $3 per share. If the stock never gets to $3/share on August 7th, the options would expire worthless and I’d be out $810. If they got to $3.06 per share, I would just about break even. I’d be able to buy 14000 shares at $3 for $42k and then sell them at $3.06 for $42.8k. He’s what I would make or lose at different prices on August 7th:

$3 and below: -$810
$3.06: $0 (breakeven)
$3.07: $140 (about same as buying 300 shares)
$3.25: $3500
$3.50: $7000

As you can see the potential rewards are higher, but there is a bit more risk since I could lose all $810 invested. On the other hand, there is very little chance I would lose the total $810 invested in the “just buy stock” option. So let’s make a buy stock scenario that has a similar amount of risk.

3. Buying Shares with a Stop Loss

What is instead of buying 300 shares of ZNGA stock worth $810, we bought a higher number of shares and used a stop loss to limit our downside risk to $810. What might this look like? The first step would be to figure out a good place for that stop loss. Recently ZNGA got down to $2.60, but didn’t go lower. The current 200 day moving average is also hovering right around that number providing support. There is support at $2.60, so let’s place our stop loss there… 10 cents below the current $2.70 price.

If we bought 8100 shares at $2.70, we could set a stop loss at $2.60. Assuming no slippage (i.e. our stop loss actually fires at $2.60 when the stock gets that low), we would only lose $810 on those shares if the stock price went lower. Here’s what we would earn at the same price levels as in the options scenario:

$2.60: -$810
$3: $2430
$3.06: $2916
$3.07: $2997
$3.25: $4455
$3.50: $6480

In this scenario, we would risk the same $810, but stand to make even more than purchasing $3 options would. In some ways there is less risk in this scenario, since we still make money (a lot actually) if the stock doesn’t trade above $3. We also have the option of holding the shares past August 7th if we want to.

In some other ways, there is a lot more risk though. If ZNGA is trading at $2.65 before earnings, then reports terrible earnings and opens the next day at $2.30. There is a chance my stop loss would sell below my target and we could lose something like $3000 or more selling those shares for a loss. Oops.

The other thing to note in this scenario is that you would need to come up with $21.8k to purchase those shares, which is more than my current holdings. One option would be to go on margin to get that money. Generally, that’s a bad thing to do without knowing what you are doing. Purchasing options is actually one way to effectively trade on margin, but with fixed costs.

What am I going to Do?

I’m not sure yet. The options option looks nice as a way to gamble an extra $810 on this next earnings with a fixed amount of downside risk. Buying shares could be good as well, but I would do something between Option #1 and #3 above. For example, instead of buying them all at once, I could buy 3000 or so and then buy 3000 more if earnings were bad (and I still believed in the company). I’d have lost money, but would have even more invested in the company ready for the turn around. This is basically the strategy of my portfolio. It’s worked well for me with Netflix, Tesla, Activision, and currently Nintendo. Of course, I could get unlucky and average down on a company like this that drops to $0. The idea is I would hopefully make up for it with my winners… or basically be able to make good judgements to cut my losses when I really need to.

If I figure out what I’m going to do. I’ll post an update. Good luck everyone!

Fundamental Analysis, Stocks »

[ | 2 Jul 2015 | One Comment | 566 views ]

ea_hero_imageAside: I’m going to try to blog here when I do research for stocks I’m investing in and in particular when I am sharing ideas with my mother. Explaining an investment to my mother and to the blog here are remarkably similar processes… so two birds with one stone and all.

Next up: Zynga (ZNGA).

Zynga makes games for mobile phones and tablets and also for sites like Facebook. They famously made their fortunes on the back of games like Farmville and Mafia Wars before going public. Since then, they have done a number of acquisitions and spent a bunch of money, but generally failed to create hits as big as Farmville was at the time. Their stock has tanked from $10/share at IPO to ~$2.85/share right now.

Sounds glum, so why am I bullish now? I’ll try to bullet point the case here, dive into some of the numbers, and then post the risks.

The Case

1. Downside is limited by cash and assets.

At $2.85, Zynga’s market cap is about $2.62 Billion. In 2014, they had about $1.8 B in shareholder equity, including about $1B in cash and equivalents and a $300m office. This puts a floor of about $2/share on the stock, with technical support at $2.50.

2. Revenue is turning around.

Revenue numbers were up year over year the past 3 quarters. Zynga is already set to post their first annual YoY gain in revenue since the IPO and a surprise this quarter topping $175m (which is above most estimates) would mean 4 quarters in a row of YoY revenue growth.

It appears that Zynga is turning the corner on revenues, and while up from all time lows, the stock price still seems to reflect a company that is shrinking and not growing.

3. Mobile games industry is still growing.

By one account, the mobile games market grew from $21.7B to $25 from 2013 to 2014. That 15% per year growth is going to be a nice tailwind for the mobile games market. So even though Zynga is not the only game in town, the pie is getting bigger.

Many traders are watching the iOS and Android store “top grossing” charts and trading parent companies as games move up and down the list. The position of games on this list is a great indicator of revenues for the parent companies, but it seems people are being harsh as games move down the list. A top 10 spot on the list today is worth as much as the top 1 spot a few years ago. And so Zynga with 2 top 20 games in Hit it Rich and Wizard of Oz Slots is making decent revenue despite sliding down the list a bit.

4. Games pipeline is strong.

Zynga released Empires and Allies this quarter, which has done well on the charts. It’s recently jumped up the free downloads chart (as high as #1) while simultaneously sliding down the grossing charts. This is really odd, and some have accused Zynga of manipulating the free downloads charts. There have been bugs forcing people to reinstalls (probably not adding bugs on purpose) and Zynga has been advertising Empires and Allies on Twitter and other places, both of which would inflate download numbers.

Historically, Zynga has done much advertising promotion for their games. Instead they relied on their social integration to get gamers to bug their Facebook friends for virtual wood to build their farms. In my opinion, the fact that Zynga is starting to advertise Empires and Allies is more a sign that they believe they have a good pipeline to convert ads into real customers than a sign of desperation to inflate unimportant numbers.

Besides Empires and Allies, Zynga will be releasing a couple games from Natural Motion which they acquired last year: CSR2 Mobile Racing and Dawn of Titans. Both games are visually heads and shoulders above other mobile games and could be very popular as customers look for something to take advantage of the beefier tablets coming out.

5. Ad revenue should increase.

There is more demand for ads on mobile devices and game developers are getting better at integrating ads into their games in ways that are not intrusive and actually encourage users to watch video ads. In particular, users can watch video ads in Zynga slot games to earn money to spend on the slots. Similar features are being added to exiting Zynga games and will surely be included in all future games.

Ad revenues are not incorporated into iOS and Android “Top Grossing” and so can be missed by traders and investors focusing on those numbers.

Higher revenue from smarter ads means that Zynga can earn higher revenue even with lower daily active users.

6. Real Money Gaming could be huge.

Real money gaming hasn’t taken off on mobile yet, but as regulations loosen up or companies get bolder things could start moving fast. Gambling via fantasy sports is a booming industry, which is an indicator of demand for fantasy sports but also for gambling.

Zynga is in a good position here with top casino games, the top free poker game, and lots of real money gaming patents.

Future Stock Price Estimates

The general thesis here is that revenues are turning around, existing cash cows and cash chickens will support current levels of revenue while new games and eventually real money games will support growth in revenue.

If Zynga can grow back to $1.2B/year in revenue and and make $360m/year on 30% gross margins, their stock price could be:

  • $4.02 based on 2x revenue + cash value ($3.7B Market Cap).
  • $6.03 based on 15 PE ($5.55B Market Cap)

Again, this would be based on the assumption that Zynga can double revenues and achieve a decent profit margin. Considering they’ve hit these revenue numbers before, it’s not unreasonable to think a more mature Zynga might “get lucky” again.

It took Zynga 3 years to shrink from $1.2B/year revenue to $680m/year. If it takes 3 years to grow back to that level, the estimates prices above would represent total gains of 40% and 111% respectively, or annualized returns of 12% and 28% respectively.

 

Still, there are risks…

Risks

The main risk to this thesis is that existing Zynga games drop off in users and revenue while new games coming out fail to gain users.

Also there isn’t a great explanation why Empires and Allies can have so many downloads without a similarly high placement on the top grossing lists. It could be that Zynga is wasting money advertising Empires and Allies without a proper return.

If the turn around in Zynga’s revenue is not accompanied by a turn around in earnings this year, then they will continue to lose cash pushing the $2 price floor lower.

Summary

I have a position in Zynga shares averaged around $2.90 a share and added an amount equal to 50% of my old position recently in anticipation of Zynga beating Q2 revenue and earnings estimates in their August 8th earnings call.

If the earnings goes well, Zynga should climb to $3.50 or higher. If not, there could be a pull back with technical support at $2.50 and fundamental support at $2.00.

Technical Analysis, Trends »

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The closing price for ZNGA has risen above its 200-day moving average, indicating a long-term upward trend.

Trend for ZNGA as of Wednesday April 9th, 2014

Long-term: Up

Intermediate: Down

Short-Term: Up

This post was generated by our Market Trends tool. The trends are simply based on the 10, 50, and 200-day moving averages. View the current market trends or analyze your own stocks.

Technical Analysis, Trends »

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The closing price for TSLA has risen above its 200-day moving average, indicating a long-term upward trend.

Trend for TSLA as of Wednesday April 9th, 2014

Long-term: Up

Intermediate: Up

Short-Term: Up

Chart for TSLA

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This post was generated by our Market Trends tool. The trends are simply based on the 10, 50, and 200-day moving averages. View the current market trends or analyze your own stocks.

Technical Analysis, Trends »

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The closing price for MSFT has risen above its 50-day moving average, indicating an intermediate-term upward trend.

The closing price for MSFT has risen above its 10-day moving average, indicating a short-term upward trend.

Trend for MSFT as of Wednesday April 9th, 2014

Long-term: Up

Intermediate: Up

Short-Term: Up

Chart for MSFT

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This post was generated by our Market Trends tool. The trends are simply based on the 10, 50, and 200-day moving averages. View the current market trends or analyze your own stocks.

Technical Analysis, Trends »

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Trend for DIS as of Wednesday April 9th, 2014

Long-term: Up

Intermediate: Up

Short-Term: Up

Chart for DIS

Stock Chart

This post was generated by our Market Trends tool. The trends are simply based on the 10, 50, and 200-day moving averages. View the current market trends or analyze your own stocks.

Technical Analysis, Trends »

[ | 10 Apr 2014 | Comments Off on AAPL: Trend Has Changed | 706 views ]

The closing price for AAPL has risen above its 200-day moving average, indicating a long-term upward trend.

The closing price for AAPL has risen above its 50-day moving average, indicating an intermediate-term upward trend.

The closing price for AAPL has fallen below its 10-day moving average, indicating a short-term downward trend.

Trend for AAPL as of Wednesday April 9th, 2014

Long-term: Up

Intermediate: Up

Short-Term: Down

Chart for AAPL

Stock Chart

This post was generated by our Market Trends tool. The trends are simply based on the 10, 50, and 200-day moving averages. View the current market trends or analyze your own stocks.

Technical Analysis, Trends »

[ | 9 Apr 2014 | Comments Off on TSLA: Trend Has Changed | 771 views ]

The closing price for TSLA has risen above its 200-day moving average, indicating a long-term upward trend.

The closing price for TSLA has fallen below its 50-day moving average, indicating an intermediate-term downward trend.

Trend for TSLA as of Tuesday April 8th, 2014

Long-term: Up

Intermediate: Down

Short-Term: Up

Chart for TSLA

Stock Chart

This post was generated by our Market Trends tool. The trends are simply based on the 10, 50, and 200-day moving averages. View the current market trends or analyze your own stocks.

Technical Analysis, Trends »

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The closing price for ATVI has risen above its 200-day moving average, indicating a long-term upward trend.

The closing price for ATVI has risen above its 50-day moving average, indicating an intermediate-term upward trend.

Trend for ATVI as of Tuesday April 8th, 2014

Long-term: Up

Intermediate: Up

Short-Term: Down

Chart for ATVI

Stock Chart

This post was generated by our Market Trends tool. The trends are simply based on the 10, 50, and 200-day moving averages. View the current market trends or analyze your own stocks.

Technical Analysis, Trends »

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The closing price for ATVI has risen above its 200-day moving average, indicating a long-term upward trend.

Trend for ATVI as of Monday April 7th, 2014

Long-term: Up

Intermediate: Down

Short-Term: Down

Chart for ATVI

Stock Chart

This post was generated by our Market Trends tool. The trends are simply based on the 10, 50, and 200-day moving averages. View the current market trends or analyze your own stocks.

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