Zynga's turnaround in full effect with $5.1m profit in Q2

Update: In after-hours trading, Zynga's stock has climbed over 5.3% on the news that the company has once again beaten guidance and earned a profit.

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Quick, somebody pop the cork on that champagne bottle! After a grueling year with a $108 million loss, Zynga is now profitable in its second quarter of the 2017 fiscal year, with $5.1m in net income. The company started its fiscal year off on the right foot with a significantly narrowed loss in Q1, and at the time CEO Frank Gibeau promised us that profitability is around the corner.

In a phone call with GamesIndustry.biz earlier today, Gibeau explained, "Q2 we beat on the top and the bottom. We posted our best revenue and bookings performance in four years. We saw some of the things that we've been investing in really take hold, like CSR and our mobile momentum. In mobile, we've really been focusing in on live ops, and in trying to drive higher quality experiences there and we saw a big lift in our audience and in our revenue there. Our audience was up 28% y-o-y, which is pretty awesome. Our in-app purchase revenues were up 33% y-o-y. 90% of our audience now is on mobile, which if you think of just a few years ago how much Zynga was 'The Facebook Company,' now that...is quite a sea change for the company."

"Dawn of Titans was a game that had been in soft launch for an extraordinarily long time... and the key learning from me coming into that project was a sharper decision making tree for how we go through different stages of development"

Total revenues for Zynga were up 15% to $209.2m and bookings came to the same total, representing a 20% jump. Furthermore, the company's operating cash flow came to $37.8m, which was its best quarterly performance in five years. Importantly, Zynga's mobile transition is nearly complete. Not only is 90% of the audience there, but the company saw 86% of revenues and 87% of bookings come from mobile. Its mobile base now stands at 19m average daily active users, which is up 28% year-over-year and represents the strongest year-over-year growth since Q4 2014. Apart from its Social Slots offering, the big driver for Zynga in Q2 was racing sequel CSR2.

"CSR was strong," Gibeau said. "We had really good partnerships with Fast and The Furious, and with Universal. We did some cool stuff with Lamborghini. As you know, I've been working on racing games a lot in my career. It's a lot of fun to have such a high quality experience to play around with. Its mobile revenue was up 14% quarter-over-quarter, and up 18% on bookings level. The audience was up almost 10% and it's the number one racing game in the App Store. And we've had over 1.1 million five-star reviews.

"So CSR, and our mobile momentum, it's resulting in this portfolio which is the strongest mobile portfolio the company has ever had. You've got Poker, Words with Friends, CSR, our Casino products, and in addition to that our Match 3 business is coming on and we've still got a lot of growth in front of us, particularly in places like Invest Express and Action Strategy. But in general I feel really good about the portfolio and where it's at in our life cycle."

CSR is doing so well that Zynga now considers it one of their "forever franchises." NaturalMotion's newer IP, Dawn of Titans, isn't having that same level of success and was merely a footnote again in the company's earnings statement. Last quarter Gibeau acknowledged that some games can take a long time to reach their full potential, and he elaborated on Dawn of Titans again this quarter, especially in light of Zynga's improved operating efficiencies and how it treats projects. The mobile Mafia Wars project, for example, was shut down last month because Zynga did not believe it could become a forever franchise. And if Zynga can't be near the top in a category, its new philosophy is to not devote the resources to that category.

"We're a continuous learning organization," Gibeau remarked. "I've had a long career in gaming and you learn everything you can from every launch, whether it's a success or it doesn't hit its potential. I think some of the learnings from Dawn of Titans actually informed the decision on Mafia. Dawn of Titans was a game that had been in soft launch for an extraordinarily long time, it had been under development for a very long time, and the key learning from me coming into that project was a sharper decision making tree for how we go through different stages of development.

"Honestly, killing a game in soft launch is a strength in a lot of ways of an organization. If you look at some of the developers out there they talk about the number of games that they bring into soft [launch] that they don't finish"

"On Mafia Wars we really looked at how we went into soft launch, what were our goals, and what did the category look like overall and what did it take to compete? Because we don't want to be in a category if we can't be a one or a two. We want to be in that position - otherwise we should use our talent and our dollars in a different way, because mobile games is a tough category. You can't be everywhere. So when we looked at Mafia Wars, we gave it a healthy soft launch and we just didn't see the KPIs. When we looked at what it was going to take to get it into position to be a number one or number two game against some of the big competition that's out there, it didn't feel like the right decision. It felt like we could redeploy those individuals, those talented people and those dollars on other ideas that would help Zynga grow faster and in a more predictable way."

Gibeau added that knowing when to scrap a game is actually a very important part of the process for the best mobile companies.

"It's always hard to stop development," he continued. "You have to be really sober sometimes and say we have to take hope out. What can we actually achieve? And if we're not going to get to that level of performance then you make the call. And you want to do it in a way that is timely and that you don't drag it out, which was the key learning for me on Dawn of Titans; we could have been more decisive earlier in the development process. So that's what we did. We believe in the Mafia Wars brand as a universe and it's something that we'll probably come back to in another time, maybe in a different category with a different design. But we thank the team for their hard work. Honestly, killing a game in soft launch is a strength in a lot of ways of an organization. If you look at some of the developers out there they talk about the number of games that they bring into soft [launch] that they don't finish."

All that being said, Gibeau insists that Dawn of Titans isn't about to get its plug pulled. There's a lot of potential there, and Zynga is confident that the game will get there.

"If you look at Dawn of Titans, it did have a tremendous amount of expectations over the years," Gibeau said. "We put it out, and it hit a certain level of performance and it's kind of leveled out in terms of audience and retention. We've been looking at the game very carefully and what we keep coming back to is that we think it's a high quality experience, we think it's got great intellectual property and we think the team has the capability of really bringing that potential out. It hasn't really done it yet, and if it gets to a point where we don't believe it can reach its full potential then we'll do something else. But we are not there.

"There is a long track record of mobile games that come out and find there way and eventually have a breakthrough and they leap into the charts. I've been on some of those games. We believe in Dawn of Titans, we're committed to the franchise, we're making prioritized decisions right now to make sure the features that we're putting in the game are what the players want most... Candidly, we wish we were further along but it doesn't change the focus and it doesn't change the commitment. We just had a review on the product last week and I like the plan that they have going forward so we're going to stick with it."

NaturalMotion is a very talented studio, so what is it about Dawn of Titans versus CSR that's enabling one to thrive while the other just barely keeps its head above water?

"I think CSR benefited from the fact that it was a sequel and the racing category has a lot more knowns in terms of design decisions," Gibeau explained. "It had an approach and a reputation and an audience expectation that they were able to execute upon. That's why I'm so bullish on NaturalMotion and Dawn of Titans; I see all the goodness of CSR2 and I know we can get there. So from my perspective, it's a real-time strategy game on mobile that has a very different play mechanic compulsion loop than CSR2. It's an obviously very different experience, not just a genre difference, but just the core experience. And it was a new team [whereas] the CSR team had been together for a while... If we can get CSR and Dawn of Titans to be operating at the same level of performance that's going to be great."

Apart from updates on its portfolio, Gibeau also talked about how his company is striving to get costs down all around. The firm has reduced R&D expenditures, and importantly in the expensive city that is San Francisco, Zynga has managed to find a long-term tenant for its building: AirBnB.

"There's an old saying that we have, which is 'Transition is our friend.' So we want to look forward to those things. And AR is definitely something we're looking at. I'm less bullish on VR on mobile right now"

"Our R&D cost is down about 10 points y-o-y as a percentage of revenue, and we've been investing in India and some new locations like Finland that's really starting to come to scale," Gibeau noted. "And we also are a building owner as you might know, and sometimes part of my job is being a landlord, so we were real fortunate to in sign a 9-year lease with AirBnB. Our footprint in San Francisco is a lot smaller than it was when we IPO'd so bringing in a group like AirBnB to be a partner in the building as a tenant was really a big milestone for us because it helps us get a lot more efficient in terms of how we are as a company."

Looking forward, Gibeau expressed some interest in the mobile VR/AR trend but Zynga doesn't have anything to announce yet. High-end VR still isn't mainstream, but mobile VR is gaining more traction thanks to Samsung Gear and Google Daydream. And now that Apple is getting into the AR mix with its ARkit for iOS, Gibeau is optimistic that the category will yield some opportunities.

"One of the reasons I'm so excited about our potential as a company is that mobile is the most dynamic gaming platform out there," he said. "It's the biggest, it's continuing to grow and I think it has a tremendous amount of innovation in front it as highlighted by the VR/AR stuff but also in chat, and in platform innovations from Google and Apple, and they're constant. So from my perspective we want to have a very nimble company at this level where we're not missing out on the next big thing, the next big innovation.

"There's an old saying that we have, which is 'Transition is our friend.' So we want to look forward to those things. And AR is definitely something we're looking at. I'm less bullish on VR on mobile right now - I'm more bullish on AR, just because of the context and how you use the device... [Pokemon GO developer] Niantic has done a tremendous job in making AR not a gimmick but actually a core part of the experience. I think we're scratching the surface of what's going to be possible there."

For the third quarter, Zynga has provided guidance of $210 million in revenues, net income of $7 million, bookings of $205 million and adjusted EBITDA (including the impact of changes in deferred revenue) of $30 million. Zynga did caution, however, that some of its growth could be "offset by declines in our web and older games, as well as continued softness in advertising." Zynga also has found that seasonality plays a part, as Q3 has historically had dips in player activity on live services, the company said.