Why Zynga couldn’t go public soon enough – Customer Ecosystem Weakness

Zynga logoIt’s becoming increasingly evident why Zynga wants to go public as soon as humanly possible. Farmville is hot, Cafe World is getting there. The revenue is just rolling in and everything is great. But it’s not going to last, and I think they know that.

Looking at Zynga’s customer ecosystem it’s clear that their current efforts have probably reached their apogee without making significant changes to their ecosystem.  Their scorched earth business model will not provide sustainable growth to support a decent IPO.

Here’s why:

Acquisition: Dependence on Facebook

Go check out Farmville.com. Nothing really there is there? They drive you back to Facebook to play the game. All well and good except that despite as much money they pour into Facebook they don’t own the platform. Additionally, their viral efforts are subject to Facebook’s whims. Having an acquisition model dependent on partners and platforms is one thing. Having an acquisition model dependent on one partner is entirely another.

Now don’t get me wrong, they have some leverage with Facebook…. heck, it’s been reported that they’re on pace to spend $50M annually on Facebook ads. However, as Facebook matures they are going to start getting revenues in other places, like e-commerce. For now, as both of these companies slog toward and IPO they need each other, but Facebook is already beginning to clean up their act. Zynga is going to need to identify new acquisition models when the hammer falls.

Conversion: Smooth sailing, I think

For the uninitiated, let me say that the barriers to entry on a Zynga social game are very low. I can’t imagine they have any trouble getting people to play games. And people love the games, and get addicted, which brings us to the upsell.

Upsell: Scammy incentivization finally getting notice

Lost of people play social games, but few are willing to pay for them. That’s where offers come in. The firestorm that Michael Arrington created at the Virtual Goods Conference has moved one step closer to its denouement today with a post from Zynga CEO Mark Pincus. Not really walking back from using the incentivization model,  Pincus claims that they’re vigilantly cleaning up the scams and that most are good companies. However, with Zynga admitting that these partners make up at least 1/3 of their revenues (and I’d bet they’re higher) don’t expect to many changes. In fact, a quick glance of the offer page (below) shows 12 pages worth of offers.

Zynga offers

Even worse for Zynga is that they can have this revenue stream cut off from them. I remember similar programs back in 2002 when I was working for Classmates.com. In fact, one Classmates exec told the PM in charge of the program, “I don’t know how you sleep at night.” Since nothing has changed in 7 years, nothing will ever change, right? Actually no, it’s very possible that a more activist FTC under Obama could come into this industry and clean house. The necessity of such an action can be debated, but one thing is sure, the laissez-faire regulatory approach of the Bush administration provided these businesses with a great deal of leeway.

Retention: Lack of brand loyalty, innovation and the transience of social games

How many people playing Mob Wars, Farmville, or Cafe World know they are playing a Zynga game? How many care? Many Zynga games are essentially rip-offs of other games from Playdom or other companies. Nothing is innovative or unique about their games. Zynga’s on a streak, they execute well, but that’s about it. No one is going to be playing Farmville three months from now, so Zynga will need to continue to hit home run after home run and that’s not going to be easy.

So, let’s go to the tale of the tape…

To illustrate the problems that Zynga discussed above, I plugged Zynga into a customer ecosystem model I like to use. If a company is strong, it will have three of four squares rated green. Anytime a company has a red square it essentially means that their customer ecosystem is unhealthy.

In this case, it’s my opinion that Zynga (as it currently stands) is in a bad position… and probably knows it. Hence the desire to push out an IPO very soon. Good luck with that.

UPDATE: Historical footage of Mark Pincus discussing Zynga’s initial growth strategy. Many strong companies (like MySpace) have a questionable past. But this does nothing to help Zynga’s IPO hopes.

UPDATE II: Senate committee investigates the offer business, including my alma mater, Classmates.com.

UPDATE III: Maybe someone at Zynga is reading this site. Zynga to enable Farmville play on Farmville.com.  a good first step and removing the constraints of the Facebook platform.

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9 responses to “Why Zynga couldn’t go public soon enough – Customer Ecosystem Weakness

  1. Interesting analysis, I wonder what investments Zynga could make to overcome their current weaknesses.

  2. Joel Andren

    Hi Rob,

    I think Zynga is in a fundamentally different place than they were two weeks ago.

    a) There’s a potential class-action lawsuit coming out of this.
    b) Their primary revenue stream (which I think offers are) is in jeopardy.

    On the positive note, EA validated the space by paying $300 million for Playfish. Should be noted however, the reason why EA may have favored Playfish.

    I think the investments that make the most sense for Zynga are:

    -Build their brand so that users are loyal to Zynga and not Farmville. This will aid in the introduction of new games and will make users less reticent to spend to play a game because they already have a relationship with the company.
    -Invest in their developers, the space is crowded and the way to succeed is to be the best.

    Perhaps the most important thing Zynga can do is begin by planning on being in this for the long haul. The chance for the quick win is over.

  3. Pingback: Finance Geek » Notes on business sustainability – Joel Andren on Zynga

  4. Have you posted on the ecosystem model itself in more detail? It’s a good one.

    • Joel Andren

      Thanks Scott. I guess you can say the model is a prototype at this point. I developed it a couple of years ago and applied it to the enterprise space and then revised it when I was doing some work in consumer electronics. With my current focus on internet/web startups, I’m going to be using this blog to further develop the model through posts like this one.

  5. Your last two categories for Zynga having issues with Upsell and Retention are not right. Offers are a small percentage of monetization for Zynga and all social game providers. How do I know this? We build social games and use our own offers platform. As for Retention, how long has YoVille, Mafia Wars, Texas Hold-em been around? Over a year for all three, without any material drops in growth.

  6. Joel Andren

    Hi Ro,

    Zynga reported that offers were 1/3 of monetization. That’s not insignificant, any way you slice it. Also, I’m not alone in being skeptical that the percentage coming from offers is higher. I’d love to see an S1 filing from Zynga (or RockYou) proving me wrong, but until then I’ll be skeptical.

    As far as your second point, maybe I was a bit hyperbolic about no one playing Farmville in three months, but if I said 3 years would I be wrong? I think my key point here is that the relationship with these games does not engender loyalty to the gaming brand. Therefore Zynga and other social gaming companies will need hit after hit in order to prosper. It’s just not an ideal situation.

    That’s the whole point of the model. Retention is often the hardest part for a startup, especially if they’re trailblazing in a new space. It takes serious investments in brand, support and product development. I think Zynga is definitely moving in this direction, but they aren’t there yet.

  7. When are they going to put out more applications so people other than those with the iphone can use the features on farmville/facebook?

    I wouldn’t mind paying a fee…it will weed out those not interested in it and never play their farm again after their first visit. I am sure that this has clogged up a lot of space on the servers.

  8. AJ,The issue for Zynga is that “virtually all” revenue comes from Facebook (from their S-1). To be a stasainuble, long term business, Zynga will need to have a diversified stream of revenues that are not tied to a single source. I think it would be very difficult, if not impossible, to find a publically traded company with a market cap over $20B that has 98%+ of their revenue coming through a single supplier. It is unheard of. So while this does not pose a threat to Facebook in the short term, it is vitally important to Zynga in the medium to long term. At the end of the day, content is King and we will see game providers like Zynga win. With Facebook’s move to their native app on iOS, they are delegating Apple to a hardware provider (e.g., Acer, NVIDIA) and providing the social plumbing. This will eventually work across the Android and iOS environments.Zynga will take that a step further and become fully platform agnostic. They will develop their games for Facebook, Android, and iOS using both native and universal apps. As other platforms develop, they will spread their games into those areas as well. Their players will associate not with the device they play on (iPad3 versus Xoom2), but what game they are playing.Apple, Motorola, Samsung will all provide the hardware. Facebook/OpenFeint/WhoEverIsNext will provide the social plumbing. Zynga will sit on top of it all.Love to hear your thoughts.

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