Zynga Inc (ZNGA) Hasn’t Found The Bottom Yet: Sterne Agee

Sterne Agee analysts Arvind Bhatia and Brett Strauser, in their recent research note, take the view that Zynga’s consensus estimates are overly optimistic and don’t account for a few risk factors they identify.  They reiterate their Neutral rating on the stock.

Based on current traffic trends for Zynga Inc (NASDAQ:ZNGA)’s key titles, we see risk to consensus estimates for 4Q13, 1Q14 and full-year 2014. Consensus estimates seem to assume 4Q13 will be the bottom and meaningful acceleration in trends will occur throughout in 2014. We see this as unlikely. We think the bottom could be possibly in 1Q14 or 2Q14 but visibility on that is limited. For modeling purposes, we do assume new/unannounced titles will help boost traffic in 2H14 but our bookings estimate is roughly 8% below consensus.

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Zynga 4Q consensus estimates may prove too high

4Q consensus bookings are $139M, or at the upper end of the guidance range of $130M to $140M. We have lowered our 4Q bookings estimate to $130M from $137M. Our new estimate implies a 14% sequential decline compared to the Street’s 9% decline estimate. We estimate sequentially in 4Q total traffic for Zynga Inc (NASDAQ:ZNGA)’s titles was down 22% and ARPU was up 10% (versus 5% increase in 3Q).

Zynga Q1 guidance is likely to disappoint

Consensus 1Q bookings are $146M (versus $139M in 4Q). The Street is expecting Q4 to represent the “bottom” and bookings to begin growing in 1Q. Based on current traffic patterns, this seems unrealistic. We note that traffic and bookings have declined throughout 2013 and without a major new title(s), it seems difficult to see how this trend would reverse so quickly. We note 4Q DAUs, as reported by Appdata, were down 40% from the beginning to the end of the quarter, with an average decline of 23% for the period. Even if traffic stabilized now and stayed flat for the quarter, the average 1Q DAUs would be down about 20% sequentially and it is hard to see bookings growing sequentially. We have lowered our 1Q bookings estimate to $116M from $137M, i.e., our new 1Q estimate is 20% below consensus.

Zynga 2014 estimates seem too high

Consensus 2014 bookings estimates are $630M. This compares to our estimate of $579M. If our 4Q13 and 1Q14 estimates prove correct, we think the Street’s estimates will see significant downward revisions post the 4Q results (likely in early February). Said differently, we believe that through a combination of DAU and ARPU growth, the Street is anticipating a massive and unrealistic acceleration in trends in 2014.

Adjusting estimates

We are adjusting our Q4 Bookings/Adjusted EBITDA estimates to $130M/($18.1M) from $137M/($13.6M). We are also reducing our Q1 Bookings/Adjusted EBITDA Estimates to $116M/($17.2M) from $137M/ ($3.5M). Previously we had modeled Q4 to represent the “bottom” in terms of bookings declines, but now we are modeling Q1 to represent the bottom. Our fullyear estimates for 2014 are unchanged.