How Zynga Generates Revenues

The last company I want to discuss in this series is the one with the most direct-to-consumer model of business. Zynga’s business model specifically surrounds directly engaging consumers with their line of social gaming products, but then creates income for investors through both a microtransaction model, and an advertising stream.

The end result is a revenue cycle that can be reasonably well forecasted, and scaled across different platforms and games. In this article, I’m going to discuss how it is that investors can look at Zynga as a growth opportunity, and how it is that the company creates value through microtransaction revenues.
The first way that Zynga generates revenues is through general advertising sales. While these don’t really amount to tones of money in comparison to its microtransaction model, its important to recognize how it is that the incremental cash flows from advertising is fantastic for funding the costs of simply running the platforms themselves.

Since the costs of running an online game after production are extremely low, the low revenues from advertising on a cost-per-click basis will more than cover the costs, and allow the company to focus on growing the revenue line through its more aggressive options. As an investor, we can value this revenue stream against operating expenses. If we see the ratio between advertising revenues and operating costs increase, we know that the company’s ability to continue operations has improved, and the investment has become that much safer.
The more exciting metrics to look at for this company involve the  microstransaction model Zynga is most famous for. When customers play Zynga games, they are given the opportunity to use real money to buy in-game goods. These transactions have netted the company millions of dollars through games like Farmville, and are what drives the company’s ability to grow and scale. More specifically, the company breaks its profitability into metrics that measure exactly how much money it earns, in microtransactions, from each individual player.

If they release a game that is creating $25 in microtransactions for every 10 players, it means that the company has come up with an extremely efficient gaming platform. From there, it is only a matter for them to scale the platform, and get new players to sign up on the account so that they can increase their revenues. Therein lies our opportunity as investors.
By looking at a social gaming company’s profitability per customer, we can question their ability to grow membership, while retaining the proportionate value they receive per customer. If we believe that the company can successfully scale its current user base, then there is opportunity for growth. However, if we feel as though increasing the user base would only dilute out the value per customer, we should reconsider.