King's IPO is no Royal Flush
Investors beware - the Candy Crush Saga publisher is just Zynga 2.0
Over 90 million people play Candy Crush Saga every day. Say whatever you like about London- based social game developer King, but its headline game is an unquestionable success. Like many games (most games, perhaps) it iterates upon previously existing formulae rather than being a breakthrough, unseen innovation. Like many games, the real DNA of its success can only be analysed honestly if we first admit that one of the dominant genes involved was luck. Still; 90 million players. About 1.3 per cent of the entire population of the planet try to clear candies and jellies at least once a day. Whether you consider that to be a depressing reflection of the state of humanity or not is entirely subjective; whether you consider it to be a remarkable business success is not. King's got a touch of magic in its sweet jar.
Now King wants to convert that magic into cold, hard cash, so it's going to float on the New York Stock Exchange. It's proposing an initial public offering valued at $500 million, but given that its net income last year was $568 million (on revenues of $1.9 billion), everyone involved will clearly be hoping to make a killing off an early spike in share value.
"About 1.3 per cent of the entire population of the planet try to clear candies and jellies at least once a day"
When any company announces an IPO, it's reasonable to ask why it's happening. There are two ways for an entrepreneur to "exit", cashing in his or her chips on the company that's been built. One is by being acquired by a bigger firm (like the recent purchase of a major stake in Supercell by Puzzle & Dragons publisher GungHo). The other is an IPO. In both cases, there are two clear reasons for cashing in - the first one, which everyone always claims to be pursuing, is to raise more money to facilitate further growth and make your company bigger and better. The second is shadier but not uncommon. You reckon you've taken the business as far as you can - organic growth is looking rocky from here, maybe you sense a change in the market or an oncoming headwind, and you want to grab as much cash as you can while the going is good, before your valuation starts to heavily decline.
"Take the money and run" isn't an uncommon reason for a sale or an IPO, although none of the parties involved would ever be so gauche as to admit to such a thing. Still, the logic underwriting such a thing is cold and undeniable. If you can sense that your company is facing rocky ground and its valuation has likely peaked, you want to make sure you get as much of a return on your holdings as possible before they become devalued. Laws and rules force lots of disclosure of financial data, of course, so you can't hide a decline that's already started - but if your instinct says next year won't be as good as last year, now's the right time to sell, and "instinct" doesn't appear on SEC-mandated documents.
Is King taking the money and running? Yes, I think they are. I think this IPO is actually a little late - it's going to occur just as King is on a downslope - but it's far better timed than the easiest comparison, Zynga. Zynga launched on the stock exchange far too late, after it had already become obvious that the company was completely hobbled by the rapid transition from Facebook to smartphones in social gaming. Its IPO was a flop from an investor's perspective, although plenty of people still made a lot of money from it - it certainly made more money than it would have if they'd waited around until the depths of the company's troubles became apparent. On its current timeline, King will be IPOing while it's still within touching distance of Candy Crush Saga's peak.
"Is King taking the money and running? Yes, I think they are"
I foresee two problems, both of which ought to ring huge alarm bells for investors interested in the company. The first is that Candy Crush Saga's peak is just that - a monolithic, dramatic peak climbing up out of a landscape of foothills and gentle valleys. There are no other peaks in sight. King's other games do "okay", but nearly 80% of its revenue comes from Candy Crush Saga, whose 90 million daily users figure is six times greater than the daily users figure for the firm's second-place game, Pet Rescue Saga. There is nothing on the horizon which might replace Candy Crush Saga; once you start descending from that peak, the danger is that you end up back in the foothills with no more peaks to ascend. There's simply no evidence, let alone proof, that King is capable of recreating the lightning-strike success of Candy Crush Saga. Bluntly, I don't think King believes it can manage that either - because if the firm and its investors genuinely believed that they could repeat the success of Candy Crush, they would IPO after doing so, knowing that a company with a proven ability to turn out enormous hits is vastly, vastly more valuable than a company with one lucky strike and a string of also-rans to its name.
The second problem is Zynga itself. The stock market has already had one market-leading social game company perform absolutely dismally after flotation. Investors now know that this sector, while it's exciting and interesting and extremely profitable, is also insanely volatile, completely hit- driven and largely subject to the rapidly changing whims of technology. On the surface, the F2P model is far more investor-friendly than the old-fashioned boxed game model, since you actually get a steady revenue stream from your products rather than a single burst of revenue after a couple of years of expensive development. In practice, though, you still need to keep turning out hit titles in order to ensure revenue growth (which is all the stock market gives a damn about). Few studios have shown any capacity for doing that - there are laudable exceptions like Supercell and Nimblebit, but most mobile gaming studios are still dining out on single successes. King has Candy Crush Saga; Rovio has Angry Birds; GungHo has Puzzle & Dragons. None of these companies have managed to create another game as popular as the one that made them famous - lacking a track record, each of them can fairly be considered a one-hit wonder until proven otherwise.
What about recent controversies around King? The company's aggressive approach to trademarks, its reputed cloning of games and so on have done nothing to endear it to the gaming world and cultivated an atmosphere of negativity around the company. I would caution against reading too much into the likely impact of such stories on an IPO, though. Investors, bluntly, don't really care if a company stands accused of not being terribly innovative, as long as the results are good. They certainly couldn't care less about trademark spats with independent developers, I fear. Such issues are important and relevant to those directly involved, but of no consequence to the IPO prospects of a company like King.
"I suspect that investors burned by Zynga will be quick to note the parallels between the sort of behaviour of which King stands accused, and the sort of behaviour in which Zynga engaged"
What they do, however, is set mood music around the firm. Being seen as a bit ruthless is no bad thing, but I suspect that investors burned by Zynga will be quick to note the parallels between the sort of behaviour of which King stands accused, and the sort of behaviour in which Zynga engaged. The two companies are, in my mind, very similar both in culture and in approach. Neither was founded out of any attachment to games as a medium, a culture or an artform; both are simply entrepreneurial vehicles to exploit a potential market, and as such, it's to be expected that both would struggle to adapt and succeed at points where they encounter obstacles that can only be surmounted by creativity rather than by management bullet points or business model refinement.
That's not entirely a criticism, by the way; in a capitalist economy, there's no sin to creating a business just to exploit a gap in the market. If the market in question happens to be a creative medium, one has to expect significant blowback to this approach. Moreover, there's a limited lifespan to such a strategy - a company in a creative sector which is not founded on creative principles cannot expect to significantly outlive the market conditions it was originally designed to exploit.
In summary, I find it hard to view King's IPO as anything more than Zynga 2.0. It is better-timed, certainly, but the companies involved are similar enterprises facing similar challenges - and thus far, demonstrating a similar lack of capacity to overcome them. Zynga is much, much further down the slope from its peak than King, so of course there remains a reasonable possibility that King can surprise us all with a second title on the scale of Candy Crush - and by doing so, establish itself as a genuine leading light of this new market. For all the negativity poured upon the company of late, I honestly hope King can make lightning strike twice for itself. I don't like Candy Crush Saga personally, but that's a subjective view - objectively, I cannot find a trace of the supposed immorality, grasping and nastiness of which the game regularly stands accused, and can't help but recall all the awful stuff of which Flappy Bird also stood wrongly accused when it dared to be a break-out mobile gaming success. King faces problems down the line and I question whether it represents a good investment opportunity for anyone - but should it overcome those issues and prove itself capable of the creativity required to replicate its Candy Crush success, it would be churlish to call that anything other than a fresh triumph for UK game development. Fingers crossed that it happens.
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