The big winner in Zynga's IPO, the largest by an Internet company since Google went public, isn't the shareholders or the employees or even the executives. It's Facebook.
Zynga, which pioneered a new class of social games, is the first to become a multibillion-dollar company by piggybacking on Facebook's platform. Early on, Zynga co-founder and CEO Mark Pincus saw the potential for Facebook-connected games that were free, allowed friends to engage each other and could be played on any device with an Internet connection. He created applications powered by Facebook's network and today oversees a company estimated to be worth $7 billion.
"There hasn't been another developer that has built a large business on Facebook's platform and gone public in this way. It's a big first for the Western social gaming world," said Justin Smith, founder of research and data firm Inside Network.
Zynga's success is also Facebook's, experts say.
They note the gaming company's coming-out party on Nasdaq validates Facebook's platform as one on which companies can build their fortunes by developing a new breed of web services. The IPO also highlights the next chapter in Facebook's trajectory: The social network has evolved beyond photo uploads and status updates to offer a robust ecosystem of music, movies, news and lifestyle offerings, all in one place and all connected by an online network of friends.
Developers have made more than $2.5 billion creating apps for Apple's iDevices, according to Apple. Google gave rise to a new generation of companies, such as Demand Media, that succeeded because Google's search engine sent millions of users their way. Now, Facebook is spawning a new breed of companies that thrive because of the connection-driven, sharing-stimulated online world Facebook has created.
Zynga's rise shows that Facebook, like Google and Apple before it, can support an industry hitched to its platform and help carry web firms to the big leagues. Five years ago, Zynga didn't exist. Today the company is worth more than Hyatt Hotels, Hasbro and JetBlue.
"Zynga is the biggest proof positive that you can build a huge and successful company on Facebook's platform," said Josh Williams, president and chief science officer at Kontagent, a company that provides user analytics for app developers. "For Facebook, Zynga's IPO is great."
Zynga went from startup to Internet success story on the back of Facebook's enormous user base. By developing applications on Facebook, such as FarmVille and Mafia Wars, Zynga leveraged the social network's reach to sign up new members, collect information about its players and let individuals play online games with real-life friends. Zynga declined to comment, citing the legally mandated quiet period before and after its IPO.
Before Facebook changed its policies, Zynga expanded its own audience by aggressively marketing (or spamming, some say) its games through players' profiles. The company now claims three of the top five most popular apps on Facebook and over 223 million active players, three times more than its closest rival, according to AppData.
The lion's share of Zynga's revenues come from the sale of virtual goods through its games. Facebook users generate 94 percent of Zynga's revenues, according to estimates by Strene Agee analyst Arvind Bhatia, and Zynga warned investors in its S-1 filing with the Securities and Exchange Commission, "We generate substantially all of our revenue and players through the Facebook platform and expect to continue to do so for the foreseeable future."
"You have to think that without Facebook users, there is no Zynga," said Gartner analyst Brian Blau. "It's a very intimate relationship. You could compare it to a parent and child, it's so close."
Financial analysts warn that Zynga's coziness with Facebook makes it vulnerable to the whims of the social networking giant and caution that any change in Facebook's terms could put Zynga's financial health at risk.
Yet Facebook needs Zynga nearly as much as Zynga needs Facebook, others counter.
"It's a symbiotic relationship. It's not parasitic," said P.J. Mcnealy, a digital media consultant and founder of Digital World Research. "Facebook becomes stickier as more people play games, and a lot of that content is coming from Zynga."
Companies like Zynga have helped Facebook evolve, transforming it from the Internet equivalent of a mom-and-pop shop peddling sweets to a mega-mall offering movie theaters, arcades and boutiques that lure crowds to stay longer and spend more.
Facebook apps encourage users spend more time on the social network, which in turn allows the site to serve up more ads. Apps also provide new sources of income: Facebook takes a 30 percent cut on all sales through Facebook Credits, a virtual currency that must be used for all purchases on the site, such as the tractors players buy in Zynga's FarmVille. Williams of Kontagent estimates that Facebook has netted more than $300 million from Zynga sales, and SEC filings reveal that Facebook forged a deal with Zynga guaranteeing that it would send minimum numbers of users to Zynga games.
"You can only spend so much time looking at people's pictures," said William. "Thanks to apps, people are coming back more frequently and spending more hours on the site, which means Facebook is able to generate more revenue via advertising," he said.
In turn, Zynga and other app developers can tap into Facebook's population of more than 800 million users, as well as the social network's payment system, marketing opportunities and viral potential. As Zynga's trajectory suggests, the payouts can be huge.
Among other advantages, Williams noted that Facebook enables app developers to target people based on their demographic information and to acquire users more cheaply than they could elsewhere. The Facebook Credits system also saves small companies the trouble of implementing their own payment solutions, Williams said.
Zynga's success in building social games on Facebook will open the floodgates, encouraging even more apps in industries such as media, education and health, experts predict.
"Zynga has been the largest company to capitalize on Facebook. Everyone else pretty much used it for marketing purposes, and no one really leveraged Facebook for revenue quite the way Zynga has," said Billy Pidgeon, an analyst at consulting company M2 Research. "They wrote the manual on how to do that, but now the competition is coming in."
Facebook has been making the hard sell to companies beyond the gaming sector, such as Nike and News Corp.
"The app that's able to set that expectation that everything's social up-front, that's the app that's going to win because that's the app that I'll see my friends using," Bret Taylor, Facebook's chief technology officer, told developers at Facebook's f8 conference in October.
The number of Facebook apps from media companies has surged in recent months. Following Facebook's f8, at which the company unveiled a "new class of social apps" that allow for "frictionless" sharing, the Washington Post, Hulu, Spotify and the Guardian have all released new and improved Facebook apps that broadcast every action a user takes on the app.
"Facebook is clearly putting effort into providing opportunities for media companies to plug more deeply into Facebook," said Smith of Inside Network. "They're pushing forward into the media world, outside of purely gaming, to make Facebook an even more important platform for other types of media companies."
Smith also expects to see mobile versions of Facebook apps that are not only tailored to smaller screens but also take advantage of smartphone capabilities, such as location information, to deliver new experiences. In theory, a concert venue could build an app that lets users locate Facebook friends attending the same performance. Or parents might be able to use an app to map their children's whereabouts and send messages through Facebook.
Although Zynga and Facebook profit from one another, so far they aren't evenly matched. There's only one Facebook, and while Zynga has plans to launch its own gaming site that would operate independently of the social network, it's still closely married to Mark Zuckerberg's creation. On the other hand, there could, with time, be dozens of Zyngas. Facebook no doubt hopes that will happen.
"Facebook needs to have a really active developer ecosystem. When you have one developer out there that's much bigger than all the others, you have a problem," said Blau, the Gartner analyst. "For Facebook to ensure they have a viable business, they have to attract lots of other developers. It'd be great if they had 10 Zyngas."
Take a look at the slideshow (below) to see how Zynga's IPO compares to 9 huge tech IPOs from 2011.
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