The Case For And Against Candy Crush-Maker King’s Possible IPO

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Zynga cast a long shadow when its stock tanked by about 75 percent in the first year after going public. But that apparently isn’t scaring off other contenders in the gaming industry from an IPO.

Over the past two weeks, I had heard from several sources in the industry that King — the maker of mega-hit Candy Crush Saga — had changed its internal thinking around an IPO. The astounding success of Candy Crush blew through all of the company’s 2013 financial targets in a single month, the company’s CEO Riccardo Zacconi told me back in March at the Game Developers Conference back in San Francisco. Candy Crush has done so well on virtual currency transactions that they’ve even stopped doing advertising.

Then The Wall Street Journal reported this week that the company had hired J.P. Morgan Chase & Co., Credit Suisse Group AG, and Bank of America Corp. to handle an IPO. It definitely isn’t the first time they’ve thought seriously about this. In early 2012, the company had restructured for a possible IPO, hunted for a Silicon Valley-based board member, and put its financial reporting more in line with generally accepted accounting principles. But they pulled back.

Publicly, the company hasn’t changed its tune about keeping its options open. King’s chief marketing officer Alex Dale told me a few days ago before the Journal story ran: “There are no current plans for that. What we did do is organize the company in such a way that were we to decide to do that, we were set up to do it. We would keep the option open, if you like.” The company says it has nothing extra to add today.

Still, honestly I’m a bit surprised. As I wrote last week, I’m skeptical that the venture model works for many (but not all) gaming companies.

And I’m even more skeptical that public investors, ruled by “animal spirits,” are equipped to value gaming companies. They’ll bid up a stock when there’s a hit: just look at Gung-Ho’s ridiculous 6,700 percent one-year return to a $14.6 billion market cap because of Puzzle & Dragons. Then they’ll oversell on misses. (See Zynga.)

Companies that have hits on generally don’t need the cash. The success of comparable companies like Finland’s Supercell on iOS would suggest that King is probably pulling in around $2 to 3 million per day from its Match-3 game. That would exclude revenue from other platforms like Facebook and King’s destination site.

The founders also don’t need a financial exit. The $43 million round the company took back in 2005 from Index Ventures and Apax Partners was also at least partially secondary, meaning they took cash off the table.

Zacconi told me back in March that that decision gave him the flexibility and comfort to run the company for the long-run, even through some near-death times in 2009 when one of their biggest partners Yahoo! made decisions that cut their traffic by almost half. From that, they staged an impressive recovery, grabbing second-place on the Facebook platform behind Zynga in terms of active users and a regular spot at the top of the grossing lists on iOS and Android.

Zacconi said in a March interview, “When we started the company, we put in our own money because it was difficult to find capital. I gave up everything. I gave up my flat. I lived in a place with a friend of mine, and put everything in storage.” He then added, jokingly, “I wouldn’t buy a Ferrari, because it would get stolen and it would be a pain in the ass.”

So a King IPO would probably be to have capital for acquisitions, to reward employees who joined later, provide a return to investors and to have a feather in the cap as a public company after a decade-long journey.

From an investor perspective, there are a couple ways in which King is very different from Zynga:

They have twice as long a track record.
An advisor to another very promising gaming IPO candidate told me yesterday that you have to have a history of revenue peaks and troughs in a hits-driven business like gaming to be a public company. You need to have a compelling story so that investors continue to believe in you through the inevitable misses as well as the hits.

Zynga went to market on its first peak, but King has a decade-long track record of both hits and tough times. Plus, it’s been profitable since 2005.

King also isn’t a company that happened to show up at an opportune time on an emerging platform and blitzkrieg their way to success.

In fact, they showed up late to the party pretty much every time. They didn’t make a serious move onto Facebook until 2011, and they didn’t make a serious push onto iOS until late last year. They came to platforms that seemed saturated and still managed to do well in a calculated way by bringing IP that was already proven on their destination site.

They’re focused, because they only do arcade games.

On the Facebook platform, Zynga would identify an existing, successful game genre, fast-follow and iterate on it, and then use the might of its distribution power to crowd out competitors. (Less euphemistically, some rivals called this copying.) But for several years, it worked.

However, on iOS and Android where Zynga doesn’t have the same market share it did on Facebook, it means that the company is all over the place. They’ve had games for the “running” category, for the “zombie” category and for the “card battle” category, and so on.

King, on the other hand, has pretty much only ever done arcade games. They don’t have any desire to do other genres.

They try to “hit proof” their business in a completely different way than Zynga does.

Even King probably earns most of its revenue from mobile platforms, the other pieces of the business — especially the destination site at King.com — are very strategically important.

Before King transitioned to Facebook and mobile gaming, the company amassed a small, but dedicated audience of “hardcore casual” gamers, or people who play arcade games for five to six hours a day, on a destination site at King.com.

Even though this site has much less traffic, it’s like the perfect focus group. The company has launched hundreds of titles here over the years, and only the ones the perform and retain the best with this dedicated audience get a shot at moving to Facebook or iOS.

So King has a place outside of iOS and Android where they can literally throw spaghetti on a wall and see what sticks.

Zacconi isn’t as divisive or controversial as Zynga CEO Mark Pincus.

Unlike other CEOs in the industry, who are sometimes more eccentric or aggressive, Zacconi comes off like a reserved consultant or a banker-type. He easily admits he’s not the creative genius inside the business, but he has hired well around him. King has talent that has come over from Playfish or Digital Chocolate through the years.

“We are humble, resilient and we’ve been developing casual games for 10 years,” he told me back in March when I asked him about King’s company culture.

They are actually multi-platform.

They are second to Zynga on Facebook in active users and currently maintain the two highest grossing titles on iOS and Android in the U.S. They are at 70 million players per day, which is about 35 percent more than Zynga reported in the first quarter of this year when it pulled in $263.6 million in revenue.

So they are literally at the top of the charts on three different platforms, although I also hear this has to do with aggressive spending to boost top-line revenue. Only a handful of purely digital gaming companies currently match this reach right now.

While Zynga does have some strong historical titles on mobile like Zynga Poker, its business is still overwhelmingly on Facebook and the company’s management is trying to course-correct.

But the downsides are pretty much the same for every game company, and I still don’t get an IPO right now.

All of the same structural issues with the gaming industry still exist. It feels like King should wait longer until they have a multi-year record on Android and iOS and a full portfolio of games there before aiming for an IPO. As we’ve seen with Zynga, even reach with hundreds of millions of users can erode quickly if a company doesn’t have the hits to keep it up.

As Benchmark Capital general partner Mitch Lasky tweeted earlier this week, “The biggest self-deception in game investing today is ascribing strategic value to hit games based on potential cross-marketing leverage.”

Given Candy Crush’s success, King will have a leg up as it cross-promotes its next big title Pet Rescue Saga. But King is testing the waters with public markets on only about a half-year of success on mobile platforms, which seems a bit early.

Perhaps the company thinks after 10 years, they’ve waited long enough and this window is as good as any other they’ll get.