Madison Avenue & 50th looking south 1941
This is an expanded answer to a Quora question that I posted on August 6, 2017
I wrote a blogpost about 1 1/2 year ago valuing MZ. At the end, I suggested a few use cases that would benefit from the low latency of their platform. With the passage of time, there is a lot of talk about how the IoT requires a new computing paradigm called edge computing. I now am thinking about how MZ’s publish-subscribe, many-to-many platform could be used as a “first alert” messaging platform at the edge. Servers would be called only in cases of a need for higher order compute functions and storage.
The obvious use case for MZ’s platform would be v2x middleware for the era of autonomous cars. Another use case would be a IoT to IoT “first alert” message of a computer virus akin to what Tanium has developed.
Also, moving 400 billion or so daily events connected with RTB ad exchanges to the edge by conducting individual ad impression auctions within a Docker located on the device.
Also, many-to-many AR games placed via Bluetooth at the edge without calls to the server.
MZ’s has contracted with Switch, an innovative data center provider based in Las Vegas, to house thousands of MZ -owned servers with FPGA’s optimized for its Erlang-written publish-subscribe platforms.
Switch has recently announced “The MOD 100…for a rapidly deployable, single user environment that can be extended to nearly any location around the globe. The MOD 100 data center can be customized to fit on premise, at the edge or in a dense urban environment on a parcel as small as 400 feet by 400 feet.”
MZ has recently entered the AdTech business with an omnichannel, demand-side stack featuring RTB for display ad impressions. We could see them leverage their relation with Switch and growing expertise in rapid-response, FPGA servers. One way would be to enter AdTech from the supply-side via an edge CDN featuring 1,000 of MOD 100’s full of video ads and connected to auctions via MZ’s publish-subscribe platform.
Below is a picture of Switch’s SUPERNAP 8 data center outside Las Vegas:
The tech trendy SF-based email newsletter The Hustle reported on July 11, 2017
“Last night, we received an internal email from an anonymous, verified source at Airbnb confirming that the company has officially signed a multi-year, 5-story lease at Zynga’s headquarters in San Francisco’s SOMA district.”
According to the email:
- “Phase 1 will begin in 2018 and will deliver 3 floors of space ready to occupy by 2019.”
- “Phase 2 will commence in 2020, and by 2021, [Airbnb will] be the sole occupants of the east tower at 650 Townsend (the Landlord will continue to occupy the west tower).
According to The Hustle, Zynga declined to comment on their story, and Airbnb didn’t respond to their email requests.
The Hustle’s scoop comes on the heels of another scoop from The Information two month earlier on May 8th of an impending deal. The Information is known for its access to Silicon Valley insider information.
We believe that the lease has a material impact on Zynga’s financials and we believe Zynga will be required to file an official 8-K statement with the SEC once the lease is signed.
Zynga’s stock has been on the rise in 2017.
Zynga stock (Nasdaq: ZNGA) jumped 14.3% on May 5, 2017 after its 1Q17 conference call where it increased its 2017 revenue and profit guidance due to the early success of its recently acquired game
Since then, the stock has risen another 14% due to periodic reports by stock analysts upping their stock price targets. For example, CNBC Investing reported on May 30th that a Piper Jaffray analyst raised the stock’s rating to overweight from neutral with a price target of $4.00 a share.
The stock did not move on May 8th, the day of The Information scoop. It did not move on July 11th, the day of the Hustle scoop
Both scoops show up when you Google “ Zynga Airbnb.”
The question is why hasn’t the stock market reacted to these scoops?
We present the case below that lease has a material impact on Zynga’s financials.
According to a SF real estate publication The Registry, Zynga bought its 717,000 square foot HQs in 2012 for $228 Million or $ 318 per square foot. Zynga was growing fast at the time and was flush with cash after raising $1 Billion in a December 2011 IPO.
The building is a five story, high ceiling, open space structure located at 650 Townsend Street. It is a block from Airbnb’s current headquarters. See Link to Youtube Video below showing clearly the similarity between the two HQs
Airbnb is no ordinary tenant. It is the second highest valued startup after Uber. Airbnb’s current valuation is at $31 Billion based on a $1 Billion funding round that closed March of 2017.
In estimating the current value of Zynga’s building, you have to take into account the fact that Airbnb will become an obvious candidate to buy the building in a year or two after it has an a multi-billion dollar IPO. It would negotiate to take over the whole building with Zynga vacating to smaller quarters.
Zynga actually listed the building for sale briefly in 2016, but withdrew because the cost of the leaseback offered by potential buyers was too high. At the time, $800 per square feet was mentioned as the going rate for SoMa office building.
Due to the fact that this building is absolutely ideal for high tech, and that the SF office market is still booming, and last, but not least, that Airbnb might be the buyer after its IPO, we would value Zynga’s HQ currently at closer to $1,000 per square feet or $717 Million.
This works out to be a tripling of its investment initial purchase price of $218 Million.
Zynga’s market valuation as of July 11, 2017 was $3.11 Billion. Its cash balance as of 1Q17 was $720 Million. It has no long-term debt.
The combination of $720 Million in cash with another $717 Million in a readily marketable building totals half of its current valuation.
Plus the financials of Zynga’s game operations show signs of returning to cash flow positive. In 2016, it turned operating cash flow positive at $60 Million for the first time in 3 years. While not profitable for quite some time, it has three straight quarters of increasing revenue.
Once the lease is made official, the stock should pop certainly over $3.80 a share.
© Lawrence W. Abrams, 2017
Inquiries : Lawrence W. Abrams, firstname.lastname@example.org, (cell) 831-254-7325
Our Vision of the Modern Carpooling Business
The success of ride-hailing apps has given rise to the idea that app-enabled carpooling could be a scalable business. Plus, carpooling at scale could become a much needed poster-child of tech “public good” as it would be the first impactful solution to traffic congestion and automobile pollution in years.
The question is: Why would any company want to enter the carpooling business today? What kinds of driver and passenger incentives would be required to scale this business?
The unexpected early success of autonomous vehicle (AV) R&D has given rise to the idea that automobile ownership will be replaced within a decade by companies offering shared mobility-as-a-service (MaaS).
Given this, why would any company want to enter the driver-centric carpooling business with its limited life expectancy and profit potential?
There have been at least a dozen carpooling startups trying to grow the business since 2010, but none have gained traction and most have closed down. Perhaps their timing was premature as the urban ride-hailing companies like Uber had not yet matured enough to provided acculturation spillover benefits or been in a position to partner with a carpooling company in a tight “mesh-transit™” network. (see more on this later)
Today, the only commuter carpooling service with serious financing is Commute by Waze, a division of Alphabet (Google). But, Uber, Lyft, and Ford could enter this business easily by expanding their existing urban ride-sharing services to long-distance commuters.
uberPOOL and Lyft Line are urban shared-ride versions of their on-demand services. Ford’s new acquisition Chariot has recently rolled out an app-enabled, fixed-route vanpool service using Ford Transit vans and full time drivers. Lyft has just introduced a similar urban fixed route car jitney service called Lyft Shuttle.
Waze’s vision of of the modern carpooling business is in the spirit of altruistic carpooling among neighbors and coworkers. Everyone takes turns driving and chip in to cover out-of-pocket expenses if there is an imbalance.
Consistent with this vision, Waze has capped driver pay rates at the business mileage reimbursement rate of $.54 per-mile. It has set per-ride fares that, when aggregated, just cover driver pay. It also limits drivers to two-a-day rides, eliminating the possibility of full-time work.
Despite low pay, driver commitment is high because drivers have an altruistic “gift relationship” with passengers rather than a “transactional relationship.” (more on this later)
While Waze’s vision for modern carpooling is laudable, we will argue that scaling the business will require a business-like transactional approach, starting with driver pay rates on par with Uber.
We envision the modern carpooling business as a unit of horizontally integrated MaaS company that also offers ride-hailing and has third-party tie-ins with ecommerce delivery companies like Amazon and Walmart and rental car companies like Hertz and Avis.
The carpooling unit would be credited for dropping off passengers at transit hubs for last-mile ride-shares. It would be credited for delivery of meals, groceries, etc. It would be credited by rental car companies when carless carpoolers come in for cheap rentals on the weekends.
While never profitable on its own, the carpooling unit would be building brand-awareness and customer loyalty. It would be an important contributor to positioning for the biggest business opportunity of a lifetime — the AV MaaS business.
The carpooling unit would be accumulating valuable MaaS logistics data. It would play an important role in the acculturation of commuters to the shared-ride lifestyle much like AirBnB and WeWork are doing for the shared-living and the shared-work lifestyle, respectively.
More MaaS synergies originate from carpooling than any other mobility service. And those synergies magnify when carpoolers go carless.
The fundamental strategy of an integrated MaaS company today should be to reduce carpool fares to the point that passengers will go carless and unleash a demand for related services. Good accounting practices dictate that the carpooling unit get credit for these spillover benefits.
We think that it will take a minimum of $4,000 in cost saving to motivate a significant number of people to go carless. This implies that fares will have be reduced by an additional $1,583 a year to reachthat level of cost savings.
The way to recoup fare reductions would be to negotiate referral credits (dollar or accounting) with related units offering last-mile ride-sharing, delivery, and weekend car rentals.
Next, we present a brief look at the carpooling business from the vantage point of specific companies — Lyft, Uber, Ford, GM, Google, and even Amazon, Walmart, Hertz and Avis.
Besides spillover benefits to related companies, carpooling at scale will have a significant impact on traffic congestion and automobile emissions. These “public goods” justifies government support. We discuss the merits of a few ways government can help scale the carpooling business with minimal expenditures.
A Sense of Carpooling at Scale
By quantifying “carpooling at scale”, we will show why Waze’s altruistic vision of carpooling with driver pay set at $ .54 / mile is insufficient to scale the business.
For this exercise, we chose California Highway 101, a.k.a. “The Bayshore Freeway” between San Jose and San Francisco (SF).
There are number of reasons why Highway 101 would be good starting place to scale a carpooling business:
The question is how many carpool drivers would be needed to reduce the rush hour traffic along Highway 101 by, say 30%? How would that estimate compare with the number of Uber and Lyft drivers now working in SF?
Based on 2015 CalTrans data of vehicle traffic flow, we estimate that there are approximately 150,000 vehicles flowing both ways past a mid-peninsula point along Highway 101 (at Highway 92) during a typical weekday commute period of four hours (5-9 AM or 3-7 PM).
We derive the following table of driver requirements:
To get some sense of the magnitude of this requirement, we cite a 2016 report by the San Francisco Treasurer’s Office estimating a total of 45,000 Uber and Lyft drivers currently working in the City.
We conclude that it would take one-third the scale of Uber’s and Lyft’s combined operation in San Francisco for a carpool service to impact commute congestion along Highway 101, assuming an average of 3 passengers per carpool. And this is just one highway in the Bay Area.
Attracting 15,000 new drivers would be a huge undertaking. But, if the business could use existing Uber and Lyft drivers during peak commute hours and allow them to do multiple commute loops, the task becomes much more manageable.
Reverse Commuters as Early Adopters of Carpooling
Highway 101 is especially attractive as a place to start a carpooling business because of a strong city-to-suburb reverse commute.
The two other areas with strong reverse commutes are in Washington, D.C area with reverse commutes to government complexes in suburban Maryland and Virginia and along Santa Monica Freeway from downtown Los Angeles to coastal Santa Monica.
There are several reasons why highways with reverse commutes should help. It may be that these corridors should be the only places targeted, given the limited lifespan and profit potential of the business.
Reverse commuters are city dwellers who do not need a car for running errands, going out to eat or seeing a show at night. Parking is expensive. They already sense tremendous value and little added inconvenience by going carless. They are primed to be early adopters of a well-run carpooling service.
Corridors with strong reverse commutes also are attractive to the carpooling business because companies can offer drivers full time work via a combination of multiple carpooling loops mixed with periods of ride-hailing work.
Finding other metropolitan areas with strong reverse commuting would be a high priority research project for any carpooling company.
The Rationale for Market Rate Pay for Carpool Drivers
Carpool drivers have to be on-time twice a day, five days a week, 250 days a year. After all, failure could cost passengers their jobs. Work-going carpoolers are “on-the-clock”. Bar-hopping ride-hailers are not.
The management of a carpool business has to demand a greater level commitment out of its drivers than Uber and Lyft now demand of their drivers. As independent contractors, Uber and Lyft drivers have a great deal of latitude in choosing work hours and routes.
Driver commitment isn’t an issue in Waze’s altruistic vision of the carpooling business because a driver is driving for neighbors and co-workers. The desire for continued respect is the prime motivator. Waze’s choice of limiting driver pay to the $.54 / mile is consistent with this vision.
But, we believe that carpooling at scale has to involve a vast majority of drivers working for strangers, not neighbors and co-workers. It is a transactional business where driver commitment is secured by market rates of pay and the threat of being fired.
Recognizing that performance is affected significantly by the type of relationship a driver has with his passengers is similar to what Richard Titmuss discovered in blood-giving as chronicled in The Gift Relationship, a social science classic.
Basically, Titmuss found that the quality of blood was much better when it was give freely by altruistic donors than when it was given in exchange for pay.
As a result, we firmly believe that a carpooling business has to pay drivers equal to what an Uber driver gets per-mile.
An Estimate of Driver Pay
Below is an estimate of an Uber fare and related driver pay rate on a per-mile basis for a 25 mile uberX ride from Redwood City to San Francisco taking 50 minutes during rush hour. We use 80/20 as an estimate of Uber’s current driver/company distribution ratio.
We believe that a transactional carpool business has to match Uber all around in terms of gross fare rate of $1.55 / mile and driver pay at $1.18 / mile, which is set at 80% of gross fare less booking fees.
The idea of uniform fare rates and driver share across all mobility services is consistent with our vision of an horizontally integrated MaaS company and a “mesh-transit™” system that seamlessly integrates carpooling with last-mile ride-sharing.
An Estimate of Passenger Cost-Saving Over Solo Commuting
We next estimate a passenger fare assuming Uber’s fare of $1.55 / mile shared by 3 passengers. We also derive the cost savings for switching from a solo commute to carpooling.
Even with 3 passengers who share the fare, carpooling yields only a $2,417 cost saving over solo commuting. Even if passengers did commit to carpooling, we do not believe that this cost-saving would be enough incentive to “cut the cord” of car ownership and go carless.
Motivating Carpoolers to Go Carless
We were not surprised to see a lack of passenger incentive to choose carpooling over solo commuting assuming market rate pay for drivers.
Our initial thought was that government-mandated congestion pricing would be the only way the carpooling business could scale. Congestion pricing would force the cost of solo commuting even higher than the already high cost of carpooling.
We now envision carpooling as a unit of horizontally integrated mobility company. The business scales via reduced fares. These reductions are recouped by referral programs that offer credits and rewards coupons redeemable by passengers for using ride-hailing, delivery, and rental car services of related units.
In economic terms, the business scales via its “own elasticity of demand” through reduced fare prices rather than via its “cross-elasticity of demand” through raising the price of substitutes via congestion pricing.
The fundamental strategy of an integrated MaaS company today should be to reduce carpool fares to the point that passengers will go carless and unleash a demand for related services.
We think that it will take a minimum of $4,000 in cost saving to motivate a significant number of people to go carless. This implies that fares will have be reduced by an additional $1,583 a year to reach that level of cost savings.
The way to execute this strategy would be to build app payment algorithms that posts dollar credits and rewards coupons to passenger accounts that are redeemable at related companies.
The dollar value of these credits and coupons are set at the discretion of the related companies. Separately, the carpooling company negotiates payments with related companies for setting all of this up. Payments would accrue as these credits and coupons are redeemed.
In the case of tie-ins with third-party delivery and car rental companies, the carpooling company receives cash. If the carpooling business and the ride-hailing business are owned jointly, say in the case of Uber or Lyft, the carpooling unit earns accounting credits offset by debits to an intercompany clearing account.
Below is an illustration of a series of credits earned from referral programs that would recoup a $1,583 per passenger fare reduction. The distribution of the credits among the related companies is based mostly on a qualitative ordering of “spillover benefits” generated by carpoolers.
We believe that a ride-hailing partner would get the most benefit by far. The expected benefit values to delivery and rental cars companies are about equal, but far behind.
Surge Pricing Would Kill the Carpooling Business
The ride-hailing business is “on-demand” with no set commitments made by drivers or passengers. Peak-load pricing, or surge pricing, is used to balance out supply and demand.
Commuter carpooling is not “on demand”. Passengers rely on the service to get to and from work. They risk firing if late. The business depends critically on gaining customer confidence through reliability and predictability. This can be achieved by paying drivers market rates and require them to meet precise pick-up times. Surge pricing would kill the carpooling business.
Given the level of commitment by drivers, it would be reasonable to ask customers also to make weekly or monthly commitments in return for a set fare rate.
Why Would A Company Enter the Carpooling Business Today?
The success of ride-hailing apps like Uber and Lyft plus the unexpected early pace of autonomous vehicle (AV) research and development has given rise to the idea that shared mobility-as-a-service (MaaS) may be here sooner than later.
Most agree that so-called Level 4 AVs — no steering wheel or accelerator, but location-constrained — might start appearing by 2021. But, there is widespread disagreement as to when the ultimate Level 5 AVs (hereafter just AVs) will appear.
Also, there is widespread disagreement as the length of time it will take to scale AV production. For example, there are a number of optimistic predictions that mobility-as-a-service (MaaS) using AVs will start appearing around 2020 or 2021.
On the other hand, The Alliance of Automobile Manufactures, a trade group that represents Ford, General Motors, Fiat-Chrysler, BMW and more, has estimated that AVs won’t be available for sale before 2025 and it might take another three decades until 2055 when AVs represent a majority of vehicles in use.
Our view splits the difference between these two extremes. Namely, we start with the view that AVs first appear in a decade, say around 2027, with another three year to congestion-ending scale by 2030.
Given the driver-centric carpooling business has a short life expectancy and limited profit-potential, why would a company want to enter the carpool business in 2017?
Traditional Automobile Companies
We think that the fundamental reason for entering the carpooling business today is to establish a consumer-facing MaaS brand ahead of the biggest business opportunity of a lifetime — the AV MaaS business.
The only companies that NEED to enter this business are traditional automobile companies. Executives in the automobile industry knows that MaaS and AV are existential threats as they could end their 110+ year history as consumer-facing brand. Auto companies fear becoming the “Intel Inside” of the MaaS business.
We expect that both GM and Ford will seize this opportunity with the goal of scaling the carpooling business over the next decade. They are also in the unique position of subsidizing this business by using their own vehicles.
To have any success at scaling they business, they will have to partner either with Uber or Lyft to share drivers and mesh their branded carpooling with last-mile ride-sharing services offered by Uber or Lyft.
Ford has entered the ride-sharing business by acquiring Chariot. Chariot is a modern day urban jitney service using 15 seater Ford Transit vans and full time drivers. It has plans to expand to eight cities in 2017.
The picture below illustrates what we mean by using carpooling to establish a consumer-face MaaS brand. Ford is much further along than GM in establishing a MaaS brand. It has brought all of its AV and MaaS efforts under one division located in Silicon Valley called “Ford Smart Mobility.” Ford also has promoted the head of this division Jim Hackett to CEO of the whole company, a huge indicator of Ford’s priorities.
GM has just begun to roll out a niche MaaS service called Maven, an hourly car-rental service. GM is way ahead of Ford in partnering with a ride-hailing company as it has a 9% stake in Lyft.
We expect GM to enter the commute carpooling business shortly with its own consumer-facing brand and partner with Lyft. But, Lyft and GM are “frenemies”. Both want be a consumer-facing MaaS brand. Lyft might consent to a carpooling service branded as “GM Mobility powered by Lyft”. The only question is whether Lyft will enter the business with its own brand similar to Lyft Line or Lyft Shuttle.
Uber and Lyft have established MaaS brands at great cost over the last 7 years. Their existential threat is from the AV supply side not from the branding side. Uber and Lyft might enter the carpool business, but they don’t need to. On the other hand, Ford and GM need to partner with Lyft or Uber as a source of shared-drivers and to mesh a carpooling service with last-mile ride-sharing service.
Alphabet (Google) has chosen to enter the carpooling business via its Waze Division’s Carpool service. As we have mentioned earlier, Waze’s altruistic vision for the carpooling business doesn’t scale.
Google is probably in a better position for the coming era of AV MaaS than any other company on the planet. It’s Waymo division has a 5 year lead on AV R&D. With their Waze and Google Maps real time traffic monitoring apps, Google has established a brand awareness with commuters that is second to none.
But, Google is on the verge of applying the same muddled strategy to the carpooling business as it did with Android and the smartphone business.
Without an existential crisis to focus its thinking, it seems that Google is about to compete with itself once again. Namely, Goggle sold their own Nexus brand of smartphones. At the same time, they licensed Android to countless Asian manufacturers who turned around and competed with Nexus.
It is not clear what Google’s ultimate goal is. Does it want to become a consumer-facing MaaS brand with Waze taking the point? Or does it want to become an “Intel Inside” AV OEM to automobile brands like Chrysler-Fiat and a host of European and Japanese auto companies?
Uber has begun to capitalize on the synergies between its ride-hailing business and the delivery of food, groceries, and other goods. These synergies would be even greater in the carpooling business.
Look for Amazon and Walmart to seek tie-ins with carpooling companies. This could include partial financing of transit hubs where ride-hailing, carpooling, and e-commerce delivery services meet and re-distribute people and goods. Commuter favorites like Starbucks and McDonalds might also want to lease space there.
Car Rental Companies
The stock prices of Hertz and Avis shot up by double digit percentages recently when Apple and Waymo announced that they had contracted with these two car rental companies to maintain their fleet of prototype AVs.
Suddenly, there was a recognition by investors that car rental companies might not be wiped out when the era of AV MaaS arrives.
We can see another reason why Hertz and Avis might want develop an association with a carpooling company. Carless carpoolers have a need to rent a traditional car for weekends and vacations where getting a car “on-demand” just isn’t good enough.
It is a natural fit for rental car companies as most of their cars are used for business purposes and sit idle on weekends. Indeed, they currently offer such steep discounts for weekend rental that we have observed their offices jammed on Friday afternoon with carless families jumping at the chance to get a cheap rental for the weekend.
The Rationale for Public Support
If the carpooling business could scale, it would provide significant “public goods” via reduced traffic congestion and reduced automobile pollution.
This would justify public support via congestion pricing, increasing the minimum requirement to use the HOV lane, and building transfer hubs where carpools and last-mile ride-shares could redistribute passengers.
The unexpected early success of AV R&D has given rise to the idea that automobile ownership will be replaced by MaaS within a decade. This realization will actually make congestion and pollution worse in the meantime.
The reason why is that AV forecasts are starting to be used to persuade government authorities rightfully so to kill off plans for expensive, long lasting infrastructure projects like new highway lanes, light rail extensions, and bus terminals. The only positive environmental benefit of AV hype would be if it was used to kill off plans for new city-center parking structures.
Our initial thought was that government-mandated congestion pricing would be the only way the carpooling business could scale. Congestion pricing would force the cost of solo commuting ever higher than the high cost of carpooling.
Now, we see congestion pricing as a first option primarily in Asia and Europe. At one time, the technology necessary to implement congestion pricing was crude. But now, real-time pricing is possible via “connected cars” and real-time cloud-based pricing platforms using an architecture similar to MZ’s (formerly Machine Zone) RTplatform™.
In the United States, we now view congestion pricing as a “doomsday” solution to be deployed a decade from now in the event that AVs show little promise in solving the congestion problem.
And, given that there are about 263 Million passengers vehicles registered in the United States, with about 17 million vehicles sold a year, it might take another ten years, or until 2037, until AV carpooling has scaled enough to end congestion.
In the meantime, scaling the carpooling business is one of the best options we have for reducing traffic congestion and automobile pollution before the era of AVs. And, support for carpooling won’t cost the government trillions of tax dollars. It may just take a boost in the HOV lane minimum from 2+ to 3+, which the State of California is considering for Highway 101 . If a carpooling company could show some success on its own in reducing congestion along 101, this could accelerate the State’s own plans to improve management of HOV lanes.
© Lawrence W. Abrams, 2017
On May 11, 2017, Netmarble Games had an IPO on the Korea KOSPI stock exchange.
Due to an enthusiastic demand by Korean, International, and Sovereign funds, the company was able to price the IPO at the high end range of 157,000 Korean won (KRW) / share, or approximately $138 USD / share based on an exchange rate of .00088 KRW / USD.
Within the first hour of trading, individual retail investors pushed the price up to 171,500 KRW. The stock closed the day at 162,000 KRW, making the funds, the underwriters, the company and its CEO Bang Jun-hyuk very happy.
Three days before trading began analyst Moon Ji-hyun with the Korean brokerage house of Mirae Asset Daewoo predicted that the company would exceed expectations for YoY revenue and profit doubling. She gave the stock a price target of 200,000 KRW, or a 27% increase from the IPO price.
Most other financial analysts and business reporters wrote positively about the company and its IPO.
We alone differed. (Disclosure: we have never held a position in the stock and do not intend to initiate one at anytime. We have not received any remuneration for our articles on Netmarble.)
Three weeks before the IPO, on April 18, 2017 we analysed the offering and concluded that IPO was “priced for perfection” meaning that the expectation of $1+ Billion USD in annual revenue from its newly released game Lineage 2: Revolution (L2R) was already built into the IPO price.
Below is a spreadsheet that summarized our prior analysis:
During the first two weeks post-IPO, three “imperfections” cropped up and the stock fell 9.6% from its IPO price to close at 142,000 KRW on Friday, May 26, 2017.
First, on the first day of trading on May 12th, a report surfaced that the Korean gaming authorities would not let minors play L2R until the company reduced the use of gambling (“gatcha”) mechanisms.
Second, three days later on May 15th it was reported that NCSoft, a rival Korean game company that created and owned the Lineage IP, planned a June 2017 release of a new game based on the same IP as Netmarble’s L2R. The fear was that NCSoft’s new game would draw users away from Netmarble’ s L2R.
Finally, a week later on May 17th, the stock suffered a one day slide of 7.8% from 157,000 KRW to 142,000 KRW despite booking a 111% and 172% YoY increases in sales and profit, respectively, as revealed in its 1Q17 earnings report.
The negative reaction by the stock market to these seemingly stellar financials is exactly what we predicted a month ago when we said that Netmarble’s IPO was priced for perfection at 157,000 KRW.
The market has confirmed our conclusion that Netmarble must book YoY revenue increases that EXCEED 111% if the stock is to move significantly past the IPO price.
Below we will present updated app store data confirming our prior prediction that the annualized revenue run rate (ARR) of Lineage 2: Revolution has fallen significantly since its late December 2016 release.
While still an impressive hit, L2R’s revenue in Korea for 2017 will not be $1+ Billion, but more like $600 MIllion.
We predict that the release of Netmarble’s 2Q17 financials, which should happen around August 17th, will confirm a less than doubling of YoY revenue. We predict that market will react negatively to that reality-check and the stock should be settle in around 105,000 KRW or 33% below the IPO price.
In the meantime, expect business reporters and financial analysts to continue to issue positive forward looking statements regarding the release of L2R in Japan and China, TV spots featuring Korean teen idols promoting L2R, new game releases in Korea, and hints of acquisitions in the USA and Europe.
Expect a number of one day pops in the stock following such announcements followed by a continued downward drift.
For example, on Monday May 29th, the stock popped 3.5% late in the session based on a favorable report by Lee Min-a, an analyst with KTB Investments and Securities. She downplayed the possible negative effects of the ban on playing L2R by minors and the NCSoft’s impending release of a game with similar IP.
The analyst reiterated a “buy” recommendation with a price target of 157,000 KRW, exactly the same as what funds paid for the IPO. To our way of thinking, this would be troubling to IPO investors.
This price target implies that the underwriters allowed the IPO to be price so high that brokerage analysts now admit that they see NO UPSIDE POTENTIAL for early investors for the remainder of 2017.
We suggest that you ignore all forward-looking statements coming from business writers and brokerage house financial analysts. Instead we recommend you follow real revenue trends in L2R and other Netmarble games that are freely available from such analytics companies as App Annie.
Also check around the 27th of each month to see if L2R is still among SuperData’s Top 10 global revenue ranking companies. The month that L2R falls out of the SuperData’s Top 10 will be strong confirmation of our negative prediction that the stock is headed toward 105,000 KRW.
App Store Evidence of Fading Revenue for Lineage 2: Revolution
On December 13, 2016 Netmarble launched a mobile role-playing game called Lineage ll: Revolution (L2R) based on licensed IP from NCSoft’s legendary PC game Lineage. According to app analytics company App Annie, the game immediately rose to #1 on the S. Korean iOS Apple revenue rank charts and has remain so to this day with the exception of two days in late May.
Just because L2R has remained ranked #1 on the S. Korean charts for the past four months, and likely will continue to do so for months, it is still possible that ARR has declined by $100s of Millions since release.
This is because there is a severe power function relation in the mobile game industry between ARR and revenue rank. Typically, at the top of the USA charts, there can be a $600 Million difference between the #1 and #2 ranked game, say $2.2 Billion ARR for #1 and $1.6 Billion ARR for #2.
For example, below is a power function we derived in an earlier paper on the Netmarble IPO for top ranked games on USA iOS app store.
For the S. Korean chart now, it is conceivable that the gap between #1 ranked L2R and the #2 ranked Everybody’s Marble, also by Netmarble published on Kakao, could be $700 Million or more.
In January 2017, Netmarble told the Korean press L2R generated $176.6 Million in revenue between mid-December 2016 and mid-January 2017. That translates into $2+ Billion ARR.
Obviously, a $2 Billion ARR is not sustainable for the full year of 2017. This is because, TOTAL Korean game revenue (mobile + console + PC) was only $4 Billion in 2016, according to Newzoo.
Netmarble has not made any official full year forecasts for L2R nor for the company as a whole. We do know that official 2016 revenue for the total company was $1.34 Billion.
In March 2017 analysts covering the company told The Korea Times that they expect revenue to double to $2.7 Billion, largely based on the early success of L2R. Assuming organic growth of around 25%, the implied 2017 forecast for L2R is around $1 Billion.
We present two pieces of evidence that even a $1 Billion in total revenue for 2017 is unlikely.
The first piece of evidence is an App Annie trend chart showing L2R download rank. Note that while L2R was ranked #1 in downloads for the first month since release, downloads have steadily dropped below #40 by late May 2017.
It is doubtful this drop off was caused by a drop off in advertising by Netmarble. It is more likely due to a lack of strong word-of-mouth by early players that this is a great game.
The other piece of evidence of a drop off in ARR comes from a monthly summary report put out by SuperData listing the top grossing mobile games globally for that month.
For February 2017, SuperData reported L2R was the top grossing game globally. But, for March, it reported that L2R dropped to #10. In April, it moved up slightly to #9 (See below).
L2R is no longer $2+ Million USD ARR game of January 2017 nor the $1+ Million USD ARR game of February 2017. More likely, its March and April ARR is in the range $600 Milion USD.
Valuing Netmarble Based on Realistic Expectations for L2R
At the IPO price of 157,000 KRW or $138 USD, the company was valued at $11.7 Billion USD.
Dividing that valuation by analysts forecasts for 2017 revenue of $2.7 Billion, we arrive at valuation of 4.3 time forward ARR. This ratio enables comparisons with market-derived valuation ratios of publicly-held companies. (see below)
For example, in another paper of ours on the Netmarble IPO, we derived a Valuation ratio for Com2uS of 2.61. Com2uS is a Korean-based mobile game company listed on KOSPI exchange. Com2uS is much better known than Netmarble due to its global hit mobile game Summoners War.
While Com2uS is growing slower than Netmarble, its future sales is more predictable. Based on this comparison, we concluded that Netmarble’s IPO was overpriced by 26%.
In the spreadsheet below, we also break down Netmarble’s 2017 overall revenue growth forecast into estimates of organic growth versus new sales from L2R — which we peg at $1 Billion.
The final spreadsheet presents “what if?” analysis of Netmarble’s value and stock price if L2R’s 2017 revenue is $600 Million instead of $1 Billion.
Note that when revenue forecasts are significantly cut back, there is usually a corresponding compression in valuation ratios. So, we built into our “what if?” analysis a compression of Netmarble’s valuation ratio from 4.3 to 3.5 times forward ARR.
We predict that the release of Netmarble’s 2Q17 financials, which should happen around August 17th, will confirm a less than doubling of YoY revenue. We predict that market will react negatively to that reality-check and the stock should settle in around 105,000 KRW or 33% below the IPO price.