M&A – The Business of Social Games and Casino

Lessons and insights from social casino and gaming M&A activity in Q1

Last quarter saw some interesting deals in the gaming space. Several of the deals, and non-deals, suggest trends that are likely to continue in 2019.

Playtika acquires Wooga rather than another social casino

The most interesting deal was Playtika acquiring Wooga for ~$100MM. The thought-provoking element to me was that Playtika decided to invest outside the social casino space. In the past, acquisitions such as House of Fun, Buffalo Studios, etc., were focused on explanding Playtika’s social casino portfolio. Wooga, however, has no presence in the social casino space, instead is a casual, primarily puzzle, game developer. Playtika’s move suggests one of the following:

Given the stagnant user numbers in social casino, there are better growth opportunities in other genres.
Valuations in casino are too high compared with growth potential in the space.
Most likely, social casino companies will continue to expand (and acquire) in casino but also are maturing to want a more robust and diversified portfolio (consistent with Aristocrat’s acquisition in 2017 of Plarium at the same time it purchased Big Fish).

Zynga spent $560+ million for one title, Empires & Puzzles

Zynga’s $560MM acquisition of 80 percent of Small Giant Games (thus valuing the company at $700MM) shows CEO Frank Gibeau’s strategy of focusing on controlling large, long-term franchises. Small Giant’s core product, Empires & Puzzles, is the 13th highest grossing title on mobile. Empires & Puzzles is Small Giant’s only game live, they are not known to have any other big projects in the pipeline (unlike Natural Motion, which had Dawn of Titans in the works when Zynga acquired it), so the acquisition is to add Empires & Puzzles to Zynga’s list of franchises.

This strategy is consistent with what Gibeau learned at EA, that franchises transform a game company from a hit driven business, with wide revenue fluctuations, to a company with sustainable and predictable growth (and thus higher valuation). He is collecting evergreen franchises to try to turn Zynga into the EA of mobile. These franchises include his purchase of Gram Games, which provided the hypercasual franchise Merge Dragons, and Harpin, which gave him Patience – Solitaire. In addition, acquiring rights to Star Wars, Harry Potter and Game of Thrones for gaming creates additional franchise opportunities. Coupled with existing Zynga franchises Zynga Poker, Words with Friends, CSR Racing and to a lesser extent Hit It Rich!, Wizard of Oz Casino Slots and Farmville, Zynga now has a stable revenue base to build on.

Epic raises $1.25BN at a valuation of $5BN-$6BN, showing the breadth and value of its business

Last October, Epic raised $1.25 billion from KKR, Kleiner Perkins, Vulcan Capital and other blue chip investors at a valuation probably well over $5 billion. What is most impressive about Epic is how it has consistently succeeded in different parts of the game industry. While companies frequently are unable to repeat successes in the gaming space or expand beyond their expertise, Epic seems to do it at ease. Fortnite is only the latest in a string of successes that I find incredibly surprising, given the challenges other companies in the game industry experience. I remember Epic when they were still a small North Carolina company, largely an indie developer. Their odds-defying achievements include (and I am probably forgetting some):

I first learned about Epic from a CNN story (I think 1998) about someone who created a first person shooter (FPS) in their basement that was soon to be released but getting much buzz. At the time, the FPS market was dominated by id Software (Doom) and all the other FPS were fringe products. They might have a loyal following, like Bungee’s Marathon, but nobody challenged id. I did not expect Epic to launch the top FPS but they did. Unreal turned into the biggest FPS for years, making id an afterthought.
With the success of Unreal, Epic decided to license its game engine (creatively branded the Unreal Engine). At the time, the game engine industry was awful. Companies like NDL (Emergent) scraped by to make payroll as no major developers were using third party engines. There was very much a not invented here mentality in the video game industry. Fast forward ten years later and Epic built a game engine company that powers many hit products and is worth hundreds of millions of dollars.
Most successful games are followed with…not another successful game. The video game industry is known as being hit driven and even the strongest companies have had difficulty replicating their big successes. While Epic surprised me by successfully creating a huge franchise with Unreal, it did not seem likely that they could ever replicate their success. Then they launched Gears of War in 2006 and ended up with a bigger franchise than Unreal.
I have written several times about the challenge of traditional gaming companies competing successfully in the free to play space, most recently Nintendo. Not only is much of what a game company learned in the traditional videogame space worthless in free to play gaming, it actually hinders the ability to create a successful F2P product. Outside of acquisition, I did not foresee a traditional company succeeding in F2P. Then Epic, which had built its business around traditional console game (Unreal, Gears, etc), launched a title you may have heard of, Fortnite, which has now generated billions of dollars. Not only did it succeed in F2P, it helped build a new F2P monetization mechanic. Yet again Epic proved me wrong.

This fundraising deal shows Epic is arguably the strongest company in the gaming sector and one that can expand its footprint into other gaming areas. Although I consider the Google/Apple duopoly over mobile gaming unshakeable, same for Steam on PC, it is hard to bet against Epic. Its ability to expand from Unreal to one of the largest core gaming companies also suggest that Fortnite will not be a one-hit wonder but we should anticipate more Epic titles dominating free to play gaming.

What Q4 means for 2019

The big deals in Q4 suggest several M&A trends I expect to see in 2019:

There will be a pick-up in consolidation among social casino companies, but these companies will also look at growing in other game genres.
The major game companies (all genres and all platforms) will focus acquisition efforts on acquiring franchises, not talent.
Epic will continue to defy the odds

Key takeaways

The three most important deals in the gaming space in Q4 2018 were Zynga’s acquisition of Small Giant Games, Playtika’s acquisition of Wooga and a $1.25BN investment in Epic at a valuation of $5BN-$6BN
Playtika’s deal shows that social casino companies are looking outside the space to grow
Zynga’s deal demonstrates the value of franchises is increasing in mobile gaming

Bayes’ Theorem Part 4: Making the right decisions in corporate development

I previously wrote about how Bayes’ Rule is the foundation of good decision making and last month posted about how it could be applied to your green light process, today I will address another application of Bayes’ Rule: Applying it to corporate development (mergers and acquisitions). As discussed in my first two posts about Bayes’ Theorem, it shows how to use past data to optimize your decision making process. There are three areas of corporate development in which Bayes’ Rule can help optimize your strategy: building a company for exit, selling to the right partner and acquiring companies that improve your value.

Creating a company for exit

Many founders start and build their business for eventual exit (e.g., sale or IPO) but if they fail to take into account Bayes’ Rule they are not optimizing their chances for a successful one. If your goal in launching a business (or pivoting your business) is to sell it, then you need to look at past data. The best indicator of whether you will be able to sell—and for how much—is other M&A (mergers and acquisitions) activity. You may have a great idea for a business, and it may be unique, but if it is in a space where there is no M&A activity you are not likely to sell eventually the company (however, that is not to say you should not start it, if your goal is something other than a sale).

To show how Bayes’ Rule applies, let’s consider two opportunities. One is a building a game company in a space where 60 percent of the companies are selling to larger companies. You have a decent idea and good team but it is not great; looking objectively you have a 50 percent chance of success. Conversely, you have a fantastic idea for a different type of game company. You are convinced that in that space you have a 90 percent chance of success. Buyers, however, are not showing much activity there and only one percent of companies in that space have an exit. Bayes’ Rule shows that if your goal is an exit, then you should launch the company where you have a 50 percent chance of success (you will have a 30 percent chance of selling your company versus less than 1 percent for starting the company that is much more likely to succeed).

My personal experience reaffirms this math. At Merscom, we were a very successful casual game publisher (downloadable games targeting women sold primarily on Big Fish and Real) . There, however, was not much M&A activity in the space. So we decided to abandon a profitable, highly successful business in 2009 to enter the social gaming space because there was an acquisition almost every week. A few months after our pivot, we were acquired by Playdom, and a few months after we were acquired, Playdom was acquired by Disney.

Continue reading “Bayes’ Theorem Part 4: Making the right decisions in corporate development”

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Playtika acquires Wooga rather than another social casino

Zynga spent $560+ million for one title, Empires & Puzzles

Epic raises $1.25BN at a valuation of $5BN-$6BN, showing the breadth and value of its business

What Q4 means for 2019

Key takeaways

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Creating a company for exit

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Think about your customer

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