UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

FORM 10-Q

 

(Mark One)

For the quarterly period ended March 31, 2016

OR

For the transition period from                     to                   

Commission File Number: 001-35375

 

Zynga Inc.

(Exact name of registrant as specified in its charter)

 

 

 

(855) 449-9642

(Registrant’s telephone number, including area code)

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No  o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  x    No  o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

 

Indicate by check mark whether the registrant is a shell company (as defined in Exchange Act Rule 12b-2).    Yes  o    No  x

As of April 15, 2016, there were 738,160,216 shares of the Registrant’s Class A common stock outstanding, 113,461,445 shares of the Registrant’s Class B common stock outstanding and 20,517,472 shares of the Registrant’s Class C common stock outstanding.

 

 

 

 

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Zynga Inc.

Form 10-Q Quarterly Report

TABLE OF CONTENTS

 

Zynga, the Zynga logo and other trademarks or service marks of Zynga appearing in this report are the property of Zynga. Trade names, trademarks and service marks of other companies appearing in this report are the property of their respective holders.

References in this report to “DAUs” mean daily active users of our games, “MAUs” mean monthly active users of our games, “MUUs” mean monthly unique users of our games, “ABPU” means average daily bookings per average DAU and “MUPs” mean monthly unique payers of our games. Unless otherwise indicated, these metrics are based on internally-derived measurements across all platforms on which our games are played. For further information about ABPU, DAUs, MAUs, MUPs, and MUUs as measured by us, see the section titled “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Key Metrics.”

 

 

 

 

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SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

This Quarterly Report on Form 10-Q contains forward-looking statements. In some cases you can identify these statements by forward-looking words such as “believe,” “may,” “will,” “might,” “estimate,” “continue,” “anticipate,” “intend,” “could,” “should,” “would,” “project,” “plan,” “outlook,” “target,” “expect,” or similar expressions, or the negative or plural of these words or expressions. These forward-looking statements include, but are not limited to, statements concerning the following:

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These forward-looking statements are subject to a number of risks, uncertainties and assumptions, including those described in “Part II. Item 1A. Risk Factors” of this Quarterly Report on Form 10-Q. Moreover, we operate in a very competitive and rapidly changing environment and industry. New risks may also emerge from time to time. It is not possible for our management to predict all of the risks related to our business and operations, nor can we assess the impact of all factors on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements we may make. The achievement or success of the matters covered by such forward-looking statements involves significant

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risks, uncertainties and assumptions.  In light of these risks, uncertainties and assumptions, the forward-looking events and circumstances discussed in this Quarterly Report on Form 10-Q may not occur and actual results could differ materially and adversely from those anticipated, predicted or implied in the forward-looking statements.

You should not rely upon forward-looking statements as predictions of future events. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee that the future results, levels of activity, performance or events and circumstances reflected in the forward-looking statements will be achieved or occur, and reported results should not be considered as an indication of future performance.  Factors that could cause or contribute to such differences include, but are not limited to, those described in the section titled “Risk Factors.”  Except as required by law, we undertake no obligation to update any forward-looking statements for any reason to conform these statements to actual results or to changes in our expectations.

 

 

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PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

Zynga Inc.

Consolidated Balance Sheets

(In thousands, except par value)

(Unaudited)

 

 

See accompanying notes.

 

 

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Zynga Inc.

Consolidated Statements of Operations

(In thousands, except per share data)

(Unaudited)

 

 

See accompanying notes.

 

 

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Zynga Inc.

Consolidated Statements of Comprehensive Income (Loss)

(In thousands)

(Unaudited)

 

 

See accompanying notes.

 

 

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Zynga Inc.

Consolidated Statements of Cash Flows

(In thousands)

(Unaudited)

 

 

See accompanying notes.

 

 

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Zynga Inc.

Notes to Consolidated Financial Statements

(Unaudited)

 

1. Overview and Summary of Significant Accounting Policies

Organization and Description of Business

Zynga Inc. (“Zynga,” “we” or “the Company”) develops, markets, and operates social games as live services played over the Internet and on social networking sites and mobile platforms. We generate revenue through the in-game sale of virtual goods and through advertising. Our operations are headquartered in San Francisco, California, and we have several operating locations in the U.S., as well as various international office locations in North America, Asia and Europe.

We completed our initial public offering in December 2011 and our Class A common stock is listed on the NASDAQ Global Select Market under the symbol “ZNGA.”

Basis of Presentation and Consolidation

The accompanying consolidated financial statements are presented in accordance with United States generally accepted accounting principles (“U.S. GAAP”). The consolidated financial statements include the operations of us and our wholly-owned subsidiaries. All significant intercompany balances and transactions have been eliminated in the consolidation.

The accompanying interim consolidated financial statements and these related notes should be read in conjunction with the consolidated financial statements and related notes included in our Annual Report on Form 10-K for the year ended December 31, 2015.

Unaudited Interim Financial Information

The accompanying interim consolidated balance sheet as of March 31, 2016, the interim consolidated statements of operations, the interim consolidated statements of comprehensive income (loss) for the three months ended March 31, 2016 and 2015, the interim consolidated statements of cash flows for the three months ended March 31, 2016 and 2015 and the related footnote disclosures are unaudited. These unaudited consolidated interim financial statements have been prepared in accordance with U.S. GAAP. In management’s opinion, the unaudited consolidated interim financial statements have been prepared on the same basis as the audited consolidated financial statements and include all adjustments of a normal recurring nature necessary for the fair presentation of the Company’s statement of financial position and operating results for the periods presented. The results for the three months ended March 31, 2016 are not necessarily indicative of the results expected for the full fiscal year or any other future period.

Use of Estimates

The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts in the consolidated financial statements and notes thereto. Significant estimates and assumptions reflected in the financial statements include, but are not limited to, the estimated lives of virtual goods that we use for revenue recognition, useful lives of property and equipment and intangible assets, accrued liabilities, income taxes, accounting for business combinations, stock-based expense and evaluation of goodwill, intangible assets, and long-lived assets for impairment. Actual results could differ materially from those estimates.

Changes in our estimated average life of durable virtual goods during the three months ended March 31, 2016 for various games resulted in an increase in revenue and income from operations of $2.6 million, which is the result of adjusting the remaining recognition period of deferred revenue generated in prior periods at the time of a change in estimate. We also recognized $1.3 million of revenue and income from continuing operations in the three months ended March 31, 2016 due to changes in our estimated average life of durable virtual goods for games that have been discontinued as there is no further service obligation after the closure of these games. These changes in estimates resulted in a $0.01 per share impact on our reported earnings per share for the three months ended March 31, 2016.

Recent Accounting Pronouncements

In May 2014, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2014-09, “Revenue from Contracts with Customers (Topic 606),” which requires revenue to be recognized when promised goods or services are transferred to customers in an amount that reflects the consideration that is expected to be received for those goods or services. ASU

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2014-09 supersedes the existing revenue recognition guidance in “Revenue Recognition (Topic 605)”. In July 2015, the FASB voted to amend ASU 2014-09 by approving a one-year deferral of the effective date as well as allowing early adoption as of the original effective date. Accordingly, the Company may adopt the standard in either the first quarter of 2017 or 2018. In March 2016, the FASB issued ASU 2016-08, “Revenue from Contracts with Customers (Topic 606): Principal versus Agent Considerations (Reporting Revenue Gross versus Net),” which clarifies the implementation guidance on principal versus agent consideration in determining whether an entity controls a specified good or service before it is transferred to the customer. We are currently in the process of evaluating the timing of adoption of ASU 2014-09 and ASU 2016-08 as well as the impact on our consolidated financial statements.

In September 2015, the FASB issued ASU 2015-16, “Business Combinations (Topic 805): Simplifying the Accounting for Measurement-Period Adjustments,” which requires an acquirer in a business combination to recognize measurement-period adjustments during the period in which adjustment amounts are determined rather than retrospectively, including the effect on earnings of any amounts that would have been recorded in previous periods if the accounting had been completed as of the acquisition date. This standard will be applied prospectively to adjustments to provisional amounts that occur after the effective date. This standard was effective for the Company beginning in the first quarter of 2016 and did not have an impact on our financial statements.

 

In February 2016, the FASB issued ASU 2016-02, “Leases (Topic 842),” which requires a lessee to recognize assets and liabilities on the balance sheet for leases with lease terms greater than 12 months. For lessors, accounting for leases will remain substantially the same as in prior periods. The standard is effective in the first quarter of 2019 and early adoption is permitted. While the Company expects adoption of this new standard to increase reported assets and liabilities, we are currently in the process of evaluating the timing of adoption of ASU 2016-02 as well as the full impact on our consolidated financial statements.

 

In March 2016, the FASB issued ASU 2016-09, “Compensation – Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting,” to simplify the accounting for share-based payment transactions, including income taxes and classification in the statement of cash flows. It also provides an option to recognize gross share-based compensation expense with actual forfeitures recognized as they occur. The standard is effective in the first quarter of 2017 and early adoption is permitted. We are currently in the process of evaluating the timing of adoption of ASU 2016-09 as well as the impact on our consolidated financial statements. 

 

2. Marketable Securities

The following tables summarize our amortized cost, gross unrealized gains and losses and fair value of our available-for-sale investments in marketable securities (in thousands):

 

 

 

For more detail on our method for determining the fair value of our assets, see Note 3 – “Fair Value Measurements”.

The estimated fair value of available-for-sale marketable securities, classified by their contractual maturities was as follows (in thousands):

 

 

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Changes in market interest rates and bond yields caused certain investments to fall below their cost basis, resulting in unrealized losses on marketable securities. As of March 31, 2016, we had unrealized losses of $5 thousand related to marketable securities that had a fair value of $29.8 million. As of December 31, 2015, we had unrealized losses of $0.1 million related to marketable securities that had a fair value of $199.1 million. None of these securities were in a material continuous unrealized loss position for more than 12 months.

As of March 31, 2016 and December 31, 2015, we did not consider any of our marketable securities to be other-than-temporarily impaired. When evaluating our investments for other-than-temporary impairment, we review factors such as the length of time and extent to which fair value has been below its cost basis, the financial condition of the issuer, our ability and intent to hold the security to maturity and whether it is more likely than not that we will be required to sell the investment before recovery of its cost basis.

 

 

3. Fair Value Measurements

Our financial instruments consist of cash equivalents, short-term marketable securities and accounts receivable. Accounts receivable, net is stated at its carrying value, which approximates fair value.

Cash equivalents and short-term marketable securities, consisting of money market funds, U.S. government and government agency debt securities and corporate debt securities, are carried at fair value, which is defined as an exit price, representing the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between knowledgeable and willing market participants.

Our contingent consideration liability represents the estimated fair value of the additional consideration payable in connection with our acquisitions of Rising Tide Games, Inc. (“Rising Tide Games”) and Zindagi Games, Inc. (“Zindagi Games”). The amount payable is contingent upon the achievement of certain performance milestones. We estimated the acquisition date fair value of the contingent consideration payable using discounted cash flow models, and applied a discount rate that appropriately captured a market participant’s view of the risk associated with the obligations. The significant unobservable inputs used in the fair value measurement of the acquisition-related contingent consideration payable were forecasted future cash flows and the timing of those cash flows and the risk-adjusted discount rate. Significant changes in actual and forecasted future cash flows may result in significant charges or benefits to our future operating expenses.

In the third quarter of 2015, we acquired Rising Tide Games. Under the terms of the agreement, the contingent consideration may be payable based on the achievement of certain future performance targets during the three year period following the acquisition date. We initially estimated the acquisition date fair value of the contingent consideration payable using discounted cash flow models, and applied a risk-adjusted discount rate that appropriately captured a market participant’s view of the risk associated with the obligations. In the first quarter of 2016, we updated this analysis and recorded the change in estimated fair value of the contingent consideration liability as an expense of approximately $2.0 million within Research and Development in our consolidated statement of operations. The current contingent consideration liability is $20.5 million; however, the maximum contingent consideration that could be earned and payable by us is $140.0 million.

In the first quarter of 2016, we acquired Zindagi Games. Under the terms of the agreement, the contingent consideration may be payable based on the achievement of certain future performance targets during the three year period following the acquisition date. The current contingent consideration liability is $1.3 million, however, the maximum contingent consideration that could be earned and payable by us is $60.0 million.

Fair value is a market-based measurement that should be determined based on assumptions that knowledgeable and willing market participants would use in pricing an asset or liability. The valuation techniques used to measure the fair value of the Company’s debt instruments and all other financial instruments, all of which have counterparties with high credit ratings, were valued based on quoted market prices or model-driven valuations using significant inputs derived from or corroborated by observable market data. We use a three-tier value hierarchy, which prioritizes the inputs used in measuring fair value as follows:

Level 1 — Observable inputs that reflect quoted prices (unadjusted) for identical assets or liabilities in active markets.

Level 2 — Includes inputs, other than Level 1 inputs, that are directly or indirectly observable in the marketplace.

Level 3 — Unobservable inputs that are supported by little or no market activity.

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The composition of our financial assets and liabilities among the three Levels of the fair value hierarchy are as follows (in thousands):

 

 

 

 

The following table presents the activity for the three months ended March 31, 2016 related to our Level 3 liabilities:

 

 

 

4. Property and Equipment

Property and equipment consist of the following (in thousands):

 

 

During the fourth quarter of 2015, we completed the exit of one of our data centers in Santa Clara, and initiated the sale of certain computer data center equipment, resulting in the assets meeting held for sale criteria. Accordingly, these assets were written down to their fair value and reclassified from property and equipment to other current assets, with $83.9 million and $80.7 million being reclassified from computer equipment and accumulated depreciation respectively, for a net amount of $3.2 million. The $3.2 million reflects the fair value of the assets less estimated costs to sell. During the first quarter of 2016, $0.4 million of the assets meeting held for sale criteria were sold.

 

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5. Acquisitions

On January 1, 2016, we acquired Zindagi Games, a provider of social games, for purchase consideration of approximately $13.8 million, which consisted of cash paid of $12.5 million (net of prepaid compensation expense of $2.5 million) and contingent consideration with a fair value of $1.3 million. The contingent consideration may be payable based on the achievement of certain future performance targets during the three year period following the acquisition date and could be up to $60.0 million. We will record changes in the fair value of contingent consideration liabilities within operating expenses in our consolidated statement of operations each future reporting period.

For further details on our fair value methodology with respect to contingent consideration liabilities, see Note 3 – “Fair Value Measurements”.

The following table summarizes the purchase date fair value of net tangible and intangible assets acquired from Zindagi Games (in thousands, unaudited):

 

 

Goodwill, which is deductible for tax purposes, represents the excess of the purchase price over the fair value of the net tangible and intangible assets acquired, and is primarily attributable to the assembled workforce of the acquired business and expected synergies at the time of the acquisition.

 

 

 

6. Goodwill and Other Intangible Assets

Changes in the carrying value of goodwill from December 31, 2015 to March 31, 2016 are as follows (in thousands):

 

 

The details of our acquisition-related intangible assets as of March 31, 2016 are as follows (in thousands):

 

 

The details of our acquisition-related intangible assets as of December 31, 2015 are as follows (in thousands):

 

 

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These assets were, and continue to be, amortized on a straight-line basis.

 

As of March 31, 2016, future amortization expense related to the intangible assets is expected to be recognized as shown below (in thousands):

 

 

 

 

7. Income Taxes

The expense from income taxes increased by $0.9 million in the three months ended March 31, 2016 as compared to the same period of the prior year. This increase was primarily attributable to an increase in foreign tax expense of $0.9 million related to a change in our jurisdictional mix of earnings and uncertain tax positions.

Once the Company is profitable, we expect our global effective tax rate to be less than the U.S. statutory income tax rate.

 

 

8. Other Current Liabilities

Other current liabilities consist of the following (in thousands):

 

 

Accrued compensation liability represents employee bonus and other payroll withholding expenses. Accrued restructuring liability represents amounts payable related to our restructuring plans. Other current liabilities include various expenses that we accrue for transaction taxes, customer deposits and accrued vendor expenses.

 

9. Restructuring

During the three months ended March 31, 2016, we recorded total restructuring charges of $0.5 million which were classified within our consolidated statement of operations as follows: Research and Development $0.1 million and General and Administrative $0.4 million.

Q2 2015 Restructuring Plan

During the three months ended June 30, 2015, our board of directors authorized, and we implemented a restructuring plan that included a reduction in work force as part of the overall plan to reduce the Company’s long term cost structure. As a result of ongoing initiatives associated with restructuring, we recorded a charge of $0.5 million in three months ended March 31, 2016, which is included in operating expenses in our consolidated statement of operations and comprised of lease and contract termination costs. The remaining liability related to our Q2 2015 restructuring plan as of March 31, 2016 was $25.1 million and is expected to be paid out over the next 6.2 years.

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The following table presents the activity for the three months ended March 31, 2016 related to the Q2 2015 restructuring plan (in thousands):

 

 

Q1 2014 Restructuring Plan

The following table presents the activity for the three months ended March 31, 2016 related to the Q1 2014 restructuring plan (in thousands):

 

 

The remaining liability of $1.5 million is expected to be paid out in 2016.

Other Plans

The following table presents the activity for the three months ended March 31, 2016 related to all other remaining historical restructuring plans from prior years (in thousands):

 

 

The remaining liability of $0.1 million, offset by sublease income receivable of $0.2 million, is expected to be paid out over the next 1.6 years. The sublease income is expected to be received in the second quarter of 2016.

 

 

 

10. Stockholders’ Equity

We recorded stock-based expense related to grants of employee and consultant stock options, restricted stock and restricted stock units (“ZSUs”) in our consolidated statements of operations as follows (in thousands):

 

 

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The following table shows stock option activity for the three months ended March 31, 2016 (in thousands, except weighted-average exercise price and weighted-average contractual term):

 

 

The following table shows a summary of ZSU activity for the three months ended March 31, 2016 (in thousands, except weighted-average grant date fair value):