Candy Crush Maker King Digital Makes a Rocky Landing on the NYSE

Source: Thinkstock

Source: Thinkstock

After much fanfare and anticipation, the initial public offering of King Digital Entertainment (NYSE:KING) is here. Shares began trading on the New York Stock Exchange on Wednesday morning at $20.50, down about 8.9 percent from a $22.50 IPO price, and fell as low as $18.90 during the trading day. The trading day finished at $19.

The price action is somewhat anticlimactic, but also not necessarily surprising. It’s somewhat anticlimactic because King Digital entered a particularly fertile IPO market and was ostensibly set to capitalize on momentum for tech and Internet IPOs in general. According to CB Insights, the amount of investment dollars pouring into tech IPOs has increased fairly dramatically over the past few years, and dollar volume growth has outpaced IPO volume growth. Twitter’s (NYSE:TWTR) frenetic IPO is pretty much a symbol of this euphoria and the type of company that can capitalize on it.

King Digital is no Twitter, but it occupies a similar niche in the spectrum of investments. It is relatively small, new company; it anticipates rapid growth; it threatens to disrupt and lead a market; and it deals with mobile tech and social media, which are like the Wild West right now — basically, it’s a siren. King Digital, like Twitter and any number of tech and Internet IPOs over the past few years, is tempting investors into the rocks with the promise of outsized returns.

That’s not to say that it’s a trap. Like any investment, it’s a calculated risk. If you’re a nimble professional investor who can get in at the IPO price, history suggests that you’ve got a cash windfall coming your way. According to Renaissance Capital, the average IPO this year has returned 28.3 percent on its IPO price and 22 percent on its first day. That’s a hard bet to turn down without good reason.

The case for the average retail investor is a little more dubious, though. Early swings in stock price are often due to flows of fast, smart money — money managed by savvy professional traders who are usually much better informed than the average retail investor. These traders have an appetite for risk that most moms and pops don’t (or shouldn’t) have, and are trying to satisfy that appetite with more nebulous and speculative investments.

But King Digital bucked the trend, and the first-day pop didn’t come. This, Scott Sweet, the senior managing partner at IPO Boutique, told MarketWatch, “was’t surprising.” Analysts, pundits, and market watchers have dissected King Digital’s prospectus and decided that this company may not quite be a rocket ship to profit town. The prospectus revealed that after a year of rapid growth — in which revenues climbed from $22 million in the first quarter of 2012 to $602 million in the fourth quarter of 2013, and profit flipped from a loss of $1 million to a gain of $159 million — user growth slowed at the end of 2013.

Average monthly unique users increased 13 percent sequentially in the fourth quarter of 2013, but average monthly unique payers declined by 7 percent. Moreover, King Digital makes a vast majority of its money from Candy Crush Saga, its flagship game. The game accounted for 73 percent of gross bookings in the fourth quarter of 2013, but bookings for the game are down. This was complemented by bookings increases in other games, but the idea of diversification hasn’t offset worries about cash flow falling.

It’s worth pointing out that shares of Zynga (NASDAQ:ZNGA) were also trading lower on Wednesday. The two companies share many of the same headwinds, so what’s bad for King Digital is generally bad for Zynga, which has faced a myriad of problems since its own spectacular IPO. Like Twitter, Zynga has become a reference point in how tech and Internet IPOs can perform, surging one day and plummeting the next. Shares of Zynga are currently down nearly 50 percent from their IPO price, but the stock climbed nearly 50 percent in the first three months of trading before making its descent.

The threat of competition from King Digital is also a problem for Zynga. It looks like King Digital has done a better job monetizing mobile, getting about 70 percent of gross bookings from mobile.

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