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Zynga's Losing Bet to Not Pursue Gambling

Tickers in this article: FB ZNGA

NEW YORK ( TheStreet) -- Zynga actually managed to beat Wall Street estimates for its second-quarter but its stock tumbled Friday as the company announced it would no longer focus on online gambling in the U.S. That's one bet that Zynga is sure to lose.

Zynga, through its many social games, has built up a community of gamers, though ever shrinking, totaled 39 million daily active users at the end of the quarter, a drop of 45% year-over-year. With just 39 million users and shrinking, the company didn't have much going for it but Zynga Poker, its poker game, was viewed by investors as key to a turnaround.

Shares of Zynga plunged 14% on Friday to $3.01.

Online gambling has been legalized in Las Vegas and Atlantic City though it's still illegal on a federal level. Many bulls were expecting that the company would partner with a casino once the federal government approves online gambling (it almost certainly seems like it will though the timetable remains unclear), given that the company had talked up the prospect so heavily in the past.

As recently as late 2012, Zynga had filed for an application to the Nevada Gaming Control Board.

Cowen analyst Doug Creutz, who rates shares "Market Perform," notes that the decision to jettison online gambling in the U.S. removes a large portion of the "bull thesis" surrounding the stock. "Management indicated that while they will continue the real-money gaming trial they have going in the U.K., at this point they have no plans to pursue a license in the U.S," Creutz wrote in the note. "We think this is probably a wise move, focusing on business verticals they actually have experience in; however, it removes what we think was a substantial part of the bull-hope thesis on shares."

ZNGA ChartZNGA data by YCharts

It's quite puzzling that the company is going to keep its focus on real money gaming in the U.K., but not in the U.S., where it's arguably more well known. Yes, gaming laws are different in the U.S. than they are in the U.K., (Zynga currently partners with Bwin in the U.K.), but it's not a large distraction for a company that has struggled recently to produce social-gaming blockbusters. King's Candy Crush is now the most popular game on Facebook , and was even mentioned on Facebook's earnings call with CEO Mark Zuckerberg.

Credit Suisse analyst Stephen Ju, who rates shares "underperform," noted that Zynga's decision not to enter the U.S. gambling market would "sharpen management focus on what matters most - good content creation." With new CEO Don Mattrick saying he needs the next 90 days to craft a game plan amid volatility over the next two-to-four quarters, the decision to move away from something that seems like a sure thing is a curious one.