Zynga is worth $1 billion? What am I missing?

In early january I joined some of my fellow Columbia students on the silicon valley trek to visit with some of the most notable companies in the tech space. The very first company we visited was Zynga, a network of gaming applications that are integrated with a variety of social networks. Although I had some familiarity with Zynga through their hit game "Mafia Wars" and "Farmville" on Facebook, I knew very little of the company prior to that first meeting on our trip. I was astonished to find out that Zynga generated $250 million in revenue in the past year and had been recently valued at $1 billion as per their latest $180 million round of VC funding. How is it possible that a Company whose flagship game involves the planting of virtual plants can be valued so highly? What was driving this success?

After some further digging, I discovered that not everything is as it seems in the world of social games. Michael Arrington, editor at TechCrunch, has a provocative view of companies like Zynga: "The real story isn’t the business success of these startups. It’s the completely unethical way that they are going about achieving that success." What has Mr. Arrington so displeased are the "scammy", 3rd party advertisers that Zynga is partnering with. These offers are ultimately responsible for generating a significant portion of their revenue. I am sure many of you have seen such offers but they go something like this- an ad pops up asking you take take a free IQ test to win a cash prize. The user then clicks on the ad and is then asked 4 basic questions. After filling in the answers, the user is asked to enter their cell phone # as well as a special code. That's the end of it. At least, as far as the user is concerned.

What the user doesn't know is that they have just entered into a subscription agreement with a mobile content distributor for $9.99 a month. By the time the user realizes what has happened, they have probably paid for a couple of months of this service. What makes all of this worse is the fact that the user isn't receiving any value added content whatsoever. It should be no surprise that this kind of thing still goes on in internet land...what should be surprising is the fact that some of the biggest companies in the web are involved- Facebook, Zynga, Myspace etc. Nobody knows for sure how much of Zynga's revenues are derived from these offers but estimates range from 30-50%. And for those who think Facebook is not responsible in any of this, remember that these offers are being disseminated on their site and that Zynga paid them $50 million last year to peddle their social games. (And everyone was so amazed at how quickly Facebook became profitable!)

Let me be clear though- I have a lot of respect for what Zynga has created and believe social games are here to stay. I just think people need to know where a lot of this revenue is coming from. If users want to buy virtual gifts for their friends in a Zynga game, hats off to them. But I do have a problem with users being duped into mobile subscriptions that they don't want. I think there is a lot of great mobile content out there that warrants a monthly subscription fee, but the user should know exactly what they are paying for. If Zynga doesn't do more to remove these "scammy" offers, they could start to lose users and eventually, their reputation.