The debate over whether we're seeing a new tech bubble has died down in recent weeks. It should heat up again this fall, as Zynga's IPO sets the stage for an even bigger debut: Facebook.
By Kevin Kelleher, contributor
FORTUNE — The debate that has raged for most of the year over whether we’re in a new tech bubble has grown quiet in recent weeks. But don’t worry, it’s just taken the summer off. It will be back this fall.
That much seems clear now that Zynga filed its IPO prospectus and given the world a peek at its financials. To recap, the social gaming company had revenue of $597 million and a net profit of $90 million. Unless its growth slows dramatically, Zynga’s revenue will easily top $1 billion this year. Contrast that with traditional gaming giant Electronic Arts ERTS , which is expected to see $4 billion in revenue this year, and you get an idea of Zynga’s promise.
Zynga isn’t the perfect IPO candidate – operating margins have been erratic, and there’s the issue of its dependence on Facebook – but it’s by far the strongest web startup to file this year. It has none of the red flags that plagued Groupon’s prospectus. In fact some are calling it the anti-Groupon. Proceeds from Zynga’s offering will go to the company, not insiders. Yet the company has $1 billion in cash. Even more impressive, it’s been generating cash since the fall of 2007: $326 million in 2010 and $103 million last quarter alone. This is a well-run, financially healthy company.
The big remaining question for Zynga is how underwriters and investors value the its IPO. Initial reports valued the company at $10 billion. It would be very considerate of Zynga to list at that price and leave money on the table, but it’s not going to happen. Remember that LinkedIn, which is expected to make $420 million this fiscal year, was worth $9 billion on its first day of trading. By that measure, Zynga could debut and see its value rise above $20 billion.
Zynga is unlikely to debut before Labor Day. With investors on vacation in July and August, the IPO market is too sleepy. But when Zynga does list, its valuation will measure just how big the tech IPO bubble is getting. And underwriters have an incentive to make Zynga’s IPO a success: The market is being orchestrated perfectly for a big Facebook IPO.
In fact, Wall Street has been priming the IPO pipeline for a Facebook IPO for months. First, there was RenRen RENN , the so-called Facebook of China. Then followed LinkedIn LNKD , a niche social network focused on professionals. Now comes Zynga, with its games built largely for the social platform that is Facebook.
But RenRen and LinkedIn have stumbled. RenRen rose as high as $24 on its first day and sank as low as $6.23 on June 24. LinkedIn rose as high as $122 on its first day then dropped as low as $60. Those declines poured cold water on talk of a tech bubble, suggesting that if investors were willing to lose their heads over web 2.0 startups, they’d come to their senses soon enough.
But Zynga is different. It doesn’t have the weakness of those earlier IPOs. Its financial health and promise of growth could, perversely, spur speculative buying that could spill over into other web stocks. In fact, this is already happening. On Friday, after Zynga filed its prospectus, LinkedIn rallied, rising as much as 6%. RenRen rose 5%, while other recent web IPOs also rose between 5% and 10%. Pandora P rose 12%.
All of this would set the stage for a spectacular IPO for Facebook. And if Facebook’s prospectus, like Zynga’s, doesn’t hold many red flags, things could get crazy. There will be adulatory profiles of startup founders and VC firms who first backed them – firms like Union Square Ventures and Andreessen-Horowitz. It won’t be 1999 all over again, but it will be a few steps away from a rational market and toward a mania mindset.
Of course, there are reasons why a mania might not come. There remain clouds on the economic horizon that could rain on the tech parade, or investors could simply insist on a reasonable valuation from Zynga. But given the pent-up demand for hot web stocks, that’s unlikely to happen. Zynga is on track to have a red-hot offering. That will be very good for Zynga and Facebook, but it may not be so good for the stock market at large.