Unity Software Inc.'s (NYSE:U) Development Needs More Work and is Pressured by Competitors - A Qualitative Analysis

Unity Software Inc. (NYSE:U) is a US$30b market cap SaaS platform that allows developers to create 2D, 3D games and programs. The platform seems to be versatile, beginner-friendly, and has a large library of learning resources and documentation. Today, we will evaluate the business model of the company and take a dive into the fundamentals.

View our latest analysis for Unity Software

The Business

Unity offers the services of their platform to big and small developers for a fee. The company has a project-incubator friendly pricing, where developers can use their platform at a low/no cost until they start scaling and attracting customers. Get a better picture of their pricing models HERE.

Other than lenient pricing, the company helps developers by offering them free guided learning resources and well-structured documentation. This accelerates the development rate and therefore lowers costs for devs. Their educational resources can be found HERE.

The platform focuses on being versatile and making it easy for developers to build different projects. This approach opens the road for future expansion possibilities, as 3D objects are brought closer to consumers in virtual/mixed reality or desktop, Unity will have a stake in the market.

Unfortunately, this product is a work in progress, and there seems to be a lot of work that needs to be done under the hood. In the last Unity Gaming Services trailer, most of the developers that are familiar with the platform expressed discontent with the lack of quality and bug abundance of Unity. This is something that impacts everyone, and makes the development process longer and harder. If this is truly the level of discontent that the majority of developers feel, then it will be harder to onboard new devs, finish projects, and old devs will gladly switch to a better provider. It seems that management is trying to optimize sales while their product needs a lot of work, this is doable, but the added risk is something investors could do without.

Even though Unity is currently one of the top platform for game development, this landscape is quickly shifting and new technologies and competitors will put pressure on the stock.

Some main competitors include Unreal Engine, Godot, Amazon Lumberyard, GDevelop. Also, tech companies are investing a large amount into mobile games and their own proprietary software for game development. This has the effect of shrinking the realistic total addressable market for Unity, meaning that the company might have to focus on small to mid level developers and help them make blockbuster games, allowing them to share in the success.

Now we will see how Unity is driving income!

Fundamentals

Last week saw the newest yearly earnings release from Unity, an important event in the company's journey to build a stronger business.

The results were about what investors would expect for a growing company:

• Revenues of US$1.1b were in line with expectations, and grew 44% from last year.
• Unity Software lost US$1.89 a share in the process and posted a Net Income loss of US$-532.6m.
• Cash Flows are closer to zero, with a loss of US$-153m.

Guidance was also provided by management, and for 2022, Unity expects revenues around US$1.5b, implying a revenue growth rate of 25%. For a SaaS platform, this level of growth gives investors the confidence to continue with a 29.6 EV to Sales and a forward EV to Sales (calculated from guidance) of 24x.

We collected the latest post-earnings statutory consensus estimates to see what could be in store for next year.

Taking into account the latest results, the current consensus from Unity Software's 14 analysts for revenues is also US$1.50b in 2022, which would reflect either that analysts came up with the same numbers as management or possibly are just taking management's word for it. Note that is SaaS companies with subscription services, revenues are relatively easy to predict, but big surprises can happen from time to time, especially if they have a new large client, or an old one leaves.

Losses are expected to hold steady at around US$1.81.

The average price target fell 9.3% to US$165, which implies a forward EV to Sales of about 32x. This implies that the stock is underpriced by some 34%. Note that these are analysts estimates for pricing, they do not necessarily reflect the value of the business.

It could also be instructive to look at the range of analyst estimates, to evaluate how different the outlier opinions are from the mean. Currently, the most bullish analyst values Unity Software at US$194 per share, while the most bearish prices it at US$115. This shows there is still a bit of diversity in estimates, but analysts don't appear to be totally split on the stock as though it might be a success or failure situation.

If you want to get a general picture of the Intrinsic Value of Unity, try our valuation model HERE.

Key Takeaways

In summary, the platform is a work in progress but very capable of making different types of games and experiences. The company is in a very competitive landscape and tech developments as well as acquisitions can quickly change things. The business model is expected to become profitable, but there is a good deal of expansion needed first.

The fundamentals are growing, consistent, and the company is stable. The future period will be marked by the challenge to break into profitability, which will signal the reaching of a major milestone and the complete validation of the business model.

It is also worth noting that we have found 4 warning signs for Unity Software that you need to take into consideration.

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Simply Wall St analyst Goran Damchevski and Simply Wall St have no position in any of the companies mentioned. This article is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.