Can Unity Software Stock 10x?

Unity Software Inc (NYSE:U) more than doubled its stock price in its first year on the public market. It’s easy to see why – the company’s Unity game engine is licensed to some of the most popular video games and applications on the planet. It’s a foundation of 2D, 3D, AR, and VR games and simulations.

This fuels popular games like Dead Trigger, Hearthstone, Among Us, Pokemon Go, and Final Fantasy IX. Still, there’s plenty of competition in the market.

There are plenty of good signs that the company can maintain its growth rate over the next decade but can Unity stock 10x?

Meta Platforms (NASDAQ:FB) is a serious threat to the investment thesis and simultaneously a tailwind. Certainly, Meta has its own platform for Facebook Horizons, but Meta Platforms subsidiary Oculus still supports Unity development in its closed ecosystem.

What does this all mean for Unity shareholders?

The Video Game & Animation Markets Are Massive

The business of video games grew rapidly over the past few decades to create an $85.86 billion market size in the U.S. alone. This makes North America a large player in the $268.8 billion global video game industry.

But development isn’t cheap – it can cost up to $500,000 or more just to get a basic game out. And that’s just an indie developer; top-tier studios producing AAA games in franchises like Grand Theft Auto or Final Fantasy often spend over $100 million up to $300 million or more to release a game. These expenses rank among the budgets for the most expensive Hollywood blockbusters.

Even without animated cut scenes with voice talent, you must design worlds, characters, a user interface, and much more while ensuring the application is safe. Nearly all modern games include a multiplayer component, and that makes them vulnerable to attacks.

In fact, video games are also part of a large $270 billion animation industry. The lines between gaming and animation continue to blur as Vtuber culture grows through the use of animated avatars in apps like VRChat, which runs on Unity (U) to enable fully personalized 3D VR avatars.

How Unity Pivoted To Become A Gaming Engine

Unity was initially founded in 2004 in Copenhagen, Denmark as a video game development company. Its first game, GooBall, was a commercial flop, but the studio realized the potential of the engine it created. At the time, video game developers largely had to develop their own animation, lighting, physics, sound, and rendering from scratch.

By licensing its game development engine to other studios, Unity sought to democratize game development. It bundled all its tools for cross-platform development into one suite that developers could use to create a virtual experience across any platforms.

This helped the company quickly expand, and the Unity game engine is now powering over half of all console, PC, and mobile games around the globe. It also developed tools for in-app purchases, cross-platform play, in-game communications, and ad integration.

Offering a complete ecosystem saves its development partners time, money, and other resources that can instead be dedicated to resolving more complicated tasks to create richer, more immersive virtual experiences. And as visual elements expanded beyond gaming into other realms, Unity pivoted into the general application market.

How Does Unity Make Its Money?

Unity has three business units:

1. Create Solutions, which includes its game engine and development tools,
2. Operate Solutions, which encompasses revenue-sharing and usage-based plans on its add-on services, and
3. Strategic Partnerships, which is its revenue from software and hardware partners.

In total, these segments brought in $794.7 million in revenue in the first nine months of 2021. That represents a 44 percent year-over-year increase for the period and explains why the stock briefly jumped over $200 per share.

It’s biggest year-over-year revenue growth of 53 percent occurred in its Operate segment, which is encouraging, as it shows the company understands how to upsell its client base to generate recurring revenue.

By generating 40 percent revenue growth, Unity is in a rare position. It’s important to understand the company is not yet profitable, but its loss of $126.8 million in the third quarter is a marked improvement from $141.7 million in the prior year. The real question for investors is whether it can sustain its growth rate.

Unity’s Financial Outlook

If Unity can sustain its growth rate, it’s a good contender for a 10x stock. It’s an established leader in the growing video game market, and stands to at least match the gaming industry’s CAGR of 12.9 percent through 2027.

However, it’s likely to outgrow the gaming market as it expands into other segments where revenue potential is estimated to rise between  $1.8 and $5 billion annually. 

On the balance sheet, Unity has $766 million of cash. That could propel the share price to double through smart capital allocation and investments in R&D. A 10x could be a stretch though.

Not only does Unity still need to turn a profit, but it has growing competition elbowing in on its market share.

Unity Rivals and Headwinds

Although it’s a popular solution, Unity has lots of competitors. Popular metaverses like Minecraft, Roblox (NYSE:RBLX), and Fortnite eschew Unity for their own solutions. Facebook’s Horizon Worlds does so also. Although smaller developers can continue to benefit from the Unity engine, larger developers will prefer (and can afford to) create their own.

Companies like Applovin Corp (NASDAQ:APP) are in the space looking to grow their own respective footholds.

The combined competitive threats could stunt Unity’s growth potential over the coming decade and keep it from realizing a 10x valuation increase let alone a 2x.

Can Unity Stock 10x: The Bottom Line

Unity Software (U) has a game engine underpinning over half of the video game industry. It helps developers bypass time-consuming process to start a project with a pre-built foundation. This makes it easy to roll out a cross-platform experience, while supporting multiplayer, in-game purchases, ads, and more.

It’s a crucial element in a growing industry, but has a lot of rivals. Gaming is a brutally competitive market, and there are companies big and small lining up to eat Unity’s lunch. It has growth prospects, but it’s not likely to 10x anytime soon.

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