Snap (NYSE:SNAP), the parent company of Snapchat, recently partnered with Unity Software (NYSE:U) to bolster its ad and game platforms.

Unity will add support for the Snap Kit SDK (software development kit) to its game engine -- which powers over half of the world's mobile, PC, and console games -- to its Asset Store. The inclusion will enable its developers to add Snapchat logins to their games, advertise them, and promote them via screenshots, stickers, and AR lenses. Snap’s Audience Network, which lets advertisers purchase ads on third-party apps and websites, will provide access to the Unity Ads platform, which also inserts ads into games and apps.

Additional support for Snapchat's Bitmojis, which allow users to play as virtual avatars, will be deployed next year. Snap’s services will be linked to Unity’s VSP (verified solutions partners) platform for third-party apps and services, where developers will be encouraged to produce content for Snapchat. Let's dig deeper and see how this deal could benefit both companies.

A teenage boy plays a mobile game on his phone.

Image source: Getty Images.

The story thus far...

Unity's Create Solutions platform provides cross-platform rendering, lighting, physics, sound, animation, and user interface tools for developers.

Bundling those tools has made it easier to create games, since developers previously created those features individually for different platforms -- which was an expensive, buggy, and time-consuming process. Popular video games like Super Mario Run, Among Us, and Monument Valley were all built with Unity.

Unity's Operate Solutions platform complements that with tools for in-app ads, in-app purchases, analytics, and support for multiplayer games and in-game communications. These tools help developers expand, optimize, and monetize their games.

Back in 2018, Snap expanded Snapchat's ecosystem with Snap Kit, which let app developers add Snapchat logins, Bitmoji avatars, branded stickers, augmented reality (AR) lenses, and integrated Stories and Snap Map content to their apps. And last year Snap launched Snap Games, which allowed developers to create in-app games for Snapchat users. Several well-known publishers, including Zynga (NASDAQ:ZNGA), launched new games for the platform -- which mainly focus on multiplayer and social experiences.

Later in 2019, Snap announced the development of its Audience Network, which expanded its ad network's reach beyond Snapchat, and started testing out the service throughout 2020.

How Snap and Unity can help each other

Unity is growing rapidly, but it faces stiff competition from companies like Epic Games, which owns the Unreal Engine that powers games like Fortnite, PUBG, and Borderlands. It also expects to face "tough" year-over-year comparisons next year as people presumably play fewer games after the pandemic ends.

Unity's Operate Solutions business, which generates most of its revenue, could also face pressure next year as Apple's (NASDAQ:AAPL) iOS 14 update allows users to opt-out of data tracking and targeted ads.

As a result, Unity expects its revenue to rise 39%-40% this year, but analysts expect just 26% growth next year. Therefore, it makes sense for Unity to seek out new partnerships before it loses its momentum.

Snap hasn't disclosed any exact figures for Snap Games yet. But back in April, CEO Evan Spiegel claimed the average daily time spent in its games more than doubled in March as it added new games.

By opening up the platform to Unity's tools, Snap would make it easier for developers to create new games, or port existing ones to reach Snapchat's 249 million daily active users. The upcoming Bitmoji integration will allow players to insert their own avatars into Unity games outside of Snapchat, and possibly tether those games back to its social network. The partnership could also help Unity expand beyond traditional video games into AR content with Snapchat's lenses.

Zynga's "Tiny Royale" for Snap Games.

Image source: Snap.

Locking in users with more games could boost Snap's average revenue per user, which has already risen consistently in recent quarters, as they spend more time within Snapchat. The development of new Snap games would then strengthen Unity's Create Solutions business, which generates most of its revenue from subscriptions and professional services.

Snap also hasn't revealed any hard numbers for its Audience Network, which competes against larger off-site ad platforms like Facebook's (NASDAQ:FB) Audience Network. However, Unity's ads already generate over 22.9 billion monthly global ad impressions for more than 2 billion monthly active end-users worldwide.

Tethering Snap's Audience Network to that established ecosystem could help Snap's advertisers reach more mobile gamers, and help Unity expand beyond mobile games into more third-party apps and websites.

That expansion would boost Snap's ad revenue and Unity's Operate Solutions revenue -- which primarily comes from revenue and usage-based sharing agreements. In other words, the more money Snap makes from its ads, the more shared revenue will trickle down to Unity.

The key takeaways

Unity and Snap have both generated big gains for investors this year. Unity's stock has nearly tripled since its IPO in September, and Snap's stock has more than tripled since the beginning of 2020. But both companies are unprofitable, and they're both trading at frothy valuations: Unity is trading at 43 times next year's sales, while Snap has a forward price-to-sales ratio of 23.

Therefore, these two high-growth companies need to make bold moves to justify those premiums -- and working with each other marks a smart step in the right direction.

Editor's note: This article has been updated to clarify the relationship between Snap and Unity.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis -- even one of our own -- helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.