Mobile gaming company Skillz (SKLZ -1.81%) has ridden the meme stock roller coaster in 2021 as the number of shares shorted rose to nearly 61 million at the end of August, representing 15% of the shares outstanding. Its stock price descended to a low of $10.06 in August from a 52-week high of $46.30 in February, when shares sold short were less than 15 million.

Meme hype aside, investing in sound companies with a view toward the long term is key to reducing risk and seeing your investment grow. The question is whether Skillz falls into that category. Let's dig into the company to determine whether it does.

Two people sitting on a sofa look excitedly at their mobile phones.

Image source: Getty Images.

Company strengths

Skillz stands out from traditional video game companies, such as Activision Blizzard, because of its business model. Rather than shoulder the burden of building video games, Skillz created a marketplace where game developers and players come together.

Skillz further differentiates by providing a platform specifically for competitive gameplay. Players pay a fee to participate in competitions for the chance to win cash prizes.

This model has proven successful, resulting in second-quarter revenue of $89.5 million, a 52% increase over the prior year, while allowing Skillz to enjoy a 95% gross margin. The company's revenue has consistently climbed for 22 consecutive quarters.

SKLZ Revenue (Quarterly) Chart

Data by YCharts.

Its Q2 revenue growth was driven by a rise in monthly active users (MAUs) paying to play; that number grew 53% year over year. Skillz possesses plenty of potential to continue growing. The company generated less than 10% of its revenue from players outside North America at the end of Q2, leaving room for international expansion.

Skillz also entered into a multi-year agreement to partner with the NFL this year to further capitalize on the hot esports market. No financial details regarding the partnership have been disclosed. But considering the popularity of Madden NFL video games, the opportunity to create an NFL-inspired mobile game could yield significant results for Skillz. 

The company's focus on mobile gaming is a strong point. This segment of the video game industry is forecasted to experience a 10% compound annual growth rate through 2025, with global revenue expected to reach $162.4 billion from $110.6 billion this year. Such a large market gives Skillz a plethora of opportunities to capture more sales.

Skillz also exited Q2 with a strong balance sheet. The company ended the quarter with $720.5 million in total assets, $692.8 million of that in cash and equivalents. Total liabilities stood at $185.6 million with zero debt. With a significant amount of cash on hand and a strong equity position, the company has the capacity to expand its programs to generate further growth.

Challenges and solutions

Despite its many strengths, Skillz is not perfect. Like many tech companies, it isn't profitable, incurring a net loss of $79.6 million in Q2 compared to a $20.2 million net loss in the prior year. A significant contributor to its net loss was its investment in sales and marketing for customer acquisition. Its Q2 outlay in this area was up 90% over the prior year to $99.5 million.

But that level of sales and marketing spending is expected to decline over time. Skillz acquired Aarki, an advertising platform, in Q2 with the intent to move a portion of its marketing spending to it. Aarki will also serve as a revenue source for Skillz by authorizing the company to sell advertising through the platform.

Skillz also faces the challenge of maintaining its user base. In the second quarter, its overall MAUs dropped from 2.6 million last year to 2.4 million. It's normal for MAUs to fluctuate; the key is to keep them increasing over time. Skillz has been successful in this, growing from 1.6 million MAUs in 2019 to 2.6 million at the end of 2020.

To continue attracting users, the company entered a strategic partnership with Exit Games in August. This partnership provides the Skillz platform with real-time, simultaneous multiplayer capabilities. The technology enables Skillz to expand into new types of competitive play, such as racing games, rather than remain limited to games that require taking turns. The additional capabilities should attract new users, allowing Skillz to garner MAU growth as the new tech is implemented.

To buy or not to buy Skillz stock

Even with its many successes, Skillz stock hovers near its 52-week low, around $10 per share at the time of this writing. This creates a buying opportunity for the long-term investor.

Skillz possesses few downsides, and in those areas, the management team has a plan and has begun to move the company in the right direction. The Aarki acquisition is an example, enabling Skillz to raise 2021 revenue guidance from $375 million to $389 million, a substantial increase from 2020's revenue of $230 million.

Perhaps most important is its potent business model. Steps the company has taken, such as launching its Exit Games partnership, show Skillz is working to ensure its marketplace uniting players and game developers continues to thrive.

Its many positives mean Skillz is well-positioned to continue its growth. Sure, it's possible to safely invest in meme stocks, but forget that drama. Skillz is a solid company that looks poised for great long-term success.