I had been an investor in Skillz (SKLZ -0.30%), the mobile-gaming competition platform, since it went public via a merger with a special purpose acquisition company (SPAC) in December 2020. The stock's been volatile, soaring as high as $46 per share and plummeting to the low single digits over the past 12 months.
I sold my shares of Skillz after the company announced its fourth-quarter earnings for 2021, making it the most significant investment loss in my career. I'm not sharing this with you for sympathy, but for the lessons you can take from my mistakes. Here are the four reasons I sold and the lessons I've learned over the past 15 months.
1. Numbers don't lie
Skillz came into the quarter with a need to show that its business model was capable of beginning to show "operating leverage." In other words, it's OK for a company to spend money to grow the business aggressively, but it needs to eventually show that it can grow revenue faster than spending. Otherwise, you're spending money endlessly and will never turn a profit.
Unfortunately, Skillz did little to answer the bell here. The company did $109 million in revenue for the fourth quarter but spent $155 million on sales and marketing, or 142% of revenue. This was significantly worse than a year ago, when the company spent 117% of its revenue on sales and marketing expenses.
Skillz has had to "buy" its growth with excessive sales and marketing, and this is not a long-term recipe for success or survival.
2. Abrupt strategic pivoting
Skillz grew revenue 61% year over year in the fourth quarter and 67% for all of 2021, finishing with $384 million in revenue. But when management released the earnings report, its guidance for 2022 called for $400 million in revenue, just 4% growth over 2021.
The culprit behind the jarring drop in growth is the company's pivot from "growth at all costs" to a stricter focus on working toward profitability, which includes a dramatic pullback on engagement marketing -- bonus cash to keep customers gaming on the platform. It's a welcome sign for any company to focus on actually making money, but the cut in growth efforts signals that Skillz is struggling to grow and make any money simultaneously.
3. Debt on the balance sheet
The company announced that it had taken out a $300 million loan in December 2021. It's not very common for rapidly growing companies to begin tapping their balance sheet. Still, it could have made sense at the time, considering that the share price had suffered, and perhaps management didn't want to dilute shareholders by issuing new shares while the stock was cheap.
Investors, including myself, probably hoped that the loan was for something like a strategic acquisition. The debt wasn't cheap; it came with a 10.25% interest rate, costing Skillz more than $30 million per year in interest expenses at a time when it's already burning cash.
Analysts asked management about it on the earnings call, but it didn't give many specifics, pointing to "flexibility" and "potential acquisitions," an answer that doesn't indicate much other than the company needed cash.
4. Pulling back on India
Skillz's launch in India was supposed to be a significant catalyst for the company. It even announced as recently as January that it had entered a live pilot phase, signaling that a full launch could be on the horizon.
However, management also dashed those hopes, noting that it would pull back, pausing investment into India for "at least" the first half of 2022. This seems like another ambition that has run out of funding due to the company's intense operating losses. Again, it's great for a business to focus on profitability, but Skillz seems to have tried running too fast and is tripping over its own feet.
The moral of the story
Things are always clearer in hindsight, and perhaps clues like the $300 million loan should have been red flags. Nonetheless, the company's numerous setbacks in its 2021 fourth-quarter report signaled that my original investment thesis behind Skillz had likely failed.
Investing isn't easy, and it's so essential to remain convicted and to not let broader market forces tempt you into selling a quality company just because it keeps going down or chasing bad stocks because they keep going up. However, it's equally important to realize when a company itself becomes broken, and it seems like Skillz has reached that point.