Roblox (RBLX 1.60%) went public just at the right time. Amid global lockdowns, people who had nothing to do at home started engaging more with digital entertainment, including streaming TV and video games. Already a leading gaming platform, Roblox's service became a hit among young users during this period.
Investors were thrilled with the company's performance and prospects, sending its market capitalization above $80 billion at its peak. But as of writing, the stock has declined 70% from its all-time high.
While existing investors cringe, potential investors (like myself) consider the recent correction an opportunity to invest in Roblox. But before rushing to load up on shares, investors need to ponder the following risks.
Image source: Getty Images.
Roblox's growth is slowing down big time
Roblox delivered an incredible two-year performance during the pandemic. Consider this: Revenue grew from $148 million in the fourth quarter of 2019 to $569 million in the fourth quarter of 2021, up by 285%. Similarly, adjusted earnings before interest, tax, depreciation, and amortization (EBITDA) rose 243% to $168 million during the same period. The growth in daily active users (DAU) -- from 19.1 million to 49.5 million -- and the improvement in average spending per DAU propelled these solid improvements.
While impressive, this ultra-strong performance isn't sustainable long term. For example, Roblox's revenue growth has been decelerating over the last few quarters, down from a rate of 139% in the first quarter of 2021 to "only" 83% in the latest report. Revenue growth declined further in the first month of 2022 to around 65%, and bookings were up just 2% to 3% year over year.
Roblox is investing heavily to grow its older user cohorts and overseas markets to counter this headwind. While there are early signs of success in engaging these users, it's still unclear how profitable they'll be. For example, many new users are from overseas developing countries with less spending power than their U.S. or European counterparts.
Besides, the bulls have also highlighted Roblox's potential in diversifying its income with new income streams such as subscriptions, e-commerce, and advertising. Granted, these are promising areas of expansion for the company, but most of them are either immaterial today (such as subscription income) or still in the experimentation phase (for advertising and e-commerce). At best, it'll take a while for these businesses to become substantial contributors to the top line -- at worst, their promise will never materialize.
In short, investors might want to see a clear sign of Roblox's growth rate stabilizing or improving before jumping onto the ship.
The road to the metaverse remains hazy
The metaverse has become an important trend that investors cannot afford to neglect. Even a successful tech company like Meta Platforms -- previously known as Facebook -- has pivoted its business model to capture this huge opportunity. JPMorgan estimates the industry will be worth up to a trillion dollars.
No doubt, the metaverse industry is making headlines -- just think of all the industry-related terms such as "virtual reality," "augmented reality," and more appearing in our daily lives. Roblox, for its part, describes its role in this emerging industry as enabling human co-experience. According to co-founder and CEO Dave Baszucki, co-experiences are immersive environments where users play, talk, explore, hang out, and more using their avatars.
Despite all the excitement, the industry is still in its early stages. While there are some signs of how the industry will evolve -- just watch how young users engage with their friends on Roblox's platform -- there's still a long way before consumers adopt it en masse. And it'll take even longer for the enabling technologies like VR and AR to mature and move into the mainstream.
And while Roblox has a lead in the industry thanks to its early-mover advantage, there's no guarantee newcomers won't catch up. For example, Meta has close to three billion users globally to "activate" and move onto its metaverse platform. It already has plans to do that, such as selling its VR hardware devices at a loss to grow its user base. Moreover, there's no shortage of new start-ups joining the party. In other words, competition will remain intense or intensify further in the years to come.
A quick word on Roblox's valuation
Roblox was an expensive stock last year when it went public. At its peak, the stock had a price-to-sales (PS) ratio of more than 40.
The recent correction has that multiple down to about 12 times 2021 revenue. While low for Roblox, this current valuation is still a high price to pay given the risks discussed here. In comparison, Meta is trading at less than five times sales.
Roblox isn't enough of a bargain yet to get me really excited.
