Roblox (RBLX 2.90%) is having a challenging year so far in 2022. The stock is down 51% year to date as the business copes with the headwinds of economic reopening. The company thrived at the pandemic onset when millions of kids were sent home for remote learning, and extracurricular activities were canceled.
Now that students are going back to the classroom and entertainment options are increasing outside the home, engagement is falling. That trend is among at least three factors that savvy investors know about Roblox. The other two are that it outsources content development, and that it's able to generate strong cash flow even though losses are mounting on the bottom line.
1. Outsourcing content development
Roblox is free to join and to use for the most part. The company makes money by selling an in-game currency called Robux that players must buy with real money. While most of the items and experiences on the platform are free, premium features are only available through a purchase with Robux. Interestingly, Roblox does not create the things that players purchase. Instead, it outsources this activity to third-party developers.
In that way, Roblox transfers the risk of time and resources over to developers who are promised a percentage of the revenue their creations earn on the platform. In the year ended Dec. 31, Roblox paid developers $538 million in fees. During that same time, Roblox generated revenue of $1.9 billion overall. The fees comprised a meaningful part of Roblox's revenue, but keep in mind they are only paid to developers that create things users spend money on. In other words, Roblox's policy means it only spends money on things that work.
2. Slowing user engagement
Unsurprisingly, the coronavirus pandemic created a surge in new users and engagement at Roblox. It went from 23.6 million daily active users in the first quarter of 2020 to 49.5 million by the end of the fourth quarter of 2021. A significant part of its user base is under 13 years old, so business boomed when kids were sent home for remote learning.
With vaccinations against COVID-19 gaining momentum and schools and outdoor activities reopened, it's starting to appear in Roblox's user engagement figures. Engagement from the U.S. and Canada, its most lucrative segment, has fallen in two out of the last three quarters. Similarly, daily active users declined in the region for the first time in the fourth quarter. Roblox acknowledges its rapid growth during the pandemic was an unexpected blessing and warns investors not to expect similar advances in the future.
3. Strong cash flow while generating losses on the bottom line
Roblox's business model has resulted in strong free cash flow while it is yet not profitable on the bottom line. In the three years ended 2019, 2020, and 2021, it has reported a net loss of $71 million, $253 million, and $492 million, respectively. Meanwhile, its net cash from operating activities was $99 million, $524 million, and $659 million in that same time.
This divergence from cash flow and net losses arises from how Roblox accounts for user purchases of Robux. At the time of sale, the cash flow is recognized. However, revenue is recognized over a 23-month timeline.
Moreover, this solid free cash flow makes Roblox a relative bargain. The stock is trading at a price to free cash flow ratio of 45, which is near its lowest ever. However, considering the headwinds from decreasing engagement, the bargain may persist longer for investors who want to wait and see how badly economic reopening affects the business in the near term.