5 Red Flags for Roblox's Future

Roblox (RBLX 1.60%) was one of the top growth stocks of 2021. The tween-oriented game creation platform went public via a direct listing in March 2021, started trading at $64.50, and hit an all-time high of $134.72 last November.

But as of this writing, it trades at just $33 per share. Bottom-fishing investors might be tempted to buy this beaten-down growth stock, but they should review these five bright red flags before casting their reels.

Image source: Roblox.

1. Decelerating bookings growth

The pandemic initially generated tailwinds for Roblox as students spent more time on their PCs and mobile devices. But after the lockdown measures were relaxed, Roblox's revenue and bookings growth cooled off.

Data source: Roblox. YOY = Year over year.

Most investors gauge Roblox's underlying health by its bookings, which measure direct purchases of its in-game currency (Robux), instead of its reported revenue.

Its 3% bookings decline last quarter represented its first year-over-year bookings drop since its public debut. It predicted that its April bookings would decline 8% to 10% year over year, and analysts expect its bookings to rise just 4% for the full year.

2. Peaking DAU growth

Roblox's daily active users (DAUs) skyrocketed in the early days of the pandemic, but its growth is peaking in a post-lockdown world.

Data source: Roblox.

Roblox estimates it served 53.1 million DAUs in April. That would still represent 23% growth from a year ago, but it also suggests that the platform could face its first sequential loss of DAUs in the second quarter of 2022.

3. Declining engagement rates

Roblox's average hours engaged and average bookings per daily active user (ABPDAU) are also peaking.

Data source: Roblox.

In April, its average hours engaged only rose 18% year over year as its ABPDAU declined 25% to 26%. Roblox blames that slowdown on its pursuit of international and older users (above the age of 13), who have been more difficult to monetize than its core audience of tween users.

In other words, it's running out of room to gain new DAUs, so it's pursuing lower-value users to seed its future growth.

4. Widening losses

That long-term strategy makes sense, but it will weigh down its near-term margins and result in wider losses.

In 2021, Roblox's net loss widened from $253 million in 2020 to $492 million, but its adjusted earnings before interest, taxes, depreciation, and amortization (EBITDA) still rose from $600 million to $674 million.

In the first quarter of 2022, its net loss widened year over year from $134 million to $160 million, as its adjusted EBITDA tumbled 64% to $68 million. Analysts expect its net loss to widen to $638 million this year, and for its adjusted EBITDA to decline 42% to $393 million.

Roblox will likely struggle to stabilize those losses because it can't reduce its "developer exchange fees" -- the cash it pays creators for trading in their accumulated Robux -- without alienating its top game makers. It also needs to ramp up its marketing expenses to grow its audience while continuously investing in tighter safety measures for its younger users.

5. Its valuation isn't attractive yet

Roblox currently trades at about six times its estimated bookings this year. That would be an attractive valuation for a gaming company with double-digit bookings growth, but it's still a bit too high for one which needs to grapple with sluggish bookings growth for the foreseeable future.

For reference, Unity Software (U -1.06%), which targets professional developers with its game engine and monetization tools, expects to grow its revenues by more than 30% annually over the long term -- but its stock now trades at seven times this year's sales after its recent post-earnings plunge.

Like Unity, Roblox will likely be stuck in the penalty box for the foreseeable future, so investors should stick with better-run tech companies for now.