Mobile game competition platform Skillz (SKLZ -0.95%) has been one of the market's biggest losers over the past year; shares have lost nearly 90% of their value. This year has been brutal for technology and growth stocks, and Skillz is far from the only stock to lose most of its value.
However, investors peeling back the layers of Skillz could find legitimate reasons for concern. Some stocks fall for a reason; here's why investors should worry about Skillz.
Image source: Getty Images.
Cash burn crisis
Skillz is a software platform that enables mobile game developers to monetize games through fair competitions for cash prizes. Skillz takes a percentage of the proceeds, which is how it generates revenue.
The company spends money on ads and bonus cash to entice players to participate in paid matches. Ideally, Skillz would grow revenue faster than it spends money, putting the business on a path to profitability.
But it hasn't worked out that way; Skillz has spent $486 million on sales and marketing over the past 12 months, more than the $394 million the company's generated in revenue!
You can see below how revenue growth has slowed quarter by quarter since the company's gone public, and Skillz is burning increasing amounts of cash trying to grow revenue. This is not a winning formula for a business.
SKLZ Revenue (Quarterly YoY Growth) data by YCharts
Management is working on slowing cash burn by cutting back on marketing spending. Still, Skillz's financials won't change overnight, and the balance sheet will likely demand action be taken in the coming quarters.
Dwindling cash and rising debt
Skillz had a negative free cash flow of $83 million in the first quarter of 2022, its most recent quarter. Its cash on hand is down to $484 million, enough cash to sustain the business for another five or six quarters at its current pace. Skillz will probably need to look at raising money within the year.
SKLZ Cash and Short Term Investments (Quarterly) data by YCharts
The company chose to take on debt the last time it raised cash; Skillz took out a $300 million loan at a 10.25% interest rate, which has $280 million remaining. Raising debt again is highly unlikely as the company is paying nearly $30 million in annual interest on the first loan, and terms on a new loan would probably be even worse this time around.
The only option is a bad one
A share offering would be the only logical option, which means the company would sell new shares to raise money. But a company issuing shares doesn't make the company worth more, instead, it makes each existing share worth less because it now represents a smaller piece of the company.
Issuing shares can be an excellent strategy for overvalued stocks because you raise more money with fewer shares. But the opposite is true when the stock price is low. Skillz is trading at roughly $2 per share, and the company's market cap is about $800 million based on 409 million outstanding shares.
SKLZ Shares Outstanding data by YCharts
The company would need to issue a whopping 150 million shares at the current share price to raise the same $300 million it previously borrowed, which would increase the number of outstanding shares by 36% to 559 million. Such a large influx of shares would be devastating for shareholders, so it may be wise to hold off on the stock until management shows it can maneuver this situation.
