When it comes to video game development and monetization, three big players are Unity Software (U -1.40%), ironSource (IS), and AppLovin (APP 4.25%). So naturally, the merger of ironSource and Unity was huge news in the industry. However, what really sparked controversy was when AppLovin subsequently offered to buy Unity on Aug. 9, 2022.

Since AppLovin made the offer on the same day Unity reported earnings, the proposed merger overshadowed Unity's earnings report. This caused investors to miss one major piece of the company's earnings report -- something that signals success in a lucrative market for Unity.

A team of kitchen employees looking at a tablet.

Image source: Getty Images.

What took the spotlight

AppLovin's recent proposal fell on deaf ears after Unity Software officially rejected the company's offer. AppLovin helps mobile apps monetize and grow their businesses, while Unity is one of the leading platforms enabling developers to create and build games. AppLovin pinned the combined company's enterprise value at $20 billion in the all-stock deal, hoping to combine forces to create a mobile app and game developer superhub.

Why did Unity reject AppLovin's offer? The deal was contingent upon Unity dissolving its previous merger agreement with ironSource -- a direct rival to AppLovin. Given this, it seems like the true purpose of AppLovin's deal was to break up what could be a formidable competitor, but it failed. Unity believes ironSource's deal "is compelling and will deliver an opportunity to generate long-term value" -- which seems like the right decision.

While AppLovin's proposal might have overshadowed Unity's second-quarter earnings, there was a lot of information in the report that is more valuable to shareholders -- information that signals impressive execution in an emerging segment of Unity's business.

Unity's hidden gem

Unity is known for helping developers build video games, and it is the dominant platform in that space: Unity currently powers over 70% of the top mobile games, as well as 72% of the top-selling games in the virtual reality gaming market on Meta Platforms' (NASDAQ: META) Oculus Quest in Q2 in July.

Unity's Create Solutions -- which helps businesses develop high-definition virtual three-dimension content -- saw noteworthy expansion across the board in Q2, with revenue from this segment jumping 66% year over year to $121 million. However, not all of this came from game developers: 40% of this revenue now comes from outside gaming, up from 25% in 2021.

Other businesses are using Unity's Create Solutions to develop high-definition virtual worlds. Unity serves multiple industries, from film to construction to retail. For example, a retail store can use Unity to digitally visualize store layouts, optimize product placement, and increase efficiency. Unity can even help retailers create digital replicas of their stores to give consumers a unique online shopping experience.

This is vital to Unity because it unlocks an additional opportunity for the company. Businesses are adopting technology to improve efficiency more than ever, so if Unity can solidify itself as the leader, it could capture a large piece of this emerging market. 

The company also saw strength in other parts of its business this quarter. Unity now has 1,085 customers generating over $100,000 in annual revenue on the platform. This was a 22% year-over-year jump indicating that Unity is still a mission-critical service to many game developers and businesses, considering how much they are willing to spend on the company's products, despite the challenging macroeconomic environment.

Unity isn't perfect

Despite its progress outside of gaming, the company's second-quarter earnings report wasn't flawless. The primary cause for concern is Unity's unprofitability. In Q2, the company lost over $204 million and burned over $58 million in free cash flow. That said, the company is free-cash-flow positive year to date and has over $1.7 billion in cash and securities to fuel this loss until the company begins to consistently generate cash.

Shares also trade around 12 times forward sales, which is near their lowest price since Unity's IPO but is much higher than other businesses in this industry.

While there are still concerns looming around Unity, the company is making headway on prospects that could pay off over the long term, which is a reason for hope for shareholders.