It's time to sell Skillz (SKLZ 2.64%) stock. The company's shares are already down 97% from their all-time highs, so some readers might say the time to sell has already come and gone. As a shareholder myself, it's a point well taken.
However, I stubbornly held Skillz stock until now for a reason. I've made some mistakes I can hopefully learn from, but I don't want to make a far more costly mistake in the future -- a mistake more costly than a 97% loss.
Why it's time to sell Skillz stock
Skillz provides a platform where skills-based video game companies can allow users to bet money in head-to-head and tournament-style competitions. Competitors pay in to participate, the game developer takes a cut, Skillz takes a cut, and the winner pockets the rest. It sounds like a viable business model. However, the results released over the past year have confirmed my greatest fear about Skillz: There's not much real consumer demand for this.
Consider that Skillz offers players incentives, like bonus cash, for depositing money into the game. (This dynamic has called its revenue-accounting methods into question by some investors, but let's not go down that rabbit hole.) User incentives are a component of the company's sales and marketing expenses, which regularly exceed revenue.
| Metric | Q1 2021 | Q2 2021 | Q3 2021 | Q4 2021 | Q1 2022 | Q2 2022 |
|---|---|---|---|---|---|---|
| Revenue ( in millions) | $83.7 | $89.5 | $102.1 | $108.8 | $93.4 | $73.3 |
| Sales/marketing expense (in millions) | $96.3 | $99.5 | $114.5 | $155.1 | $117.3 | $73.2 |
| Monthly active users (in millions) | 2.7 | 2.4 | 3.0 | 3.7 | 3.2 | 2.2 |
Source: Skillz press releases. Chart by author.
The above chart shows a clear pattern: When Skillz increased its user incentives, active users increased. When Skillz pulled back, it lost active users. This implies the company will always have high operating expenses.
Even after cutting back, Skillz is still spending 99% of revenue to attract users. But apparently, not even that extremely high percentage is enough. This long-term pattern suggests consumer demand for this kind of platform simply isn't there. Whatever success it enjoyed appears to be just the result of handing out free money.
Why I bought Skillz stock
When determining whether to invest or not, I always had some fear of the possibility of weak consumer demand. However, I ignored that concern because of the way Skillz management talked about the business. CEO Andrew Paradise frequently said it's building a "100-year company," which was sweet music to this buy-and-hold investor's ears.
Moreover, the path for Skillz to that "100-year company" status seemed just out-of-the-box enough to work. While the video game space is big enough as it is, the company talked about working with brands like the National Football League and the American Cancer Society to build competitive and brand experiences that could be monetized. Doing so would make its opportunity extend far beyond gamers, in theory. And I didn't see any other company pursuing this angle.
In short, I believed Skillz could have a large market opportunity all to itself.
While the partnership between Skillz and the NFL is still progressing, I expected far more development in brand partnerships by now. But it's been lackluster. And now the company's cash flow and balance sheet are eroding, making me wonder how much time the company has left to make things happen.
Why I will remain slow to sell in the future
Don't get me wrong -- I should have picked up on more warning signs far sooner than I did. Specifically, Skillz management started moving the goalposts shortly after going public.
It began its public journey by focusing on monthly active users (MAUs) before switching to paying MAUs once MAU growth had stalled. Most recently, it's told investors to focus on revenue after engagement marketing now that paying MAUs are also on the decline.
However, I was slow to consider selling Skillz stock for two reasons. First, it's been public for under two years and shareholder-value creation takes time. Second, Skillz stock is down, and my own psychology can motivate me to sell a stock prematurely to end the pain.
That second point is the far more important takeaway. I only invested a small percentage of my portfolio in Skillz stock, and that's all I can lose. But selling a future winner prematurely can be a far more expensive mistake because stocks can gain far more than your initial investment.
There are numerous multibagger stocks that pulled back 70%, 80%, and even 90% in the face of adversity. That's when great companies show investors what they're made of. They survive, thrive, and expand in ways difficult to envision when they were down.
I certainly don't want to sell one of those difference-makers just because my psychology is working against me. Therefore, I'll remain a slow mover.
Perhaps I'm giving up prematurely on Skillz. However, I've come to the decision to sell based on how poorly my investment thesis is playing out thus far.
