Applications in the metaverse and rising interest in virtual reality (VR) are fueling higher demand among gaming platforms. One company that could stand to benefit is Unity Software (U +2.57%).
Unity was a fan favorite in the gaming community until a couple of months ago. A botched change in its pricing model, coupled with a shakeup at the executive level, caused many developers on its platform to sour on the company. And things haven't gotten off to a great start this year. Not even a month into 2024, Unity stock is down 19% on the year.
Let's dig into what's going on at the company and determine whether Unity is an attractive buy at its current valuation.
NYSE: U
Key Data Points
What just happened?
On Jan. 8, Unity filed a form 8-K with the Securities and Exchange Commission (SEC). Per the filing, the company revealed to investors that it is planning to lay off 1,800 employees -- roughly 25% of Unity's total headcount.
U Net Income (Quarterly) data by YCharts
Given the trend illustrated in the chart above, the move to reduce headcount isn't shocking. Investors can clearly see that expenses have become too bloated and Unity's cash burn is contributing to operating losses.
While layoffs are an unfortunate part of corporate organizational structure, Unity is far from the only company that has resorted to such drastic approaches to right-size its business. Many tech companies, such as Meta and Roku, have employed this same strategy to cut costs and increase runway.
Perhaps the troubling aspect of Unity's filing came from the following statement: "At this time, Unity cannot reasonably estimate the costs and charges in connection with this reduction, which it expects will be substantially incurred in the first quarter of 2024."
Generally speaking, when businesses shrink their workforce, they are able to provide investors with some estimated quantity of cost savings. So while Unity is likely doing the right thing here by reducing its expense profile, the vagueness around how this will affect the business is a little troubling.
Image source: Getty Images.
Who's taking note?
One of Unity's longtime supporters is Ark Invest CEO Cathie Wood. Interestingly, Wood made some substantial purchases in Unity stock following the company's announcement. On Jan. 9, Wood purchased approximately 93,000 shares in Unity stock across three of her exchange-traded funds (ETFs). She swiftly followed this move with a more substantial purchase of about 227,000 shares on Jan. 11.
Cathie Wood and Ark Invest's trade activity from today 1/11 pic.twitter.com/o9kLVXDMRL
-- Ark Invest Daily (@ArkkDaily) January 12, 2024
Should you invest in Unity stock?
U PS Ratio data by YCharts
The analysis in the chart above benchmarks Unity against a peer set of other gaming companies on a price-to-sales (P/S) basis. Investors can see that Unity's P/S multiple of 6.1 sits right in the middle among this cohort. However, it pales in comparison to its long-term average of nearly 20.
To me, the disparity between Unity's long-term P/S multiple and its current levels signals the current overall sentiment on the company. Given its operational headaches, it looks like investors have broadly soured on the stock.
Although the timing of Cathie Wood's buying patterns is intriguing, this is not a reason to buy the stock. Moreover, I do not see this as an opportunity to buy the dip. Rather, I think Unity stock carries a fair amount of risk.
I see Unity as very much a turnaround story, and investors are likely best off approaching a position with caution. Management has a lot to prove, starting with these new cost-reduction efforts. If Unity can show signs of financial improvement and narrow burn rates, perhaps the stock will be worth a second look.
For now, the most prudent action for investors may be to keep an eye on future earnings reports and closely listen to management's commentary regarding the long-term health of the business.
