Unity’s stock price has taken a beating over the past six months, shedding 41.9% of its value and falling to $28.76 per share. This may have investors wondering how to approach the situation.
Is there a buying opportunity in Unity, or does it present a risk to your portfolio? Dive into our full research report to see our analyst team’s opinion, it’s free.
Why Do We Think Unity Will Underperform?
Despite the more favorable entry price, we don’t have much confidence in Unity. Here are three reasons why U doesn’t excite us, plus one stock we’d rather own.
1. Weak Billings Point to Soft Demand
Billings is a non-GAAP metric that is often called “cash revenue” because it shows how much money the company has collected from customers in a certain period. This is different from revenue, which must be recognized in pieces over the length of a contract.
Unity’s billings came in at $516.1 million in Q1, and over the last four quarters, its year-on-year growth averaged 8.7%. This performance was underwhelming and suggests that increasing competition is causing challenges in acquiring/retaining customers. 
2. Projected Revenue Growth Is Slim
Forecasted revenues by Wall Street analysts signal a company’s potential. Predictions may not always be accurate, but accelerating growth typically boosts valuation multiples and stock prices while slowing growth does the opposite.
Over the next 12 months, sell-side analysts expect Unity’s revenue to rise by 13.9%. Although this projection indicates its newer products and services will fuel better top-line performance, it is still below average for the sector.
3. Shrinking Operating Margin
While many software businesses point investors to their adjusted profits, which exclude stock-based compensation (SBC), we prefer GAAP operating margin because SBC is a legitimate expense used to attract and retain talent. This is one of the best measures of profitability because it shows how much money a company takes home after developing, marketing, and selling its products.
Looking at the trend in its profitability, Unity’s operating margin decreased by 8.1 percentage points over the last two years. This raises questions about the company’s expense base because its revenue growth should have given it leverage on its fixed costs, resulting in better economies of scale and profitability. Unity’s performance was poor no matter how you look at it - it shows that costs were rising and it couldn’t pass them onto its customers. Its operating margin for the trailing 12 months was negative 36.5%.
Final Judgment
We cheer for all companies solving complex business issues, but in the case of Unity, we’ll be cheering from the sidelines. Following the recent decline, the stock trades at 5.8× forward price-to-sales (or $28.76 per share). This multiple tells us a lot of good news is priced in - you can find more timely opportunities elsewhere. We’d recommend looking at a dominant aerospace business that has perfected its M&A strategy.
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