Skillz (NYSE:SKLZ), a mobile game company that hosts online e-sports tournaments, looks like it has game right now. Currently, SKLZ stock is way off of its highs. But it appears that once the market rebounds, the stock could easily recover.
For example, as of Apr. 1, SKLZ was at $18.75, down some 56% from its February high of $43.05. Moreover, the stock is basically flat for the year-to-date (YTD) period as of the same Apr. 1 date.
A good deal of that recent drop was due to a downturn in the market, especially in tech stocks. However, that doesn’t mean you should count Skillz as down and out
Short Attacks Pushed SKLZ Stock Down
What hasn’t helped the drop in SKLZ stock is the fact that it was subject to two different short report attacks. The first one, from Wolfpack Research on Mar. 8, suggested that the stock was going to be a “spactacular disaster.” Its basic thesis is that the company’s growth projections are unrealistic.
But so far, that has not been the case. For example, Skillz reported its fourth-quarter earnings on Mar. 10. Revenue was $68 million, 8% higher than expectations according to the company.
Moreover, the company provided its own guideline forecast of revenue for 2021. They set it at $366 million. That puts sales $136 million higher than 2020’s $230 million, representing a growth rate of about 59%
If that happens, the short report will basically be irrelevant, as one Seeking Alpha author points out. And overall, I am becoming more skeptical of many of these short reports. Unless there is actual criminal conduct, I am generally not interested. Only in the case of highly identifiable fraud do I short a stock or buy a put based on a short report — otherwise, I’d just be assisting the short seller by selling a stock.
On that note, the second report was from a Twitter (NYSE:TWTR) user named @Restrinct. It has similar arguments to the Wolfpack report. Of course, I like these reports in the sense that they help one understand the company better. But I rarely, if ever, act on them. They are often designed to just help the proponent make money.
Growth Treadmill
That said, Skillz still has to produce high revenue growth — and eventually profits — just to have its stock price stay in place, much less rise. This is because SKLZ stock is highly valued right now, even after its recent drop.
For example, as it stands, analysts expect $369.6 million in revenue for 2021 — slightly higher than the company forecast of $366 million. This puts SKLZ stock on a high forward price-to-sales (P/S) ratio, almost 20 times revenue, even after dropping 56% from its peak.
But here’s the thing: analysts now expect revenue to be $570 million next year. If that actually comes to pass, it implies that revenue will more than double from $230 million in 2020 over the span of these next two years. That does deserve a high valuation. Its 2022 price-to-sales multiple is only about 12 times.
However, the company is going to have to start producing profits by then. For example, for the year ending Dec. 31, Skillz lost $122 million. More importantly, its free cash flow (FCF) was negative $59 million for the year. If sales double, the company should be able to produce very high FCF. If that does not happen, though, SKLZ stock doesn’t deserve its present high valuation.
Take Rates
There is one more thing to note with SKLZ stock. Readers of my articles know that I like to focus on what is called the “take rate” for transaction-based companies like Skillz. For example, here is what I wrote about Paysafe (NYSE:PSFE) and its 1.48% take rate, as well as PayPal (NASDAQ:PYPL) and its 2.0% take rate.
Skillz has a very high take rate of 14.68%. This is seen by taking its Q4 revenue of $68 million and dividing it by its gross marketplace volume (GMV) of $468 million. This shows that for every $100 transaction (GMV) that the company processes, it “takes” down sales of $14.68. In other words, it has a very high fee structure, which will allow the company to have high revenue growth in the long run.
As a result, this helps justify the company’s very high P/S levels. In fact, if sales were to double, I suspect the take rate might even rise. That would inherently raise SKLZ stock’s P/S level.
What to Do with SKLZ Stock
Let’s assume that Skillz makes its 2022 revenue target. Using a discount rate of 15% for two years ahead lowers the present value of its $570 million sales forecast to $430 million. Given that SKLZ stock has a $6.96 billion market value as of today, the forward price-to-sales multiple is 16.18 times.
Therefore, if the stock were to be valued at 18.75 times revenue, as it is today, the price target should be 15.8% higher. That puts its value at $20.77, 15.8% higher than today’s price of $17.94. Therefore, as long as the company performs, you can expect SKLZ stock to rise over the next two years.
On the date of publication, Mark R. Hake did not have (either directly or indirectly) any positions in the securities mentioned in this article.
Mark Hake writes about personal finance on mrhake.medium.com and runs the Total Yield Value Guide which you can review here.
