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Why Roblox Is Not a Buy Regardless of a Discount

If you had to pick an investment strictly on its core business, it’d be difficult to ignore Roblox (NYSE:RBLX). A company that has a decidedly family friendly take on the video game industry, Roblox is more of a platform. Most compellingly, it allows developers to make their own games and share it with other players, facilitating endless possibilities. Thus, it’s no surprise that RBLX stock was a hotly anticipated public debut.

A child playing Roblox on a smartphone.
Source: Katya Rekina/ Shutterstock.com

Video games provided a sense of normalcy and belonging over the past year. With traditional forms of social gatherings eliminated because of the novel coronavirus pandemic, both consumers and workers took to the digital realm to find a viable alternative. That so many found solace in video games is a huge net plus for RBLX stock. In March of this year, I stated the following:

“Fundamentally, what’s exciting about Roblox is the underlying industry. According to Nielsen , ‘55% of people picked up video games — out of boredom, to escape the real world, to socialize — during the first phase of lockdowns.’ If there’s any surprise to this statistic, it’s that the metric isn’t higher. With in-person entertainment options axed and the temporary cancellation of live events, this dynamic boosted the narrative of RBLX stock and related investments.”

However, the primary criticism against Roblox is that its valuation is pricey. For instance, according to Gurufocus.com, the price-to-sales ratio of RBLX stock is over 40 times. That’s worse than 93% of the interactive media industry, where the median ratio is under 5-times sales.

True, there’s always a possibility that RBLX stock can grow into its valuation. Roblox was already a popular platform before the pandemic. Of course, the lockdowns associated with Covid-19 only bolstered Roblox’s reach with its target audience.

Still, the data shows that the overvaluation concern is quite justified.

Sentiment for RBLX Stock May Be Unsustainable

When I signed off on my last take on RBLX stock, I suggested that my InvestorPlace colleagues’ concerns about a frothy valuation — including that of Matt McCall — is not guidance you should take lightly. While the Roblox concept is intriguing, it still carries a rich premium.

McCall suggested to his readers to wait for a pullback before buying Roblox. At the time, I agreed with him. Now, I’m going to diverge a little bit. I don’t think investors should even consider buying RBLX stock, even if it does decline in value.

Here’s the thing — if you do see a dip, that might be a signal that more pain is coming.

Drilling into Roblox’s Form S-1, I began exploring the “quality” of the company’s financial performance. Yes, it’s impressive that in 2020, it generated nearly $924 million in revenue, which is up 82% from the year prior. But how sustainable is this move up? Personally, I think we may encounter disappointment down the line.

If you look at page 76 on the S-1 filing, you’ll see two key metrics that investors should consider before buying RBLX shares: daily active users and hours engaged. Both metrics have progressively increased, with an astounding jump in 2020 due to the Covid lockdowns.

However, the pandemic-fueled catalyst — basically kids playing video games all day — for Roblox may not be sustainable. For instance, note that while DAUs and hours played in 2019 saw a significant jump from 2018, the former’s growth rate slightly out-pipped the latter. The result is that hours played per user came out to be almost the same: 2.15 hours daily in 2018, and 2.13 hours daily in 2019.

But in 2020, this metric jumped to 2.57 hours daily. I don’t find this to be sustainable given that kids will eventually return to the classrooms. That’s simply non-negotiable.

The Financials Are Uglier Than I Thought

Anther problematic angle to the likely decline in user volume and engagement is the costs that Roblox incurred. While the company boosted revenue year-over-year, it also did the same to its net loss. In 2019, it posted a net loss of $71 million and in 2020, it came out to $253 million.

To me, that’s problematic because investors might be assuming continued momentum in revenue growth. But if kids start going back to the classrooms, I don’t see how Roblox’s newfound DAU bump is viable.

Look at it this way. With kids back in school, they’re going to have less time on their hands. That means they’re going to have to be selective as to what they play. I think it’s inevitable that we’ll see much lower engagement for Roblox in the future due in large part to competition. And that doesn’t bode well for RBLX stock.

On the date of publication, Josh Enomoto did not have (either directly or indirectly) any positions in the securities mentioned in this article.

A former senior business analyst for Sony Electronics, Josh Enomoto has helped broker major contracts with Fortune Global 500 companies. Over the past several years, he has delivered unique, critical insights for the investment markets, as well as various other industries including legal, construction management, and healthcare.

Article printed from InvestorPlace Media, https://investorplace.com/2021/05/why-rblx-stock-is-not-a-buy/.

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