Skillz Inc. (NYSE:SKLZ) stock is trading higher during the first hour of the U.S. stock market on Jan. 31, 2022 rallying approximately 10%. The mobile games platform has had a very tough year with losses of about 85%. In 2022, it is down nearly 43%. This stock price rally is good news for building my thesis which is bearish on SKLZ stock.
A reference to a previous article about Skillz is essential as a reminder of some key points that continue to support my bearish view. History in many times provides valuable arguments that do not change unless catalysts come into existence.
SKLZ Stock is a Growth Stock but Not a Buy
In late August 2021, my article titled “Skillz Plays the Game of Growth, But It’s Not a Buy Here” had a negative or bearish thesis arguing that “Skillz is a growth company about the future of sports but creating value is still a major problem.”
I wrote back then “So I see the ongoing revenue growth, which is a great and supportive factor for the stock. But I also see how company is growing both in users and in revenue, but is not making a profit yet. And this is bodes poorly for the short-term effectiveness of Skillz’s business plan.”
About the business plan, I considered it a dynamic one without any profits. I wondered with “No Debt and Plenty of Cash: What Can Go Wrong?” This was a rhetorical question as many things went wrong, as the stock price collapsed steadily in the last four month of 2021 and the first month of 2022. I mentioned the Return on Invested Capital key metric and the very poor performance Skillz had by not providing any value to its shareholders. Back then I considered SKLZ stock to have an unsustainable business model
With strong revenue and user growth, Skillz was not a stock to get excited about amid net losses. Has anything changed now?
$300 Million of Senior Secured Notes via Private Offering
To start what has changed is that Skillz announced the pricing of $300 million of Senior Secured Notes .
Skillz stated “This offering bolsters the Company’s already-strong balance sheet and increases the Company’s financial flexibility to take advantage of strategic opportunities. Skillz intends to use the net proceeds from the offering for general corporate purposes, which may include potential investments in or acquisitions of other companies, products, or technologies that Skillz may identify in the future.”
I question this statement presenting three main arguments. First, the 10.25% interest rate is too high as the Notes are Secured and Senior.
A senior note is a type of bond that goes on top priority compared to other debts in the event a company declares bankruptcy. Because senior notes carry a lower degree of risk, in theory they pay lower rates of interest than junior bonds.
Of course, we do not know the interest rate of junior bonds Skillz could offer to investors but the fact that these notes are also secured meaning that they are backed by the borrower’s assets as a form of collateral, we do know that Skillz must have had a rough time trying to persuade those investors to accept the 10.25% interest rate. The firm offered assurance that if it defaults on the secured notes, the assets pledged as collateral can be sold to repay the notes.
So the 10.25% interest rate literally would have been significantly higher if these notes were not secured or senior. And most probably, Skillz would not be able to get these funds, it was a private deal with harsh terms we will never know. We do know though that Moody’s is not that optimistic on these Notes.
Moody’s Rating of Skillz’s Notes
Moody’s Corporation (NYSE:MCO) has assigned B3 CFR to Skillz and B3 to new senior secured notes with a stable outlook. This is a non-investment grade. Moody’s stated that “The B3 CFR reflects Skillz’ nascent business model, Moody’s expectation for negative cash generation over the next three years, and very high financial leverage.”
A nascent business model agrees with my concern about its sustainability back in 2021.
SKLZ Stock Q3 2021 Earnings
Skillz reported revenue of $102.1 million in the third quarter of 2021, up 70% over the prior period. The key driver was a 47% growth in paying monthly active users (MAU) over the prior-year period, which is indeed strong growth.
The big news was that net income was $50.8 million in the third quarter of 2021, compared with a net loss of $(42.9) million in the prior-year period. However, this outcome was attributable to a change in the fair value of common stock warrant liabilities of $113.6 million. What this means is that this was an event that was unusual and infrequent. Excluding that a net loss would occur.
Total costs and expenses rose in Q3 2021 compared to Q3 2020. And for the nine months ended Sep. 30 2021 Skillz reported a net loss from operations of ($183.10 million) compared to a net loss from operations of ($56.38 million) for the nine months ended Sep. 30 2020.
Bottom Line
At the very beginning, I said the rally of the stock is good news for building my bearish thesis. The reason is that the stock price is considered to be now attractive by many investors. I argue that it is not a stock, actually a penny stock to be excited about now.
Now the firm has a debt with a significant interest expense, it continues to burn cash, and the outlook to me does not seem stable but very weak. I would like to see a net income over the next quarter that will be the result of core business operations.
I remain bearish on Skillz and consider short-term rallies as not sustainable.
On the date of publication, Stavros Georgiadis, CFA did not have (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.
Stavros Georgiadis is a CFA charter holder, an Equity Research Analyst, and an Economist. He focuses on U.S. stocks and has his own stock market blog at thestockmarketontheinternet.com/. He has written in the past various articles for other publications and can be reached on Twitter and on LinkedIn.
