Roblox And The Sentiment Monster

Summary

• The price action on Roblox has been a great lesson in sentiment.
• They essentially made the same announcement three times in a row, with wildly different results in the share price.
• They remain my favorite metaverse pick.
• They have to catch up to the absurd rate of pandemic growth, likely in 2022, before they can start growing again. That’s where our entry is.
• I do much more than just articles at Long View Capital: Members get access to model portfolios, regular updates, a chat room, and more. Learn More »

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Vertigo

Roblox’s (NYSE:RBLX) price has been a real lesson in sentiment.

I’ve highlighted the three catalysts for Roblox that came down in the space of just three months. Roblox releases metrics for the middle month of each quarter, and sandwiched in between August and November metrics was the Q3 earnings report.

The three reports all told the same story: Roblox user growth was still good, but concentrated in the least profitable regions. As a result, revenue conversion metrics were declining towards pre-pandemic levels, and quarterly bookings had flattened out, soon to be followed by GAAP revenue.

Roblox essentially made the same announcement three times. The first time was a mild negative reaction in September, when sentiment was degraded from a long COVID summer. Sentiment had shifted by November, when they reported the exact quarter that the August metrics foretold, and it jumped over 60% over the next two weeks. This was just after Facebook (FB) announced their name change, and the Metaverse Hype Train had left the station.

Now, with their November metrics, it shows the exact same thing — flat bookings — and you see how markets reacted. Omicron and the upcoming tightening cycle from the Fed had shifted sentiment again.

Roblox and Their Weird Revenue Recognition

Roblox has one of the odder revenue recognition standards you will see. Substantially all revenue comes from sales of their in-game currency, “Robux.” At purchase, the gross value of Robux sales goes into deferred revenue, and the payment processor’s fee goes to deferred cost-of-revenue. Cash moves from deferred to GAAP when those Robux are spent on a digital good, and the digital good is consumed. That is not the strange part.

The strange part is that Roblox distinguishes between non-durables like a magic spell that gets consumed and recognized at the time of use, and durable digital goods like clothes and gear. Durables GAAP revenue gets recognized over the next 23 months. 88% of purchases are for what they consider durables, so their current revenue number is far more reflective of the trailing eight quarters than the current quarter being reported.

They helpfully also provide non-GAAP “bookings,” the gross value of Robux sales in the quarter. This is a more accurate reflection of what is happening in the current quarter.

So what I want you to get out of that chart is the flat line for bookings in 2021. When they reported the June quarter, the trend was beginning to look clear. The Q3 report was the exact quarter that August metrics foretold, but with wildly different reactions to the news.

All this is dizzying, but it is a great lesson on sentiment — the same news can be viewed wildly differently, depending on the context at that moment.

November Metrics

Roblox gives us their bookings and revenue for November, which you’ve already seen, but they also update their key non-GAAP user metrics. Starting with user growth, that has continued up on a pretty straight line for five quarters now after the initial pandemic surge.

We see the same sort of thing with the numbers of hours of engagement:

But when we combine that with flat bookings, we see that their revenue conversion metrics are coming off pandemic highs.

The reason is that user growth is coming from the least profitable regions. This next chart has regional data not included in November metrics, so it only goes through September.

User growth is now coming largely from their “Rest of World” segment, now the largest. Roblox hasn’t broken this out since their 2020 annuals, but at that point, North American users spent almost nine times what users in the “Rest of World” region did.

At the November metrics run rate, the global average is now down to $51 per user per year.

So the pandemic party in online gaming is coming to an end. The new gaming rules for kids in China will also take a bite out of all their metrics. The pandemic basically packed three years of growth into the space of just a few quarters, and it’s time to catch up to that. It will likely take most of 2022 to do that.

Final Thoughts

Despite all this, I still have a low-key crush on Roblox. They first came on my radar back in 2018, when I watched a 10-year old having the time of his life on Roblox, jumping from game to game, and narrating the whole thing to me like a Twitch streamer. They have fun nailed down pat, and that is the killer app of the metaverse.

But the thing I like the most is that Roblox has a very long-term outlook. They have a very clear vision of what they are trying to build. They understand that it will take a long time, and that a lot of unexpected things will happen along the way. They add social features very slowly and deliberately, always with a focus on trust and safety. The recent virtual groping incident on Facebook Horizon Worlds underscores the importance of Roblox’ important investments and slow pace of adding features.

Of all the metaverse companies we follow at Long View Capital, Roblox remains the only one with the four key assets at this very early stage of the metaverse:

1. Low/no-code development environment.
2. Platform for jumping between metaverse worlds quickly and easily.
3. Backend cloud.
4. Most importantly right now, a very clear vision of what they are building.

But the Facebook announcement cued up a round of extreme hype. We were already close to peak hype in August when Gartner posted their annual hype cycle review:

I’ve highlighted “multiexperience,” what they call metaverse. It was already pretty close to the “Peak of Inflated Expectations,” and the Facebook announcements pushed it farther up. You see what happens after the peak.

I had thought there would be a buying opportunity after Roblox reported the September quarter, but that obviously didn’t happen. Let’s go back to the revenue/bookings chart:

Unless there is an unanticipated surge in bookings, those two lines will meet in the Q1 2022 report, when all trailing eight quarters are pandemic quarters. After that happens, the blue line will also flatten out. Currently my base case is that H2 2022 will represent a nice buying opportunity for Roblox, as well as a bunch of other metaverse names we follow. The biggest event-based complicating factor is when Apple (AAPL) releases their VR/AR headset, which right now looks like fall of 2022, though that can easily change. That will be a bullish catalyst, so the timing is key.

This is a long road, and a lot is going to happen along the way. With Roblox I took a small taste after the IPO hype died down, and since then, I have just been watching and waiting. Be patient with all metaverse names.

Analyst’s Disclosure: I/we have a beneficial long position in the shares of RBLX, AAPL either through stock ownership, options, or other derivatives. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.