Lately, Unity Software (U) seems as indestructible as some of the characters created by its 3D engines, with shares up over 40% in the past month. It looked like there would finally be a pullback after the stock’s Q3 earnings, but that didn’t happen, and it has continued to move higher.
Valuation
I have had Unity on my watchlist for a while, waiting for a pullback to initiate a position. However, after the stock price’s continued strength, I finally decided to stop waiting and start a position. I am bullish on Unity Software. (See Analysts’ Top Stocks on TipRanks)
While shares of Unity look expensive by any metric, a rich valuation hasn’t stopped stocks like Cloudflare (NET) and NVIDIA (NVDA) from breaking out to the upside over the past month.
Ultimate Metaverse Play?
The chart for Unity looks fantastic, and shares have broken through resistance. I think shares can keep climbing, just like those of Cloudflare and NVIDIA. The metaverse is at the tip of everyone’s tongue right now, whether it’s Facebook’s name change to Meta Platforms (FB) or Disney (DIS) CEO Bob Chapek discussing the metaverse in Disney’s third-quarter earnings.
As a company that will likely play an important role in the metaverse, I don’t foresee market conditions allowing investors to buy Unity at a ‘cheap’ valuation any time soon.
Ark Invest has previously forecast that revenue from ‘virtual worlds’ will grow at a CAGR of 17% annually from 2021 to $390 billion in 2025. In addition, it expects in-game purchases to nearly triple to almost $350 billion over this timeframe. Unity is in pole position to capitalize on both of these megatrends.
Unity explains that “as gaming has proliferated, the business models for content have evolved beyond one-time purchases to include advertising and in-app purchases. Unity enables these new business models by providing creators with the solutions they need to easily run and monetize their content.”
Beyond Gaming
Increased in-game spending and the rise of the metaverse are powerful growth drivers for Unity. However, as augmented reality and virtual reality become more prevalent, Unity will see a growing number of use cases outside of gaming – autonomous driving simulation, virtual safety training, automotive and building design, and more.
Success in these fields will drastically expand the size of Unity’s total addressable market. Ark Invest forecasts that the global AR & VR market will grow at an eye-popping 59% CAGR from now until 2025.
The Gift that Keeps on Giving
An underrated aspect of Unity that I really like is its ‘Unity Learn’ platform that comes with its Create business. This gives customers over 750 hours of educational content on using Unity’s solutions and improving their craft as developers. There are also free personal and student accounts.
What I like about this is that Unity is helping new and aspiring developers to learn and build new skills. Some of these developers are the ones who will go on to create the blockbuster games of tomorrow. Since they honed their craft using Unity’s products, these users are likely to continue using them. This reminds me of Salesforce (CRM) offering free training. As a result of its efforts, the company now has an army of administrators evangelizing its products at corporate enterprises worldwide.
Wall Street’s Take
While the analyst community rates Unity Software as a Moderate Buy, the average Unity Software price target of $168.63 is actually 15.7% below Unity’s current share price, reflecting the fact that analysts are trying to keep pace with the stock’s valuation.
Seven of the analysts covering Unity rate it as a Buy while three analysts have a Hold rating. None of the analysts covering the stock have a Sell rating on it.
Looking Ahead
Unity appears to be richly valued. Nonetheless, it is a key beneficiary of some of the most powerful investing themes in the next decade, including the metaverse, in-game economies, AR, and VR. For that reason, I am bullish on Unity Software.
Disclosure: At the time of publication, Michael Byrne owned shares of Unity Software.
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