The world has changed. Unity? Not so much.
- We are no longer living in a zero-interest-rate policy (ZIRP) environment.
- Revenue-oriented growth strategies focusing on M&A can no longer be sustained, especially without a free-money economy.
- The age of excess has officially ended this year in 2023, and we have shifted towards the age of efficiency over the past few years as our macro-economy has changed.
Unity’s Focus on Revenue Growth
In this context, Unity’s continued playbook, focusing on revenue growth without a profitable quarter in the company’s entire operating history, makes no sense. While developers and especially Unity’s management team appreciate the generous wealth transfer from shareholders, the times have changed.
Consider the historical context of revenue growth at any cost:
While revenue is undoubtedly growing, net loss is growing much faster.
Now, management would have you ignore their GAAP numbers and focus more on “adjusted EBITDA,” where they will handwave and create their alternative reality metrics, hoping you ignore the real problems with their financial health. They will also certainly hope you ignore the egregious amount of stock-based compensation (SBC) that management, and especially JR, took. However, as Warren Buffett says: “show it as a cost because it is a cost.”
Unity management would rather have you focus on adjusted EBITDA, a retelling of reality through window dressing:
“Look, everybody, adjusted EBITDA is turning positive and increasing. Look at the green bar; it’s getting bigger!” They will also argue that stock-based compensation isn’t an actual cost and ignore the egregious jacking of the company by management to enrich themselves:
Are You What You Measure?
I believe the metrics that management teams focus on indicate their thinking.
So, what metric does Unity highlight in its financials?
Dollar-based expansion rate.
This is basically how much additional money Unity can extract from customers on a year-over-year basis.
While this is a popular SAAS metric, management’s focus on this metric is telling. It indicates they likely view customers as significantly under-monetized, with lots of headway to extract more value from them.
While Elon Musk can be a controversial figure, he has successfully created huge new businesses with massive value. What’s an example of metrics Elon focuses on for X/Twitter?
As an alternative perspective to how another management team thinks about their business and customers, Elon Musk and X/Twitter focus on: “unregretted user minutes.” In other words, how much value are they creating for their customers?
How is management thinking about their business, and what are they focused on?
- Unity: How much money can I get from my customers?
- X/Twitter: How much value can I create for my customers?
Pricing Changes: The Unity Run-time Fee
This brings us to the focus upon which many people have already opined ad nauseam. The run-time fee and the surprise pricing changes brought on by Unity.
I won’t focus too much on this except to say this is a symptom of the historical context I’ve laid out above. You have a management team focused on revenue growth who haven’t ever shown a profitable quarter in its history and are wholly oriented around a performance metric of how much money they can extract from customers. What else would you expect? This pricing change was an inevitability.
Management will no doubt argue that they need to charge more for the value they bring and because their costs are so high. But remember, just like in any business, profitability can be achieved by increasing revenue OR decreasing costs. I’m not arguing that they shouldn’t increase costs, by the way. However, I am arguing that Unity is not operating very efficiently.
Unity is a company focused on revenue growth that expanded during the age of excess, not efficiency. It doesn’t have a management team oriented around efficiency or technology, for that matter.
Hence, I would liken Unity today to Twitter pre-Elon Musk. How much of Unity could you cut with a hard-core team and potentially have a much better game engine? 20%? 30%? 70%?
It’s not clear. However, I doubt the current management team will be able to find out.
Change or Die
We are living in a new world.
The management team that focuses its time on management consultants and bankers with the primary objective of revenue growth will not succeed in this new era.
The kind of management team that will succeed will instead focus on:
- Technology: How do they create a great engine with superior technology?
- Customer Value: How do they create as much value for their customers as possible rather than focusing on taking money from them?
The management team that can lead Unity to build a long-term, sustainable business with significant competitive advantage should have a technology orientation, a better read and understanding of the market and games industry, and a maniacal focus on their customers, not bankers/consultants.
Pixels & Profits: Unity Discussion
Watch the video below to hear a more in-depth discussion, including thoughts and commentary from finance guys who are much deeper on this topic than I am.
0:52 High-level overview of Unity’s business: 1. Create and 2. Grow
5:40 Financials overview: Create vs. Grow, revenue growth, impact from Ironsource
12:04 The new world requires a different management approach & dollar-based net expansion rate
21:30 The Unity China business – context behind JV
25:38 Unity management’s egregious stock-based compensation (SBC)
34:44 Overview of Unity M&A activity
38:40 Unity Run-time fees/pricing changes discussion
42:48 Understanding the historical context behind the Unity pricing changes
46:18 Impact of pricing changes to Unity’s business
52:30 Winners & losers
54:18 Applovin impact
55:27 Future outlook for Unity
1:05:43 Final words: Change or die!