Review date: August 9, 2024
Verdict:
Q2 2024 was a step in the right direction. Management needs to deliver on the promises of the Unity 6 launch date and further operational efficiency next quarter.
Read our review for Q1 2024, where we made a detailed analysis of the company. This review will focus on what changed or was confirmed in the Q2 data and earnings call.
Operational efficiency
A quarter ago Unity’s then-CEO promised that restructuring would save $250M in Operating expenses plus additional savings in cost of goods sold and stock-based compensation.
| Savings Q2 2024, YoY | millions USD |
| Operating expenses (ex-SBC) | 54.2 |
| Cost of goods sold* | 24.9 |
| Stock-based compensation (SBC) | 42.1 |
| Total | 121.2 |
* Gross margin improved by 5.5 points: from 70.3% to 75.8%. To calculate savings we multiplied 5.5% by the Q2 sales.
To achieve the target of $250M annual OpEx savings, Unity needs $62.5M savings per quarter. OpEx were $54.2M lower during Q2, including -$9.7M Depreciation and amortisation expense.
This is a good result for Q2 but more is needed next quarter.
As a result of lower OpEx, Unity had $79.6M of Free cash flow in Q2, a significant improvement from a year ago (in thousands USD):
Sales guidance
Unity lowered significantly its sales guidance for H2 2024:
Unity’s CFO gave the following reason:
While we’re seeing positive impacts from the improvements being made to our ad network and level-play products, we now believe that it will take us longer to see their full impact on revenue growth.
Revenue in the Grow segment (Ads) was down 9% YoY in Q2 and is expected to be lower in H2. Interestingly, Unity’s CFO admitted they didn’t count on seasonality in this guidance, which is usually quite good later in the year. Either seasonality will bring additional revenue or, more likely, they expect Unity Ads sales to remain weak this year.
The whole market doesn’t look good: Google Network (ads in apps and third-party websites) showed -5.2% YoY sales in Q2. Yet -9% for Unity means they continue to lose market share in Ads. The new CEO Matthew Bromberg hired two new leaders for this segment, who founded successful companies in the Ad tech space earlier. And we have high hopes for the Unity 6 release with the new monetisation. But it will probably impact sales from early or mid-2025.
The Create segment (game engine subscriptions) is expected to continue with a “double-digit” growth. Part of this growth comes from higher subscription prices, as Unity moved developers from cheaper Plus to more expensive Pro plans. However the fastest growth happened in the Industry niche, which had 59% YoY higher sales in Q2 and already represents 18% of the total Create revenue, up from 12% a year ago.
While bad Ads sales were expected and the Create segment is growing nicely, this lower guidance is a negative development.
New CEO’s vision
The Industry niche is the fastest-growing but Bromberg comes from the Gaming market. So there is a fear he might give more priority to slower-growing Gaming.
Earnings call gave good news: the new CEO recognises the importance of Industry. But we are cautious about his answer to the relevant question. His number one priority is the Gaming because he is confident that excellent execution in this area will strengthen the core of the company. As Industry uses the same engine, it will also benefit from this approach.
This makes sense but in our opinion Industry should be the priority because this is a much bigger potential market with a wider moat. This view is up for debate.
Other developments
Unity 6 launch is promised for this fall, which likely means November. It’s good that the CEO made such a promise and we hope he will deliver.
End-of-year guidance for fully diluted shares came much lower than a quarter ago: +2% for the full year instead of +3.8%, which is very good.
Restructuring is almost finished. Unity had just $28M in restructuring costs in Q2 vs $212M in Q1. And non-strategic portfolio brought in only $23M of revenue in Q2 (5% of the total).
Summary
Q2 2024 was a positive quarter for Unity: the company is operating with higher margins and is just a quarter away from the launch of its new game engine, which could significantly improve monetisation from 2025.
Lower sales guidance was expected, as many companies reported weak sales in mobile application ads. However a lower Ad market share is a negative development.
We expect Unity 6 to improve this situation, the company also invested in this area and hired experienced and successful Ad tech leaders. Now the CEO needs to deliver. For the next quarter’s earnings we will look for a Unity 6 launch, lower operating expenses, and maybe some 2025 guidance.
Unity beat its guidance for Q1 and Q2 sales, so we won’t be surprised if the company delivers better results in H2 than guided. Especially as there will be a huge spending on political ads during this period.
We continue to hold our shares.