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Why Unity Software Stock Glitched on Tuesday

Shares of Unity Software (NYSE: U), a maker of 3D virtualization software for the gaming industry, slid 6% through 10:30 a.m. ET Tuesday after reporting mixed earnings last night.

Analysts already weren't terribly optimistic heading into the company's fourth-quarter report Monday evening, expecting Unity to report sales of $562.7 million but a loss of $0.45 per share. As it tuned out, Unity exceeded expectations on sales, which came in at a strong $609.3 million. Losses, however, were much worse than feared -- $0.66 per share.

Unity Software in Q4 2023

Unity's "revenue beat" wasn't quite as good as it seems, either. According to management, sales grew 35% year over year in Q4. However, this was entirely due to the fact that key customer Weta FX Unity transformed its service contract with Unity into a perpetual license agreement -- paying a fee of $99 million for this. Absent this windfall, Unity's revenue would have declined 2% in the quarter.

On the other hand, the company's "earnings miss" also has a quirk. The effect of the Weta contract transformation, said Unity, was to increase the size of its generally accepted accounting principles (GAAP) loss by $27 million -- about $0.07 per share. That accounts for about one-third of the difference between the loss that Unity was expected to report and what it actually reported.

It's not great news, exactly, but it does lessen the sting of Unity's loss somewhat.

Unity Software in 2024 and beyond

Of course, the big news at Unity last night was the plan to reset the business, as Unity focuses on its "Strategic Portfolio" of its software engine, cloud services, and monetization of both.

Going forward, Unity says it will be gradually exiting businesses that contributed about $283 million to its 2023 revenue (but lost money). Correspondingly, the company hopes to reduce annual operating costs by about $250 million, including by laying off 25% of its workforce. Only after these exits and layoffs are complete does the company hope to "reignite growth" in its strategic portfolio.

What will the effect of all this be in 2024? Management is giving guidance only for its strategic portfolio performance, predicting that revenue will max out around $1.8 billion in 2024 (versus $2 billion in total revenue in 2023), and that this $1.8 billion will represent year-over-year sales growth of 2% to 4%. Management noted, however, that it expects to exit the year with a run rate of revenue growth in the double digits. It did not say if it will be profitable. And for what it's worth, Wall Street analysts are forecasting a loss of $0.99 for fiscal 2024.

All things considered, therefore, 2024 looks like it's going to be one of those dreaded "transition years" for Unity. With sales growth slowing, and profits unlikely to happen, I see no compelling need to own this stock for at least the next 12 months.

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Rich Smith has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Unity Software. The Motley Fool has a disclosure policy.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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