We started our October 2023 article discussing the sudden departure of Unity Software’s CEO John Riccitiello as follows:
“Communication, in all its myriad formats, is the cornerstone of a functioning society and nowhere is this more true than when it comes to corporate communication.”
We went on to discuss the parallels between the failure of Silicon Valley Bank and Unity’s CEO resigning amidst significant customer backlash in this article. When my friend Gaurav pitched Unity during one of our idea lunches/dinners in the San Francisco Bay Area in mid-2024, I was reminded of our coverage of the company from the prior year.
He recently shared his firm, Tilden Path Capital‘s, Q4 2024 investor letter with me and the letter discussed his thesis about Unity as well as the impact of their new CEO Matthew Bromberg. I felt that this would be a good follow-up article to our prior C-Suite Transitions article about Unity and we have reproduced the Unity part of his investor letter below.
Unity Software (U): $19.44
Market Cap: $7.83B
EV: $8.66B
Discussion of Portfolio Holding – Unity
Tilden’s first investment in a turnaround candidate, Unity (U), was driven by its advantages on the key factors that contribute to our Durable Growth Score. Firstly, Unity’s new management has a strong track record of excellent technology stewardship. Also, Unity demonstrates strong product irreplicability, as its core gaming engine is the foundation of more than half of mobile games and is not easy to replicate.
And finally, Unity has high ecosystem strength thanks to its robust community. In addition, valuation matters, and Unity featuring 3.7x EV/Sales and an EV/FCF of 2.3% for the last twelve months in June 2024 while selling at the cheapest valuation since its 2021 IPO persuaded us to start a position. Unity has been a profitable investment so far for Tilden’s clients, but it remains a “show me” story for 2025 and our optimism is cautious, driven primarily by the track record of the new management team (CEO and Chairman).
Background
Unity is a cross-platform gaming engine first launched in 2005 that revolutionized the independent (“indie”) gaming industry for both seasoned and novice developers through its ease of use and versatility. More than 70% of the top mobile games use a Unity SDK. Unity’s 3D visualization has also been adopted by non-gaming verticals like automotive, manufacturing, and the US Armed Forces.
Unity’s recent troubles started in an effort to boost revenue from developers to improve its take rate of less than 1% of gaming industry revenue. The previous CEO made several acquisitions (which are now being divested) and also instituted a runtime fee that charged for each installation (vs. earlier subscription pricing). The new fee resulted in an immediate and powerful backlash from developers. In May 2024 Unity introduced a new management team: a new CEO and a chairman, who was earlier the interim CEO between October 2023 and May 2024.
Unity’s business has two segments: Create Solutions (30% of revenue) includes the game engine and industry solutions, while Grow Solutions (70% of revenue) monetizes games and includes an ad network. Industry solutions refer to the use of Unity’s 3D capabilities for non-gaming use cases in areas like architecture, construction, and even the airline industry. Tilden’s cautious optimism for the stock stems from faith in future growth in Create Solutions.
Rating Unity on Tilden Path Capital’s Durable Growth Score
Unity’s Technology Stewardship (Durable Score Weighting: 20%, Score: 4/5)
Matthew Bromberg, the new CEO of Unity, was Zynga’s COO from 2016 to 2022 and created ten billion dollars in additional shareholder value before Zynga’s sale to Take Two Interactive (TTWO). Bromberg’s experience at Zynga and Electronic Arts (EA) as an operator with an expertise in driving improved efficiency can help improve margins given Unity’s relatively high R&D and Sales & Marketing costs.
Jim Whitehurst (ex-CEO of Red Hat) is the new chairman and served as interim CEO at Unity between Oct 2023 and May 2024. He continues to be involved, and understands how to manage a community of developers given his Red Hat experience. He intends to help with industry solutions, which leverages his enterprise-software background.
Much of Tilden’s faith in Unity’s future success hinges on the new management’s track record and also the backing of two seasoned and long-term-minded investors: Silver Lake and Sequoia Capital, with a combined ownership of 16.6% of the company. Silver Lake has managed other long-term turnarounds like Dell and Motorola Solutions, which improves Unity’s chances of recovering and growing.
Unity’s Ecosystem Strength (Durable Score Weighting: 15%, Score: 4/5)
Unity has a strong community base of indie game developers. This strength is well understood by Jim Whitehurst, who explained that he took the interim CEO job after the runtime-fee debacle partly because of the strength of the community:
“If this inspires this much passion, there’s something really cool here.”
Unity’s ecosystem gives developers access to the biggest marketplace for game assets, 3rd party addons and custom tooling – all making it easier for developers in building their games. The community has had a multi-year head start on competitors like Unreal and open-source alternative GoDot.
During the Q3 ’24 earnings call, management shared that apps using Unity have 3 billion monthly downloads and the newly released Unity 6 had reached 500,000 downloads (within twenty days of launch), which compares favorably with previous releases. These numbers show that the Unity community is still engaged.
The new management is turning the company back towards its roots of focus on game developers, and is aiming to be a fundamentally different company. The response to the cancellation of the runtime fee has been positive. In the Q3 ’24 earnings call, the CEO described this response:
“For example, at our Unite conference in Barcelona, where literally 50 customers came up to me and said, hey, I had said I had told everybody internally, no upgrading to Unity 6, and now that you’ve repealed it and you’ve reverted to the subscription where, we’re at green light.”
Tilden’s interviews with a few independent gaming developers revealed that developers are not considering quitting Unity, as moving to a new engine takes significant effort and time.
Unity’s Product/Process Irreplicability (Durable Score Weighting: 25%, Score: 4/5)
Unity’s primary competition in the gaming-engine space is Unreal from Epic Games. Though Unity and Unreal compete, each caters to different market segments, Epic to high-end AAA games and Unity to indie game developers. Unreal has advantages in 3D graphics including visual effects and lighting, but it requires higher-end hardware to support its capabilities, making it unsuitable for basic mobile games. This gives Unity an advantage. Unreal’s pricing of 5% royalty for revenue in excess of $1M caters more to high-end AAA games.
Unity continues to remain the gaming engine of choice for independent developers due to its advantages in ease of use, versatility, and cross-platform compatibility over gaming consoles, mobile (iOS and Android), web, desktop, and AR/VR platforms. GoDot, Unity’s leading open-source alternative, still lacks key features for advanced 3D support, as well as the community tools and support that Unity’s game developers have. The view is that Unity can continue to be the preferred choice for indie developers, if it takes steps to win back trust and doesn’t antagonize its developers again.
Other Factors of Tilden’s Durable Growth Score
Other Durable Growth Score factors for Unity include switching costs (Weighting: 25%, Score: 4/5), and customer experience (15%, 3/5). Taken together, these result in a weighted average score of 3.93/5 — a top-quartile result.
Unity’s Revenue Trajectory – Why it might beat Wall Street estimates
Wall Street estimates 1% revenue growth in 2025 and 6% in 2026, but Tilden’s research suggests that Unity will grow faster, based on two factors. First, Create Solutions can sustain a growth story of at least double digits. And second, monetization will likely grow in low single digits in the base case and high single digits to low double digits in the best case. Our conclusion is that the new management will ultimately get the monetization story right. An important sidenote is that Unity’s decrease in revenue in 2024 is due partly to management divesting some businesses and focusing on fewer areas – a welcome change.
What will drive double-digit growth in Unity’s Create Solutions?
Subscription-Pricing Growth
The main thesis about double-digit revenue growth for Unity’s Create Solutions is the increase in subscription pricing for Unity. Coincident with cancelling the runtime fee, Unity increased prices by 8% for pro plans to $2,200/year (applicable to most independent developers) and by 25% for enterprise plans. For independent developers, the free tier was updated to apply at under $200,000 of revenue. A developer that makes $300k to $500k and pays $2,200/year is still paying only 0.4% to 0.7% of its revenue, a relatively tiny cost in the shadow of mobile app stores charging 30% of revenue. Personal interviews with game developers reveal that they don’t feel the price increase is prohibitive. Unity has reported subscription-revenue growth of double digits for the past several quarters, and this is likely to continue.
Industry Solutions (part of Create Solutions)
In the Q4 ’23 earnings call, Unity management noted that industry revenue could rise from 23% of subscription revenue to the majority. In the Q3 ’24 call, management shared that the industry was 18% of total Create Solutions revenue and growing by 59% year-over-year. The key advantage driving the growth of Unity’s 3D visualization engine in industry is cross-platform support, as shared by management in the Q4 ’23 call:
“We’re about the only player who can do real-time interactive 3D on lighter-weight devices like web browsers, iPads, and phones. So, in all types of industry, whether that’s kind of automotive, aerospace, et cetera, there’s a lot of interest in us being the visualization solution in those markets.”
Industry buyers of Unity described in the Q3 ’24 earnings call include the Dutch Airline KLM, which is building a VR cockpit-training application, and German national rail operator Deutsche Bahn, which has built a series of systems and training simulations in Unity.
What’s next for Grow Solutions (Game Monetization)?
The Grow Solutions component of Unity is suffering from a revenue drop, with strategic revenue (not counting divestitures) expected to decline 6% year-over-year in FY 2024. Some of this is a result of a boycott of Unity ads by developers due to the runtime-fee issues, and some because Unity’s competitor AppLovin is gaining market share by offering a better ROI on advertising. However, Unity has certain advantages to revive its growth story in this segment.
Unity has a data advantage thanks to data from game developers
Applovin lacks Unity’s data advantage, one reason that it made a bid to acquire Unity in 2022. Gaming-focused venture firm Konvoy addressed that through the acquisition of Unity, Applovin would gain the data advantage:
“With the merger, AppLovin would gain access to Unity’s extensive data from game developers, giving the joint entity a potential leg up in ad targeting and monetization strategies.”
Unity’s management recognizes this. In the Q3 ’24 call, Bromberg noted this:
“Unity has a unique insight into how to maximize the lifetime value of the game, and consumer, and it’s derived from our integral role in both the development and live operations of cross-platform games.”
Monetization/Advertising is not a winner-take-all market
To revive growth in the monetization segment, over the past year, Unity’s team has focused on rebuilding the machine-learning infrastructure based on improved data signals to increase the ROI for advertising spend. Bromberg has stated that the new model is being tested on live data to encouraging results.
Also supporting Unity’s chances of reviving growth is that game developers don’t want to depend on one ad network. They prefer to work across ad networks and advertising-solution providers, as this is not a winner-take-all market. Interim CEO Jim Whitehurst noted this in the Q1 ’24 earnings call:
“No one wants to have one partner, right? That scares people. You don’t want to be reliant on one partner, especially given the ability, if you have a lot of [market] share, to just increase your margin – i.e., what you pay a publisher versus what you charge. And so people want competition there.”
Thus, Unity will potentially be able to stem the decline and gain back market share from other players in the market. Bromberg described this in the Q3 ’24 earnings call:
“I would say there’s a lot of runway for us to grow … especially on the monetization side. And we’re convinced that as our oering and our tools and our insights improve the opportunity is going to be meaningful.
Unity Valuation
Our base case estimates that the Create Solutions segment will grow by more than 15% from 2025 to 2027, driven by double-digit growth in subscription pricing and 40% growth in industry solutions (which grew 59% YoY in Q3 ’24). Our base case for Grow Solutions is a 3% growth rate for the next three years, and in the best case a growth rate of 5-12% over the next three years. That translates to a range of $2.1B to $2.4B revenue for Unity in 2027. Estimates for our base case and the best case are included in the tables below.
Unity’s gross margins as of Q3 ’24 are 74.9%, R&D costs as a percentage of revenue are 55%, and SG&A costs are 48.2% bringing total operating costs to 103% as a percentage of revenue. Our belief is that the management will gradually drive down operating costs (R&D and SG&A) to lower costs from 103% of revenue to 70% by the end of 2027 – leading to GAAP profitability by the end of 2027 in both scenarios.
Our estimates are based on management comments on driving efficiency, the CEO’s track record at Zynga, and operating costs that are presently higher than industry averages. For example, AppLovin operating costs for the last 12 months were 38% as a percentage of revenue. Management is guiding to 2% annual share dilution in 2024 vs last year, signaling a focus on shareholder interests.
Applying a conservative EV/Sales of 6x-7x to our revenue ranges of $2.1B–$2.4B, we arrive at a valuation range of $13–$16.7B in 2027 – an upside of 45%-87% from Unity’s current valuation of $8.9B. Unity’s current EV/sales ratio is 5.7x for the next 12 months, and the median multiple for SaaS companies for the next 12 months is 6.6x. Our hypothesis is that increased profitability by 2027 will afford Unity a higher EV/sales multiple.
The risk to this valuation is that the gaming sector growth which has been sluggish since the pandemic does not recover which will negatively impact Unity. The other risk is that management can’t turn around the monetization segment, and thus Grow revenue shows a decline instead of growth. This valuation exercise was finalized on Jan 31, 2025.
Our first purchase of Unity stock was in June ‘24 at ~$16, and we added to our position (after the new CEO cancelled the runtime fee) in Oct ‘24 at ~$20. We intend to hold unless Unity’s competitive position drops as evaluated by Tilden Path’s Durable Growth Score.
Estimates for Our Base Case (all numbers in GAAP, 2024 and beyond are estimates):
CEO
CFO
General Counsel/Chief Legal Officer
Others
Appointments
1. Johnson Controls International (JCI): $89.03
On February 5, 2025, Johnson Controls International announced that Joakim Weidemanis will join the company and succeed George Oliver as Chief Executive Officer and principal executive officer. Weidemanis is set to take over as CEO on March 12, 2025.
| MarketCap: $58.77B | Avg. Daily Volume (30 days): 3,988,916 | Revenue (TTM): $23.17B |
| Net Income Margin (TTM): 7.85% | ROE (TTM): 11.00% | Net Debt: $8.23B |
| P/E: 41.80 | Forward P/E: 22.97 | EV/EBIDTA (TTM): 24.28 |
| P/S (TTM): 2.64 | P/B (TTM): 3.34 | 52 Week Range: $55.07 – $89.95 |
2. Skyworks Solutions (SWKS): $66.19
On February 05, 2025, Skyworks Solutions announced that Philip Brace has been appointed president and chief executive officer and a member of the board of directors, effective Feb. 17, 2025.
| MarketCap: $10.64B | Avg. Daily Volume (30 days): 2,966,493 | Revenue (TTM): $4.05B |
| Net Income Margin (TTM): 13.02% | ROE (TTM): 8.28% | Net Cash: $362M |
| P/E: 20.37 | Forward P/E: 16.66 | EV/EBIDTA (TTM): 10.87 |
| P/S (TTM): 2.59 | P/B (TTM): 2.26 | 52 Week Range: $62.01 – $120.86 |
3. Match Group (MTCH): $34
On February 2, 2025, the Board of Directors of Match Group appointed Zillow’s Co-Founder Spencer Rascoff as Chief Executive Officer, effective February 4, 2025.
| MarketCap: $8.54B | Avg. Daily Volume (30 days): 4,420,038 | Revenue (TTM): $3.48B |
| Net Income Margin (TTM): 15.84% | ROE (TTM): N/A | Net Debt: $2.98B |
| P/E: 16.83 | Forward P/E: 16.18 | EV/EBIDTA (TTM): 8.84 |
| P/S (TTM): 2.45 | P/B (TTM): -132.09 | 52 Week Range: $27.66 – $38.84 |
4. Southwest Airlines Company (LUV): $29.88
On February 10, 2025, the Board of Directors of Southwest Airlines Co. elected Tom Doxey to succeed Tammy Romo as Executive Vice President & Chief Financial Officer and assume the responsibilities of the Company’s principal financial officer, effective March 10, 2025, at which time Ms. Romo will step down from that role.
| MarketCap: $17.71B | Avg. Daily Volume (30 days): 7,296,700 | Revenue (TTM): $27.48B |
| Net Income Margin (TTM): 1.69% | ROE (TTM): 4.48% | Net Cash: $287M |
| P/E: 39.32 | Forward P/E: 18.26 | EV/EBIDTA (TTM): 5.37 |
| P/S (TTM): 0.65 | P/B (TTM): 1.93 | 52 Week Range: $23.58 – $36.12 |
5. Salesforce (CRM): $326.12
On February 5, 2025, Salesforce announced that Robin Washington will become President and Chief Operating and Financial Officer (COFO), effective March 21, 2025.
| MarketCap: $312.10B | Avg. Daily Volume (30 days): 6,535,578 | Revenue (TTM): $37.19B |
| Net Income Margin (TTM): 21.13% | ROE (TTM): 13.35% | Net Cash: $10B |
| P/E: 53.73 | Forward P/E: 27.47 | EV/EBIDTA (TTM): 39.07 |
| P/S (TTM): 8.39 | P/B (TTM): 4.79 | 52 Week Range: $212.00 – $369.00 |
Departures
1. Vertex Pharmaceuticals (VRTX): $453.20
On February 10, 2025, Vertex Pharmaceuticals announced the retirement of Stuart A. Arbuckle, the company’s Executive Vice President and Chief Operating Officer, effective on July 1, 2025.
| MarketCap: $116.71B | Avg. Daily Volume (30 days): 1,725,496 | Revenue (TTM): $11.02B |
| Net Income Margin (TTM): -4.52% | ROE (TTM): -2.88% | Net Cash: $5B |
| P/E: -216.84 | Forward P/E: 26.47 | EV/EBIDTA (TTM): 219.64 |
| P/S (TTM): 11.05 | P/B (TTM): 7.68 | 52 Week Range: $377.85 – $519.88 |
2. Ares Management Corp (ARES): $182.81
Effective February 5, 2025, Michael J. Arougheti stepped down as President. Arougheti, a co-founder of the Company will continue as Chief Executive Officer and remain a member of the Board.
| MarketCap: $36.27B | Avg. Daily Volume (30 days): 1,077,858 | Revenue (TTM): $3.88B |
| Net Income Margin (TTM): 11.97% | ROE (TTM): 23.14% | Net Cash: $1B |
| P/E: 90.05 | Forward P/E: 38.49 | EV/EBIDTA (TTM): 15.62 |
| P/S (TTM): 9.70 | P/B (TTM): 15.07 | 52 Week Range: $125.23 – $200.49 |
3. Johnson Controls International (JCI): $89.03
On February 5, 2025, Johnson Controls International announced that Joakim Weidemanis will join the company and succeed George Oliver as Chief Executive Officer and principal executive officer effective March 12, 2025.
| MarketCap: $58.77B | Avg. Daily Volume (30 days): 3,988,916 | Revenue (TTM): $23.17B |
| Net Income Margin (TTM): 7.85% | ROE (TTM): 11.00% | Net Debt: $8.23B |
| P/E: 41.80 | Forward P/E: 22.97 | EV/EBIDTA (TTM): 24.28 |
| P/S (TTM): 2.64 | P/B (TTM): 3.34 | 52 Week Range: $55.07 – $89.95 |
4. Skyworks Solutions (SWKS): $66.19
On February 05, 2025, Skyworks Solutions announced that following the appointment of Philip Brace as president and chief executive officer, Liam K. Griffin will step down as president and CEO effective Feb. 17, 2025.
| MarketCap: $10.64B | Avg. Daily Volume (30 days): 2,966,493 | Revenue (TTM): $4.05B |
| Net Income Margin (TTM): 13.02% | ROE (TTM): 8.28% | Net Cash: $362M |
| P/E: 20.37 | Forward P/E: 16.66 | EV/EBIDTA (TTM): 10.87 |
| P/S (TTM): 2.59 | P/B (TTM): 2.26 | 52 Week Range: $62.01 – $120.86 |
5. Salesforce (CRM): $326.12
On February 5, 2025, Salesforce announced that after a 25-year career at Salesforce, President and COO Brian Millham will step down on March 21, 2025, and retire on May 1, 2025, transitioning into an advisory role.
| MarketCap: $312.10B | Avg. Daily Volume (30 days): 6,535,578 | Revenue (TTM): $37.19B |
| Net Income Margin (TTM): 21.13% | ROE (TTM): 13.35% | Net Cash: $10B |
| P/E: 53.73 | Forward P/E: 27.47 | EV/EBIDTA (TTM): 39.07 |
| P/S (TTM): 8.39 | P/B (TTM): 4.79 | 52 Week Range: $212.00 – $369.00 |
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Disclaimer: I hold a long position in Vertex Pharmaceuticals (VRTX). Please do your own due diligence before buying or selling any securities mentioned in this article. We do not warrant the completeness or accuracy of the content or data provided in this article.