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Camilla Care

Is this AI stock the best buy in the video game industry right now?

Vaseline 4 weeks ago

AppLovin shares have exploded higher. Could there be more to it?

Shares of a digital advertising and mobile video game company AppLovin (APP -2.99%) continue to recover towards record highs during the height of the pandemic. The stock price is up almost 80% so far in 2024, and over 570% since the beginning of 2023!

AppLovin operates in two fiercely competitive markets: mobile video games and digital advertising. Nevertheless, this company provides everything necessary to convince the market. Is this the best way to bet on the video game industry right now?

Is AppLovin following a secular growth trend?

Within the massive digital advertising industry – which is quickly approaching $700 billion per year by 2024, up about 8% to 10% from 2023 – in-app advertising has become big business. That’s because once an app is downloaded and used, there is a verifiable and trackable consumer interest in the user’s behavior.

This is an industry that Alphabet‘s Google and Metaplatforms (via Facebook, Instagram and WhatsApp) have dominated. Besides, maybe The Trade BureauMany start-up digital advertising companies have tried, and struggled, to maintain any kind of consistent growth and profitability.

But AppLovin has been a rare notable exception to this.

APP Earnings Chart (TTM).

Data per YCharts. TTM = after 12 months.

What’s AppLovin’s secret sauce, beyond simply moving to a mass migration to digital ad spend?

How AppLovin makes money

As I’ve discussed in recent quarters, AppLovin organizes its business into two primary segments:

  1. The fast-growing software platform, which generated $1.84 billion of total revenue of $3.28 billion in 2023 (up 78% year-over-year). Within this, the AXON 2.0 AI platform powers various services:
  • AppDiscovery marketing for developers of video games and other apps to reach their mobile audiences.
  • The MAX monetization solution, an in-app bidding technology that runs a real-time competitive auction to generate higher ad revenue for the app publisher.
  • Adjust, a measurement and analysis tool for marketers.
  • Wurl, the internet service acquired last year that distributes streaming video and advertisements to attract viewers.
  • And the Apps division, responsible for the remaining $1.44 billion in 2023 revenue, fell 18% from 2022 as AppLovin reined in costs to boost profitability. A few games in particular made up about 15% of AppLovin’s total turnover last year:
    • Project makeover
    • Matchington Mansion
    • Word landscapes

    AppLovin’s studios are not only used by other digital advertising companies and mobile video game publishers, but also achieve great returns on investment using the AXON 2.0 software platform.

    AppLovin also generates some incredible profit margins on an adjusted earnings before interest, taxes, depreciation, and amortization basis through its software platform, with this now larger segment’s adjusted EBITDA reaching 73% in Q4 2023. .

    Is this story real?

    If, like me, you have suffered past trauma from investing in Unity software (YOU -2.31%), you may be hesitant to buy AppLovin stock. These two companies are indeed top competitors. Unity has an app monetization platform like AppLovin, but it also has video game development software called AppLovin not to have.

    Even though Unity is still deep in the red, AppLovin has cracked the code in every way possible to make a healthy profit. First-quarter guidance for revenue of $955 million to $975 million (up 36% year-over-year at the high end of expectations) was accompanied by adjusted EBITDA expectations of $475 million to $495 million. That’s almost double the $274 million in the first quarter of last year. Profit margin expansion is still the name of the game for AppLovin, thanks to that AI platform for mobile game publishers.

    And over the past year, a large part of that extra profit has been spent on share buybacks. Management repurchased $1.15 billion worth of stock in 2023, handily offsetting the $363 million in stock-based compensation for employees.

    Amazingly, AppLovin’s stock now trades for just 15 times Wall Street analysts’ consensus estimate for 2024 earnings per share. One reason for this apparent “value” is that the company ended 2023 with just $502 million in cash and short-term investments, but with a total debt of $3.12 billion.

    That doesn’t leave much room for acquisitions, should they be necessary to stay competitive in the mobile gaming and advertising industries.

    A cheaper forward-looking valuation is therefore justified for this share. However, given the software platform’s rapid rise thanks to AXON 2.0 AI marketing tools, AppLovin remains on my watchlist as one of the top video game stocks I could potentially buy in 2024.

    Suzanne Frey, a director at Alphabet, is a member of The Motley Fool’s board of directors. Randi Zuckerberg, former director of market development and spokeswoman for Facebook and sister of Mark Zuckerberg, CEO of Meta Platforms, is a member of The Motley Fool’s board of directors. Nicholas Rossolillo and his clients have positions at Alphabet, Meta Platforms and The Trade Desk. The Motley Fool holds positions in and recommends Alphabet, Meta Platforms, The Trade Desk, and Unity Software. The Motley Fool has a disclosure policy.