Why Unity Software’s Business Model Has an Edge in the Embedded Market

NOTnot all business models are created equal, and Unit software (NYSE:U) has a rather interesting. Simply put, the company enables creators to begin their journey and only benefits when those creators succeed. It costs Unity little to do this, but allows it to capture the benefits.

In this video from Go behind the scenes of Motley Fool, recorded on October 11Fool contributors Jon Quast and Jose Najarro along with analyst Sanmeet Deo explain in more detail how this business model works in favor of Unity.

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Jon Quast: It’s a company I don’t know much about and I was looking forward to someone like you breaking it down like this. I appreciate that very much.

One thing I wanted to point out, I did a bit of work before I came to the show today, and just wanted to point out, you pointed out the different revenue segments for Unity. And the operating segment so once a game or whatever has been launched they provide that service to those developers on an ongoing basis from there it’s actually the biggest part of business in the second quarter of 2021. I just did the math, 67% of their revenue came from the operations segment.

What I also found very interesting is that operating solutions, according to S-1, generate revenue primarily through usage-based models. While the creative segment of the business is a subscription, the operational segment is a usage-based model, which I find very interesting when you think about it from a potential perspective. We’ve talked before on the show about how mobile gaming is the only part of the gaming industry that’s really growing. So by being a usage-based model, Unity empowers those game developers, and once one of them becomes a success, that’s just an advantage for Unity. They are not limited by the set subscription with which they have integrated them, they can integrate very many game developers and potentially benefit from those who end up being an out of control mobile game success.

I just thought that was an interesting aspect. I don’t know if that’s the right shot or not. It was my point of view.

Jose Najarro: Certainly, Jon, and I think that’s something the CEO mentioned. He creates this one, that the designer, the game creator and Unity have the same goal. If their game performs well, Unity will benefit, as will the game developer. That’s what drives Unity to say “Hey, make sure we have the best products for you, make sure we’re able to provide the best services to your customers, because if your game is doing well then we are going to do well, you are going to come back, you are going to do another hit game, this hit game is going to do well and we are going to see that kind of growth. ” That’s a great point you made, Jon.

Sanmeet Deo: Unity is definitely the one I looked at and really like too. It’s one that I personally own myself, one that I’ve followed along.

One of the things that I’m really excited about with this company is the optionality in terms of, right now it’s primarily a game engine and it gets most of its money and business from mobile gaming and creative solutions and also what Jon was told was, the usage-based model, which gives them so many advantages as they grow.

But they are penetrating into these other verticals of architecture, automotive, and film. I like to compare Unity because it’s almost the software, the operating system for AR, VR, and the metaverse. That’s all you want to create in terms of those things. Right now it’s almost a duopoly between Unity and Unreal. For people who may not know, Unreal Engine is made by Epic Games, which is the creator of fortnite.

One thing I’ve come across when researching in terms of concurrency…this advantage of Unity is that it’s low code and easy to learn and used a lot in small mobile games, while Unreal is a little harder to learn, it’s a little more complicated. It’s also been used for a lot of what they call AAA game titles, which are the big titles we think of.

What’s interesting about Unity is that they offer their software subscription plan for free to anyone with less than $100,000 in income, so students and young people or young creators or developers are looking to learn software like Udemy where you can learn how to use it and then you can just get the software yourself and start creating. Unity really wants to capture that developer from the time they get interested and start, to when they could potentially become their own developer or team of developers or start their own development company.

It’s very much about the content economy and empowering the content, or should I say more in that sense, the developer community, allowing them to learn their software, to use their software, to grow with their software, and they both grow together. Very interesting there in terms of structure compared to Unreal and how their strategy differs a bit on that.

It’s a huge market. I think Dave said it was a $29 billion TAM [total addressable market] and growing. As we said, mobile gaming is the fastest growing gaming segment.

One thing that I also like about this company is that we talked a lot, again, I keep saying the convergence of movies and games and everything. It’s all gonna fit together, what are you gonna use to make it fit together? Something like Unity is like the operating system for all those things.

I don’t know if you also know that Zuckerberg, from Facebook notoriety, [laughs] wanted to buy Unity in, I think it was 2015. Because he saw it as a key platform or core technology for the metaverse. He actually wrote a recently available note about why he wanted to buy Unity and where it went. If I can find that, I will definitely pass it on. But that says a lot about when Mark Zuckerberg was interested in buying you and now considering that Facebook is watching its own metaverse initiative and goal. It’s a really exciting business. Thanks for introducing it. Other questions about Unity or?

Quest: I just wanted to point out something you just said Sanmeet, and that’s how they onboard new developers. There are no fees below a certain amount of income. It is a company with 79% gross margin. I talked about it on The rank earlier today, this option is better when the greater the asymmetries. What I mean by that is that when there’s little downside to doing something, but a lot of upside potential, it’s an asymmetry of optionality that favors investors. With gross margins of 79%, it’s an inexpensive thing to offer someone this. But since this is a usage-based model, the upside asymmetry is very favorable to investors. I really like the business model.

Randi Zuckerberg, former director of market development and spokesperson for Facebook and sister of its CEO, Mark Zuckerberg, is a member of the board of directors of The Motley Fool. Jon Quast has no position in any of the stocks mentioned. Jose Najarro owns shares of Facebook and Unity Software Inc. Sanmeet Deo owns shares of Unity Software Inc. The Motley Fool owns shares and endorses Facebook and Unity Software Inc. 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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