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Why Roblox's Virtual Worlds Could Offer You Real Gains

Roblox -- the immersive, user-generated gaming platform that's gearing up to go public -- recently helped to promote Ready Player Two, Ernest Cline's new sci-fi novel about a high-stakes virtual reality treasure hunt. Based on the impressive numbers Roblox released in its Nov. 19 S-1, investors have several good reasons to consider searching for treasure in the company's own virtual worlds.

Image source: Getty Images.

Building a better business

Roblox allows anyone to create an online video game experience of their own through the tools that it provides. It then takes a cut of the revenue generated by those in-game experiences.

We've seen companies such as Shopify, Wix, Facebook, and YouTube thrive with a similar user-generated revenue model, which enables customers to build businesses of their own. Over the last 12 months, roughly 250 developers on Roblox each earned more than $100,000 worth of Robux, the company's digital currency.

This model has created a self-reinforcing network effect for Roblox. As users build better-quality content, they attract even more users to the platform. And the more users who join the platform, the more lucrative game development becomes for creators and Roblox alike. Each additional person who joins Roblox is increasing the value of the platform as a whole. Roblox pays most of its costs to run its service up front, and it doesn't have to spend a lot of additional money to attract more users. That operating leverage means that the bigger its ranks of users grow, the fatter its profit margins are likely to get.

An "Oasis" for players and investors?

In Cline's Ready Player One and Two novels, the book's heroes search for a vast real-world treasure hidden in The Oasis, a sprawling online virtual world, by its eccentric creator. As part of his partnership with the company to promote his newest novel, Cline himself stated, "Roblox is the closest thing to the Oasis in real life." On Nov. 23, Roblox and Cline unveiled a clue-packed treasure hunt of their own, inviting users to search for in-game prizes through seven Roblox-created worlds. The Roblox world related to the special event drew more than 1 million visits on the first day it was open -- even though the event itself wouldn't kick off until Dec. 1.

While publicity events like these may seem trivial to the long-term potential of the business, they draw users to the platform, which helps feed into that self-reinforcing network effect I mentioned earlier. Two years ago, Roblox hosted a similar event to accompany the film version of Ready Player One, drawing more than 13 million participants. That's pretty impressive, considering that at the end of that year, Roblox only had 13.7 million daily active users (DAU's). We don't yet have numbers for how many users the sequel event has attracted, but today, Roblox stands at more than 36 million DAUs.

Strong stats

Roblox won't go public until early 2021, but it's hard not to like the financials from its S-1. In the last nine months, Roblox saw bookings grow by 171% to $1.2 billion. A "booking" is simply a sale that gets recognized over the lifetime of an average user, which Roblox estimates at 23 months. For most companies in the gaming space, this metric can be as relevant as revenue.

As for profitability, the way Roblox records sales as bookings obliges the company to report a GAAP net loss. But while Roblox appears to be losing money on the surface, it's actually deceptively profitable. From the $1.2 billion in bookings Roblox recognized over the last nine months, the platform generated $345 million in operating cash flow and $293 million in free cash flow.

As long as Roblox continues attracting users, and those users continue spending tons of time on the platform, the power of network effects should allow Roblox to financially benefit. And even if they don't dive into the company's virtual worlds themselves, tech stock investors might also be able to cash in on this trend.

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