Roblox (RBLX 1.22%) stock rocketed 46% over the last year to a recent 52-week high of $62.42. The popular gaming platform reported accelerating growth in key metrics like daily active users, bookings, and free cash flow that pushed the shares higher.
But is Roblox stock primed for further gains from this point?
The stock is now trading at a higher valuation, and with that comes higher expectations for growth. While Roblox is enjoying strong momentum that should keep the top and bottom lines growing at healthy rates, management's long-term financial targets for margins and free cash flow may suggest moderating growth in the new year, which could limit the stock's gains compared to last year.
Accelerating growth in all the key metrics
Roblox was hit with slowing revenue growth after the pandemic lockdowns, when everyone was spending more time at home, but it's gaining momentum again. Beyond a return to business (and gaming) as usual, management has recently made several adjustments that are driving strong top- and bottom-line performance.
Adjusted revenue, also known as bookings, grew 34% year over year in the third quarter. This version of the top-line reading focuses on direct cash payments, excluding non-cash items such as changes in deferred revenue. The third-quarter reading was an acceleration from growth of 19% in the first quarter and 22% in the second.
This robust top-line growth was driven by an increase in daily active users of 27% year over year. This follows Roblox's 2023 launch on Sony's PlayStation console, which welcomed a wave of new players to the platform.
The growth also stems from several other factors. Leading examples include more frequent content updates from the developer community, improvements to search and discovery on the Roblox platform, and adjustments management made to pricing for paid experiences.
The stock is also responding to the sharp increase in free cash flow. Roblox invested significant resources in 2022 and 2023 to improve the technology infrastructure in support of the growth it experienced during the pandemic's height. The increase in investment caused free cash flow to plummet. With that temporary splurge on investments behind it, management is calling for 2024 free cash flow to reach a record between $621 million and $636 million.
What about the stock's valuation?
On a price-to-free cash flow basis, the stock is trading at a rich multiple of 63 times 2024 guidance. That is expensive, but if Roblox doubles free cash flow again in 2025, the multiple drops to 31, and that would look attractive for a company growing at these levels.
But can Roblox continue growing free cash flow at these rates? Management believes the business can sustain top-line growth of over 20% per year through 2027, while expanding margins by a few points each year. Based on improving margins, this would mean free cash flow can grow faster than the top line, or well over 20% each year.
However, this means that free cash flow growth will likely moderate in 2025. Therefore, it's best to wait for a pullback in the short term before buying the stock. The current valuation might be anchored to the recent acceleration in growth that will be harder to achieve going forward.
Roblox is going after a big opportunity, where management believes it can reach 1 billion users over time, but at these lofty highs, investors can likely find better values from other growth stocks. I would wait for the share price to dip to at least a price-to-sales multiple below 10, down from its current 11.6, before starting a position.
