Hindenburg Short Report Makes Roblox a Tough Bet

Roblox (RBLX), the company behind one of the most popular platforms for user-generated games and experiences, has faced great scrutiny recently. A few days ago, Hindenburg Research, known for its high-profile short reports, released a detailed critique of the company, raising concerns regarding inflated user metrics and misleading financial reporting. On the one hand, Roblox’s rapid revenue growth remains impressive; on the other, its continuous losses and the scrutiny from Hindenburg have made the stock a tough bet. Based on the evidence at hand, I am neutral on the stock.

Hindenburg Research’s Claims: Should Investors Be Worried?

To begin with, I’d like to point out that Hindenburg Research is known for going after companies it thinks are overvalued or engaging in fraudulent activities. The firm has built a reputation for investigating its targets thoroughly, boasting some high-profile successes. Nevertheless, I believe it is important to stress that as short sellers, Hindenburg has a clear financial incentive to present companies in the worst possible light. While that doesn’t automatically discredit its findings, I stress it’s vital to approach the report with some skepticism.

Specifically, Hindenburg raises multiple red flags. It argues that Roblox is inflating its Daily Active User (DAU) metrics through bots and fraudulent accounts, making its user engagement seem stronger than it actually is. It’s easy to see that this would be a major issue, as user metrics are paramount when assessing a business of this type. Hindenburg also claims that Roblox faces problems with safety, especially around minors being exposed to harmful content.

These two arguments seem to form the backbone of Hindenburg’s case for shorting RBLX stock. The company also believes that Roblox is focusing too much on metrics like bookings and free cash flow, which, while critical for the business, don’t give an accurate picture of its profitability under GAAP standards. Finally, the firm argues that Roblox’s valuation is too high due to these concerns and persistent losses.

Roblox’s Response

Roblox quickly responded to Hindenburg, rejecting the claims as misleading. The company highlighted that safety is a priority and has robust systems to detect and prevent malicious activity, including bot accounts that might inflate user metrics. Roblox’s management pointed out that millions of users enjoy positive experiences on the platform every day and that violations of community standards are taken seriously​.

Regarding the company’s financials, Roblox insisted that Hindenburg’s claims misrepresent the company’s performance as well. In its most recent report, the company noted that its revenue growth has been impressive, with bookings increasing by over 22% year-over-year. Also, the company highlighted its healthy cash flow, noting that cash provided by operating activities and free cash flow remains strong. This is somewhat important, as while Roblox is certainly unprofitable GAAP-wise, the company asserts that its emphasis on adjusted metrics is appropriate for a high-growth tech company. This is indeed a common practice in the industry.

Roblox also took issue with Hindenburg’s characterization of its user metrics, arguing that it has been transparent about how DAUs are calculated since its IPO. Roblox hasn’t modified its reporting practices and asserts that its user growth trajectory remains intact.

Here’s Why I’m Neutral

My view is that, as always, the truth lies somewhere in the middle. I don’t think Roblox’s user growth is faulty, but its adjusted profitability metrics certainly raise questions. For example, Roblox reported $66.5 million in adjusted EBITDA in Q2 2024. Nevertheless, this figure included a huge $251.9 million in stock-based compensation—an expense that impacts shareholder value in a real way. In fact, since its IPO, Roblox has aggressively diluted its shareholders, with its share count increasing by 18% in just over three years.

At the same time, Roblox’s net cash position has dipped significantly in recent quarters, from $1.83 billion in Q1 2022 to $563.4 million at the end of its most recent quarter. Its valuation, too, appears stretched, trading at 6.4 times this year’s expected revenue, with Wall Street not anticipating profits for at least through 2027.

However, I also think it’s once again essential to recognize Hindenburg’s motives as short sellers. It literally stands to benefit from the stock’s decline, so while its arguments should be taken seriously, I believe it is not without bias. Some of its claims, like minors being exposed to harmful content, for instance, could easily be exaggerated to create panic among shareholders and, therefore, ensure a heavier initial sell-off.

Is Roblox Stock a Buy, According to Analysts?

Looking at Wall Street’s view on RBLX stock, Roblox maintains a Moderate Buy consensus rating based on 13 Buys, eight Holds, and one Sell assigned in the past three months. At $46.26, the average RBLX stock price target suggests about 11.20% upside potential.

If you’re unsure which analyst to follow when buying and selling RBLX stock, consider Thomas Champion from Piper Sandler. Over the past year, Thomas has been the most profitable analyst for this name, with an average return of 10.76% per rating and a 62% success rate.

Final Thoughts

Overall, Roblox is in a challenging spot. While the company continues demonstrating robust revenue growth, Hindenburg Research’s claims regarding inflated user metrics and safety concerns cast a shadow. Roblox responded strongly, defending its transparency and financial health. Still, persistent losses, share dilution, and the stock’s rich valuation against a lack of expected actual profit generation in the medium term are genuine and raise valid concerns. Consequently, I believe investors should approach Roblox stock with caution. Therefore, I’m neutral on RBLX stock.

Disclosure