If you were hesitant to get excited about — let alone buy into — the recently-gone-public Roku Inc (NASDAQ:ROKU), it would be understandable. With the echoes of disappointing outcomes from relatively young stocks like Fitbit Inc (NYSE:FIT), GoPro Inc (NASDAQ:GPRO) and Snap Inc (NYSE:SNAP) still ringing, it would be easy to simply lump the Roku IPO in with those other consumer-tech letdowns. Never even mind the fact Roku is going up against the venerable Apple Inc. (NASDAQ:AAPL), which makes a popular over-the-top television box of its own.
Thing is, as dangerous as the “this time is different” mentality can be, this time really may be different. Although the company isn’t yet profitable and, like most IPO stocks, Roku stock will implode sooner or later, this is a company with a legitimately bright future.
What the Heck is Roku?
On the chance anyone reading this doesn’t fully understand what a Roku is, the company makes mini-computers (they’ll fit in the palm of your hand) that attach to most modern televisions to deliver digital video content like that provided by Netflix and Hulu. The devices cost anywhere between $30 and $100, depending on what kind of bells and whistles you want.
Know that Roku’s hardware has also been integrated inside a television, presumably for some sort of licensing fee.
It’s not alone in this market. As was noted, Apple TV is in this space, and such capabilities are now built into several video-gaming consoles. What’s interesting, though, is that despite the fact that Apple had the lead in this race, Roku has managed to pull ahead. According to a recent review performed by Parks Associates, over the course of the last year, Roku’s set-top box market share grew from 33% to 37%, while Apple TV’s share fell from 19% to 15%. Chromecast, from Alphabet Inc (NASDAQ:GOOG, NASDAQ: GOOGL) is holding its own, as is the Fire from Amazon.com, Inc. (NASDAQ:AMZN).
And yet, as well as Roku devices are selling, the company isn’t profitable… yet.
Roku IPO Was Well-Timed
At first glance, it could seem like the Roku IPO is just another chance for a company founder to cash out at the expense of early investors. Believers were burned by GoPro when it overestimated the longevity of demand for action cameras, while Fitbit investors learned the hard way that the company underestimated the strength of the competition that Apple and others would bring to the table.
There are two nuances about Roku, however, that make ROKU stock something to at least keep on your radar.
First and foremost, this isn’t just about selling hardware. A surprisingly big piece of the Roku’s revenue pie is selling ad space and access to the platform itself. This revenue center is the fastest growing of the two arms, and is also the most profitable.
The relevant metrics to that end: Roku player revenue in the second quarter was $53.6 million, down from $60.2 million a year earlier. Gross profits for its players fell from $8.7 million in the second quarter of 2016 to only $3.4 million in the second quarter of this year. Platform revenue, however, ramped up from a year-ago top line of $23.6 million to $46 million, and platform/ad gross profit expanded from $16.3 million a year earlier to $34.2 million in the second quarter of 2017. Recode pieced together the history of all these changes since early 2015:
The chart underscores the premise that even if sales of Roku players slows down, even minimal growth in sales of boxes leads to greater growth of its platform revenue — and even-greater growth still of its platform profitability.
Second, the timing couldn’t be better.
Though over-the-top television isn’t exactly new, it’s just now hitting a critical mass, as cord-cutting does the same. An expected 22 million cable subscribers will “cut the cord” this year, up from less than 17 million last year. Roku is raising capital at just the right time, ramping up the number of products it offers and simultaneously establishing the funding for stronger marketing efforts that ensures it widens the lead it has on its competition while the switch to cable television alternatives accelerates.
Not that sales of its boxes are on the verge of a slowdown. Indeed, as of the most recent look, despite the fact that Roku offers the most popular brand of over-the-top set-top boxes, only 16% of U.S. homes currently use a Roku device. Amazon’s Fire, Chromecast and Apple TV are collectively only found in 28% of United States homes. That leaves more than half of U.S. homes without one yet, and doesn’t factor in the distinct possibility that some homes own more than one kind of OTT device.
Some smart TVs circumvent the need for a separate box, but not all of them. And a separate, standalone device allows consumers far greater choice than built-in devices do.
Bottom Line on Roku Stock
Bulletproof? No, no company is infallible. There’s also no clarity on when Roku may swing to a profit. I also have little doubt that, like most every other IPO, the Roku IPO price will be chopped in half sometime in the future before ROKU stock starts any long-term, permanent ascension. That’s just the ugly reality of the market.
Where Roku stands out, though, is that, unlike Fitbit, Roku’s already proven it can beat the competition and, unlike GoPro, the projected demand for its product isn’t just a wish.
You’ll certainly want to wait for the Roku IPO dust to settle, but this is actually a name that’s not just a trade, but a true investment opportunity.
As of this writing, James Brumley did not hold a position in any of the aforementioned securities. You can follow him on Twitter.