Last year was somewhat mixed for IPOs. But of course, there were some red-hot offerings. Just look at Roku Inc (NASDAQ:ROKU), which is a leading provider of streaming services. Since its September launch, shares have logged a blistering return of nearly 300%. Why all the excitement? Investors see ROKU stock as a way to get a hot growth operator in the early stages.
In fact, there is lots of buzz that the company may be another Netflix, Inc. (NASDAQ:NFLX). And if so, there is certainly lots of room on the upside. The market cap on ROKU is $5 billion, while the value of NFLX is roughly $89 billion.
Yet investors should still be cautious. Let’s face it, IPOs can be extremely volatile. Consider what has happened to once popular offerings like GoPro Inc (NASDAQ:GPRO) and Fitbit Inc (NYSE:FIT).
So then, what are some of the major risk factors for ROKU stock? Well, let’s take a look at three that stand out:
Problem #1 with Roku Stock: Competition
ROKU has certainly done a great job in building a strong platform, which is rich with content. But another key part of the strategy has been the business model. Keep in mind that the company sells its players at dirt-cheap prices, which allows the company to monetize a growing user base with licensing and advertising revenues.
While all this is great, it is something that can easily be replicated though. Note that ROKU has to fight some of the world’s most intense competitors, such as Amazon.com, Inc. (NASDAQ:AMZN), Apple Inc. (NASDAQ:AAPL) and Alphabet Inc (NASDAQ:GOOGL, NASDAQ:GOOG). These companies have enormous resources, global brands and massive user bases.
Actually, there already are signs that there is pushback on ROKU. Here’s one example, which InvestorPlace.com’s James Brumley has pointed out:
“Earlier this month, e-commerce giant AMZN began to sell the Apple TV device from AAPL and the Google Chromecast device from Alphabet Inc. Both products were removed from Amazon.com’s shopping site, as Amazon makes a competing line of products. Of course, all of these devices compete with the Roku, and if they’re available via the popular e-commerce website, it’s all too easy for consumers to choose a streaming player other than the Roku.”
Problem #2 with Roku Stock: Priced for Perfection
A good deal of the momentum from ROKU stock has come from its first quarterly report as a public company. It posted robust revenues from its ad/licensing segment, which more than doubled to $57.5 billion. The net loss was also lower than Wall Street expected. And even with the shrinking prices on the players, there was still growth of 3.8% to $67.3 million.
But the surge in ROKU price does seem overdone. If anything, there is little margin for error. Keep in mind that ROKU now trades a nose-bleed 10.6 times revenues. By comparison, NFLX is at about 8X.
Wall Street analysts are also a bit skeptical. The average price target on ROKU is $31.60, which compares to the current market value of $51.40!
Problem #3 with Roku Stock: The Float
The ROKU stock available on the market is about 17.44 million, which is a relatively paltry amount. This means it is not tough for investors to push the stock around.
But of course, this will not last long. In March, the lock-up provision will expire, which will allow insiders to unload their holdings. And given the run-up in ROKU stock, it seems like a good bet that there will be many people who will want to take some of their winnings off the table.
In other words, as more shares come onto the market, there will likely be more selling pressure that will bring the valuation more in line with the fundamentals.
Tom Taulli is the author of High-Profit IPO Strategies, All About Commodities and All About Short Selling. Follow him on Twitter at @ttaulli. As of this writing, he did not hold a position in any of the aforementioned securities.
