The Smartest Move Is to Sell Roku Stock Before the Correction Comes

ROKU stock - The Smartest Move Is to Sell Roku Stock Before the Correction Comes

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Roku (NASDAQ:ROKU) has been on a winning streak this summer. In just a few months, ROKU stock is up more than 50%. Previously, Roku had seen more sideways trading as investors and analysts considered various pros and cons affecting the company.

The company’s most recent earnings report, however, reset the narrative. Now, Roku’s move into advertising appears to be paying off in spades. Throw in an unexpectedly strong EPS number, and ROKU stock has been almost straight up since the last earnings report. However, the run is likely to come to an end.

In June, with ROKU stock at $43/share, I called it a buy and said to take profits when ROKU topped $60/share. So don’t get the idea that I’m some sort of permanent bear on the company. At the right price, there’s a lot to like here. But approaching $75/share, ROKU stock has run well ahead of its fundamentals. As such, this is a great time to lock in some profits.

ROKU Stock Could Keep Rallying

Our Vince Martin expressed the situation around ROKU well last week. He wrote:

“There’s no better way to look dumb in this market than to try to call an end to a rally based on valuation. And so there’s a case to simply hold onto Roku even with ROKU stock up almost 150% since early April.”

Martin makes a great point. Anyone that has been selling (or shorting) stocks simply on valuation has fared poorly dating back to early 2016.

Just because Roku is expensive doesn’t mean it has to drop anytime soon. That said, these sorts of growth companies that face heavy competition can go from popular to hated in the blink of an eye. Companies that sell hardware, like GoPro (NASDAQ:GPRO) or Fitbit (NYSE:FIT) have much less to protect themselves from competition than software plays.

That’s why Roku is so intent on its efforts to move the business model more toward advertising. As we’ve seen in other areas, such as smart speakers, the competition arrives in a flash.

Companies like Sonos (NASDAQ:SONO) can lose investor interest in a hurry as the tech titans release similar products. But Roku’s ad-powered streaming offering could be the thing that insulates the company from this impact.

Amazon Won’t Cede the Competition Though

The Information reported last month that (NASDAQ:AMZN) will be launching its own free ad-driven streaming service for the Amazon Fire TV device.

This could be a major problem for Roku going forward. Fire TV already has almost 50 million active users. And it’s clear that Amazon has big ambition for streaming content.

From NFL games to its Twitch acquisition, Amazon has been making moves to put together a compelling video package. And that’s before we even start talking about Amazon’s own in-house efforts to generate video content to take on Netflix (NASDAQ:NFLX) and others.

Bullish analysts are pointing to things such as The Roku Channel as meaningful competitive edges for the company. However, it’s important to remember that there will be no shortage of streaming services and channels in the future.

Consumers are flooded with options, and Roku is unlikely to be able to build a sustainable advantage simply from repackaging other people’s content. Players such as Amazon, Netflix, or Disney (NYSE:DIS) with deep pockets and huge content libraries have the competitive edge against Roku over the long haul.

Who Will Win the Smart TV Battle?

Roku has already acknowledged that its business is evolving. Sales of hardware will decrease over time as more and more new TVs have a built-in operating system.

To the company’s credit, Roku has made good strides in this area. It currently is the built-in streaming operating system for about a quarter of smart TVs that sell today. That’s certainly a respectable figure. But it is a decline in their market share compared to how they were doing in the hardware arena.

Additionally, over time, TV makers such as Samsung (OTCMKTS:SSNLF), that know a thing or two about design can build their own alternatives should it be more profitable.

At a minimum, expect the TV makers to try to take a larger portion of the pie for themselves as competing OS solutions proliferate.

ROKU Stock Verdict

At this point, there are way too many unknowns around ROKU  to stay confidently long up at $73/share. At the right price, ROKU stock would be interesting. The company’s ad-driven pivot appears to be going well.

Roku broke even this past quarter, which was well ahead of expectations. And user hours continue to surge; streaming hours were up 57%, user count grew 46%, and ARPU surged 48%.

Roku is undeniably performing well at this time. But the industry can change so quickly. The company is having to switch from hardware-first to built-in TV OS, while also managing the transition to advertising and fending off increasing competition from the likes of Amazon and Apple.

At the most, I would consider paying 10x sales for a company like Roku if I were really bullish on its prospects. That’d be back around $60. And I wouldn’t be surprised if the stock fell further than that on a soft earnings report.

If Roku’s momentum keeps up, the stock can rally further, but risk/reward is skewed to the downside now.

At the time of this writing, Ian Bezek had no positions in any of the aforementioned securities. 

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