Calendar 2019 has been quite the recovery year for shares of over-the-top (OTT) video platform Roku (NASDAQ:ROKU). In late 2018, amid escalating global economic slowdown concerns, investors seemingly forgot about Roku’s secular growth narrative. Consequently, ROKU stock exited 2018 around $30. Then, the company reported back-to-back strong earnings reports which jolted the market’s memory, and investors flocked back into the stock.
Today, ROKU stock trades hands above $100, meaning this stock has more than tripled in less than six months.
That’s a big rally. Naturally, it’s big enough to warrant some caution. After all, the law of financial gravity states that stocks don’t go up in straight lines forever. ROKU stock has essentially gone up in a straight line since late 2018 from $30 to $100. The stock naturally needs to take a breather here and now, and let the fundamentals catch up.
But don’t mistake a breather in the stock for the end of a long term uptrend.
In the big picture, there is increasing clarity to the bull thesis that Roku is on track to become the cable box and central access point in the OTT video world. This world will one day be huge, full of hundreds of millions of subscribers, billions of ad dollars, and billions of subscription dollars. Roku will take home a big share of all those subs and dollars, and do so at a high margin.
The result? Roku will one day be a very big and very profitable company. Ultimately, that very big and very profitable company will be accompanied by a stock price north of $150.
Thus, Roku stock remains on a long-term winning trajectory. It just needs to take a breather here. Once it does, that’s an opportunity to buy.
Roku Will Be Huge One Day
The big picture bull thesis on Roku stock is pretty simple.
The OTT video world is rapidly expanding globally and will one day be huge in terms of subscribers, ad dollars, and subscription dollars. Roku is increasingly turning into the cable box of this world and as such, is at the epicenter of this explosive growth. As the market expands, so will Roku’s revenues and profits, and ROKU stock will zoom higher.
Let’s break that bull thesis down. First, OTT video is the future. Relative to linear TV, OTT video is cheaper and more convenient. As such, global consumption will continue to shift from linear TV to OTT video. Right now, there are 250 million OTT video households in the world, which represents a fraction of the 1 billion-plus linear TV households in the world. Over time, that OTT video household base will expand and close in on the 1 billion-plus linear TV household base.
Second, this shift will be accompanied by a shift in subscription and ad dollars. As consumers pivot from linear TV to OTT video, consumer dollars will likewise pivot from linear TV packages to streaming services. Meanwhile, ad dollars always follow consumption. So as consumption shifts from linear TV to OTT video, ad dollars will follow suit. In the United States, traditional TV ad spend is nearly $70 billion, while OTT video ad spend is barely over $2 billion, implying huge growth potential for OTT video ad spend over the next several years as traditional TV dollars flow into the OTT channel.
Third, Roku is at the epicenter of all this growth. A rapid rise in the number of OTT video consumers and OTT video services means someone has to connect all this new demand to all this new supply. Roku does just that. And, they do it better than anyone else, offering a content-neutral, easy-to-use platform without complications for OTT video consumers to access any OTT video service they want. As such, Roku is becoming the cable box of OTT video.
Broadly, then, the OTT video world is rapidly growing and Roku is at the center of all that growth.
A Price Tag Above $100 Is Supported
To be sure, a lot of the aforementioned bull thesis is already priced into ROKU stock. After all, this stock has more than tripled in less than six months, and now trades at 14-times trailing sales.
But there remains healthy upside potential in ROKU stock in the long run.
Given the company’s current growth trajectory, secular tailwinds underpinning OTT video adoption and the massive addressable market of 1 billion-plus global TV households, it is quite likely that Roku marches towards 100 million active accounts by 2025, versus 29 million today. Further, given the huge growth runway for OTT video ad dollars, it is equally likely that Roku continues to grow its average revenue per user rate at a 15%-plus clip over the next several years, versus 26.5% growth last quarter.
That combination ultimately implies that Roku has revenue potential well north of $4 billion by 2025. Assuming Platform gross margins scale towards 70%, Player gross margins remain depressed around 5%, and the opex rate falls with scale towards 40%, then $5.50 in EPS looks entirely doable for Roku by 2025.
Based on a big growth average 30-times forward multiple, that implies a fiscal 2024 price target for ROKU stock of $165. Discounted back by 10% per year, that equates to a fiscal 2019 price target of just over $100.
Bottom Line on ROKU Stock
Roku stock has come very far, very fast, so investors shouldn’t be surprised if the stock takes a step back here and now. But the stock still has healthy and promising upside in a long term window. Ultimately, this stock remains on track to shoot above $150 in the long run.
As of this writing, Luke Lango was long ROKU.
