Over-the-top (OTT) streaming media device maker Roku (NASDAQ:ROKU) is down about 10% so far this year. Following a stellar 2019 when ROKU stock was up over 300%, investors are now wondering what may be in store for the company in the coming weeks.

The group is set to report Q4 earnings on Feb 13. I still find plenty to like in the prospects of Roku stock for the long-term.

However, I’d like to see the results and management’s guidance before committing new capital into the shares.

What to Expect from Roku’s Next Earnings

With a market cap of $14.3 billion, Roku is the largest over-the-top streaming content provider in the U.S.  When it reported Q3 earnings in November, it beat estimates across the board.

Revenue came at $261 million vs. $256.9 million expected. It also reported 32.3 million active accounts, up from 30.5 million during the previous quarter. Therefore average revenue per user was $22.58. In Q2, the metric had been $21.06. In the next earnings report, the Street would like to see that growth has continued in the past several months and that usage has not yet peaked.

Roku stock is not yet reporting any profits. In Q3, adjusted loss per share came at 22 cents. When we remember that Roku faces increasing competition from a range of streaming devices, including Amazon’s (NASDAQ:AMZN) Fire TV Stick and Google’s (NASDAQ:GOOG, NASDAQ:GOOGL) Chromecast, investors would like to have a clear path to profitability in the not-so-distant future.

Finally, Roku management is also looking at international expansion as the next strategic area of growth. For example, it expects to launch its first T.V. models in the U.K. by the end of this year. Analysts are likely to question management about what metrics to expect in international markets in the quarters ahead.

Growth stocks like Roku tend to be extremely volatile around earnings dates. For example, on Nov. 7, the day after it reported, the shares tanked about 20%.

In other words, unless the company can crush estimates quarter after quarter, and usually by a wide margin, then investors punish the stock following the earnings announcement. Therefore, I’d urge short-term traders as well as long-term investors to urge caution ahead of the report of Feb 13.

Advertising Business Is Growing

The company has been a pioneer in streaming video gadgets. The company started as a hardware manufacturer, in its early days building boxes to enable viewers watch streaming content on their TVs.

Now ROKU stock is fueled by two revenue segments: Player, which represents sales of its digital media boxes; and, Platform, which includes advertising sales, licensing and other non-hardware revenue sources.

Initially, Roku’s player segment accounted for about 75%, while its platform segment, which generates revenue mainly through advertising and content partnerships, provided the other 25%.

However, these ratios have been changing rapidly. The company’s platform revenue for Q3 increased by 79% from the year-ago period to $179.3 million. Roku’s hardware device revenue increased by 11% YoY to reach $81.6 million.

Currently, the platform segment accounts for the bulk of the company’s sales, which in return means that the advertising business is growing.

As consumers move from traditional pay-TV services to streaming delivery services, advertisers are following those U.S. viewers.

Roku doesn’t charge subscription fees. Instead, advertising revenue from partnerships is the biggest component of Roku’s platform segment. The way Roku delivers personalized ads to TV audiences can in some ways be compared to the way Facebook (NASDAQ:FB) delivers ads over social media.

Earlier in 2019, Roku purchased ad tech company Dataxu which allows marketers to plan and buy video ad campaigns. Investors are hopeful that the acquisition will help drive revenue growth in 2020.

Rich Valuation and Roku Stock

Long-term ROKU bulls happily highlight many of Roku’s competitive advantages, starting with ROKU’s market share in the over-the-top streaming market.

Yet, the shares do not trade at bargain-bin valuation ratios, especially compared to its tech peers. For example, its current price-to-sales (P/S) ratio is over 13.6x. Companies generate revenue from the sale of goods and services. Analysts prefer a low P/S multiple, ideally below 1x. However, a P/S number between 1x and 2x is more common. To put the metric into perspective, S&P 500 index‘s average price-to-sales ratio is 2.3x.

Thus the main question that remains for 2020 is whether Roku will continue to see the massive revenue and user growth and margin expansion that shareholders require at such high valuations.

In an email interview, Tray Spilker, Assistant Professor of Finance at Shidler College of Business, has said:

“While Roku’s performance for the year 2019 was impressive, the stock has retrenched more than 20% since highs following the 2Q earnings. This is likely a result of investors taking stock of Roku’s declining gross margins since late last year. Moreover, Roku’s market-leading position for streaming devices is under attack. Amazon’s Fire TV has been taking share from Roku in large chunks in recent quarters. Not to mention other competitors like Sony’s Playstation, Google’s Chromecast, as well as newer tv’s which have streaming capability already (e.g., Samsung’s Tizen Smart-TV), that are likely to either take further share from Roku or absorb new customers in the ‘cable-cutting’ market.”

Despite the recent fall in price, over the past year, Roku stock is still up about 170%. Therefore a lot of potential growth is likely to have already been priced into the share price.

So Should You Buy Roku Stock Now?

Currently, Roku is the leader in its segment. Yet leadership means that investors expect a great deal from earnings. If the upcoming Q4 results show that the group may be losing market share or not adding as many subscribers as expected, then they may not be too forgiving of management.

If you are an investor who also pays attention to technical price charts, you may be interested to know that in the coming days there will likely be more volatility in Roku share price with a down bias.

In September 2019, the share price hit an all-time intraday high of $176.55, a level which is in the rearview mirror now. Currently, the price hovers around $120. In the coming days, I’d expect ROKU stock to fall toward $110 or even $100 level, where it is likely to find strong support.

Every now and then, usually around earnings release dates, ROKU stock gets hit with analyst downgrades as they voice concern at stretched valuation levels. If there is another downgrade soon, the stock price would likely sell-off. Such a decline would potentially offer investors better entry points if they decide to hit the buy button later in the year.

As long as Roku’s metrics are moving in the right direction, long-term investors should not pay too much attention to the daily volatility in the stock price. That said, if you already own the shares, you may consider hedging your position with at-the-money (ATM) covered calls with Feb. 21 expiry.

If the next earnings show that momentum is not on the side of the stock right now, such a hedge would offer some valuable protection.