Here’s How the Roku Stock Retreat Has Created a Good Buying Opportunity

Roku is poised to grow tremendously and its valuation isn't too stretched

Streaming device maker Roku’s (NASDAQ: ROKU) strong growth, tremendous opportunities and reasonable valuation compared to other high flyers make Roku stock worth buying.

Here's How the Roku Stock Retreat Has Created a Good Buying Opportunity
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The company’s fourth-quarter revenue jumped 49% year-over-year, similar to its 50.5% YoY sales gain in Q3, showing that growth is not slowing in any meaningful way. Its gross profit growth did slow to 44% in Q4 from 50% in Q3.

But that slowdown appeared to be largely due to the company’s decision to sell its players at a slight loss in Q4, as the gross profit of its players fell from $6.2 million in Q3 to -$700,000 in Q4. Roku is looking to increase its share of the streaming device market in order to enable its highly profitable platform revenue to continue to increase.

Its platform revenue consists primarily of ad sales and commissions on subscriptions to streaming channels purchased on the platform. The company’s platform revenue jumped 71% YoY last quarter. Although that was down from 79% growth in Q3, its high-margin platform revenue is still growing very rapidly.

Huge Ad Revenue Potential

As I noted in my previous column on Roku, “I believe that all of the internet video companies, other than Netflix (NASDAQ:NFLX), Amazon (NASDAQ:AMZN) and Disney (NYSE:DIS)” will have to either advertise a great deal on Roku, share a meaningful amount of revenue with it or acquire it.” And as I also stated “Roku could easily effectively become the cable company of tomorrow, not only for the U.S., but for the world.”

Although Roku doesn’t look poised to make as much money directly from consumers as cable companies have done, it can emulate cable companies by making money from advertising. In fact, Roku looks poised to make much more money from advertising than cable companies for two reasons.

First, while cable companies had to compete with many other powerful TV ad platforms for ads, including local broadcast stations and very popular networks, Roku may not have as much competition on the ad front, That’s because a majority of the most popular streaming TV channels — namely Netflix, Amazon, and Disney — aren’t showing any ads. Among the most popular streaming video options, only Alphabet’s (NASDAQ:GOOGL, NASDAQ:GOOG) YouTube currently shows a meaningful volume of ads.

Further, because Roku is using the internet, it can, unlike the cable companies, utilize targeted and interactive ads, much like Facebook (NASDAQ:FB) does. Given these factors and the rapidly increasing popularity of streaming video, along with Roku’s international opportunities, the company’s ad revenue opportunity is truly gigantic.

Meanwhile, since most streaming stations don’t have ads and don’t get paid by any distributors for their content, they can only generate revenue through subscriptions. As as result, they will be desperate to reach consumers with streaming TVs, and Roku is the best way to do that.

That’s why, for example, as Roku noted in its Q4 letter to shareholders, “Disney+ sponsored the Roku home screen and ran banners to promote the launch.”

A Pro-Roku Analyst and Two Anti-Roku Analysts

RBC Capital analyst Mark Mahaney agrees with my thesis. Roku is “one of the best positioned (companies) to take share of the very large, underpenetrated $70 billion TV ad spend opportunity,” he wrote, according to Barron’s. “Roku should benefit from this (non-cyclical) shift, especially as only 3% of TV budgets have transferred to (streaming), while 29% of (the) audience is streaming videos, per Magna Global. And near-term, we see Roku benefiting directly from the Streaming Wars … and from international expansion.”

In the wake of the company’s Q4 results, he raised his price target on Roku to $170 from $160 and reiterated an “outperform” rating on the shares.

Pivotal Research’s Jeffrey Wlodarczak, on the other hand, thinks that Roku will face more competition going forward from cable companies. He also believes that Roku will not benefit as much from the launch of new streaming channels going forward. The analyst kept a $60 price target and a “sell” rating on Roku stock.

But I believe that Wlodarczak is underestimating the importance of Roku’s first-mover advantage which I discussed at length in my prior column. Moreover, I think that he is also underestimating the ease-of-use and comprehensiveness of Roku’s players and how hard it will be for the cable companies to duplicate those features. As of October, for example, a reviewer who checked out Comcast’s (NASDAQ:CMCSA) Xfnity Flex, a streaming device which is free for the company’s broadband-only customers, was less than thrilled with the device.

He stated that “there were times when I felt I was drowning in the thousands of shows on offer — at least until I found my sea legs.” And he noted that the product only included 11 free channels and lacked support for key channels like Hulu and Spotify (NYSE:SPOT). Roku, conversely, offers “hundreds” of free channels, including Spotify, and Hulu is available on the device as well. And with Roku Express widely available for a one-time price of $30, I don’t think Flex’s $0 price tag will be much of a factor.

Finally, I believe that Wlodarczak is underestimating the ferocity and duration of the streaming wars. Many more channels, including Comcast’s Peacock and Time Warner’s HBO Max are set to be launched later this year, and the fight for subscribers among all the streamers is going to last many years if not decades.

The other bearish analyst, Wedbush’s Michael Pachter,bases his argument on valuation. He says that the company’s “path to profitability is unclear,” while its “multiple is already stretched.”

But the company is not that far from profitability, as it is targeting break-even EBITDA, excluding some items, this year.Additionally, its valuation is actually way below that of multiple other fast-growing, money-losing or barely profitable companies, as I show in the next section.

Valuation and Bottom Line on Roku Stock

Roku isn’t all that expensive for a rapidly growing company in today’s market. The forward price-sales multiple on ROKU stock is 9.57x. Meanwhile Shopify (NYSE:SHOP) sports a 28.4x multiple, Canopy Growth (NYSE:CGC) is at 24.5x and Okta (NASDAQ:OKTA) shows 28.9x.

Roku has tremendous, accelerating growth opportunities, and its Q4 results show that it’s continuing to exploit those opportunities. It has a huge first-mover advantage, its product is very strong, and its valuation is actually pretty reasonable for today’s market.

Given those points, I think that the recent decline of Roku stock will prove to be a great buying opportunity over the longer term.

As of this writing, the author did not own any shares of the aforementioned stocks, but was considering buying Roku in the next 72 hours. 


Article printed from InvestorPlace Media, https://investorplace.com/2020/02/heres-how-the-roku-stock-retreat-has-created-a-good-buying-opportunity/.

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