Roku (NASDAQ:ROKU) investors are riding a roller coaster in 2020. Roku stock fell nearly 50% through the middle of March. Then, with millions of Americans forced indoors, the company’s stock has recovered most of those losses.
Larry Ramer recently outlined the positive news that was coming from Roku. Ramer wrote:
On April 14, Roku reported that its total streaming hours had surged 49% year-over-year in the first quarter to 13.2 billion. Moreover, the company raised its first-quarter revenue guidance range to between $307 million and $317 million, versus its previous forecast of $300 million to $310 million. The company continues to expect EBITDA, excluding some items, of -$18 million to -$23 million.
Finally, Roku added a net total of nearly three million new accounts in Q1.
So, with Roku prepared to release its Q1 earnings report on May 7, investors are wondering if the stock’s rally is getting tired. That is not very clear.
Digital Advertising Revenue Is Declining
In an interview for Benzinga, Wedbush managing director and equity analyst Michael Pachter pointed out that digital advertising revenue may be falling up to 50%. Cowen analyst John Blackledge forecasts that digital advertisers may lose over $45 billion in revenue.
That’s to be expected. As non-essential businesses are shutting down, there’s little incentive to advertise at the same levels. After all, they’re not losing customers to competitors; they simply have no customers.
However, the full effect of this revenue loss may not be evident when the company reports its first-quarter earnings on May 7. But going forward, this presents Roku with a conundrum.
Unsold Ad Inventory Is a Double-Edged Sword
Roku makes the majority of its platform revenue by selling unsold ad inventories. Unsold inventory is ad space that a publisher or network has either not sold or could not sell at a premium.
According to eMarketer, Amazon (NASDAQ:AMZN), Alphabet (NASDAQ:GOOG, NASDAQ:GOOGL), and Facebook (NASDAQ:FB) account for 70% of digital advertising revenue. This is a double-edged sword for Roku. On the one hand, the company may have no problem capturing as much unsold ad inventory as it wants. On the other hand, it may have a difficult time monetizing those ads at appropriate rates.
So, the short-term situation for Roku looks like this. Higher engagement is not likely to lead to higher revenue. For advertising revenue to increase, the economy needs to open up. However, once the economy opens up, Roku may face a loss of viewers, at least temporarily, as consumers get outside to do anything other than watch digital content.
As Pachter points out, it’s a similar problem that Netflix (NASDAQ:NFLX) faces. The longer the shelter-in-place orders remain in place, the more likely it is that Netflix fatigue will set in, and the company has no new content in production.
Where Is Roku Stock Heading?
I’ve been all over the map on Roku stock. In October, I felt that analysts were punishing the stock unfairly. At that time, conventional wisdom was that the rise of competing streaming services would hurt Roku. But although Roku does have a small streaming service, it offers no original content. For the most part, Roku is a conduit for streaming, not a service in itself.
That looked to be an accurate prediction as the stock soared in the last quarter of the year. However, as 2020 began, I started to question if Roku was flying too far, too fast. My primary concern was the company’s ability to increase the amount of time (3.5 hours) the average customer engaged with their device.
At first glance, it seems like the pandemic said, “hold my beer.” And the earnings report will help answer two questions. First, has average viewership increased? And second, how many new customers are on the platform? In both cases, the answers will probably be positive for Roku.
But my skepticism still holds. It’s true that the company is benefiting from having a captive audience now. But that will eventually come to an end. And even while it continues, the amount the company can charge for their ads is declining. With that in mind, I would think twice before binging on Roku stock.
Chris Markoch is a freelance financial copywriter who has been covering the market for over five years. He has been writing for InvestorPlace since 2019. As of this writing, Chris Markoch did not hold a position in any of the aforementioned securities.
