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It’s Time to Buy Roku Stock After a 50% Drawdown

Roku (NASDAQ:ROKU) hit a 52-week high of $490.76 on Jul. 27. However, four months later, ROKU stock is down over 50% from that number and trading at its lowest point since this time last year. But if you’re a long-term investor — say, three to five years minimum — Roku’s current doldrums scream buying opportunity.

media stocks to buy roku
Source: jejim / Shutterstock.com

I know what you’re thinking. The omicron variant is now in North America. Advertisers aren’t going to want to spend as much during a period of economic uncertainty. That’s true. However, ROKU stock has been on a downturn since the summer, long before anyone had heard of the new Covid-19 variant. 

This Roku decline is all about two things. First, there’s the general malaise about innovation and disruption stocks over the past four months. From Jul. 27 through Dec. 15, the Ark Innovation ETF (NYSEARCA:ARKK) — which owns ROKUis down 21% over the same period. Secondly, though, ROKU stock got ahead of itself in late July. A correction was expected, although I didn’t think a 50%-plus drawdown was in the cards. 

If you’re an aggressive investor, now’s the time to buy a half position in ROKU stock, putting the other half aside to see how omicron shakes out. Here’s why.

ROKU Stock Target Price

Marketwatch shows 29 analysts covering ROKU stock. They currently have a consensus rating of Overweight and an average target price of $368.96. That’s more than 75% higher than where it’s currently trading.

In November alone, the stock was down 25%. The latest downturn is driven by analyst unease. In mid-November, MoffettNathanson analyst Michael Nathanson downgraded the stock from “neutral” to “sell” while also cutting his target price by $110 to $220 per share. Nathanson noted the following:

“Simply put, we think our and the Street’s long-term revenue and earnings estimates are just too damn high […] [I]t appears that Roku will need to monetize an absurdly high portion of long-tail AVOD [ad-based video-on-demand] impressions to come even close to Street numbers, which we think will be a challenge given rising competitive pressures in TV OEMs [original equipment manufacturers] and operating systems.”

However, with omicron now looking to stir up uncertainty, competitive threats aren’t the only reason the video streaming platform will disappoint investors in future quarters.

But that’s okay. Stocks never go up in a straight line. The same holds for a company’s profit and loss statement. Growth often comes in spurts. 

All I know is that, when I last wrote about Roku in April 2020 (I’ve recommended it on several occasions since in multi-stock commentaries), I did say its revenues could slow due to Covid-19. Further, I suggested that ROKU stock could be in for a bumpy ride over the next two to four quarters.

In the end, though, I think my equation of “Active Accounts + Streaming Hours = Revenue Growth” still applies. 

The Formula Still Applies

Roku finished the first quarter of 2020 with 39.8 million accounts and 13.2 billion streaming hours. That worked out to 331.66 hours per active account. Now, fast forward six quarters to Q3 2021. For the period, Roku had 56.4 million active accounts and 18 billion streaming hours. That works out to 319.15 hours per active account.

When it comes to this stock, I’ve consistently stated that “As long as the average hours streamed per account keeps moving higher, so too will the advertising revenues Roku generates.” Now here’s why only aggressive investors ought to consider buying ROKU stock at the moment. 

Although the average hours streamed per account dropped by 4% over the past six quarters, average revenue per user (ARPU) increased 65% from $24.35 to $40.10 at the end of Q3 2021.

I’m a glass-half-full type of person. So, the fact Roku has increased ARPU for six consecutive quarters suggests there’s still plenty of growth ahead.

However, reading between the lines, Nathanson’s comments still suggest that he believes this sequential streak could end in the next year. That’s why buying right now is only for the most aggressive long-term investors. ROKU could fall into the $100s should that come to fruition.

The Bottom Line on Roku

Back in September, I included Roku founder and CEO Anthony Wood in my article about stocks to buy based on their underappreciated CEOs. I believe Wood has more than delivered for long-time shareholders.

Through Q2 2021, Roku had a trailing 12-month (TTM) free cash flow (FCF) of $180 million. A quarter later, it’s up to around $270 million. To get to $1 billion in TTM FCF, it will have to deliver significant sequential growth for the next three quarters through Q2 2022. 

Despite some analyst negativity, I believe it could get there. And if it does? There is no way ROKU stock stays mired in the low $200s. 

On the date of publication, Will Ashworth did not hold (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.

Will Ashworth has written about investments full-time since 2008. Publications where he’s appeared include InvestorPlace, The Motley Fool Canada, Investopedia, Kiplinger, and several others in both the U.S. and Canada. He particularly enjoys creating model portfolios that stand the test of time. He lives in Halifax, Nova Scotia.

Article printed from InvestorPlace Media, https://investorplace.com/2021/12/its-time-to-buy-roku-stock-after-a-50-percent-drawdown/.

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