It’s always darkest before the dawn. If you’ve owned Roku (NASDAQ:ROKU) stock over the past year, nothing can take away the pain of seeing your investment lose 80% of its value. Nothing.
However, the recent speculation that Netflix (NASDAQ:NFLX) is mulling making a possible offer for the video streaming platform is evidence that CEO Anthony Wood has indeed built an attractive business that could have several suitors waiting in the wings were Reed Hastings and Netflix willing to make a formal offer.
ARK Invest is a significant shareholder in Roku. It believes that Roku is better off remaining independent. I think there are arguments to be made for both outcomes. Ultimately, though, the only thing that should matter to ROKU shareholders is that it’s clear others feel your stock is worth more than $73. However, you might have to wait a while to realize this reality.
ROKU Stock Should Remain Trading
ARK Invest has two funds invested in ROKU: ARK Next Generation Internet ETF (NYSEARCA:ARKW) and ARK Innovation ETF (NYSEARCA:ARKK). ARKW has a ROKU weighting of 7.84%. It is the third-largest holding in the ETF. ARKK has a ROKU weighting of 8.03%. Like ARKW, Roku is the ETF’s third-largest holding.
Unless you’ve been living in a cave the last couple of years, you’re probably aware that ARK Invest is the investment management vehicle of star portfolio manager Cathie Wood. Despite facing tremendous criticism from the financial industry for her fearless approach to investing, ARK continues to win back some customers. In 2022, it had net inflows of $167 million into the company’s nine ETFs.
ARK Associate Portfolio Manager Nicholas Grous recently discussed why Roku should say no to a Netflix offer.
Albeit the largest, Netflix is just one of many subscriptions, video-on-demand services competing against Amazon’s ‘free’ service. As a result, Roku would provide far more value to Netflix than Netflix would to Roku. In our view, Roku would be better off declining an offer and, instead, striking an advertising partnership with Netflix in a different and perhaps more productive way.
Due to the advertising revenue generated by its business model, I’ve always felt Roku was building a free cash flow machine. In five years, the cash it’s throwing off will be tremendous.
As Grous states, it doesn’t need Netflix, but Netflix needs Roku.
Say Yes to $215 a Share
As we’ve seen in the past year, the video streaming industry is cutthroat. Content costs continue to rise, forcing even the largest players to introduce ad-supported services. I could easily see a world in which Roku becomes the new cable box, only powered by the internet instead of cable.
I do not doubt that at some point in the future, ROKU stock could revisit its July 2021 all-time high of $490.76.
In April 2020, I said that advertising would push ROKU stock higher after the pandemic. At the time, I had no idea that we would still be talking about Covid-19, but here we are. Heading into the second half of 2022, Roku is facing a lot of headwinds that make it tough to build any momentum. That said, advertising will become more critical to video streamers in the years to come, not less.
In the end, however, a bird in the hand is worth two in the bush. If Netflix were to offer $215 a share (approximately 10x sales) it would be paying almost a 200% premium for Roku.
In a market like this one, that’s nothing to sneeze at.
The Bottom Line
Whether Roku ever gets a formal offer from Netflix really doesn’t matter. Either way, Roku’s business model makes complete sense to me. If the payday has to come three years from now rather than today, so be it.
I feel for Anthony Wood and the board because the answer isn’t simple. Both sides of the argument have merit. I honestly couldn’t say how this will turn out other than to suggest investors who don’t own ROKU stock consider buying some to play a little M&A arbitrage.
Could Roku trade lower in the weeks to come? It absolutely could. However, it hasn’t been this low since April 2019. The risk/reward proposition is currently in your favor.
On the date of publication, Will Ashworth did not have (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.