Roku (ROKU) shares fell significantly in September. The stock lost more than 35% in market value last month. Currently, the stock is trading at $101.76, which is 42.4% below its all-time high.
Despite the considerable pullback in September, Roku shares have returned 213% year-to-date. So, how do investors play the stock? Will Roku rise in the last quarter of 2019? Will the stock end the year at record highs or will it crash and continue to burn investors’ wealth?
Let’s see what impacted Roku stock in September.
Investors are concerned about Roku’s rising competition
We know that the company already competes with tech giants like Apple TV, Amazon Firestick (AMZN) and the Google Chromecast in the streaming space. Add Facebook (FB) and Comcast (CMCSA) to the mix and you can see why investors are concerned about Roku.
Analysts and investors are also concerned about Roku’s high valuation metrics. The stock gained close to 450% in the first eight months of 2019. As a result, the stock was due for a correction.
Roku must have overcorrected
While Roku’s pullback was somewhat warranted, I think the stock has overcorrected. Competition in the streaming device market is heating up. However, the streaming device market isn’t Roku’s primary business segment.
Roku’s Platform business rose 85% year-over-year in 2018 and accounted for 56.1% of its total sales—up from 43.9% in 2017. In the June quarter, Platform sales rose 86% to $167.7 million and accounted for 67% of the total revenues.
Roku’s Platform segment generates sales from advertisements, licensing, and subscriptions. Every time a user subscribes to Netflix or any streaming service on the company’s streaming device, it gets a percentage of the monthly subscription. The company has licensed its technology. Roku also has partnerships with several TV manufacturers.
Advertisements mainly drive Roku’s Platform sales. According to an Axios report, Roku’s SVP for the Platform Business said, “Ad-supported viewing is the fastest growing segment on our platform … Roughly half of our 21 million active users have cut the cord or have never subscribed to pay TV. These viewers simply cannot be reached through linear TV anymore … [Over-the-top] advertising enables marketers to continue reaching these new TV viewers, and will eventually attract a majority of TV budgets.”
The demand for ad-supported content, like the Roku Channel, continues to grow. Viewers like some of the entertainment content to be free. The company’s channel launched in September 2017 and syndicates content from several publishers.
Revenue drivers are important
Roku will likely benefit as new players enter the online streaming space. The company is an online content aggregator. Roku will see an uptick in sales with Disney (DIS) and Apple’s entry in the streaming space.
As users subscribe to new streaming platforms, the company will continue to get a cut from these subscriptions. The company’s installed user base continues to rise. Notably, traditional TV subscriptions are in a freefall.
While Roku’s Player business is growing at a slower pace, it still accounts for a substantial portion of the company’s sales. The company is also trying to fight off the competition by launching new products.
In 2018, the US accounted for 100% of the company’s sales. Roku to could expand in international markets, which would cause the stock to skyrocket.
What’s the bottom line for investors?
According to an eMarketer report, Roku’s advertising revenues will grow from $57 million in 2016 to $632.9 million in 2020. The report claims that while OTT video viewers will likely increase from 200 million in 2018 to 209.3 million in 2020, the ad revenues in the segment will grow at a higher rate.
Roku’s sales will likely grow 47.8% in 2019 and 36.5% in 2020. The company is valued at $11.8 billion, which is 11x its 2019 sales. Similarly, Shopify (SHOP), which has comparable growth metrics, is valued at 23x its 2019 sales.
The stock will continue to move higher unless the September results are way below the estimates or if the company provides a tepid sales forecast. The stock might trade lower if the overall market turns bearish. In that case, most other tech stocks would be bearish.
The recent correction gives investors an opportunity. Last month, we identified Roku as a top stock to buy during every pullback.
Well, here’s your chance.
Market Realist analyst Aditya Raghunath doesn’t hold a position in any of the stocks mentioned above.