Ad Platform Deal Could Be a Tremendous Positive for Roku Stock
The Roku (NASDAQ:ROKU) stock price has been highly volatile in the past few months. The shares rallied from $92.35 on July 1 to as high as $176.55 on Sept. 9. But since then, ROKU has taken a big dip. After hitting its 52-week high, the streaming giant’s shares fell back below $100.
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In the wake of recent developments, ROKU stock price has rebounded. The shares now trade around $130. Its recently announced acquisition could be the key to its advertising strategy.
With high growth expectations, ROKU trades at a high valuation. But it may not be a good idea to bet against it.
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Let’s take a closer look at Roku stock, and see whether it’s worth buying at the current price.
ROKU’s DataXu Deal Could Be Transformative
On Oct. 22, the company announced that it would buy advertising platform DataXu. According to ROKU’s press release, DataXu is a “demand-side platform (DSP) that enables marketers to plan and buy video ad campaigns.” Roku could use DataXu’s infrastructure to create its own internet video advertising platform.
Unlike Netflix (NASDAQ:NFLX), Roku sees potential in an ad-supported model. Internet is killing television, but it seems like they are using a similar playbook.
But unlike television, streaming ads are, to a large extent, data-driven. Advertisers no longer want to throw money at ads and see what sticks.
Via DataXu, ROKU has obtained technology it can use to monetize its service. Roku could become to video advertising what Alphabet (NASDAQ:GOOGL GOOG) is to search advertising.
There’s plenty of room for growth in internet video advertising. Ad-supported streaming is only 3% of overall television ad spend. That means Roku’s revenue from ads can grow tremendously, greatly boosting ROKU stock price in the process.
Roku’s Potential Growth Is Reflected in ROKU Stock Price
Analysts, on average, estimate that Roku’s revenue will jump from $1.1 billion in 2019 to $1.5 billion in 2020. But that growth is already reflected in the ROKU stock price. Roku stock trade at a high valuation, even compared to its peers such as Netflix.
ROKU has yet to generate positive operating income. So, to compare Roku stock to its peers, let’s use the enterprise value/sales (EV/Sales) metric. Roku stock currently trades at an EV/Sales ratio of 16.2. Compare that to Netflix, which has an EV/Sales ratio of 6.8. But Netflix’s growth has slowed down. The company’s domestic subscriber base has peaked, and it’s now pumping billions into new content and international expansion.
With just $1 billion of revenue, ROKU has plenty of room to grow. In August, William Blair analyst Ralph Schackart released bullish projections for the company. Schackart believes Roku’s revenue could reach $4.5 billion by 2025. But does that mean that the company can “grow into” its valuation?
If Roku’s margins come close to those of Netflix by 2025, Roku’s EBITDA would be approximately $586 million. Roku’s current enterprise value of $14.7 billion, paired with that EBITDA, would produce an EBITDA multiple of 25. Considering that Netflix’s current EBITDA multiple is 52, today’s valuation of Roku stock may be reasonable.
But the rise of Roku stock is not set in stone. It faces competition on many fronts. Amazon’s (NASDAQ:AMZN) video platform has inertia on its side. As I wrote last month, both Comcast (NASDAQ:CMCSA) and Facebook (NASDAQ:FB) are launching their own streaming devices. Apple’s (NASDAQ:AAPL) upcoming Apple TV+ is another major streaming threat.
Viacom’s (NASDAQ: VIA VIAB) PlutoTV platform is an ad-supported internet video service. Its app is available through both Amazon and Roku’s platforms. But its wide variety of streaming channels and content could threaten Roku’s advertising market share.
Disney (NYSE:DIS) is a threat via its control of Hulu. AT&T’s (NYSE:T) WarnerMedia plans to include an ad-supported streaming option along with its premium HBOMax subscription service.
The Bottom Line on Roku Stock: Its Valuation Is High, But Don’t Bet Against It
Roku stock is overvalued at its current price. But I’m leery of betting against this streaming giant. Back in July, I advised investors to wait for a pullback before buying ROKU. I was partially wrong, partially right. About two months after the article was published, ROKU stock price rallied 69% to a 52-week high. But the shares had retreated more than 42% by the end of September.
A highly volatile stock, ROKU’s short-term price action is tough to predict. But for investors willing to stomach its rich valuation, Roku stock could be a compelling opportunity.
As of this writing, Thomas Niel did not hold a position in any of the aforementioned securities.
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