Why Has Roku Stock Outperformed?

Streaming media player maker Roku’s (NASDAQ: ROKU) stock has risen by ~280% since it listed in September 2017. While Roku is best known for its streaming hardware (Players), its financial performance is being driven primarily by growth in the high-margin Platform business, which generates revenues via advertising, subscriptions, transaction revenues, and the licensing of the Roku OS to TV brands. In this analysis, we look at the key drivers of Roku’s business, its margins, expenses, and Trefis estimate for its potential operating break-even.

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1. How Have Roku’s Revenues Trended And What’s The Outlook For Its Key Business Segments?

• Roku’s total revenues have grown from around $320 million in 2015 to about $740 million in 2018, driven primarily by the Platform division.
• The 3 Year CAGR for Platform revenues was 102%, versus 6% for the Players division.
• We expect total revenues to grow by about 41% in 2019 and 34% in 2020.

1.1 Roku’s Platform Business Is The Biggest Driver Of Growth

• Roku’s platform segment accounted for 55% of total revenues in 2018, up from 15% in 2015.
• The key drivers of Roku’s platform revenues are its Active Accounts and Average Revenues Per User (ARPU).
• The number of active Roku Accounts has grown from 9 million in 2015 to about 27 million at the end of 2018, driven by a higher installed base of Roku players and Smart TVs with Roku OS.
• Over Q1’19, the company estimated that over 1 in 3 Smart TVs sold in the U.S. were Roku powered.
• ARPUs have been trending higher from about $9 in 2016 to about $18 in 2018, driven by higher advertising sales, subscriptions, and a-la-carte purchases made on its platform.
  The company takes a 20% cut of the purchases made on its platform and can take as much as 30% of ad inventory on ad-supported channels.

1.2 Roku’s Player Revenues Could Rise On Lower Price Points, New Launches

Player revenues represent the revenue from the sale of Roku streaming players, accessories, and audio products.
While sales remained sluggish between 2015 and 2017, they picked up in 2018, driven by lower prices, which helped to improve volumes.
We expect the strategy to continue driving growth over 2019 and 2020.

2. How Are Roku’s Gross Margins And OpEx Expected To Trend & When Can It Break Even?

2.1 Higher Mix of Platform Revenues Will Drive Gross Margins

• Roku’s gross margins have been trending higher, driven by a growing mix of high-margin Platform revenues (platform gross margins were 71% in 2018, vs. 11% for players)
• While we expect overall margins to expand, platform margins are projected to trend lower due to a higher mix of video advertising – which has lower margins – and also due to the introduction of premium subscriptions which will be accounted for on a gross basis.

2.2 How Have Roku’s Operating Expenses Trended & What’s The Outlook?

• R&D expenses grew to about $171 million in 2018, marking a 3-year CAGR of 50%.
• We expect R&D spending to grow to about $356 million by 2020, as the company continues to invest in platform and product development.
• Sales, marketing, and G&A expenses grew at a 3-year CAGR of about 31%. However, we expect these expenses to grow at a slower pace going forward.

2.3 Estimating Operating Profits & Potential Break Even

• We estimate Roku’s operating profit as Gross Profit – Operating Expenses.
• We believe it is possible that Roku will reach operating break-even by 2020, as revenues grow faster than expenses.

3. Estimating Roku’s Fair Value

3.1 Estimating Revenue Per Share

3.2 Arriving At Roku’s Price Estimate Using A Revenue Multiple

• Roku stock is valued at about 11x its projected 2019 revenue per share.

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