Roku Stock: Potential To Hit $500?

by Trefis Team
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Roku Inc stock (NASDAQ: ROKU), a company that sells streaming media players, digital content, and advertising, saw its stock rally by an impressive 135% in the last one year. Compared to its lows of March 2020, the stock is currently up a whopping 420%, with its market cap standing at close to $43 billion currently. The stock now trades at close to 23x projected 2020 revenues, despite the fact that the company is likely to post losses in 2020 as well as 2021. Does this make the stock expensive? Probably not, considering that revenues could grow almost 3x by 2025, with net income turning positive and growing steadily, generating continued returns for shareholders. Here’s how this is possible.

Roku’s revenues are estimated to grow almost 3x from around $1.7 billion in 2020 to close to $5 billion by 2025, representing a growth rate of roughly 24% per year (for context, the annual growth rate was about 30% between 2016 and 2019). There are multiple trends that support this continued growth. Firstly, Roku’s active user base has expanded sharply, registering a y-o-y growth of 43% during Q3 2020. Sure, part of this was due to Covid-19 and the related lockdowns, which forced people to stay home and rely on streaming and home entertainment options, but Roku has actually seen growth in daily active users pick up over the last few quarters as well. Its active user base increased from 13.4 million at the end of 2016 to 46 million as of Q3 2020, growing at a CAGR of 40% during this period and the growth is expected to continue.

Sharp growth in the user base is likely to be driven by new player launches and smart TV operating system (OS) integrations, that include new Roku streaming players launched in September 2019, new smart soundbars at Best Buy and Walmart, and new Roku smart TVs from OEM partners like TCL, the effect of which is expected to be further augmented by higher streaming demand during the pandemic. With Roku’s latest decision to buy Quibi’s content, the user base is only expected to grow further. The expanding user base, coupled with higher ad revenues could help the company boost its ARPUs and overall revenues. Roku’s ARPU has increased from $9.30 in 2016 to $27 in Q3 2020, almost a 3x rise. This trend is expected to continue in the near term as advertising revenue is projected to grow further following the acquisition of dataxu, Inc., a demand-side platform (DSP) company that enables marketers to plan and buy video advertising campaigns. Additionally, with the gradual lifting of lockdowns, businesses such as casual dining, travel and tourism (which Roku relies on) are expected to see a revival in their advertising expenditure in the coming quarters, thus helping Roku’s top line.

Roku To Turn Profitable?

Though we expect Roku to still post losses in 2021, the company’s operations are likely to turn profitable in 2022 as ad revenues pick up post the coronavirus, and as the company’s past investments in R&D and product development start paying off. While Amazon posted margins of more than 4% in 2019 and 3% in Q3 2020, the company is a dominant force in the markets with its size being significantly large in comparison. This makes it probably unreasonable to expect similar margins for Roku who has still not made any profits. However, it’s reasonable to assume that as Roku’s business gains scale, it can boost margins closer to the levels of Amazon in the next few years, so we estimate roughly 2-3% margins by 2025. Considering our revenue projections of roughly $5 billion and 2.5% margins, $125 million in Net Income is likely possible by 2025.

Now if Roku’s revenues grow 3x, the P/S multiple will shrink to one-third its current level, assuming the stock price stays the same, correct? But that’s what Roku investors are betting will not happen! If revenues expand 3x over the next few years, instead of the P/S shrinking from around 23x presently to less than 8x, a scenario where the P/S metric falls more modestly, perhaps to about 12x looks more likely. For context, rival Amazon trades at close to 5x. One might assume that Roku will trade ahead of Amazon considering that it’s likely earlier in the growth cycle. This would lead to growth in Roku’s stock price by about 50% a real possibility in the next five years, taking its market cap to about $60 billion.

Though Roku’s stock is likely to face some near-term volatility, it is a good long-term bet, with healthy revenues and earnings growth expected to help the investors see handsome gains in the stock.

What if you’re looking for a more balanced portfolio instead? Here’s a high quality portfolio to beat the market, with over 100% return since 2016, versus 55% for the S&P 500. Comprised of companies with strong revenue growth, healthy profits, lots of cash, and low risk, it has outperformed the broader market year after year, consistently.

 

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