Why Is Roku Stock Undervalued Even After A 450% Jump?

by Trefis Team
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Roku stock (NASDAQ: ROKU) has seen a formidable rise of more than 450% from its March 2020 lows. The stock has rallied from $64 to $357 off its recent bottom, outperforming the S&P 500 which increased around 80% from its 2020 lows. ROKU stock was able to outshine the broader market due to increased demand for streaming services on account of home confinement of people during the pandemic. However, the gradual lifting of lockdowns is not going to adversely affect business. In fact, this is leading to expectations of faster economic recovery, which will, in turn, help companies spend more on advertising; thus, boosting Roku’s average revenue per user (ARPU) as its ad revenues are projected to rise. Additionally, new player launches and smart TV operating system (OS) integrations, along with its recent acquisitions of dataxu, Inc., and the latest decision to buy Quibi’s content, will also lead to expansion in its user base. Compared to its level of December 2018 (a little over two years ago), the stock is up almost 12x. We believe that such a sharp rise is completely justified in the case of Roku and, in fact, the stock still looks undervalued even today. ROKU stock is likely to provide further potential gain of more than 25% to its investors in the near term, driven by continued healthy expansion of its top line. Our dashboard What Factors Drove 1082% Change In Roku Stock Between 2018 And Now? provides the key numbers behind our thinking.

The rise in stock price between 2018 and 2020 is justified by the 140% increase in total revenues. Roku’s revenues increased from $0.7 billion in 2018 to $1.8 billion in 2020, mainly due to a rise in subscriber base, devices sold, and increase in ARPU and streaming hours. On a per share basis, revenue more than doubled from $7.10 in 2018 to $14.34 in 2020. This effect was further magnified by the 445% rise in the P/S multiple. The multiple increased from a little over 4x in 2018 to 23x in 2020. The healthy revenue growth during 2018-2020 was not considered to be a short-term phenomenon, the market expected the company to continue registering healthy top line growth over the next couple of years, as it is still in the early growth phase, with margins also gradually improving. This led to a sharp rise in the stock price (more than revenue growth), thus boosting the P/S multiple during this period. With strong revenue growth expected to continue in 2021 and 2022, Roku’s P/S multiple went up further and now (April 2021) stands at 25x.

Where is the stock headed?

The global spread of coronavirus led to lockdown in various cities across the globe in 2020 which led to higher demand for streaming services. This was reflected in the FY2020 numbers of Roku. The company added 14.3 million active accounts in 2020, taking the total active accounts to 51.2 million at the end of the year. To put things in perspective, Roku had added 9.8 million accounts in FY2019. Roku’s revenues increased 58% y-o-y in 2020, with ARPU also rising 24%. The gradual lifting of lockdowns and successful vaccine rollout has enthused the markets and have led to expectations of faster economic recovery. Any further recovery and its timing hinge on the broader containment of the coronavirus spread. Our dashboard Trends In U.S. Covid-19 Cases provides an overview of how the pandemic has been spreading in the U.S. and contrasts with trends in Israel.

Sharp growth in Roku’s user base is likely to be driven by new player launches and smart TV operating system (OS) integrations, that include new smart soundbars at Best Buy and Walmart, and new Roku smart TVs from OEM partners like TCL. With Roku’s latest decision to buy Quibi’s content, the user base is only expected to grow further. Roku’s ARPU has increased from $9.30 in 2016 to $29 in 2020, more than 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. With lifting of lockdowns, businesses such as casual dining, travel and tourism (which Roku relies on for ad revenue) are expected to see a revival in their advertising expenditure in the coming quarters, thus helping Roku’s top line. The company is expected to continue registering sharp growth in its revenue, coupled with margin improvement. Roku’s operations are likely to turn profitable in 2022 as ad revenues start picking up, and as the company’s past investments in R&D and product development start paying off. Roku is expected to add $1.6 billion in incremental revenues over the next two years (2021 and 2022). With investors’ focus having shifted to these numbers, continued healthy growth in top and bottom line over the next two years, along with the P/S multiple seeing only a modest drop, will lead to further rise in Roku’s stock price. As per Trefis, Roku’s valuation works out to $450 per share, reflecting almost another 25% upside despite an impressive rally over the last one year.

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