Smart speakers are certainly having a moment. Amazon's (NASDAQ:AMZN) Echo launched in late 2014, but it's since been followed by Google Home from the Alphabet (NASDAQ:GOOG) (NASDAQ:GOOGL) subsidiary. Apple (NASDAQ:AAPL) plans to launch its HomePod in early 2018, and several other electronics makers have some skin in the game.
But the number of competitors in the field could expand significantly in the upcoming year following Roku's (NASDAQ:ROKU) announcement that it's building a new licensing program to enable manufacturers to develop smart speakers and soundbars using its new Roku Connect software. Roku also announced plans to launch a voice assistant similar to Alexa or Siri, but optimized for home entertainment that will integrate into both the new smart speakers and existing set-top boxes and smart TVs.
Roku's decision to license its software instead of building the smart speakers itself is a smart move and one it's already had success with in the TV space. It has the potential to help it quickly capitalize on a growing trend in consumer electronics, lock more customers into the Roku ecosystem, and gather even more advertising data.
Roku is a licensing machine
Roku began licensing its software to television manufacturers back in 2014. TCL was one of the first to start licensing Roku OS for its smart TVs and it's since climbed from the No. 19 manufacturer in the U.S. to No. 4 today. Roku says one in five smart TVs sold in the U.S. and Canada run Roku OS.
Licensing its operating system to other manufacturers has allowed Roku to quickly grow its user base. As of the end of the third quarter, it had 16.7 million active accounts, up 48% year over year.
More importantly, licensing allows Roku to focus on what it's best at: making money from its users. The majority of Roku's profits stem from its platform, not its hardware sales. And most of that platform revenue stems from advertising. Roku can produce much higher profit margins by licensing its platform rather than selling devices itself.
In fact, Roku is becoming increasingly effective at monetizing each user. Its average revenue per user increased to $12.68 over the past four quarters, up 37% from the year before. There could be a lot more room to grow as more people cut the cord and spend more time streaming videos through devices like Roku's.
Expanding the ecosystem
Amazon has the Echo and the Fire TV. Google has Android, Home, and Chromecast. Apple has the iPhone, Apple TV, and soon the HomePod.
These are three companies Roku specifically calls out in its Securities and Exchange Commission filings as its competition. But unlike them, Roku has no ecosystem. There's no need for multiple Roku devices, and if you already have a non-Roku device, you're more likely to choose a competitor's option for video streaming.
Expanding to smart speakers is just as much about finding a way to attract new customers as it is about locking in existing customers. It's much harder to switch to a competitor's device if you have to switch over two smart speakers and a set-top box. Just ask Apple about locking consumers into an ecosystem -- that company wrote the book on it.
Building out an ecosystem of devices gives Roku another piece to add to its moat, fueling greater user retention and engagement.
Engaging users and collecting even more data
Expanding to smart speakers provides Roku with yet another way to gather data on its users and keep them engaged with its devices. It's already seeing growth in user engagement on its video devices. The average user streamed 6.6% more in the third quarter of 2017 than the prior year.
But that growth could be attributed to the secular trends of expanded streaming options and the rise of cord-cutting. It's not necessarily anything Roku itself is doing.
Expanding to smart speakers gives Roku the opportunity to engage users when they just want to listen to music or podcasts or interact with some audio-only app on Roku's app store. All of those present a chance to to sell more ads while simultaneously accumulating further data to make those ads more effective.
Roku is taking a smart approach to smart speakers, and it should help it expand its lead more in video streaming while establishing itself in a growing space of consumer electronics.
John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool's board of directors. Suzanne Frey, an executive at Alphabet, is a member of The Motley Fool's board of directors. Adam Levy owns shares of Amazon and Apple. The Motley Fool owns shares of and recommends Alphabet (A shares), Alphabet (C shares), Amazon, and Apple. The Motley Fool has the following options: long January 2020 $150 calls on Apple and short January 2020 $155 calls on Apple. The Motley Fool has a disclosure policy.