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Roku's Earnings Sell-Off Is Shortsighted

By Evan Niu, CFA - May 9, 2020 at 12:00PM

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Investors are worried about slowing ad revenue growth, but those fears may be overblown.

Streaming-TV platform Roku (ROKU -6.78%) reported first-quarter results last week, and the stock sold off as much as 10% on Friday. The company had already shared some preliminary data last month that showed soaring engagement as people watch more TV while stuck at home due to the novel coronavirus outbreak. Now that Roku has reported full financial results, investors have a better sense of how the company will navigate the COVID-19 pandemic.

Here's why the sell-off is unwarranted.

The Roku Channel displayed on a TV mounted on a living-room wall

Image source: Roku.

Monetization and engagement remain strong

Revenue in the first quarter jumped 55% to $321 million, topping Wall Street's forecast of $306.7 million, as well as the outlook that Roku shared last month. That included $233 million in platform revenue, which was up 73% year over year. The company continues to operate its player segment with slim margins in order to grow active accounts that drive the platform business.

Active accounts are now 39.8 million, with Roku streaming 13.2 billion hours during the quarter. Average revenue per user (ARPU) continues to march higher, reaching $24.35 in the first quarter. Remember that Roku presents ARPU as a trailing-12-month (TTM) metric that only measures platform monetization.

The company continues to invest heavily in the business, and operating expenses jumped 76% after it spent heavily on research and development and marketing. Roku started to exercise greater cost discipline around operating expenses and capital expenditures near the end of the quarter. That all translated into an operating loss of $55.2 million, and adjusted EBITDA of negative $16.3 million. Net loss was $54.6 million, or $0.45 per share.

"Depending on the impacts of COVID-19, we are likely to run at an adjusted EBITDA loss for FY 2020 given that much of our operating expenses are headcount and facilities related and therefore generally committed in the short-term," management wrote in its letter to shareholders.

Slowing ad revenue growth will be a short-term hurdle

Investors seem to be rattled by a broader pullback in ad spending that is starting to hurt the platform segment, which predominantly consists of ad revenue. There's been an uptick in subscriptions and a la carte transactions, but those are a relatively smaller part of the business.

"We have seen an uptick in SVOD trials in subscriptions, as well as an increase in TVOD purchases, as studios have brought new releases concurrently to streaming in light of state home orders," CFO Steve Louden said on the conference call with analysts. "On the other hand, our advertising business has seen cancellations as some marketing budgets have declined, but this has been partially offset by new marketing budgets moving to Roku from traditional TV given the cancellation of high-profile live sporting and entertainment events as marketers follow viewers and increasingly seek targeted measurable forms of advertising."

The pessimism is misplaced because while ad revenue growth is now expected to slow due to macroeconomic uncertainties, Roku still believes it will generate "substantial" ad revenue growth for the full year. The public health crisis has undoubtedly crippled many parts of the economy, but the long-term thesis that TV viewing (and ad budgets) will continue shifting toward streaming platforms remains fully intact.

Evan Niu, CFA owns shares of Roku. The Motley Fool owns shares of and recommends Roku. The Motley Fool has a disclosure policy.

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