Roku's (ROKU 5.41%) stock soared nearly 150% in 2020 as it sold more streaming devices and ads on its software platform during the pandemic. But this year its stock fell more than 20% as it faced three daunting headwinds.
First, Roku's growth decelerated as COVID-19 restrictions were relaxed and more businesses reopened. Second, supply chain challenges throttled its shipments of new players and crushed the hardware segment's gross margins. Lastly, rising inflation and higher interest rates caused more investors to rotate away from higher-growth tech stocks like Roku.
All these challenges prompted many analysts to downgrade the stock. But in that hasty rush, the bears might be overlooking four green flags that could finally breathe some life back into Roku's battered shares.
Image source: Roku.
1. Signing a new deal with YouTube
Back in April, Alphabet's (GOOG 1.25%) (GOOGL 1.27%) Google removed its YouTube TV app from Roku's platform after its carriage deal expired. Roku alleges that in exchange for renewing the carriage deal, Google wanted preferential treatment for its YouTube content over competing services (including dedicated search results and blocking other streaming apps). Allegedly, it also wanted Roku to install pricier components in its streaming devices -- which would make them less competitive against Google's own products.
In October, Roku warned that Google could also remove its regular YouTube app on Dec. 9 unless the two companies signed a new deal. That threat cast a dark cloud over Roku's future since losing access to YouTube's two billion monthly logged-in users would make it a much less compelling play on the secular growth of the streaming market.
Fortunately, the two companies just signed a new multi-year agreement that will keep both Google's YouTube TV and YouTube apps on Roku's platform. The exact terms of the deal weren't disclosed, but the news caused Roku's stock to soar 18% on Dec. 8.
2. Expanding its lineup of original content
Earlier this year, Roku bought the rights to more than 75 streaming shows from the short-lived mobile streaming video platform Quibi. That purchase solidified the Roku Channel, its ad-supported streaming video platform, as a free alternative to premium platforms like Netflix.
But that was only the beginning. Last month, The Wall Street Journal said Roku would develop 50 new original shows within the next two years. Such a move could be costly, but it could also lock in its audience of 56.4 million active accounts and boost the platform segment's advertising revenue.
Furthermore, the expansion of the Roku Channel could also make its software platform more appealing for smart TV manufacturers, many of which might be reluctant to tether their TVs to Google or Amazon's ecosystems.
3. Cathie Wood still loves Roku
Back in March, ARK Invest's Cathie Wood said Roku was well-poised to profit from the "huge transition from linear TV to streaming," and that it was already "finding really good success" in its international expansion.
Wood accumulated more shares of Roku as the bulls retreated this year, and it now accounts for 6.3% of her flagship ARK Innovation ETF's (ARKK 2.98%), making it the fund's second-largest holding after Tesla. Wood also added more shares of Roku to the ARK Next Generation Internet ETF (ARKW 3.20%), making it the fund's fourth-largest holding with a weight of 5.4%.
Both ETFs have underperformed the S&P 500 this year, but Wood mainly focuses on generating longer-term returns from disruptive technologies instead of fretting over short-term gains and losses. If she's right about Roku, this beaten-down stock could eventually bounce back over the next few years.
4. Taking additional steps to expand overseas
Roku is currently available in over 20 countries, yet it generated less than 10% of its revenue overseas in the first nine months of fiscal 2021. However, during last quarter's conference call, CFO Steve Louden said Roku was gradually expanding into Europe and Latin America, and that its international users would account for a "greater share of the active accounts" in the future.
In early December, Roku opened a new office in Amsterdam to accelerate that expansion. The new campus will house up to 150 employees, which would represent a significant increase to its headcount of 1,925 full-time employees working across nine countries at the end of 2020.
Do these green flags make Roku a compelling investment?
Roku's stock isn't expensive at nine times next year's sales. Although, it could remain in the penalty box until it overcomes its supply chain challenges and stabilizes the player segment's gross margins.
On their own, these four green flags won't resolve Roku's near-term challenges. However, they highlight its long-term strengths and indicate the company could still be a solid play on the secular expansion of the streaming market and the slow death of linear TV platforms.
