The biggest innovations and the most brilliant outcomes of the future often seem like trivial or even questionable decisions in the present. Roku (ROKU 5.41%), the video streaming specialist, announced recently that it is planning to sell Roku-branded TVs.
While some analysts simply shrugged at the news, others have been critical. Roku's strategy may not prove to be a game changer for the company, but dismissing it prematurely is a mistake. If anything, it's a savvy move with compelling upside and limited downside.
Framing Roku's announcement in the context of its vision and broad strategy
In 2002, Anthony Wood had a belief that a television could be so much more: What if viewers could watch what they want, when they want to, and from a location of their choice? And at the same time, what if marketers could unlock the value of digital advertising with greater precision? That vision led Wood to found Roku.
Roku started out as a content- and TV-agnostic streaming platform. The company changed gears in 2017 when it introduced its own channel, distributing licensed content. And in 2021, it moved away from its content agnosticism entirely as it began distributing its own content. This decision was met with quite a bit of controversy, but The Roku Channel has enjoyed good traction with audiences. In the third quarter, The Roku Channel was a top five channel on Roku's platform in terms of both reach and engagement.
To further round out its expanding ecosystem, Roku announced last week that it plans to sell Roku-branded TVs. The company believes making its own TVs will allow it to innovate faster and offer a better television experience.
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Roku's moves over the years are centered around building an end-to-end ecosystem of hardware and software, enabling faster innovation that'll continue to power subscriber growth and make its platform stickier. The desired outcome would be a higher value for Roku's platform in the eyes of advertisers and users, resulting in continued growth.
While the final results of the overall strategy are yet to be seen, the company seems to be on the right track: Active accounts have tripled in the past five years from 19.3 million at the end of 2017 to about 70 million as of the new year, and total streaming hours have increased from 4.3 billion to 23.9 billion per year over the same period.
Is Roku shooting itself in the foot?
Roku already partners with about 15 TV makers (original equipment manufacturers, or OEMs) like TCL and Sharp, who use Roku's streaming operating system as a built-in component in their TVs. One important question is: Will Roku's decision to sell its own branded TVs upset its existing relationship with OEMs?
On the surface, the answer to that question may seem like an obvious yes, but the reality is more nuanced. Even prior to Roku's latest announcement, Roku played a significant role in providing the design and the overall blueprint for its branded televisions to the OEMs, while these manufacturers focused on developing and assembling the final product. And now, Roku is looking for even greater control of the design and development processes, as well as superior integration of software and hardware components to improve the final product and drive faster innovation. The strategy makes sense.
Additionally, the company has made it clear that as it drives innovation, it will make all enhancements and new features available to all current and future OEM partners. That should ease some of the concerns across Roku's partner community.
That leaves investors with another key consideration: Given how competitive the TV market is, will manufacturing them hurt Roku's margins? The company is not planning to set up its own factories and make heavy investments in manufacturing. It is partnering with another manufacturer and planning to package the final product with its logo. That should limit its capital commitments. On the other hand, selling TVs under its own banner should further bolster its brand.
A move with asymmetric upside
Investors should always consider the downsides to any new strategy a company is pursuing. After all, the company has already been reporting negative gross margins in its player segment (which includes the existing hardware business) for six straight quarters. But in this case, Roku's approach seems like a classic "fail fast and fail cheap" strategy. While the details of the new initiative are not available, it feels like Roku can back out of these plans for Roku-branded TVs relatively easily and without taking a major toll on its financials.
Furthermore, the potential to foster new innovations, grow the brand, increase active accounts, and support its advertising business means the upside of Roku's new plan is quite compelling.
The overall thesis behind investing in Roku also hasn't changed: It's a well-run company with a superior tech platform led by a veteran in Anthony Wood, who has a major skin in the game with a notable 7.65% ownership stake. It is well positioned to gain a larger piece of the streaming ad revenue pie, which is expected to grow to $29.5 billion in 2024.
Roku shares are trading close to their lowest-ever price-to-sales valuation at 2.1. While the macro environment continues to pose some challenges, long-term investors willing to look past the volatility should consider buying shares of Roku after its nearly 75% decline over the past year.
