Roku (ROKU 1.38%) has been rallying this year, and is up an impressive 76% after falling 82% in 2022. It's still nowhere near its 52-week high of $101.42, but there has clearly been some momentum behind this growth stock. The company has been diversifying its business and is making its own TVs.
Will all of this pay off for the business and send shares of the entertainment company back up to over $100 this year?
Devices are making up more of its top line
Roku makes streaming devices, and it also brings in revenue from ads on its online platform, which helps consolidate multiple streaming services. But with a soft ad market, the company has been pivoting more toward hardware.
Last year, it announced a line of smart home products, which included plugs, doorbells, cameras, and other items. A few months ago, it announced that it would also be making its own TVs, and no longer relying on other companies to do the manufacturing for it.
And when Roku released its latest earnings report in April, the revenue growth it generated came from devices rather than platform-related revenue. At $106.4 million for the first three months of 2023, device revenue jumped by 18% year over year, while platform-related sales of $634.6 million declined by 1%.
Source: Q1 2023 shareholder letter. Chart by author.
Roku could be in a good position to generate some growth later this year, even if the ad market doesn't fully recover. But it could come at a cost: worsening margins.
The gross margin on devices has been brutal
One downside for the business is that for all the potential device-related growth, it may not lead to a better bottom line. Device margins have normally been negative for the company, and with Roku's TVs needing to compete and win some market share, they may need to come in at lower price points.
This means investors shouldn't expect a significant improvement, if any, in gross margins. Last quarter, despite Roku's total revenue rising by 1% year over year, its gross profit fell by 7%.
Source: Q1 2023 shareholder letter. Chart by author.
Roku's losses could get worse
If margins don't improve, then growth from devices may not necessarily have the desired impact on the business. Roku has already struggled with profitability in recent quarters, and if devices account for more revenue moving forward, that could result in a worse bottom line.
Source: Q1 2023 shareholder letter. Chart by author.
Should investors buy into the rally?
There's lots of excitement in Roku's stock, but the fundamentals still aren't great right now. Between the low margins and a recession still potentially looming, the company needs revenue from its platform business -- not its device business -- to drive growth. Growth for the sake of growth without improving its bottom line may not be enough to draw in more investors in the long run.
Roku isn't a stock I would expect will be able to build off these results as its earnings reports this year could prove to be underwhelming. Investors are better off waiting to see how the company performs as the year goes on before buying shares of the consumer goods company as it's nowhere near breakeven and there's little reason to believe that it's out of the woods just yet.
