Roku, Inc. (ROKU) is the #1 TV streaming platform in the United States (based on the number of hours streamed). With operations in the Americas and certain European countries, the ROKU platform provides a cost-effective alternative to traditional cable TV.  San Jose, Calif.-based ROKU attracted substantial investor attention last year, given the rising demand for entertainment software amid social distancing norms. This is evident in the stock’s 110% price gains over the past year.

However, because the global economy is gradually reopening, boosted by the strong vaccination drive, ROKU’s viewership declined slightly in its fiscal second quarter (ended June 30). This, coupled with tight component supply conditions and increasing costs, has caused the stock to plummet.

Shares of ROKU have dipped 6.3% in price over the past six months and 14.9% over the past month to close yesterday’s trading session at $338.46.

Here’s what could shape ROKU’s performance in the near term:

Leading Position in the Industry

ROKU has been disrupting the traditional TV industry through its unique offerings and user-friendly interface. ROKU’s streaming hours increased 19% globally in its fiscal second quarter, while traditional TV consumption declined by nearly the same margin. ROKU recently launched TCL Roku TV Models, which are  expected to boost its platform adoption in the near term. Moreover, its ROKU OS purpose-built for TVs is expected to accelerate its international market expansion strategies.

Declining Demand

As consumers have resumed out-of-home entertainment activities over the past few months, given the gradual reopening of the economy, ROKU’s average streaming hours have declined 4.9% sequentially to 17.40 billion hours in its  fiscal second quarter, ended June 30. Its Player gross profit declined 180% from the same period last year to negative $6.70 million. Its adjusted EBITDA fell 2.8% from the prior quarter to $122.40 million, while its income from operations declined 8.8% sequentially to $69.10 million., and its adjusted EBITDA declined 290 basis points to 19%.

ROKU’s net active account additions in its fiscal second quarter were lower than the pandemic-driven surge in the prior-year quarter. Furthermore , Player unit sales remained relatively flat in the most recent quarter, compared to impressive gains in its  fiscal second quarter last year.

Bleak Short-Term Outlook

ROKU expects its revenues to be in the range of $675 million to $685 million in its fiscal third quarter (ending September 2021), indicating substantial improvement on a sequential basis. However, the company’s $315 million - $325 million  total gross profit projections reflect a slight decline from the $338.30 million gross profit  it reported in the second quarter.

Also, the company expects adjusted EBITDA to come in at $60 million to $70 million, representing nearly half of its $122.40 million second quarter adjusted EBITDA value.

Stretched Valuation

In terms of non-GAAP forward P/E, ROKU is currently trading at 263.67x, which is 1,188% higher than the 20.47x industry average. In addition, its 16 forward Price/Sales ratio  is 808.4% higher than the 1.76 industry average.

ROKU’s forward Price/Cash Flow and EV/EBIT multiples of 209.55 and 240.43, respectively, are significantly higher than the 10.02 and 17.97 industry averages.

Consensus Rating and Price Target Indicate Potential Upside

Of the 16 Wall Street analysts that rated ROKU over the past three months, 15 rated it Buy while one rated it Sell. The 12-month median price target of $494.53 indicates a 46.1% potential upside. The price targets range from a low of $310.00 to a high of $650.00.

POWR Ratings Reflect Uncertainty

ROKU has an overall C rating, which equates to Neutral in our proprietary POWR Ratings system. The POWR Ratings are calculated by considering 118 different factors, with each factor weighted to an optimal degree.

ROKU has a B grade for Quality. This is justified because its trailing-12-month ROE and net income margins of 12.86% and 9.91%, respectively, compare favorably with the 8.25% and 5.72% industry averages. However, it has a D grade  for Value, which is in sync with its premium valuations.

Of the 71 stocks in the D-rated Consumer Goods industry, ROKU is ranked #48.

In addition to the grades we’ve highlighted, we have rated ROKU for Momentum, Stability, Sentiment, and Growth. Get all ROKU ratings here.

Bottom Line

ROKU has been disrupting the traditional cable business over the past few years. However, while analysts are bullish on the stock, the gradual slowdown in demand as people focus on outdoor entertainment is expected to decelerate the company’s growth rate in the coming months, as evidenced by its revenue and earnings outlook for the current  quarter. This, coupled with its stretched valuations, could  lead to a further price decline by the stock. In addition, ROKU  is currently trading below its 50-day and 200-day moving averages. Thus, investors should wait until ROKU addresses the short-term industry headwinds before investing in the stock.

How Does Roku (ROKU) Stack Up Against its Peers?

While ROKU has an overall C rating, one might want to consider looking at its industry peers Société BIC SA (BICEY) and Ennis, Inc. (EBF), which have an overall A (Strong Buy) rating.

ROKU shares were trading at $335.83 per share on Friday afternoon, down $2.63 (-0.78%). Year-to-date, ROKU has gained 1.15%, versus a 20.83% rise in the benchmark S&P 500 index during the same period.

Aditi is an experienced content developer and financial writer who is passionate about helping investors understand the do’s and don'ts of investing. She has a keen interest in the stock market and has a fundamental approach when analyzing equities.

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