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3 Reasons Why Roku Makes a Great Long-Term Investment

Few companies benefited from the pandemic more than Roku(NASDAQ: ROKU), as shelter-in-place statewide orders helped accelerate key trends driving Roku’s growth. However, the stock has performed terribly over the last year. Once the economy started recovering from COVID-19, people began finding other activities besides watching TV.  Has Roku’s long-term growth story run out of gas? Here are three reasons why investors should still consider Roku an excellent long-term investment.

Image source: Getty Images.

1. TV viewers continue to cut the cord

According to market research firm eMarketer, U.S. pay TV penetration will drop below 50% by 2023 to reach 42.6% by 2026, which translates to several million viewers cutting the cord from cable TV and satellite providers each year.

Image source: Roku

Many cable and satellite TV defectors wind up gravitating to streaming platforms to get their TV fix. As Roku is the top streaming platform in the U.S., the cord-cutting trend significantly benefits Roku, and you can see it in Roku’s account growth. Despite the terrible market environment, Roku added 1.8 million incremental active accounts to reach 63.1 million in the second quarter of 2022, up 14% year over year and up 3% quarter over quarter. This massive shift in TV viewing habits should lead to substantial revenue growth for Roku over the long term.

2. Roku is selling at bargain prices

Roku primarily monetizes its streaming platform through advertising. Unfortunately, many marketers abruptly cut back or paused advertising spending over the last several months because of the ailing economy. Consequently, TV advertising spending has slowed significantly — delivering a gut punch to Roku’s recent quarterly results.

On July 28, the company reported second-quarter 2022 revenue growth of 18% year over year, a significant slowdown from the 81% year-over-year increase from the second quarter of 2021 — decelerating growth is the last thing investors want to see.

Even worse, management forecast only 3% year-over-year revenue growth in the third quarter, which would be the company’s first single-digit-growth quarter since its initial public offering in 2022. Of course, the stock sunk 23% the day after these results were released.

ROKU data by YCharts

Roku now sells at a price-to-sales (P/S) ratio of 3.61, significantly below its high of 33.53 achieved in early 2021. At the time, the company was firing on all cylinders and displaying high revenue growth. But today, the growth story has temporarily come to a halt.

ROKU PS Ratio data by YCharts

What is essential for investors to understand is that advertising will likely remain under pressure in the near term in the face of a possible recession. But once marketers stop worrying about the economy and resume advertising, Roku bulls are betting that the company’s revenue growth will reaccelerate, making the stock look undervalued at today’s prices.

3. The long-term advertising opportunity for Roku is huge

Roku has an enormous opportunity to grab ad market share from traditional TV. Furthermore, there is a significant gap between where consumers view content and where marketers spend their ad dollars. At present, ad spending significantly lags streaming viewership. But over time, that gap should close as more and more users cut the cord and marketers have little choice but to go where a majority of eyeballs are choosing to watch content — aiding Roku in its goal to steal ad market share from traditional TV. Ultimately, Roku believes that streaming will make up all TV viewing and ad spending.

Image source: Roku

You can measure some of Roku’s progress in grabbing ad market share by observing the upfronts. Upfronts are when marketers pre-buy ad spots months before a TV season begins, guaranteeing a certain minimum sales amount for the year. Upfronts have been the long-established domain of traditional TV advertising, but streaming platforms like Roku are now making headway toward becoming significant players.

Recently, Roku completed upfront deals with all seven primary ad agency holding companies for the 2022-2023 TV season, achieving $1 billion in total commitments. Additionally, 25% of all advertisers who committed to Roku during the upfronts were new to the company — signaling a growing presence in the ad industry. Moving forward, you want to see Roku continue expanding its total annual commitments in dollars during the Upfronts.

Don’t fear a recession

Typically, recessions only last six months to a year, and with its strong balance sheet, this company is well-equipped to survive a shallow to moderate recession. 

If you are willing to withstand a little turbulence in the market in the short term, you should consider buying this long-term growth opportunity today.

Rob Starks Jr has positions in Roku. The Motley Fool has positions in and recommends Roku. The Motley Fool has a disclosure policy.

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