Shares of streaming device maker Roku (NASDAQ:ROKU) dropped sharply on reports that ecommerce and cloud behemoth Amazon (NASDAQ:AMZN) is launching a free, ad-supported video streaming service which would be in direct competition with The Roku Channel, one of Roku’s biggest growth drivers. The news didn’t help Roku stock at all.
As of this writing, Roku sits at $60 and is more than 5% off its recent highs. But, I think this sell-off is overdone.
Roku is a big growth company positioning itself as a leader in the over-the-top streaming market, which promises to be a huge growth market over the next several years as media consumption goes from linear channels to internet channels.
Of course, the growth potential in this market is so massive that it will attract multiple players. That means long-term competitive risks for Roku are very real. But, in the near-term, Roku is so small, and the addressable market is so big, that competitive threats won’t be felt for a long time.
Thus, the narrative and numbers over the next several quarters and years will remain vigorous, and Roku should power higher. As such, recent weakness in Roku stock looks like a dip worth buying.
Roku Has Big Growth Potential
The narrative here is very simple.
Just as commerce rapidly moved from the physical channel to the digital channel, media consumption is also moving rapidly from the linear channel to the internet channel.
Roku is at the forefront of this trend. On one end, Roku creates devices which enable over-the-top streaming services. On the other end, Roku is behind The Roku Channel, its own over-the-top, ad-supported streaming service.
Bears are worried about competition, but such concerns seem to underestimate just how big this market can be. There are $70 billion in the TV ad business in the U.S. alone . Right now, Roku is taking home only about $200 million of those ad dollars.
Over the next several years, user engagement will go from linear channels to internet channels, and ad dollars will follow suit. As that happens, the over-the-top TV ad business will grow tremendously and allow for multiple players to succeed side-by-side.
This is exactly what happened in digital commerce. The shift of commerce dollars from physical to digital was so enormous that it supported multiple e-retail winners.
Just think about how well Amazon, Wayfair (NYSE:W), and Etsy (NASDAQ:ETSY) all have done concurrently over the past several years. Despite being “competitors,” all three stocks have done very well because so much money has migrated into the digital channel.
The same thing will happen in the over-the-top streaming world. So much money will flow into the space over the next several years that multiple players will be big winners.
Thus, regardless if Amazon builds out an ad-supported streaming platform or not, Roku’s long-term growth trajectory remains promising. This is a big enough space growing at a rapid enough rate to support multiple winners. Given the company’s current trajectory and leadership position, it is very likely that Roku is one of those winners.
Long Term Risks Remain
There are risks to Roku stock in the long-term. But when I say “long-term,” I mean several years down the road.
At that point in time, the shift in TV ad dollars from linear to internet will have slowed. When that slows, competitors will start to rub elbows. When competitors start to rub elbows, things get ugly in a hurry.
We are talking about pricing wars, margin erosion, user churn, so on and so forth. In that world, Amazon could ultimately use its scale and smart home integration to take market share away from Roku.
But, we are still several years out from any of those risks really materializing. The over-the-top streaming market is still relatively nascent, and those risks only materialize once this market has matured.
Thus, over the next few years, the narrative surrounding Roku stock will be exceptionally favorable as this company grows within a rapidly expanding over-the-top TV industry.
That positive narrative coupled with what I see as a reasonable valuation should drive ROKU stock materially higher over the next 12 to 24 months.
Bottom Line on Roku Stock
Roku has competitive risks. But, the over-the-top TV industry is growing at such a rapid rate and has such huge potential that those competitive risks won’t materialize until several years down the road.
Until then, Roku stock should be a winner.
As of this writing, Luke Lango was long ROKU and AMZN.
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