Roku’s Unprecedented Platform Proves Its Strength CML

The company reported earnings on 11-5-2020.

Irrespective of short-term stock gyrations to fear over COVID-19, we cannot stress this point any more strongly:

However strong the streaming video revolution was, it’s now stronger, and it’s now stronger permanently.

We added Roku (ROKU) to Top Picks on Nov 28th, 2017 for $47.

As of this writing the stock is trading at $225.06, up 379% in three years.

This entry date and price has been verified by the third party audit firm Krost. Please feel free to visit their website.

We have spoken with the CFO one-on-one and will share that transcription shortly.

Update 11-7-2020
We have completed our transcription of our one-on-meeting with the CFO.
Roku’s CFO One-on-One with CML Pro.
End Update

Our prior one-on-one with CFO is presented below as well
8-14-2020
One-on-One With Roku’s CFO

Preface
We recently updated our view to yet more bullish with the dossier Roku Reaches for the Unprecedented, from 10-11-2020.

In that dossier we discuss the distribution of The Roku Channel on all Amazon Fire devices and TVs.

This has thrust Roku into an unprecedented opportunity.

Unprecedented
To date, the streaming video world has existed as dominant platforms (Roku, Amazon, Google), and dominant content providers (Netflix, Hulu, and Disney).

While Amazon straddles the line with Amazon Prime, the reality of Amazon’s own content ambitions has made it the less favored platform for content providers since it places Amazon Prime content as a competitor.

This is a large part of the reason NBC’s Peacock is not available on Fire TV and was fundamentally a driving force for Roku’s growth — content agnosticism brings comfort to a distribution deal.

But the influx of content providers has created a world of fierce competition, so much so that NBC Universals Peacock is not even offered as a for pay service.

And, with the influx of choices comes the boomerang effect – consumers want an aggregator, but they prefer the fabulous price of $0.00.

Here comes Roku, soon to be a truly dominant content provider through The Roku Channel, while masterfully side-stepping the pitfalls of content creation cost, and content competition.

Rather than a sideways look from content providers that Amazon receives, Roku has created an incentive program where the content apps want The Roku Channel to succeed — after all, it’s their content driving it.

We see the possibility that Roku establishes itself as a dominant content provider, with no content expense and aligned incentives with the content makers.

We already see Roku as the platform (operating system) for streaming TV in its current trajectory.

All told, for the first time ever in this nascent industry, there is a company, and just one company, that could reign as king of content and platform.

And that friends, is totally unprecedented.

Earnings
The numbers reported were very strong and point to yet more strength to come.

In our view, Roku is in the early stages of becoming a media and platform giant, and still, even now, we see it as under appreciated by Wall Street.

Companies with $1.8 billion in revenue run rates (four times the last quarter) don’t grow revenue by 73% and turn a surprise profit while growing the total addressable market.

That just doesn’t happen.

But it did for Roku.

* Revenue: $451.7 million versus analyst expectations of $367.66 million representing 73% year-over-year growth in the face of COVID-19.
This was a big beat

Roku reported video advertising grew 90% year-over-year in the third quarter. This outpaced the 50% year-over-year growth reported in the second quarter.

* Adjusted EPS: $0.09 (positive) versus analyst expectations of -$0.42.
This was a huge beat

Platform Revenue: $319million up 78% year-over-year, versus analyst expectations of 49% growth.
This was a huge beat

Active Accounts: Up 2.9 million to 46 million versus analyst expectations of 45.5 million.
This was a beat

Streaming Hours: 14.8 billion up 54% year-over-year versus analyst expectations of 15.23 billion.
This was a miss

The Roku Channel reached U.S. households with an estimated 54 million people up from 43 million last quarter.

The Roku Channel grew streaming hours faster than any other top 10 channel on the Roku platform on a year-over-year growth basis.

The Roku Channel grew more than twice as fast as the Roku platform overall, on both a streaming hours and active account reach basis.

Please revisit our post from 10-11-2020 for context on why this is enterprise changing:
Roku Reaches for the Unprecedented.

* Next Q Revenue Guidance: The company guided to “mid 40’s” percent growth which would be $595 million versus analyst expectations of $562 million.
This was a beat

Player unit sales grew 57% year-over-year, resulting in its strongest year-over-year player revenue growth in over seven years.

The company saw first time advertising clients more than double in the third quarter from the previous year.

Retention of advertising clients from last year’s third quarter was 97%.

Today was a very good day for Roku longs.

Connected TV (CTV) is a monster, the acceleration to it is permanent, and Roku is winning.

About that Digital Transformation (DX)
The risk to Roku is not the risk of lowered revenue achievements and guidance due to a health pandemic.

The risk is that the company cannot sustain its platform status, which is to say, the thematic is going to thrust forward, irrespective of a bumpy quarter or even a bumpy two-years due to COVID-19.

You’ve read these words before, but at CML Pro we believe that repetition is the mother of studies (repetitio est mater studiorum).

So, here we go…

The digital transformation (DX) due to COVID-19 is a permanent shift in the way technology is used by people, governments, and enterprises around the world.

While this virus is a tragedy, if it happened to us ten years ago, the death toll and economic impact would have been far (far) worse.

Due to breakthroughs in technology, our medical scientists can react faster and with greater precision in an effort to vaccinate this disease.

Due to breakthroughs in technology, individuals are able to use e-commerce for nearly everything.

Due to breakthroughs in technology, the Internet can thrive under immense and sustained traffic.

Due to breakthroughs in technology, enterprises can turn a DX project from three-years into a weekend.

For all the paranoia surrounding technology, make no mistake, due to breakthroughs in technology, lives have been saved, economies have been resuscitated, and the general world order has been preserved itself while pursuing the largest, most coordinated global cooperation in the history of mankind.

So, yes, technology companies that are empowering this change, that are enabling this change, will see their stock prices go up.

For the crew out there, that sits in incredulity at some of these stock prices, in our opinion, it would be incredulous if they didn’t rise this far this fast.

So, yeah, stuff is going to get weird in the stock market.

There has been an unnatural exogenous event that has had an unnaturally negative impact on human kind.

In response, governments are having to act in unnatural ways to combat an unnatural systemic and human risk.

That’s not legislators being dumb or the Federal Reserve “pumping” the stock market.

It has a different name.

It’s called coordinated and forceful intellect.

It is the understanding that this unnatural disturbance requires an unnatural response.

It turns out that Fed Governors might actually know what they’re doing and sometimes, a PhD from Harvard isn’t a bad thing.

The market will have an unnatural response to this unnatural disturbance and equally unnatural intervention.

It is going to get bumpy and the stock volatility to follow is the only part of this whole thing that is natural.

When the best investors in the world hear consternation about a stock price ‘on that day that time’, they don’t hear it.

It’s not a reluctance to it, it simply means nothing.

A day cannot encapsulate the changes that have already been laid.

This understanding that whatever the market does today has no impact on the view of the future has a name.

It’s called perspective.

The rare (rare) few have it.

It is these rare few that we call the best investors in the world.

It is this group of people that you can join, by making a decision.

You are the best investor in the world with perspective.

Snapshot
Within about 20 sentences and four images below, you will have the entire overview of Roku in a single section. Here we go.

We can start with the belief system that at some point all television is going to stream, that of course means all TV ads are going to stream.

All advertising is going to switch to OTT for video, and we’re just still in the very early days.

Roku is the dominant streaming TV operating system (OS) and powers the ‘smart’ part of the smart TV for more than a dozen TV original equipment manufacturers (OEMs).

Yes, more than a dozen TV makers.

Let’s be even more explicit. These are Roku TVs.

* TCL
* Sharp
* Hisense
* Philips
* Sanyo
* Element
* JVC
* onn / Walmart
* RCA
* Hitachi
* Magnavox
* Westinghouse

These TV makers gladly take zero percent of platform revenue — meaning Roku gives the OEMs zero revenue share, for the privilege of having the Roku OS built into their TVs and the power of Roku marketing behind their products.

It is a widely misunderstood moat that Roku brings due to its marketing power. We discuss this piece of the Roku story in the Analysis section, below.

Suffice it to say that Roku OEMs are generally gaining market share, it’s by design and is a part of Roku’s moat as the company does all of the reference designing and builds then manages the operating system, and has invested time and money to get better ‘shelf space’ from retailers.

That refers to, literally, the spots on the shelves that hold the TVs. This is a cost to Roku which helps the OEMs.

Even more, the company does have a retail merchandising budget that it spends to promote Roku TVs.

There is no revenue split with the OEMs.

This is not “that company that makes those sticks.” This is the 800-pound gorilla operating system for streaming TV in the United States with an enviable moat.

Streaming hours grew 54% year-over-year for the quarter just reported.

As streaming TV grows, so too does Roku. It is the pick-axe to this revolution.

The CEO said it best, due to the COVID-19 pandemic, the accelerating shift to streaming is permanent.

What he means is while we can (and do) share lots of impressive charts which forecasts streaming TV growth, that’s all old news.

The move will be faster and the gains will be permanent. As the CEO said, “when someone cancels cable and moves to streaming, they don’t come back.”

“Current events have increased overall demand for both players and Roku TV models around the world.”

Roku’s revenue growth in Q3 2020 was 73%.

This is the number of households that have moved to streaming TV and bailed on a linear cable TV subscription and we might as well throw these charts in the (digital) garbage.

The COVID-19 pandemic is accelerating secular trends and the change will be permanent.

In English, this is the thematic in the United Sates.

Further, the very technology of streaming TV allows Roku to deliver far better advertisements than traditional TV (called linear TV).

And, while we’re at it, here is the thematic worldwide:

As CEO Anthony Wood says, “a billion households in the world have broadband. They will all move to streaming.”

Finally, here are the advertising dollars Roku is going after:

In total, Roku is the operating system to an exploding thematic while offering a moat in a growth trend and delivering a better product than the technology it is displacing.

When we add the unprecedented opportunity for Roku with The Roku Channel combined with the operating system, we simply see a fantastic long-term opportunity.

For Wall Street, which finds some of this news a reason to sell due to COVID-19, we say, “we’ll see you in a few years, friends.”

The rest is just conversation.

Analysis
Roku is the platform for streaming, dominating the U.S. market.

Roku OEMs are generally gaining market share, but that’s not a coincidence, it’s by design and is a part of Roku’s moat.

Since Roku does all of the reference designing and builds then manages the operating system, there is no technological cost to OEMs.

Further, and speaking to market share, Roku has invested time and money to get better ‘shelf space’ from retailers.

That refers to, literally, the spots on the shelves that hold the TVs. This is a cost to Roku which helps the OEMs.

Even more, the company does have a retail merchandising budget that it spends to promote Roku TVs.

So, those OEMs magically turn their glass and metal TVs into smart TVs for not cost, then get better shelf space at retailers.

The trade-off, every dollar generated from the platform goes to Roku (and the streaming partners).

There is no revenue split with the OEMs.

Further, with the onn brand, Roku now powers a branded Walmart Smart TV (Walmart is the OEM).

So, the largest retailer in the world now sells a homegrown smart TV powered by Roku.

Roku makes money, pre-dominantly, through its ‘platform’ segment, which grew 78% year-over-year in Q3 2020.

While sophomoric investors think of Roku as “that company that makes those sticks and anyone can make those sticks,” it of course, is not that at all.

Roku powers streaming in the United States through Smart TVs, and it’s going after the rest of world as of this quarter.

With this built in operating system, Roku generates revenue from several sources.

First, it generates a revenue share in advertising dollars on any app that plays on its operating system (excluding YouTube).

That means advertisements on Hulu, Sling, Tubi, Pluto, and all of the rest.

These ads, unlike those on linear TV, can be tracked and reserved on people’s smart phones or desktop Internet browsers.

This is the future of TV ads and will disrupt the ad world just like Facebook did when people went from “ads on social media can’t make any money” to, “social media is the only way to make money with ads.”

Second, it generates revenue as a share of new pay subscriptions (excluding Netflix).

That means new paying members of Hulu, Sling, and of course, Disney+.

Yep, Roku has its hands on the advertising world and the subscription world.

Roku also generates advertising revenue on its home screen, where apps place advertisements for their content, apps and subscriptions to them.

For example, Disney+ sponsored the Roku home screen and ran banners to promote the launch in Q4 of 2019.

Further Roku generates revenue from its free Roku Channel.

We now know that as of Q3 2020, The Roku Channel reached active accounts with an estimated 54 million viewers (up from 43 million last quarter).

Those are Roku users driving the average revenue per user (ARPU) higher and it’s a channel that was launched just a year ago.

Further, the Roku Channel continues to grow substantially faster than the overall platform.

We highly encourage a read of the details behind The Roku Channel in our prior dossier Roku Reaches for the Unprecedented, from 10-11-2020, in the section entitled “The Roku Channel.”

Parks Associates reports that The Roku Channel is one of the top three ad-based OTT services among all U.S. broadband households (Q3 2019).

We see a traffic boom in streaming, which would mean a spike in advertising dollars. Of course, we also know that ad dollars are getting decimated due to COVID-19 as businesses pull back on budgets.

How that part plays out in the short-term we just don’t know; which is to say, what does spiking traffic ameliorated by lower ad budgets look like?

This question doesn’t interest us, it’s the influx of new streamers that does.

That is, in our opinion, the realization of the streaming revolution pushed forward a year, or possibly several years and will have a long-term impact on Roku for the better.

In our opinion, Roku will achieve its goals that we have pegged for it faster due to this new traffic and user base.

But there is a part of the platform segment that does not have an ameliorating phenomenon on growth.

New subscriptions to pay streaming apps, like Hulu and Disney+ are increasing.

This is Roku’s CFO on the earnings call two quarters ago:

[] certainly, we sign up subscribers for Disney, and there was dollars in the quarter and dollars in the outlook related to new services like Disney+ or Apple or others.

Roku has to hide the actual commercial terms of their partnerships, but the CFO is saying out loud, yeah, they make money on subscribers and it matters.

For now, the rest is just conversation.

Risk
The risk to Roku becoming the giant we believe it will be are several fold:

1. Competition domestically: While Roku is the undisputed leader, when your top competitor is Amazon, Google (sort of) and Apple (sort of), yeah, there’s risk. How could there not be?

2. Competition internationally: Roku will try to materially replicate their success in the US to international markets, and while that sounds reasonable, it’s not a guarantee.

Perhaps this company grows slower than expected internationally and perhaps it’s more expensive than believed. In Europe, Google has a stronghold, unlike the United States, for example.

Perhaps, further, even though the company has $885 million in cash, it has to sell stock to aggressively go after the new markets and for that moment in time, the stock will likely drop.

3. Something unforeseen: It’s possible some other influence that we don’t even recognize as a risk pops up to disrupt Roku’s progress.

While streaming TV is going to dominate then swallow linear TV, it doesn’t have to be the case that Roku will win as it is now. Maybe Microsoft or Facebook try something.

Or, further, perhaps TV manufacturers decide they want to turn into technology companies and are willing to spend the $1 billion to create a new operating system and are willing to hire a thousand new developers to update the OS several times a day as Roku does.

4. Market risk: All of this could play out in the bullish case, but the market dumps and everything is lower.

It happened just 18-months ago when Roku was a $26 stock and many (many) people sold.

They all lost money.

The stock is now 515% higher within 18-months, but that doesn’t help the people that sold at $26.

That same divergence from reality could happen again, but rather than a snap back in stock price, it could take years to recover.

5. COVID-19: In truth, none of us know how bad this could be. That’s just a matter of fact.

Conclusion
We maintain our number one Spotlight Top Pick status on Roku.

This is not a normal business cycle; this is a government-imposed depression to stop the spread of a virus.

So, once it ends, and it will end, restarting the economy will be the focus.

It will not be easy and it will not take a couple of months, or so we think.

But even though this will get bad.

This will get better after it gets bad.

Thanks for reading, friends. Stay safe.

The author is long shares of ROKU at the time of this writing.

Please read the legal disclaimers below and as always, remember, we are not making a recommendation or soliciting a sale or purchase of any security ever. We are not licensed to do so, and we wouldn’t do it even if we were. We’re sharing my opinions, and provide you the power to be knowledgeable to make your own decisions.

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