Roku (ROKU 0.73%) stock has gone from boom to bust in the past five years. During the early stages of the pandemic, when people were staying home, the company experienced strong growth, as consumers were using its platform heavily and buying its streaming sticks.
However, as competition ramped up in streaming and people are no longer stuck at home, the excitement around the business has waned; Roku stock’s five-year returns are now -40%.
The company has evolved by diversifying its business, but suffice it to say, it hasn’t been going all that well. And next year could be a pivotal one for Roku, as it could determine just how strong the business is and whether it’s worth investing in for the long term.
Roku’s earnings in early 2025 could be crucial
In order to try and diversify its business model and become less reliant on its streaming sticks and advertising revenue via its platform, Roku has launched new products. It sells smart home devices and also its own TVs.
A concern I have about the business is that it may not be moving in the right direction with respect to earnings. Roku has incurred a net loss in each of the past four quarters, and by selling more hardware products, which have lower gross margins than its ad business (which falls under platform revenue), the company may not get much of a boost on the bottom line, even if it generates a lot more revenue. Roku’s TVs are priced relatively low, and while that can make them appealing options to shoppers who are on a budget, that can result in smaller margins for the business.
What investors should be watching for when Roku reports its next round of earnings in February is how it fared during this crucial period, which will include its performance on the all-important retail shopping day of Black Friday.
If it didn’t generate significant revenue growth, or if it did, but its gross profit margin didn’t show much improvement, that could serve as confirmation the business is indeed heading in the wrong direction. If it did well on both counts, then that would definitely be an encouraging development.
However, with Roku incurring a loss on its devices segment in each of the past four quarters, I wouldn’t be terribly optimistic it will be able to reverse that trend.
Competition may intensify, putting a further strain on margins
Another development for investors to watch for next year is whether big-box retailer Walmart becomes a thorn in Roku’s side. Walmart recently completed its acquisition of TV maker Vizio, which will play a key part of the retailer’s move to expand its advertising business, Walmart Connect. With the acquisition also comes Vizio’s SmartCast operating system, which has 19 million active accounts.
Roku has a much wider audience, with the number of streaming households using its platform totaling 85.5 million as of the end of September. But Roku also makes it easy for people to use its platform through its streaming sticks; you don’t have to own a Roku TV to access it.
If Walmart dedicates a great deal of resources to growing Vizio, which it could very well do as it focuses more on ad revenue, that could make it more difficult for Roku to grow both its platform and device revenue without further diminishing its margins. Investors should keep a close eye on Walmart’s moves on this front, as they could have a significant impact on Roku’s overall growth potential.
Is Roku stock a buy heading into next year?
Although Roku’s valuation has been rallying in recent weeks, year to date the streaming stock has fallen by around 9%. It’s trading at 3 times its trailing revenue, which isn’t an expensive valuation. But with a lack of profitability and now a potentially more fearsome competitor to worry about in Walmart, I’m not terribly optimistic that Roku will be in better shape a year from now.
Investors may be better off waiting on the sidelines to see not only how Roku performs in the next few quarters, but also what moves Walmart makes with respect to Vizio. The retailer’s actions can give investors a good indication of how fierce the competition may be and how it might impact Roku’s business. For now, Roku stock is too risky of a buy, given its shaky fundamentals and the concerning path ahead.
David Jagielski has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Roku and Walmart. The Motley Fool has a disclosure policy.
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