The past couple months have been a wild ride for Roku (NASDAQ:ROKU), a top player in the video streaming market. First there was the third-quarter earnings report, which came in early November.

On the face of it, the numbers were solid. Note that Roku announced that revenues came in at $260.9 million, up 50% on a year-over-year basis.

The Street, on the other hand, was looking for $257 million.

The problem then? Well, it was the guidance. For the current quarter, Roku is looking at revenues to be between $380 million and $396 million.

However, the analysts’ consensus was for $386.

True, it wasn’t too bad. But with Roku at a high valuation, even a slight disappointment can be a big deal. So on the earnings news, shares of ROKU tanked by 16%.

It’s true that bargain hunters came into the stock and the gains were erased, that is, until there was some more bad news. In late November, Morgan Stanley analyst Benjamin Swinburne took a hit at Roku. In his report that he entitled “It’s All Priced In,” he noted:

Roku continues to execute a sound strategy to capitalize on the shift to streaming. However, we believe there are risks to growth expectations not reflected in current valuation levels. Specifically, we think revenue and gross-profit growth slow meaningfully in ‘20 and the multiple compresses.

The result: shares of ROKU plunged 15%.

What Now?

With the whipsawing, it’s understandable that there is concern about Roku. If anything, the stock price is fetching an outsized valuation. For the year so far, the return is a sizzling 356% — putting the price-to-sales multiple at a steep 16.6x.

Nevertheless, I think there is still more upside from current levels. I actually think of Roku a bit like Amazon (NASDAQ:AMZN) during its early years. No doubt, there was considerable skepticism because of the losses and competition. Then again, there was the importance of being a key player in a secular trend.

For Roku, it is certainly well-managed, has a solid platform, and is a major beneficiary of cord cutting. Even though there is fierce competition from large operators like Apple (NASDAQ:AAPL), Amazon, Comcast (NASDAQ:CMCSA), AT&T (NYSE:T), and Disney (NYSE:DIS), the market is still big enough for Roku to thrive. This is especially the case since it has forged a strong brand and already has a large user base at 32 million households.

Keep in mind that Roku is essentially a major lead generation vehicle for the various streaming companies. This not only provides advertising revenues but also some of the subscription streams.

Here’s what Needham analyst Laura Martin said about it: “Roku is an arms dealer for high quality internet-delivered TV and movie content. In 2020, Roku’s key upside valuation driver will be accelerating SVOD [subscription video on demand] revenues, which lowers investment risk, we believe.”

As a result, she upped her price target on Roku from $150 to $200, which assumes 36% potential upside

Bottom Line

The Roku platform is certainly engaging. During the latest quarter, streaming hours increased on a sequential basis to 10.3 billion. Monetization also remains strong, with a 30% increase in ARPU (Average Revenue Per User) to $22.58. This should be bolstered with the recent acquisition of dataxu, which is a leader in helping markets plan and buy video campaigns.

Now all this is not to imply that investors should be aggressive on Roku, either. This is a true momentum stock with lots of risk. Because of this, it’s probably best to average a position in the stock rather than go all-in.

— Tom Taulli

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Source: Investor Place