Down 86%, Is It Time to Buy a Discount on This Growth Stock?

Roku (ROKU -0.98%) is another perfect example of a pandemic-era sweetheart who has fallen from grace. The stock has soared 530% from a March 2020 low to an all-time high in July 2021, on a monster run fueled by consumers spending more time at home.

However, the stock is now trading 86% below that peak price. So time to buy a drink on this one growth stock?

Riding the streaming wave

Part of the reason Roku stock has been under pressure in recent years is because of slowing growth. Revenue grew by more than 55% in both 2020 and 2021. As consumer behavior normalized, these gains were not as impressive.

But the situation is not as bad as the stock performance would suggest. Roku posted 14% revenue growth last quarter, with management forecasting 11% growth in the third quarter. The business continues to expand at a healthy pace.

The company added 2 million active accounts in Q2, bringing the total to 83.6 million. Roku has a leading market share among smart-TV OS providers not only in the US, but also in Canada and Mexico. And engagement is through the roof, as 30.1 billion hours of content have been streamed in the past three months. That means each account spends an average of four hours a day on Roku.

Roku prides itself on being platform agnostic and plays ball with all content companies. As a result, the business is well-positioned to profit from the ongoing cord-cutting trend. Another benefit is that they don’t have to pay billions of dollars every year to license and produce content. As more consumers ditch their cable subscriptions, Roku will undoubtedly be a top choice for aggregating the many existing services into a single user interface.

Investors may not like the cyclicality of the digital advertising industry. During softer economic times, CMOs scale back spending. That’s exactly what happened in 2022 and 2023. In the long run, though, it’s inevitable that ad dollars will flow to streaming services because that’s where the eyeballs are. This should play in Roku’s favor.

Risk and assessment

Roku could be the main streaming platform. However, the business is not without some notable risks that investors should be aware of.

To begin with, the company does not generate a positive net income. Management boasts that the business reported positive adjusted earnings before interest, taxes, depreciation and amortization (EBITDA) in four consecutive quarters, with the expectation that this will continue. But this figure not only excludes key expenses, but can be manipulated to make things look good.

The fact that Roku is not yet profitable on generally accepted accounting principles (GAAP basis). it means that the business model has not yet demonstrated that it is financially sustainable.

Roku has grown its revenue, user base and engagement over the years on the back of the age-old streaming trend. But keeping a critical eye on the company’s positioning in the industry, there is one thing to remember.

A valid argument can be made that Roku is at the mercy of the big content companies. For example, I would suspect that Netflix or AlphabetYouTube shares no or very little ad inventory with Roku. And Roku needs these two businesses to cooperate more than the other way around. This tells me that content publishers have the leverage.

Investors should be aware of these risks. But with the stock trading at a price-to-sales ratio of 2.6, which is substantially below its historical average of 9.5, the valuation is compelling enough to buy the dip in this growth stock.