Roku Q1 shareholder letter update

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My overall Take: A great quarter and will hold the current 11% position.

  • Total revenue and platform revenue re-accelerated
  • Delivered positive FCF even though GM and OM is under pressure

Q1 financials:

  • Revenue up 55% to 321m, reaccelerate from 49% last quarter!
  • Platform revenue up 73% to 233m, reaccelerate from 71% last quarter!
  • Platform revenue is now 72.5% of total revenue
  • Active account up 37% (net incremental add 2.9m) to 39.8m
  • Streaming hours up 49% to 13.2B
  • ARPU up 28% to 24.35
  • GAAP GM 56.2%, down from 62.5% last quarter (probably due to increased Roku channel portion)
  • R&D expense up 88.3%, S&M up 102%, G&A up 80% (this might be the reason of after hours drop)
  • Adjusted EBITDA margin -5.1%
  • FCF 0.6m, positive FCF (compare to Q4 adjusted EBITDA 3.7% & FCF -63.5m)

Other highlights:

  • Since staying-at-home began, we have seen an acceleration of growth in both account activations and streaming hours. The sharpest rises in viewership are to ad-supported and subscription programming. The growth of “virtual” MVPD streaming has been more moderate in the absence of live sports.
    ? The acceleration of growth in new accounts and viewership continued in April: Active accounts grew roughly 38% versus last year, driven by a year-over-year (YoY) increase in new accounts of more than 70%. Streaming hours rose by roughly 80% year-over-year, driven by an increase in streaming hours per account of approximately 30%. The pandemic associated stay-at-home orders and increased unemployment appear to have accelerated the shift from linear TV viewing to streaming during the past few weeks. For example, Nielsen data shows that primetime linear viewing among adults 18-34 from March 16 to April 19 was down 18% year-over-year, and nearly half of TV viewing by this important demographic was streamed.
  • On platform monetization:
    ? Since mid-March, platform monetization has seen a mixture of impacts. For example, subscription video on demand (SVOD) trials and subscriptions, and transactional video on demand (TVOD) purchases are up. While our advertising business has seen higher than normal cancellations as overall advertising budgets have declined, this has been partially offset by ad-spend that has moved to Roku from traditional TV budgets. Despite the likelihood that total U.S. advertising expenditures will decline in 2020, we believe Roku is relatively well positioned based on the effectiveness of our ad products and the trend towards streaming. As a result, we anticipate that our ad business will deliver substantial revenue growth on a year-over-year basis, albeit at a slower pace and lower gross profit than we originally expected for the year.
  • Over the longer term, not only do we believe that the trends that we expect to define the streaming decade will remain intact, but changes brought on by the COVID-19 pandemic may even accelerate Roku’s path to greater platform scale. In the years ahead, we believe that the vast majority of TVs will use a modern TV streaming OS to connect to the internet; more TV brands will adopt a licensed OS; cord-cutting will continue; ad-supported content will unlock enormous value for consumers; and shifting audiences and innovative ad tech will shift billions of advertising dollars from linear TV to OTT.
  • Brands are reassessing their entire marketing mix and many are showing a preference for our targeted, more measurable form of advertising as well as the flexible solutions we offer, such as sponsorship and interactive overlays. With COVID-19 and the ongoing linear ratings slide, we expect buyers will accelerate their reallocation of linear TV budgets to Roku, because of our audience reach and advanced advertising capabilities.
  • announced the rebranding of our dataxu DSP to the “OneView Ad Platform.”
  • Premium Subscriptions in The Roku Channel have seen a surge in signups, as consumers take advantage of more than 25 extended free trials we have presented. Consumption of ad-supported video on demand (AVOD) content has also grown faster than overall platform growth.
  • The Roku Channel continues to grow substantially faster than the overall platform, with a greater than an 100% increase in streaming hours year-over-year. In Q1, The Roku Channel reached households with an estimated 36 million people… The Roku Channel has proven central to the Roku platform, bringing considerable value to consumers, content partners, and advertisers. For example, the speed at which we were able to feature live news, public service announcements, extended free trials from SVOD partners, and free movies was central to Home Together. The “Global Citizen’s “One World: Together at Home” special drove the largest single day of live viewing in the history of the channel and demonstrated The Roku Channel’s significance as a distributor of live content. Increasingly, The Roku Channel is becoming an important contributor to our partners’ audience-building strategies on our platform, a trend we expect to continue.
  • Roku TV models, produced and sold by our TV OEM partners, account for more than one in three smart TVs sold in the U.S. and more than one in four smart TVs sold in Canada.
  • Much uncertainty remains, but a few things are increasingly clear to us: streaming, and the ease and value it provides, is more relevant to consumers than ever; overall advertising expenditure in the U.S. is likely to fall in 2020, but we expect our ad revenues to still grow substantially year-over-year; Roku is well positioned to be an increasingly valuable partner as brands decide how to invest marketing resources most effectively; and, our outstanding talent is keeping our company highly productive. Although the Streaming Decade began differently than anyone could have imagined, we are confident the fundamental shift to streaming will continue, perhaps even faster than previously expected.
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- Revenue up 55% to 321m, reaccelerate from 49% last quarter!
- Platform revenue up 73% to 233m, reaccelerate from 71% last quarter!
- Platform revenue is now 72.5% of total revenue

Great notes. I’ll mention a couple other things.

  1. I was a little dismayed that GM was so much lower on their platform revenue, but I’m sure this was due to lower bids per ad (and I think more subscriptions which carry a lower GM? don’t quote me on that part), which makes it all the more impressive that revenue not only beat guidance handily, but accelerated!

  2. Incredible trends they’re seeing in usage will help offset the lower margin. The acceleration of growth in new accounts and viewership continued in April. Active accounts grew roughly 38% versus last year, driven by a year-over-year (YoY) increase in new accounts of more than 70%. Streaming hours rose by roughly 80% year-over-year, driven by an increase in streaming hours per account of approximately 30% We knew they would benefit from everyone being home so much, but that quantification is nice to see. They also mentioned that the shift FROM traditional TV kicked into high gear: Nielsen data shows that primetime linear viewing among adults 18-34 from March 16 to April 19 was down 18% year-over-year, and nearly half of TV viewing by this important demographic was streamed.

  3. They laid out very plainly that they expect great growth this year, though maybe not 70%+ growth like they’ve been seeing. Despite the likelihood that total U.S. advertising expenditures will decline in 2020, we believe Roku is relatively well positioned based on the effectiveness of our ad products and the trend towards streaming. As a result, we anticipate that our ad business will deliver substantial revenue growth on a year-over-year basis, albeit at a slower pace and lower gross profit than we originally expected for the year.

I realize this is a little different than most of our companies, and maybe a little harder to value. But for me, the trend toward streaming overwhelms everything. I added a little Roku at $124 yesterday AH, and it remains a large position.

Bear

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I realize this is a little different than most of our companies, and maybe a little harder to value. But for me, the trend toward streaming overwhelms everything. I added a little Roku at $124 yesterday AH, and it remains a large position.

I agree with both these breakdowns and added another 0.75% today as well. Roku has become a bit of a battleground stock. The bears see the continued losses. The bulls see reaccelerating growth at impressive scale.

After yesterday’s earnings I don’t see any reason to leave the bull camp. Roku continues to do what it says and is lining itself up to emerge even stronger once advertising (and hopefully margins) see a rebound.

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I’m a bit behind so if this has been discussed already, pardon me.

1. I was a little dismayed that GM was so much lower on their platform revenue, but I’m sure this was due to lower bids per ad (and I think more subscriptions which carry a lower GM? don’t quote me on that part), which makes it all the more impressive that revenue not only beat guidance handily, but accelerated!

It is tough to know the different dynamics of ROKU’s business model. Certainly, ad prices likely came down late in the quarter. However, ROKU recognizes revenue differently for different pieces of revenue - gross and net.

Net revenue ends up with extremely high margins while gross does not. It does not impact total gross profit, but the margins are vastly different it seems.

But you can see where this would have the same effect on revenue growth. As margins drop, there is a good chance more of the business is of the gross variety versus net sending revenue growth higher at the expense of margin percentage.

I think the metric to follow here is gross profit growth. That grew at 39% this quarter. Last quarter was 49%. One before that was 59% and the one before that was over 70%. That is a bit of a concerning trend.

A.J.

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On lower GM here is what management answered:

So first another question on gross margin. Can you quantify how much of the impact is due to mix shift between video ad-driven subscription, content distribution [ph] versus the impact of just lower gross margins for the video ad business. And then how should we think about gross margin in Q2 and potentially after advertising budgets normalize?

Steve Louden

Ziv, its Steve. Yes what we said was in Q1 on the platform side it was lower than anticipated there. Couple factors, one was COVID-related cancellations and weakness hit a combination of our advertising businesses including the ad sales business which generally operates around 50% plus gross margin. Profile as well as higher margin sponsorships and audience development and that’s why there is a bit of a headwind on the margin. We also had greater than anticipated mix of gross revenue versus net revenue within the dataXu DSP, so as a reminder that does not impact gross profit dollars from the DSP. But rather the revenue profile as well as the margin. So those were the biggest pieces. You made comments about the video ad sales margin being down. It actually was in line with expectations or slightly ahead of expectations for Q1 so that was not a contributing factor for Q1.

On the high operating cost, here is what management say:
Q1 OpEx was $196 million up 76% year-over-year. As a reminder Q1 was the first full quarter including the impact of acquiring dataXu operations in personnel. Q1 also includes approximately $3.4 million in intangible amortization related to the dataXu acquisition roughly two-thirds of which is included in platform COGS and one-third in sales and marketing OpEx.

Zoro
Was long TTD before but sold all positions in Mar and bet in Roku only as CTV seems to the brightest spot in ad space and Roku is absolutely the best positioned monster.

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Was long TTD before but sold all positions in Mar and bet in Roku only as CTV seems to the brightest spot in ad space and Roku is absolutely the best positioned monster.

Hi Zoro,

Can you expand on your thoughts here? What indicators are you looking at which lead you to the conclusion that ROKU is better positioned than TTD?

I see them as being positioned differently with different targets. ROKU is definitely well positioned for CTV for their platform. But isn’t it fairly well restricted to just that? Whereas TTD is aggregating the available ad space from not only CTV but lots of other places like websites and games being viewed on laptops, phones, tablets, etc.

I see ROKU somewhat limited to streaming video content on their platform, whereas TTD has access to streaming video content there, as well as non-streaming content everywhere else.

Is there something I’m missing?

–
Paul - Long both TTD & ROKU

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I think he means on the growth end of the big story. Roku is positioned well to gain on a shift towards CTV. TTD is positioned to gain on a shift towards automated advertising buying, but is exposed to the overall anti-growth of spend during the contraction?

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I see them as being positioned differently with different targets. ROKU is definitely well positioned for CTV for their platform. But isn’t it fairly well restricted to just that? Whereas TTD is aggregating the available ad space from not only CTV but lots of other places like websites and games being viewed on laptops, phones, tablets, etc.

Paul, this is exactly the current problem for TTD as their other segments ex-CTV are all growing slower than CTV, some of them is much slower or even declined in the current pandemic time.

Here is what TTD said in Q1 cc. Over the last 10 days in April:

  • Connected TV spend accelerated even more. During that period, we estimated that Connected TV spend increased about 40%.
  • Even CTV grew 40% in last 10 days of Apr, their total ad spend “improved” to a negative high-teen’s year-over-year decline.

From here we could know how much decline ex-CTV segments had.

If I remember correctly, some member in the board got the following breakdown from TTD IR in Jan:
Video which is a little over 25%
Display (desktop) which is a little over 20%
Audio which is ~5%
And the of course Mobile which is 47%

So as the brightest spot, CTV is only 25% of TTD’s revenue while it is 100% for ROKU and from Q1 ER I saw Roku further strengthened their absolute leadership in streaming, which even more obvious in Apr: Active accounts grew roughly 38% versus last year (faster than Q1’s 37%). Streaming hours rose by roughly 80% year-over-year (significantly faster than Q1’s 49%).

Based on this, I decided to bet solely in Roku and believe they are similar to what we saw in Netflix in 2013 (When netflix’s active accounts also top 40m).

Zoro

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Paul, this is exactly the current problem for TTD as their other segments ex-CTV are all growing slower than CTV, some of them is much slower or even declined in the current pandemic time.

You nailed it, Zoro.

Bear

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Zoro,

Thanks, that make a ton of sense to me now.

What are thoughts looking out 3-5 years, once the pandemic is over?

ROKU is most definitely gaining because of the pandemic. Is this an artificial bubble in growth rates that, once people are back to work, kids are back to school, and we all stop streaming so much, that will result in a dramatic drop in revenue as a result? Whereas with TTD not being as exposed to CTV as much, will benefit from the long-tail growth of building up the ex-CTV segments over a longer period of time, and as a result, have built themselves a more sustainable growth rate?

If this is the case, doesn’t it make sense to bet on both? Or are you saying you’re putting all your chips on ROKU now, with the understanding that you can move them over to TTD later once ROKU slows down and TTD is ramping up?

Thanks again!

Paul - Who remembers the NFLX growth well, and still holds all his shares from 2008…

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Paul, this is exactly the current problem for TTD as their other segments ex-CTV are all growing slower than CTV, some of them is much slower or even declined in the current pandemic time.

There are lots of things to like about ROKU, but the revenue growth likely isn’t what it seems. At least one reason gross margin is falling is due to increase gross revenues. If gross revenues are a higher percentage of total sales this year compared to last, revenue growth has an “inorganic” component to it. It isn’t apples to apples growth. It seems ROKU has been increasing the percentage of gross revenues versus net.

Now ROKU does seem better suited to weather the storm of falling ad prices compared to TTD. ROKU has other forms of revenues (subscription) than just ads unlike TTD. Other than Dataxu, ROKU is a pure CTV play.

However with ROKU, gross profit growth is concerning. That growth has been consistently falling and was 39% this quarter while platform revenues where most profit is generated was 73%. That will be the metric to watch since revenues can’t be relied upon much. I’m not suggesting ROKU is doing anything underhanded. They just don’t give us a net/gross breakdown so all we can rely on is GP.

ROKU’s operating margins had been trending in the right direction and took a big step back this quarter to lower than any of the past 8 quarters.*

On the other hand, TTD is very profitable. The gross profit growth and gross margins have been quite steady. Margins range around 75%. EPS growth was huge this quarter.

About the markets each company serves, pure play CTV is certainly growing faster than the rest of the ad market so ROKU gets a notch there. TTD scores points by having a wider purview for advertisers, zero conflict of interest, likely better monitoring of ROI, ability to adjust campaigns quickly, etc…

To summarize, I definitely like ROKU and definitely don’t like they way profitability is trending.
Interested in what others think.

A.J.

*I only value ROKU on Platform Sales viewing Player as pass through. I calculate OpM by taking out GAAP expenses and adding back SBC.

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ROKU is most definitely gaining because of the pandemic. Is this an artificial bubble in growth rates that, once people are back to work, kids are back to school, and we all stop streaming so much, that will result in a dramatic drop in revenue as a result? Whereas with TTD not being as exposed to CTV as much, will benefit from the long-tail growth of building up the ex-CTV segments over a longer period of time, and as a result, have built themselves a more sustainable growth rate?

Paul, even before Covid-19, CTV is way outperforming other segments based on the breakdown given by TTD, so I won’t be surprised that CTV will continue to outperform after Covid-19. On the other hand, the streamers will likely to stay in Roku platform instead of leaving after covid as Anthony Wood said:
a clear trend that we’re seeing here is that the pandemic and all of its various aspects are accelerating trends that we’ve already - started before the pandemic particularly the transition to streaming. So things like lack of sports, a desire to save money, a move towards value. Those kinds of trends are accelerating streaming and they’re accelerating cord cutting and sports will come back. But all those cord cutters are not going to resign up for their cable. So I think a lot of these changes are going to be permanent.

Zoro
Well, I may return to TTD again in the future if their revenue growth reaccelarates to 40%+ and I always like TTD’s huge profitability, however I just see Roku has much bigger potential to dominate CTV and grow enormously in the next 10 years - similar to NFLX at 2013 and we know what happened to NFLX after that.

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A.J., I agree with your comments on both TTD and Roku and we will have to keep a close eye on Roku’s GM and OM trend in the next couple of quarters.

But I want to highlight two things and any comments are welcome:

  1. Before Netflix reached 40m active accounts in 2013, their gross margins deteriorated from 2011 (37%) to 2013 (27%). Yet, their revenues continued to grow at a steady rate, from 2011 ($3.2B) to 2013 ($4.4B). I see Roku is somewhere similar to that playbook and management did mention many times that their long term GM for platform business will be high 50s, so I see there is not much room for GM to further down and they might be close to the tipping point like NFLX did in 2013.
  2. Not sure if everyone has noted one key metrics in Roku’s Q1 ER - its FCF turned positive for the first time ever!! I see this is a much meaningful sign in terms of Roku’s improvement in operating efficiency, despite that its GM and adjusted EBITDA were down.

Zoro
Long Roku with 10% position

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Not sure if everyone has noted one key metrics in Roku’s Q1 ER - its FCF turned positive for the first time ever!!

Zoro -

Where are you pulling this from? Are you calculating it? I know it’s not something Roku draws attention to regularly. If it was mentioned in the call, I must have missed it.

Thanks.

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It’s in the M* stats too. BUT, they were FCF+ for FY2017, too. So, it has been a while, but it is not a “First, Ever”

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Stocknovice, I calculated it by myself.

If you look at Q1 2020 cash flow statement, their Net cash provided by (used in) operating activities is 45,941m, PP&E is -45,317m, so FCF is 45941-45317=624K.

Actually this quarter’s operating cashflow is the largest in the past several quarters.

Zoro

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Little correction…

Stocknovice, I calculated it by myself.

If you look at Q1 2020 cash flow statement, their Net cash provided by (used in) operating activities is 45,941k, PP&E is -45,317k, so FCF is 45941-45317=624K.

Actually this quarter’s operating cashflow ~46m is the largest in the past several quarters.

Zoro

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in the conf call, they said a large part of the PP&E (capex) of $45M is due to new headquarter building… that will also see some of that in Q2.

Dataxu acquisition, hq building… are one time expenses.

So Q3 onwards, FCF can jump up a huge amount…

I believe ROKU will be volatile for another quarter before taking off to next stage… sometime between now and early 2021, $200+ price range is much within reach IMO.