Netflix Ad Plan Not Enough to Halt Roku’s 78% Stock Rout

Optimism about an ad-supported subscriber tier at Netflix Inc. has recently lifted shares of the video-streaming company off multiyear lows, but that hasn’t translated to Roku Inc.

Shares in the platform for streaming services on Friday closed at their lowest level since February 2019 and have lost more than three quarters of their value since the start of 2022, the 12th-biggest drop in the Russell 1000 Index. While Netflix is up 36% since the market low in mid-June, Roku has lost about the same amount since then.

Roku shares rose 4.7% on Monday, participating in a broad rally for equities. Netflix shares advanced 3.1%.

Netflix, which reports third-quarter results Tuesday, said last week it would charge subscribers $7 a month for the new ad-supported product, starting Nov. 3. The company’s standard service, without ads, costs $15.49 a month in the US. The move will give Netflix a new chunk of paying subscribers, plus a revenue source, advertising, that it previously had shunned.

Roku devices allow users to manage streaming services such as Netflix and Hulu. The company sells ads for its own Roku Channel and splits some ad inventory with other services. However, even if Netflix accelerates the shift to streaming as a destination for marketers, investors are skeptical it will be a meaningful catalyst for Roku.

“There’s an idea Roku could ride the coattails and see growth from ads on Netflix, but I don’t think this will have much impact on them,” said Jim Worden, chief investment officer of Wealth Consulting Group, which owns Netflix and Walt Disney Co. but sees the headwinds facing Roku as too severe for the stock to be attractive.

“Even though it is trading well below where it was, it isn’t a screaming buy. This is a difficult market for any advertiser, and there are significant challenges facing Roku at a time when the environment has become much harder for unprofitable stocks.”

The prospects for the highly cyclical ad market have weakened with the economy, a factor that has contributed to declines in bigger players like Alphabet Inc. and Meta Platforms Inc. Last quarter, Roku cited a slowdown in TV advertising when it gave a revenue forecast that sparked the biggest drop in the stock’s history.

It has also struggled as the Federal Reserve hikes interest rates to combat inflation, a change from the accommodative policies that drove a frenzy in high-growth stocks during the pandemic. Roku’s valuation has gone from a peak above $60 billion to $6.8 billion as investors dump unprofitable stocks in favor of cheap or dividend-paying companies. Roku closed Friday with a triple-digit multiple in terms of forward earnings, though with a multiple of 1.9 times estimated sales, compared with its five-year average of 8.7.

“Rates have become too appetizing to take a risk on a name like this, which might not be profitable for years and years,” said Brian Frank, chief investment officer of Frank Funds. “Roku didn’t have any business trading where it was, and if you think it is going back to those levels anytime soon, I think you’ll be unpleasantly surprised.”

Sentiment has soured dramatically. Analysts estimate Roku will report a loss of $3.06 a share this year, more than twice as wide as was expected three months. The consensus for revenue has come down 15% over the same period.

However, Roku continues to have a high-profile fan in Cathie Wood. Her ARK Investment Management is the second-largest holder of Roku shares, behind Vanguard, with the firm holding 8.4% of outstanding shares.

According to the firm’s most recent research, ARK believes Roku shares could approach $605 during the next five years; it closed below $50 on Friday.

“Video advertising revenue is likely to be the most significant contributor to the company’s growth during the next five years,” it wrote, estimating that Roku’s revenue will increase 39% at an annual rate to reach $14 billion in 2026.