Category: Media

Roku, Magnite and Vuzix: Earnings Reviews

Posted on by io-fund

Roku Summary:

Every management team has a style and Wall Street (and/or the NLP machines – these two terms becoming synonymous) often penalize management teams that are more forthright. I actually like these teams better because I’m setting up for many quarters or many years for an investment. I’d rather hear the issues upfront so I don’t have to dig around for them like a detective. Roku is a management team that I can simply kick back and listen to the call because they tell you exactly the risks and the opportunities. The market, however, prefers more of a sugar high and Roku management isn’t great at dishing out sugar highs. 

The words “tough year-over-year comps” came up a lot in Roku’s call. It would be easy to focus on those words and assume Roku is in a tough spot coming out of the increase of usage from last year. Meanwhile, I think Roku is as strong as ever. Remember that we are invested in the Pay-TV ad dollars trend. Those who question Roku think we are invested for the cord-cutting trend. The cord-cutting trend began around 2005. The Pay TV ad trend began in 2017 and started to contribute meaningful revenue in 2018. This is critical to understand.

If Roku were only a cord-cutting stock, the 1.5 million net adds could be a concern although it’s still 28% year-over-year. This is why there is market weakness right now. Essentially, Roku is experiencing the same pull forward that Netflix warned about, which is that the customers interested in streaming and converting from cable did so during Covid.

Global User growth does need to get sorted, and I fully expect the management to figure this out. Just remember, that some of the best global stories come from the best domestic stories. Meaning, the teams doing well in the United States are the ones who expand to do well globally. We do have Magnite as a global CTV company but their angles are slightly different, which I covered in the LTBH webinar. Right now, Roku has expanded to Canada, Mexico, Brazil, Germany and UK.

Let me quote Anthony Wood on just how unafraid of Google he is:

We've been competing with large companies, including Google in our space for since we started, and we compete extremely well. And the primary difference in the way we compete versus Google as we built from the beginning, a software platform designed specifically for TV, whereas they take their phone, operating system, Android, and they ported it to TVs. So if you look at the history of computing platforms, whether it's windows on PCs, or Android on phones, or Roku on TVs, purpose built, operating systems traditionally have always won in terms of market share. And it's because, when you build something from the ground up for a new user environment, for new business models, it's just more effective. And so that's really the kind of where the source of our competitive advantage come from. And it's working well for us and has worked historically, you know, we compete extremely well, we're the number one streaming platform in the US by a pretty wide margin., a software platform designed specifically for TV, whereas they take their phone, operating system, Android, and they ported it to TVs. So if you look at the history of computing platforms, whether it's windows on PCs, or Android on phones, or Roku on TVs, purpose built, operating systems traditionally have always won in terms of market share. And it's because, when you build something from the ground up for a new user environment, for new business models, it's just more effective. And so that's really the kind of where the source of our competitive advantage come from. And it's working well for us and has worked historically, you know, we compete extremely well, we're the number one streaming platform in the US by a pretty wide margin.

You can apply the same thought process to Samsung.

In the meantime, keep an eye on ARPU becoming disjointed from user growth. For instance, this quarter it was up 46% year-over-year.

Five-year trend in ROKU’s ARPU metric

 Sequential growth in APRU over last 5 quarters – note that 2Q21 was the fast pace of QoQ growth since ROKU went public.

ROKU’s YOY growth in ARPU – YOY growth has accelerated for 4 consecutive quarters

The thing to ponder is why is ARPU going up so much? Here’s why I think this is happening:

The most important statement Roku made in this earnings call was in regards to signing all 7 major advertising agencies and the transition of Pay TV ad dollars. The company is talking about signing upfront contracts for television advertising.

This is a long quote so bear with me bc it’s important on what they’re saying.

Regarding your question about the upfront, it was a pretty transformative upfront season for us. We closed it several months earlier than we have over the last couple of years concurrent with traditional TV networks. I think that's an indication that streaming has arrived as a first-class citizen in the way brands think about allocating their annual budgets, because it deals with all seven major agency holding companies and more than double commitments in terms of dollar basis. it was a pretty transformative upfront season for us. We closed it several months earlier than we have over the last couple of years concurrent with traditional TV networks. I think that's an indication that streaming has arrived as a first-class citizen in the way brands think about allocating their annual budgets, because it deals with all seven major agency holding companies and more than double commitments in terms of dollar basis.

So it's definitely coming out of the pandemic, increased urgency by marketers to follow audiences, especially amidst steep ratings declines. Nielsen reported a 29% decline among adults 18 to 49 year-over-year. But it's also a function of our scale and our capabilities, including one view which played a pretty prominent role, our ad platform, our DSP, and our data. And this upfront season as well, our ability to offer originals exclusive content, the performance of that content in the time since as well as our new brand – branded content studio offering really resonated with brands and stuff, it not just brought in a significant uptick in dollars and earlier commitments. It also brought in a significant new set of advertisers who had not yet committed with us in the upfront. Over 42% of our advertisers were first-time upfront advertisers with Roku. So overall, we're extremely pleased with how we did the upfront and also think it's a good Harbinger for how we'll perform throughout the year during the scatter period. Thanks for the question. But it's also a function of our scale and our capabilities, including one view which played a pretty prominent role, our ad platform, our DSP, and our data. And this upfront season as well, our ability to offer originals exclusive content, the performance of that content in the time since as well as our new brand – branded content studio offering really resonated with brands and stuff, it not just brought in a significant uptick in dollars and earlier commitments. It also brought in a significant new set of advertisers who had not yet committed with us in the upfront. Over 42% of our advertisers were first-time upfront advertisers with Roku. So overall, we're extremely pleased with how we did the upfront and also think it's a good Harbinger for how we'll perform throughout the year during the scatter period. Thanks for the question.

In the LTBH webinar, I went over OneView and how Roku will be monetizing audiences outside of Connected TV and onto mobile and desktop. You can find this on our Roku and Magnite LTBH webinar around minute 28:00. That slide in the webinar is important to revisit if you’re wanting more information about Roku’s strategic advantage as a Pay TV/CTV ad exchange that can monetize beyond its own audience numbers. This is technically Roku becoming a demand side competitor by leveraging first party data. By focusing on Roku’s audience, we are only seeing half the picture (Roku’s position on the supply side). By “demand side,” I mean the side of the ad transaction for advertisers. By “supply side,” I mean the side of the transaction for publishers. In this case, Roku is moving onto the other side to work directly with advertisers. This is a critical change in their story that began with OneView although it’s not surprising or unexpected as strong first-party data ad players who own the stack typically move in this direction (Facebook, Google).

There are other microtrend stats the management discussed that confirms our understanding of where we are in the trend for a Pay TV ad stock (i.e., remember, we are not invested for cord-cutting although it’s a nice-to-have. Similarly, we are in Fubo for live sports and the synergies with sports betting — not the cord-cutting trend that began with Netflix). The first is that Nielsen reported a 29% decline for traditional TV networks among 18 to 49-year olds. The second statistic is that only 39% have a streaming TV service. Roku echoed what we have published in the past, which is that “it’s all going to move towards streaming.”

The Roku Channel is also growing steadily with management stating, "In Q2, we continued to drive robust growth of The Roku Channel with streaming hours more than doubling year-over-year."

Financials Overview

By Bradley Cipriano

Roku’s Q2 sales increased 81% YOY to $645.1 million, beating consensus estimates by 4%. Revenue was driven by a 46% YoY increase in ARPU (now at $36.46) and a 28% YoY rise in active accounts (now at 55.1 million). The firm’s platform sales surged 117% YoY to $532.3 million, an acceleration from the 101% and 46% YoY growth rates in Q1 2021 and Q2 2020, respectively. In fact, this represented the fastest pace of YoY growth since 2017, demonstrating ROKU’s ability to scale its ad business. Importantly, we believe that ROKU is still in the early stages of scaling its ad platform, as the international market remains untapped.

Offsetting ROKU’s platform sales, its player sales increased just 1% YOY to $113 million. However, we note that this number is somewhat subdued as ROKU decided to absorb cost increases (due to a tight supply environment) instead of passing them onto the customer with higher prices. Since ROKU absorbed the price pressures, it reported a -$7 million gross loss in its player segment during this quarter. Importantly, ROKU operates its player segment close to breakeven, as management prioritizes user growth as it scales its ad platform. This is a wise decision by management, considering the acceleration in its ad platform discussed above.

The math also shows that this strategy is sustainable. For instance, ROKU lost $7 million selling its players during the most recent quarter. Considering ROKU nets ~$19.12 per user per year, ROKU can make up the $7 million gross loss in the next twelve months with just ~350k active accounts.

Since ROKU added 1.5 million accounts during the latest quarter, it will easily be able to offset this relatively benigngin loss going forward. Unfortunately, management expects the negative gross margins in the player segment to persist into 2022, which will eat into the firm’s profitability.

On the bright side, ROKU’s platform gross profit rose 149% YoOY to $345 million, easily offsetting the negative margins in the player segment. Consolidated gross margin improved 1,120 bps YoOY to 52%, well above the trailing 3-yr average of 46%. These results flowed down to ROKU’s bottom-line, as 2Q21 EPS increased from a loss of -$0.35 in 2Q20 to a profit of $0.52 as of the latest quarter, which also beat the Street’s expectations by 351%.

However, we believe that ROKU’s current earnings are temporarily inflated. This is because the firm made cost cuts last year due to COVID-19, and management disclosed that expenses will rise going forward as these cuts are unwound to support future growth. Furthermore, ROKU has spent $98 million on media content acquisitions this year, instead of developing this content in-house. This approach temporarily juices earnings since the $98 million acquisition costs are initially capitalized and expensed over-time. If ROKU had developed this media content in house, it would have incurred the expenses more immediately.

ROKU also allocated $47 million of the $98 million of content acquisition costs to goodwill, rather than to media assets. This trend cosmetically inflates ROKU’s earnings growth going forward because goodwill is never expensed to the income statement (it is instead tested for impairment) and hence, distorts the true costs of acquiring the content. Nevertheless, ROKU acquiring media content is akin to a drug manufacturer acquiring a bio-tech firm with solid Phase 3 results. The media acquisition allows management to quickly ramp ROKU’s original media content and to remain laser focused on its ad platform, which is crucial to ROKU’s success.

Looking forward, ROKU guided Q3 sales to $680 million at the midpoint, representing a 50% YOY growth rate which was 5% above consensus. Similarly, 3Q21 EPS was guided to be ~$0.06, above initial expectations of a -$0.22 loss. We expect ROKU to continue to report strong topline growth, especially considering its untapped international opportunity. For example, ROKU has been selling its players to international markets such as Canada, the UK, France, Ireland, Mexico, Brazil and will start marketing its players in Germany in H2 2021.

Magnite Summary:

Roku critics point towards lack of global growth and market penetration. My personal thoughts are that global is way too early to call right now and that Samsung and Google will likely have its hands full competing with Roku long-term in emerging markets. However, Magnite provides exposure to global CTV ad dollars and this has been clearly laid out in our thesis both in our written reports and our LTBH 1-hour webinar. Magnite is our global CTV pick, essentially. With that said, the long-term growth rate of 25% from the company seems low and it’s my hope that the company is setting expectations correctly and plans to easily beat this guidance following its string of acquisitions.

The one thing about ad-tech companies like Magnite is that they use a lot of jargon in their earnings calls. I’ll help simplify the main points before we go into the financials.

Magnite is exposed to desktop revenue, reported under OLV revenue (online video). Therefore, it’s a big win for Magnite that Chrome is pushing out the removal of third-party cookies to 2023.

On the product front, Magnite is now an ad server on top of being a Supply Side Platform (SSP). Strategically, this allows Magnite to compete with FreeWheel and Google and helps them maintain their position “as the largest independent programmatic CTV marketplace.” The SSP allows for programmatic and private market place bidding while the ad server stores the creatives and serves the ads. The SSP facilitates the selling/bidding (auction) while the ad server actually manages, stores and serves the ads. SpringServe is the acquisition that resulted in an ad server for $31 million. The acquisition came from SpotX’s option to buy.

Here’s the flow when you visit a website or watch a connected TV app/show: The page or app calls the ad server, a bid request is sent to the SSP, the SSP auctions off the space to demand-side platforms and ad networks, the winning bid sends its creatives to the ad server, the ad appears on the site you’re viewing or the connected TV show you’re viewing.

In this case, Magnite now owns the full stack. The goal is to give small-to-medium sized publishers even less of a reason to work with FreeWheel and Google.

Overall, management continues to echo our understanding of Magnite’s positioning. They pointed towards India and Asia as markets the company is focused on. The company also repeated it’s discussion of private marketplaces and why an independent SSP on CTV can do well here compared to a public auction marketplace.

I’ve gone into detail on this point in the past, so I won’t elaborate fully here other than to paste this quote:

“With the traditional TV upfront season recently concluded, I’d like to clear up confusion regarding how we participate in these upfronts. Direct-sold and upfront refers to who is doing the selling, but direct and upfront deals increasingly include programmatic media spend commitments, because buyers and sellers want to realize the workflow efficiencies and targeting gains that programmatic provides.

So, how do we participate in upfronts and direct-sold CTV? First through private marketplaces, where our platform serves as the pipes that connect buyers and sellers. As you may recall, a substantial majority of our CTV revenue comes from PMPs. In supporting PMPs, our textures as a self-service productivity and workflow tool to efficiently execute CTV campaigns. We also participate in direct-sold inventory through our managed service business, which provides demand facilitation and serves as a great onboarding source to get buyers into the programmatic ecosystem.”-CEO of Magnite on Q2 earnings call

Here's an excerpt of what I’ve said in the past regarding private marketplaces:

“However, Connected TV inventory is unique as the inventory is premium and goes for $25 to $40 for placements on a private marketplace. This means that publishers will work with maybe one or two SSPs total as the private marketplace does not result in higher bids because the pricing is already agreed on.

SSPs and DSPs especially come under pressure because they don’t own the audience. However, Magnite is leveraging a few key strengths, such as becoming the primary independent SSP in the Connected TV arena. On the earnings call, the management stated that it would be hard for other SSPs to compete at this point, given the unique private marketplace environment of Connected TV. This is due to Magnite’s acquisition strategy, and we see the effects of this in the Disney partnership, where Magnite is the obvious choice on the supply side.”

The takeaway is that investors in Magnite, like ourselves, should understand that the bids occurring on private marketplaces is partly why Magnite can do well in the CTV environment whereas display ads online became highly competitive in an open marketplace.

Financial Analysis:

By Bradley Cipriano

In the prior quarter (1Q21), MGNI reported results that were underwhelming when compared to ROKU’s strong 1Q21 print. However, during the 1Q21 Conference Call, CEO Michael Barrett explained that growth had started to rebound in Q2 and that “all was well”. CEO Barrett’s comments were confirmed when the company reported 2Q21 results on 08/05/21, as 2Q21 sales increased 170% YOY to $114 million, 22% above the consensus estimate.

However, due to the impact from recent acquisitions, reported sales are not comparable to the prior year. As a result, MGNI also disclosed that adjusted pro-forma quarterly sales increased 79% YOY to $100 million, which assumes that acquisitions were closed last year and also adjusts for traffic acquisition costs (TAC). On a segment basis, CTV pro-forma sales increased 108% YOY to $34 million, while on-line video and display pro-forma sales increased 60% YOY to $66 million. Due to nuances in GAAP accounting following MGNI’s recent acquisitions (discussed below), we believe that adjusted pro-forma sales are the best metric to use to measure MGNI’s true growth rate in the near term. 

MGNI’s financial results continue to be tough to analyze from a financial perspective. This is due to all the moving pieces, as the company has made a series of transformational acquisitions in the past year and a half, which has complicated YOY comparisons. Nonetheless, these acquisitions have positioned MGNI to benefit from the rise in connected TV (CTV) ad spend and the industry-wide migration from direct ad sales to programmatic ad auctions.

For instance, MGNI recently closed its $1.2 billion acquisition of SpotX on April 30th, 2021. MGNI stated that “following the Telaria Merger and SpotX Acquisition, we believe that we are the world’s largest independent omni-channel sell-side advertising platform, offering a single partner for transacting globally … and the largest independent programmatic CTV marketplace … allowing buyers access to a global, scaled, independent alternative to "walled gardens," who both own and sell inventory and maintain control on the demand side”. We had also discussed back in April that the SpotX acquisition will allow MGNI to rapidly expand internationally, which should support increased growth and margins going forward.

While the SpotX acquisition positions the company to succeed in the CTV ad market, it also unfortunately complicates MGNI’s accounting. For example, SpotX recognizes sales on a gross basis, while MGNI had previously recognized most of its sales on a net basis (net of TAC). As a result, the company has reported an adjusted pro-forma growth rate to help investors better gauge MGNI true topline growth rate.

Moreover, since SpotX recognizes sales on a gross basis, this can artificially dampen MGNI’s reported gross margins, as the topline is inflated while gross profit remains static. As well, accounts receivables are accrued on a gross basis, which makes MGNI receivables balance appear severely outsized relative to sales. A ballooning receivables balance can signal that a company is pulling forward sales, which is a negative trend and something investors tend to avoid. We suspect that MGNI’s complex accounting is having a temporary negative impact on MGNI share price, due to a subdued gross margin and an inflated receivables balance. However, these concerns will likely dissipate as MGNI’s results start to annualize and the Street gains a better understanding of MGNI’s future growth prospects.

At the moment, the Street is dependent on management’s adjusted, pro-forma metrics. Looking forward, management guided for 3Q21 sales (excluding TAC) to be $115 million at the midpoint, representing a 15% sequential rise in sales (89% YOY). Management also guided for 3Q21 CTV sales of $43 million at the midpoint, which represents a robust 27% QOQ growth rate (307% YOY).

During its Q2 Conference Call, management explained that its long-term expected growth rate (ex-TAC) will be ~25% with 30% to 35% adjusted EBITDA margins.

As a comparison, TTD reported that its Q2 sales grew 101% YOY to $280 million, while the company guided for Q3 sales to grow 31% YOY (1% QOQ) to $282 million with a 35% adjusted EBITDA margin. TTD did not provide long-term guidance.

Vuzix:

Summary:

This summary was posted on the forum on August 10th.

Vuzix committed the two cardinal sins for an earnings report — which are: 1) a big miss and 2) vague guidance.

Before I go into those issues around the earnings report, I want to point out that the company is actually on the right track. This is a technology that had zero adoption for decades and our report outlined that the medical industry is likely the right industry for Vuzix to see early adopter traction. You can read our previous coverage here where we point towards the medical industry as a main driver: https://io-fund.com/premium/ar-vr-h2-2021-update-and-vuzix-deep-dive

The company reported 240% growth in surgical eyewear sales in the most recent quarter. The earnings call listed many medical corporations and hospitals who are using Vuzix and will continue to buy more from the company. This market is expected to be in the $6 billion range by 2025. If Vuzix owns 8% of the market, that will be $500 million in revenue. It’s looking like that will be reasonable for Vuzix as they are doing well in this this industry in terms of early adoption. Perhaps it’s contrarian right now in the face of a terrible earnings report, but I believe the medical industry and manufacturing are (indeed) moving forward on augmented reality and will require hardware (smart glasses) for this rather than a mobile phone (Apple’s iOS).

We were very early to Unity with coverage at IPO regarding its augmented reality potential. As I write this, the company reports today. If you’re a Unity investor, you’ll need to ask yourself if it’s for AR gaming or AR enterprise. I’d say at least 50% of Unity’s story is for AR enterprise. If you agree with me (read my report here), then keep in mind, enterprise AR will not be displayed or utilized on a mobile phone. As you know, we plan to revisit Unity after we get more information on how IDFA affects the company as gaming is primarily driven by app downloads on iOS. So far, most companies are saying the impact has been delayed so not sure what we will get today AH.

My concern with Vuzix is not its long-term potential. I think the company will be firmly on the map after a few quarters. AR enterprise is a viable market for tech investors to consider, and as I’ve stated in this intro, AR enterprise requires glasses. Snap has a loophole with Apple’s iOS which is why we recommended this one many months ago but what you’re seeing with Snap now will eventually be seen across the entire AR market.

There is no way around the fact that AR will require hardware. That’s not my concern with Vuzix, rather it’s whether we are parking our money in a stock that won’t give us gains in the next 5 months. This is because we have to compete on performance. Therefore, if we close Vuzix, we will likely re-enter early next year. Right now, we are not closing Vuzix rather it’s up to Knox and his chart work (he is laying out a plan for the forum). My understanding is that his thoughts are that he prefers to catch the company on an uptrend.

Vuzix Earnings: Unpacking the Disappointment

I actually don’t mind if a small cap stock that is taking on a sizable TAM has a big miss as long as the key metrics I’m tracking come in strong. Smart glasses grew 21% and as stated the industry where Vuzix is likely to see the most sales were up 240%. Medical sales makes up 25% of revenue.

The company’s official reported that the sales of smart glasses for the three months ended June 30, 2021, rose 21% in the period to $2.8 million led by a 22% increase year-over-year in unit sales in the M400 smart glasses and a 77% year-over-year increase in Blade smart glasses revenues.

There was certainly an increase in expenses with R&D up 50% and sales and marketing up 164%. This is despite engineering services declining from $600,000 to $300,000 (we aren’t invested in the company for engineering services so no matter to us on this).

What bothers me is a lack of guidance. As an investor and shareholder, I’d like some idea as to what a company is expecting in terms of sales. This is all we got:

Christian Schwab

Hey, good afternoon guys. Thanks for the slide presentation. I guess when I'm looking at Page 4 of the slide presentation and in the commentary and the prepared comments, I'm just trying to figure out, can you give us a range of revenue outcome that you expect for the year in 2021 and what type of growth rates we should really be thinking about in the second half of 2021 versus the second half of 2020?

Grant Russell

Yes. 2021 should continue to see consecutive growth as we move from our second quarter. Some of the business in the second quarter was timing related, frankly. That said, none of the SaaS-based software that we expect ultimately will start to add to the revenue stream. I would count in a second, especially in the third and fourth quarter of this year, even though some might be there. So you're probably going to be a little bit softer match. I think it's right in line, Christian, with the numbers that we discussed in the past. I think you look at the 3 million to 4 million units for the kind of a numbers, and then more in the fourth quarter.

Christian Schwab

Okay. Okay.

Grant Russell

That’s hard forecast there. Sorry.

Christian Schwab

Yes. No, I appreciate that. I guess if we sum up those numbers, I mean, could Q4 be big enough to do $20 plus million this year? Is that a little bit too optimistic and it may take too many things going in the right direction right now?

Paul Travers

It would take some things going in the right direction. I mean, it's not impossible to see that some of the business we had could do that, but I mean, I can't, we certainly would not give that advice right now, because there's question marks on the timing for it. And unfortunately, this industry is zero down. It's coming. You can see it, our business continues to grow and move forward. And the size of some of the things that we're talking about are getting bigger and bigger without doubt. It's only a question of, is it this month, the next month, in and out based upon the timing. Yes. It could be there Christian, but we'd have to really work to make that happen.

Knox has been pretty clear on the forum that small caps are out of favor. When this sector is out of favor, it can be brutal. When the sector is in favor, investors run around withbe in a state of FOMO. We want exposure to some small caps because there is outsized reward when you do well in this category. We don’t see any nefarious issues here with Vuzix and we don’t think this quarter defines the opportunity. With that said, we are using purely technicals at this point to determine if we remain or exit the position. We do this with most momentum stocks and I’m stating this as more of a reminder than anything unique to Vuzix.

FuboTV Delivers Record Numbers; Fantasy and Sports Betting on Deck

Posted on by io-fund

According to Fubo’s recent earnings call, a free-to-play app is scheduled to launch in Q3 and a sports betting app is scheduled to launch in Q4. As we stated over the past two quarters, owning a live sports audience will convert for a lower customer acquisition cost and better lifetime value on both free-to-play fantasy and sports betting compared to the competing sports betting companies who must find media partners. Fubo management refers to this as a flywheel, and we agree there is substantial potential for a flywheel effect specifically due to the enthusiasm of sports fans.

Below, we review the company’s record-breaking audience growth, the much-debated gross margins, the likelihood that Fubo will have to raise money (and when this might occur), plus what we hope to see in Q3 from the company.

Perfect 10.000 on Audience Growth

We had made the point that short sellers were exploiting the one-time event of live sports being canceled last year. The results of a live sports comeback are seen clearly in Fubo’s results with 196% growth year-over-year in revenue to $130.9 million, beating analyst estimates by $9.46 million. Subscription revenue grew by 189% YoY to $114.4 million and advertising revenue grew by 281% YoY to $16.5 million.

The most important number was the sequential growth, as Fubo certainly had tailwinds from low Covid comps. In this case, sequential revenue grew QoQ by 9%. This is key because Q2 is a seasonally low quarter for sports. My first guess was that this was due to the NBA playoffs. However, according to management’s earnings call, it was due to “engagement reach[ing] record highs as we added exclusive sports streaming rights with CONMEBOL and began beta testing predictive, free-to-play gaming integrated into our streaming platform ahead of our expected launch this fall.”

Going into Q3, we had published Apptopia data showing that the company was already illustrating strong downloads and DAU growth, likely from the Olympics. The return of sports events is a major boost for the company’s year-over-year top line growth, yet the sequential strength is where Fubo provides a glimpse of a more sustainable trajectory. The management now expects the fiscal year 2021 revenue from $560 to $570 million, which represents an increase of 116% at the mid-point. Previously, it had estimated revenue to be $520 to $530 million.

The monthly average revenue per user (ARPU) increased by 30% to $71.43; this was one of the key drivers for the increase in margins. The adjusted contribution margin came in at 8.3%, up from -4.4% in the same period last year.  This is a step in the right direction, although there’s more work to be done on profitability before we see institutional interest pick up.

Fubo is in a high-growth phase. It’s not uncommon for a rapidly growing company to show losses; however, we want to see a deceleration of these losses as the company scales.  Fubo’s gross losses shrunk from $4 million in Q1 to $2 million in the recent quarter. Considering that their gross losses were $18 million in the year-ago quarter.

It’s also important to point out that Fubo’s cash balance of $400 million supports about 9 quarters of operations ($406 million in cash / $47 million in Q2 adjusted EBITDA). Therefore, it’s reasonable to expect the company may raise money in the near term, which can dilute shareholders. As an investor, I am not too concerned about this (Tesla did it many times), although my preference would be that Fubo raises cash in Q1 or Q2 after the launch of its betting app so the market can understand and assess the company’s full potential.

Source: Fubo Investor Relations

As seen above, the advertising revenue growth was the best ad revenue quarter in the company’s history. Advertising ARPU grew by 62% YoY to $8.70, up 22% on a QoQ basis. The company has a goal to double the advertising revenue this year.

My main contention is that as long the company can grow its audience, the market will reward it in the long-term. Our previous analysis was focused on the microtrend of live sports OTT and we think these users are stickier than Wall Street realizes.

Source: Fubo Investor Relations

The company has successfully been able to increase its paid subscribers. The customers continued to prefer fuboTV over legacy pay TV services due to the unique customer experience, innovative product experience, and bundled wide premium content. The company added 91,291 net subscribers in the recent quarter bringing the total to 681,721. This beat the analysts’ estimate of 602,000 and the management guidance of 600,000 to 605,000.

The company also increased the full-year subscriber guidance to a range of 910,000 to 920,000, from previous guidance of 830,000 to 850,000.

It’s crucial to not only grow the audience but also retain them. The company has been able to improve the churn rate by 203 basis points year-over-year. The company’s investment in subscriber intelligence and insights helps to lower the churn rate. Management points towards its first-party data for reaching household income above $85,000 and mainly males. This can help the company reach its target of $35 CPMs with current CPMs in the low $20s.

Fubo users streamed over 245 million hours which is an increase of 148%. The company’s monthly active users (MAUs) watched 134 hours per month on average, demonstrating strong customer engagement – we hope this engagement translates well for the free-to-play and sports betting app.

Improving Bottom Line Already with Sports Betting on the Way

The company’s margins are improving with increasing revenue and the management expects this trend to continue. Operating expenses as a percentage of total revenue were 155% compared to 252% in the Q2 2020. Subscriber-related expenses, primarily include content cost, accounted for 92% of total revenue compared to 120% in 2Q 2020. Sales and marketing expenses were 16% compared to 18% in Q1 2021.

We think the market has over-penalized the company for its gross margins with evidence that DraftKings’ sales and marketing costs exceed Fubo’s subscriber costs & broadcasting and transmission fees (when we compare operating margins). Meanwhile, DraftKings trades at a 300% higher valuation. Therefore, if Fubo can illustrate its sports betting capabilities, it should fetch a higher valuation.

Net loss per share was ($0.68) compared to ($2.08) in 2Q 2020. Adjusted net loss was ($51.3) million compared to ($51.5) million in the 2Q 2020. The adjusted EBITDA improved from (95%) to minus (36%) in Q2 2021.

The launch of the company’s Sportsbook is an important driver of the overall strategy as it aims to develop a flywheel that turns passive viewers into active participants. The monetization here can be substantial if Fubo sees cohorts spending more than $100 on their platform. As stated, the income of over $85,000 and persona of their viewing audience lends itself perfectly to sports betting, which is men watching sports. You really can’t get a better audience than that to target a sports betting app.

Fubo Sportsbook will represent an industry-first live sync integration between video and the Sportsbook. Recently, the company has released a short video presentation that is worth watching. The short sellers accused Fubo of buying a headline with Balto Sports, which was surprising to me to find out these analysts don’t know that YCombinator often incubates small teams. This is common knowledge in tech.

The unique feature is that FuboTV’s sports betting app will allow its users to watch and bet from the same platform. Fubo announced last month that it had completed a market access agreement in Pennsylvania with The Cordish Companies. Currently, the company has market access deals in 4 states, namely, Pennsylvania, Iowa, New Jersey, and Indiana.

FUBO commands about 6% of the virtual MVPD space. So, it’s very likely that over the long-term, the company is aiming between 3% and 6% of the total betting TAM. Right now, sports betting is expected to be a $218 billion market globally.

In the words David Gandler, “The secular decline of traditional television; the shift of TV ad dollars to connected devices; and online sports wagering, a market opportunity which we believe complements our sports-first live TV streaming platform.”

Analyst views

Evercore ISI analyst Shweta Khajuria responded to the results by repeating her Outperform rating and lifting her target price to $40 from $33.90. “We continue to view Fubo as a key beneficiary to three industry trends,” she writes in a research report. “Cord cutting, as viewers shift away from linear TV to streaming; mix-shift of advertising dollars from linear TV to [streaming]; and growing demand for online sports betting.”

Likewise, Oppenheimer analyst Jed Kelly reiterated his Outperform rating, while lifting his price target to $42 from $32. Kelly cited stronger-than-expected subscriber growth, driven by a “strong sports calendar,” and improved churn. “Most OTT providers have focused on low-cost entertainment offerings, forcing sports fans to remain tethered to pay TV,” he writes. “FuboTV is exploiting the opportunity in sports by providing a comparable viewership experience at a lower cost than its pay TV counterparts.”

What’s next for Q3

We have already published Apptopia data that shows July was strong in terms of audience growth. You can view the full article on Forbes here.

Source: Apptopia 

Also, the company’s exclusive rights to South American World Cup Qualifiers is a game-changer as it helps to solidify the company’s brand ahead of next year’s FIFA World Cup. The company was also able to increase the number of consumers in the recent quarter through the launch of LG Smart TVs. It has also partnered with Vizio to launch on their popular SmartCast platform.

Additionally, with the NFL football season, we would expect the growth in the DAUs to continue in the second half of the year. If the company can launch the free-to-play soon, then we may see the flywheel effects of this as soon as Q3.

I/O Fund has partnered three times now with Apptopia to deliver pre-earnings numbers – twice for our free newsletter subscribers and once for premium. Stay tuned for our next pre-earnings coverage next quarter.

As stated in the article, Beth Kindig and I/O Fund currently own shares of FUBO. This is not financial advice. Please consult with your financial advisor in regards to any stocks you buy.

Royston Roche contributed to this article.As stated in the article, Beth Kindig and I/O Fund currently own shares of FUBO. This is not financial advice. Please consult with your financial advisor in regards to any stocks you buy.

Royston Roche contributed to this article.

FuboTV: Why I Like This Stock Better Than DraftKings

Posted on by io-fund

This article was originally published on Forbes on May 21, 2021,12:31am EDToriginally published on Forbes on May 21, 2021,12:31am EDT

FuboTV has been dismissed by quite a few analysts and investors for its negative gross margins. This dismissal, that leans heavily on the lagging financials, is reminiscent of the many times that tech stocks have been misunderstood.

As a tech analyst who is trained in product, I see a sizable runway in live sports OTT and sports betting with Fubo having key advantages over DraftKings. The management has to execute, and while the market calls this speculation, I call it a product road map.

First, FuboTV must continue to grow its audience. I made the argument that this is the most essential piece over the coming quarters when the shorts attacked this company. The bearish reports ignored the most important piece to a media company: audience growth. Fubo has handily overcome the challenge of growing its audience year-over-year regardless of the seasonality in sports. The last two quarters could not have gone better in this regard.

Second, FuboTV must execute on launching a sports betting book. This is easier than the public markets think as Fubo has every required ingredient. Most importantly, competitors such as DraftKings do not have all of the essential ingredients that FuboTV has, and we expect Fubo will see a healthy uptake for this product launch. 

You can read my previous write-up on FuboTV here.previous write-up on FuboTV here.

Financials do matter, of course, and as mentioned Fubo is the ultimate challenge for those who rely on financials alone and ignore product. This is because live sports were canceled last year. Short seller reports that dissect a live sports company following covid are exaggerating the effects of a lagging, one-time event. Forward-looking, we have an ad rebound in digital ad spend from 5% last year to 17% this year. Plus, the World Cup is on deck (and hopefully the Olympics) which bodes well for point #1 – audience growth.

The more popular bet is to go with DraftKings. However, DraftKings is a well-known story that is fully priced. We like the risk/reward of Fubo better due to the fact that this particular company is capturing the live sports OTT trend and will be able to convert high-value users for the sports playbook because they own their audience. 

Audience Growth

FuboTV put quite a few triple digits on the scoreboard in the last earnings report, which was the strongest first quarter in company history. Due to the seasonality of sports, Q1 is typically lighter in terms of growth for Fubo, yet the company reported sequential revenue and subscriber growth.

GAAP of -$0.59 missed by $0.03 and included -$0.02 from expenses associated with the launch of sports betting and -$0.02 due to paying off debt related to senior convertible notes.

Prior to the earnings report, we reached out to Apptopia to check the app data on Fubo. Apptopia is a provider of competitive intelligence on mobile applications.

With the information, we issued the following note to our subscribers on April 20th: "Fubo guided to end Q1 with subscribers of 520,000 to 530,000, representing growth of 82% YoY at the midpoint. Data from Apptopia shows that Fubo ended March with approximately 585,000 daily active users (DAU) versus the Q1 guide for 525,000 paid subscribers at the end of Q1Fubo ended March with approximately 585,000 daily active users (DAU) versus the Q1 guide for 525,000 paid subscribers at the end of Q1." 

On May 11th, the company went on to report 105% year-over-year growth and 8% sequential growth for 590,430 MAUs with subscription revenue increasing 131% YoY to $107.1M. Therefore, we were within 6K subscribers on the estimate.

Net subscriber additions were approximately 43,000 versus a loss of 28,000 in the same quarter last year, which the company achieved while reducing sales and marketing as a percentage of revenue. Monthly ARPU increased 28% year-over-year and advertising ARPU was up 57%.

Paid and trial users streamed more than 228 million hours, up 113% YoY. MAUs on average watched 129 hours per month, up 8% YoY.

This is the second time we accurately tracked Fubo’s audience growth with Apptopia data. The first was when we pointed out during a flurry of short reports that the audience growth in Q4 was quite healthy.

According to Q2 data from Apptopia, as of May 12th, Fubo’s growth remains strong on a year-over-year basis. We are currently seeing app downloads tracking at 181% YoY against weak Q2 ’20 comps due to the cancellation of sporting events last year.

Please note that we have extrapolated the data through May 12th to the end of Q2 and we were roughly 46% through the quarter as of last week. 

Note: this data is not for earnings calls and readers must do their own due diligence. We are simply sharing information from a mobile analytics firm, which is one of the many channel checks we do when looking at tech stocks.

Fubo is tracking for a sequential QoQ decline in downloads in Q2, but it should be noted that Q2 is historically a weaker quarter than Q1 for Fubo, as evidenced by 2019 pre-pandemic data.

We are seeing similar trends in average daily active users (DAUs) thus far through Q2, with Fubo on pace for 172% YoY growth and a modest decline sequentially.

Total time spent in the Fubo app is currently on pace for a large YoY increase of 237%, with another modest decline sequentially from Q1. This helps support how sticky Fubo’s product is to its audience.

Fubo raised guidance and expects Q2 revenue of $121M at the midpoint, up 174% YoY, versus consensus of $98.37M, and FY2021 revenue of $525M at the midpoint, up 101% YoY versus consensus of $472.69M.

The company also raised guidance for subscribers. For Q2 the company expects 600,0000 to 605,000 subscribers, up 111% YoY and for the full year expects 830,000 to 850,000 subscribers, up 53% YoY at the midpoint.

Live Sports OTT

Not surprisingly, we saw the biggest drop ever in households with cable packages this past year with a record 7.5% decline. Tech Crunch recently stated the 2020 pandemic accelerated the projected cord cutting rate to 31.2 million households last year and is expected to reach 46.6 million households by 2024.

Even more pertinent, according to a survey compiled by Parks Associates, 55% of cable subscribers state that live sports is an important factor in why they are staying with expensive cable packages. That means of the 77.6 million currently subscribing to cable, satellite and telecom packages, 42 million are live sports fans. This is 10 million more than the size of the current cord-cutting audience, which has taken nearly 15 years to amass (circa 2007).

In September of last year, AT&T paid $3.75 billion for the exclusive rights to segments of major league baseball. This is a renewal of prior contracts and is a 65% increase from their prior exclusive price tag. The fact that ATT is willing to pay a 65% premium from their last contract shows the importance placed on live sports.

We can see a similar evidence as to the value placed on live sports with Amazon’s purchase for the exclusive rights to the Thursday night NFL games through 2033 at an astounding $100 billion.

As an investor, I understand FuboTV will not stream every game in every league, and I am aware exclusive rights to various sports may shift through negotiations. In fact, the Tokyo Olympics may be canceled. However, FuboTV is offering me a pure play and the company only needs to corner a percentage of live sports cord-cutters in order to be successful. FuboTV could end up owning 5% of the market or 20% of the market – both look good from this market cap.

When asked about competitors, Anthony Wood of Roku has stated a few times that any cord-cutting is a windfall for their platform. Similarly, I believe that any NFL fans cutting the cord will be a windfall for Fubo.

On that note, Fubo offers comprehensive sports coverage. According to a March 2021 press release, Fubo offers “42 of the top 50 Nielsen-ranked networks across sports, news and entertainment channels,” plus more than 30,000 movies and TV shows on-demand.

It’s also important to note that Fubo has the exclusive streaming rights to the South American Qatar World Cup 2022. When you consider there are 3.5 billion soccer fans globally, suddenly Amazon’s Thursday night NFL deal doesn’t seem so make or break (far from it, Thursday is the least popular night).

Sports Betting

In the United Kingdom, sports betting is a $20 billion industry today. There are projections that sports betting will be a $155 billion industry by 2024. To find an opportunity with exposure to this market at a $3 billion market cap is worth a closer look.

Fubo acquired Balto Sports on December 1st in the company’s first strategic move to launch free-to-play games this year. Balto Sports develops tools and contest automation software for users to organize and play fantasy sports games and is a Y-Combinator graduate.

There was criticism from the short sellers that FuboTV had bought a headline. Yet, there is nothing unusual about a stealth product that needs to attach the technology to an audience. In fact, Fubo plans to beta test its free gaming experience in the next few weeks and this rapid release is likely due to the incubation period that Balto Sports underwent beginning with its time at Y Combinator. 

In Q1, Fubo acquired Vigtory, a sports betting and interactive gaming company, for $37.2 million. The company was founded in 2019. The company is co-founded by a former gaming executive at MGM Resorts and has regulatory approval in New Jersey. Notably, the app has not gone live which is reflected in the price. 

Fubo Sportsbook is expected to launch in Q4. The company has $400 million cash and is planning to spend less than $50 million to launch sports betting, per the Q1 earnings report. Fubo plans to deliver streaming and gaming in one data analytics platform, offering users a seamless experience. We expect the company will see lower customer acquisition costs as a result of owning the audience. Fubo’s CEO, David Gandler, said during the most recent earnings call that 30% of users are willing to participate in free-to-play, according to surveys done on the platform, while 22% of paid subscribers are willing to place bets on Fubo.

Despite short sellers not seeing how or why a sports betting app could merge with live sports content, we now see DraftKings partnering with Sling/DISH. I guess content and sports betting does go together, after all (yes, I’m being sarcastic!) It’s surprising that the critics said it cannot be done despite Sky Media having the most successful sports betting model globally.

From purely a user acquisition standpoint, in-app ads with your own content is nearly frictionless and you have a mountain of data to effectively target. Fubo’s ability to gather audience data and appropriately market them, with a deep understanding of preferences, is an advantage that is currently understated. Fubo has first-party data and can specifically tailor an experience, which will either result in higher ARPU from betting or higher ARPU from ad spend.

DraftKings, meanwhile, has partnered with the number six over-the-top provider, DISH Network/Sling. We think DraftKings sees the potential threat in Fubo having access to first-party data and a closed-circuit loop for user acquisition in sports betting. Notably, DraftKings faces friction here when introducing a new brand name that is not DISH/Sling. Essentially, whatever DraftKings can do with the #6 partnership, Fubo can do better. For example, Fubo can give free sports content away to high value users who spend over $100 on sports betting and offer other rewards that are not possible unless you own the audience. The CEO talks about this here.

Fubo is already on par with DraftKings in terms of ARPU and has not added sports betting yet. These numbers show that with sports betting, Fubo could potentially see $100 ARPU or greater.

Notably, DraftKings spends an exorbitant amount on sales and marketing at 82% of revenue. This reflects the cost of acquiring users when you don’t own an audience. It’s interesting, of course, that the critics of Fubo do not look at the $1.5 billion in net losses that DraftKings accrues on its bottom line. On a forward basis, DraftKings is estimated to report ($2.82) EPS for fiscal year 2021 compared to Fubo’s estimated ($1.96) EPS.

Notably, despite having 1/3 the revenue and audience size of DraftKings, Fubo is trading at 1/6 the market cap. It’s not hard to see the potential here, and clearly a healthier bottom line isn’t the reason that DraftKings trades at a 300% higher valuation.

Conclusion:

We officially recommended FuboTV in October and did not hesitate to challenge the shorts in January before the last two earnings reports confirmed the company’s strong growth. We specialize in spotting opportunities in tech growth based on product and we were the first analyst (anywhere) to recommend Roku, we were very early to call Nvidia the future for AI during the crypto bust nearly two years before AI drove the data center segment, and we said Zoom’s product would go viral six months before covid.

We are not concerned with broader market weakness that affects short-term price movements. Instead, we look for companies that are executing on a product road map, are capturing a microtrend and are able to scale. Not only do we think Fubo can do this, but we think Fubo will overtake DraftKings in the next 2-5 years.

Please note: The I/O Fund conducts research and draws conclusions for the Fund’s positions. We then share that information with our readers. This is not a guarantee of a stock’s performance. Please consult your personal financial advisor before buying any stock in the companies mentioned in this analysis.

Earnings Update: TWLO, DDOG, MGNI and ROKU

Posted on by io-fund

If you want to see Knox’s recent thoughts on the market, please click here. He wrote out a long explanation on the forum as to what he’s seeing and correlates this to inter-market analysis, including money flow, breadth and sector rotations.

Below, I discuss TWLO, DDOG, MGNI and ROKU. We review what was pertinent from the earnings reports. Our thesis has not changed on these 4 companies.

Also, I have a LTBH webinar planned for next Monday to go over the IDFA changes from Apple with a highlight on Magnite and also Roku. We will briefly touch base on all ad-tech stocks we own and IDFA but this is mainly a CTV ads webinar from the product perspective. I’ll send instructions on the LTBH webinar mid-week.

Last but not least, if you have not transitioned over to the new website io-fund.com, please do so soon. You will need to set a new password. The Beth.Technology password will not work on the new site. You must also use the same email address you signed up with. We are redirecting the URLs on Beth.Technology this week in anticipation of our forum launching next week. Our old site will be archived and new content will not be published starting 5/13. Thank you! J

Twilio:

We recently had our second LTBH webinar on Twilio. I thought it was important to highlight this company for the important pivot taking place. In the webinar, we stressed the first-party customer data platform and why this was an important strategic approach for a company that has PII from phone numbers in its core product and PII from emails from the SendGrid acquisition. The vehicle to maximize Twilio’s position is Segment, and the company is showing us very clearly the future for by separating R&D into three departments and placing the former CEO of Segment in charge of two of those departments.

The earnings call also communicated the importance of Segment with management stating two-thirds of their sales calls centered around this product. There was an analyst on the call who nearly verbatim discussed what we talked about on our webinar. I find management’s response encouraging as to the accuracy of our thesis (and, I guess good to know that Alex Zukin shares in this exact thesis).

Alex ZukinAlex Zukin

That makes perfect sense. And then another again kind of big picture question, if you think about the rise of IDFA, the demise of – potential demise of third party cookies, it's our thesis that we're entering the world where the notion of CDP for first-party data is going to rapidly accelerate in strategic performance.

You guys mentioned – I think George you mentioned that Segment is now in two thirds or was in two thirds of your customer conversations. I guess a couple of angles around this question. Is this something – is this future world something you contemplated when making that acquisition? Are you, you know just now reaping even greater amount of strategic benefit? Just talk to us about how you think about segments in this new world, both integrated with the rest of your solutions as part of the platform, but also on a stand-alone basis with respect to Strategic impact to all these things.

Jeff LawsonJeff Lawson

This is Jeff. I'll answer, unless George, you want to?

George HuGeorge Hu

Go ahead, Jeff. I'll chime in.

Jeff LawsonJeff Lawson

Well, I'll give my point of view and I'll let George give his point of view. You know collaboration is the answer and is harder in this virtual world.

My point of view is yes, you know we did think about the importance of first party data and how every company is having to become great digital marketers and great digital executors, and you can't necessarily rely on some of the, let's say, sloppier ways of acquiring and re-engaging your customers when you've got a lot of third party data floating around that. So we did believe – we do believe that the CDP market in and of itself as a standalone becomes ever more important to companies, not just because of the plurality of systems you have to figure out how to make sense of, but also because outside their walls it's getting more complex to actually target and reach your own customers.So it becomes even more important that once you meet a customer, so there's your marketing and they buy something or whatever it is, you do a really good job of continually engaging them, because going back out to kind of reacquire that customer is getting harder and harder and harder. And so companies have to treat their existing customers incredibly well, and those relationships are getting even more valuable. And then you add in all the value of – and then integrating that and creating that journey that's going to achieve that using Twilio's customer engagement cloud, that is the next level of benefit on top of the core CDP.

Twilio grew revenue 62% year-over-year for $590 million and guided for $596 million next quarter, or 49% year-over-year at the midpoint. This represents a 4% raise above consensus estimates of $579 million, according to FactSet.

Adjusted EPS came in at $0.05, or $0.15 ahead of estimates. Active customer accounts totaled 235,000 at the end of the Q1 compared to 190,000 in 2020, representing 24% growth YoY.  Dollar-based net expansion rate came in at 133% for the quarter compared to an organic DBNER of 135% in Q1 of 2020.  Gross margins were 55% for the quarter and the company recorded a -2% free cash flow margin.    

The blemish on the report was Twilio’s forward EPS as the company guided for adjusted losses of $0.14 per share compared to analyst expectations of adjusted losses of 4 cents per share. We posted on the forum that this does not concern us as the company had planned investments that did not materialize in 2020 due to Covid. These investments are focused on enterprise sales, flex and new growth products, plus core systems and infrastructure. Twilio management expects these investments to generate losses in the short term, but in the long term it will allow the company to grow at elevated levels.

Additional Research:

Twilio 2021 PDF here

Twilio 2019 PDF here

Datadog:

Datadog allows us exposure to the market that AWS, Azure and Google Cloud participates in but with a pureplay. If the tech giants are communicating that cloud infrastructure-as-a-service is one of the most critical markets in the future, then who are we to argue with this by not investing in the leader across cloud monitoring products?

The company capitalizes on the trend that vendor-specific is becoming unpopular due to issues that vendor lock-in creates. On the flip side, the company competes with open-source options, such as OpenTelemetry.

Here is what the company stated as to why customers choose Datadog in light of many competitors: “We lean into open-source format and libraries to instrument obligations for a very long time. And we support a large number of them. The way we see the problem is not like what matters is not with technology we use to get from here to there. What matters is to solve the end-to-end problem for our customers. And to make it as easy as possible for them to just plug us in and everything just work everything to show that we don’t get our mess, a gigantic mess with all these different technologies and applications and clouds, everything else. We turn that into something that the understanding is well ordered, without any effort.”What matters is to solve the end-to-end problem for our customers. And to make it as easy as possible for them to just plug us in and everything just work everything to show that we don’t get our mess, a gigantic mess with all these different technologies and applications and clouds, everything else. We turn that into something that the understanding is well ordered, without any effort.”

Datadog deserves an updated LTBH report as the product has evolved since we last covered the company with the acquisition of Sqreen. Keep an eye out for this after we get through cloud earnings.

I had said on a Motley Fool podcast in February that we faced a unique environment for cloud stocks this year with a tight pack of cloud stocks guiding between 20-30% and then another tight pack guiding between 30-40% on forward growth. Only Snowflake and Kingsoft Cloud were guiding higher than 50%. We provided a chart here. This is unusual as cloud guidance usually tells us our leaders in advance. Tougher comps from last year require cloud companies to show endurance and prove that any growth last year was not a pull forward from the one-time event of Covid.

You can view my explanation of cloud valuations going into 2021 here at minute 2:15 – YouTube linkYouTube link

What we want to see are cloud companies breaking through the ceiling of 40% growth. That is exactly what Datadog did this quarter and also provided >40% guidance for next quarter and full-year guidance, as well.

Notably, the tone on the earnings call was that their guidance is conservative in light of many unknowns. I can’t guarantee this but I’m hoping to see Datadog come in above guidance in the future, per comments like this: “Now, some notes on our guidance, while usage growth was strong in Q1, when providing guidance as usual, we use more conservative assumptions.”, we use more conservative assumptions.”

The company grew revenue 51% YoY to $198.5M, representing a 6% beat above consensus estimates.  Management attributed the revenue beat in Q1 to stronger than expected usage growth from existing customers. On the bottom line, EPS came in at $0.06, topping consensus estimates by $0.03.  The company logged a record EBITDA total of $24M in the quarter and free cash flow of $44M (22% FCF Margin). 

Customers with $100K+ ARR totaled 1,437 at the end of Q1, representing growth of 50% YoY.  These customers generate over 75% of Datadog’s ARR.

 

Additionally, Datadog announced that 75% of its customers are using two or more products at the end of Q1.  This is up from 63% in Q1 of 2020. 

For Q2, Datadog guided for $212M of revenue, or 51% year-over-year at the midpoint, beating the consensus estimate by 8%. The company is expecting $0.03 of EPS and $10M of operating income in Q2. 

For the FY21, DDOG raised revenue guidance to $885M, or 47% year-over-year at the midpoint, and 6% above consensus estimates. The company is expecting EPS of $0.15 and operating income of $50M for the full year.             

I touch on Datadog here around minute 53:00 – click here for YouTube link

Additional Research:
Datadog Premium Research
H1 2021 Cloud Software Update

Magnite:

We laid out our thoughts here on Magnite and our conviction and thesis remains the same. We go over why Magnite’s Q1 report came in weaker than expected and why we aren’t concerned as management has provided enough statements Q2’s guidance being stronger than expected. We take short-term misses as long as guidance remains strong and the story is intact.

Per my post on the forum, I do believe some of the weakness we saw in ad-tech today is due to IDFA changes from the April 30th iOS update. There was a report from Flurry, as reported by Mashable, over the weekend that stated “only 4 percent of iOS users in the United States let apps track them.” Here’s the full post from Flurry. I believe this partly caused the weakness today in TTD, MGNI, Unity plus other ad-tech companies as there is a lot of confusion in regards to IDFA.

On one hand, we have companies like Unity saying it’ll impact low single digits for their revenue, and on the other hand we see sensational comments from mobile analysts that this is an Apocalypse and “Book of Revelation” stuff  

I’ve been covering the IDFA specifically since October of 2019 after attending Advertising Week and I followed up again in 2020 with free version here. I also covered Facebook’s tracking behaviors in-depth for public investors around Q1 2018, when I criticized the company for not talking about Audience Network in their earnings calls (the IDFA threatens Facebook’s Audience Network the most). 

As the lead technology analyst at the I/O Fund, I made sure my readers were up to speed on the IDFA, such as the July 2020 Update and also here when I first covered Magnite. 

With that said, I don’t think information is easily accessible to public investors on this topic, and meanwhile, iOS 14.5 rolled out at the end of April. Therefore, seeing the reaction to Magnite and The Trade Desk today, Citi’s downgrade, and Flurry’s report, I think it makes sense to have our next LTBH webinar on the IDFA this Monday with a primary focus on Magnite and Roku but we will touch on other ad-tech stocks we own too (Unity, Snap, Pinterest, etcetera).

The summary of my thoughts can be found in the links above if you want the information before Monday. Similar to the tide of all boats, I believe we will see the supply side come out better than the demand side – but that’s my personal opinion and the way that we’ve structured I/O Fund with our positions. I’ll present the information from a product perspective and you can make your own conclusions when we review this on Monday.

Although I don’t think it will be Apocalypse, I do believe it will affect the ad industry enough that we should do the next LTBH webinar on this topic. We will dive deeper into Magnite and Roku, as well.

Magnite’s Earnings:

I had said that Magnite is not the “shiniest company to analyze if you’re a financial analyst” and this earnings report validated that statement. There have been two acquisitions and a major rebranding, so what we really have is really three companies reporting earnings: Telaria, Rubicon and SpotX.

Magnite reported revenue growth of 67%, up 18% on a pro-forma basis. CTV revenue was up 32% on a pro-forma basis or $12 million. Compare this to last quarter’s report which was 69% revenue growth, up 20% on a pro-forma basis, with CTV revenue up 53% on a pro-forma basis, or $15.4 million. Therefore, Q1 was meaningfully weaker than Q4 on CTV (more on this below).

The company was profitable on an adjusted basis at $0.03 EPS compared to a loss of $0.06 EPS in the year-ago quarter.

SpotX results showed considerable strength on CTV with overall revenue excluding traffic acquisition costs of $31.2 million. CTV revenue was at $19.7 million, up 70% year-over-year.

Management is guiding for revenue of $94 million with CTV revenue of $32 million, at the midpoint. This represents 90% growth if the company had closed the acquisition on SpotX on April 1st rather than April 30th. The company raised its long-term revenue targets from 20% to 25% and had raised long-term adjusted EBITDA targets to 30% to 35% in the last quarter.

This comment here provides color for the weaker-than-expected CTV revenue:

Yes, so I think, March was a bit of a disappointment for us at Magnite. I think if you look at the combined company going forward, you're just going to have a greater line of CTV products that each kind of address a different sliver of the marketplace. We talked a bit about the SpotX managed service business, which was able to extract linear dollars into CTV capability that we did not build out at Magnite, but saw as something incredibly attractive in its products, along with a few other products. But as we said, severe acceleration in Q2 for Magnite's business, and if you look at the two combined, you're 90% plus growth range for Q2. So, so all is well there.which was able to extract linear dollars into CTV capability that we did not build out at Magnite, but saw as something incredibly attractive in its products, along with a few other products. But as we said, severe acceleration in Q2 for Magnite's business, and if you look at the two combined, you're 90% plus growth range for Q2. So, so all is well there.

Another analyst also asked about March, which management provided this answer:

Suffice to say, Magnite is growing in terms of — its back to where we always thought it would be and then some. So, I think that this isn't a case of — in q2, particularly SpotX coming in and saving the show, if you will, I think both are growing exceptionally well. And any kind of slowdown that we witness in Magnite in March has been more than made up for, but David, do you have any more color to bring to that?its back to where we always thought it would be and then some. So, I think that this isn't a case of — in q2, particularly SpotX coming in and saving the show, if you will, I think both are growing exceptionally well. And any kind of slowdown that we witness in Magnite in March has been more than made up for, but David, do you have any more color to bring to that?

And there was yet another question about the weaker guidance in March. Management stressed how early in the cycle the Connected TV market is and how some inventory is still being sold direct versus programmatic.

So, I think that there's in any kind of nascent marketplace and CTV is certainly nascent … I would say that Q2 is behaving what in excess of what we would have thought going into it, and that Q1 was strong going in, and then had a weaker March. And, again, probably a handful of reasons there, but nothing systemic or anything that takes the bloom off the rose in terms of our position in CTV or the attractiveness of that marketplace.

As I said, we are comfortable with short-term misses as long as the story is intact and guidance remains strong. There was also more to the earnings call in terms of IDFA, which we will unpack during the upcoming webinar on Monday.

Past Magnite Research here

Roku:

I’ve written a library of research about this company from very early-on. If you want more information as to how we arrived here, I encourage you to read my analysis as it dates back to a time when the market doubted Roku and we withstood two 60% drawdowns.

On that note, Roku is the perfect example of how long it takes for a trend to play out. While many investors are conditioned for instant gratification following last year, we know that tech trends are a 3-5 year exit or longer. In the meantime, our job is to make sure a company is consistently reporting along the thesis we’ve laid out.

Here’s what I want to emphasize: the 3-5 year investment period for Roku begins this year. If someone were to learn about Roku for the first time today, I’d say they’re right on time. In fact, there is less risk now as Roku is a mature and consistent performer. As an analyst, I’m on cruise control with this stock as it’s been performing as we laid out nearly three years ago.

Rarely, do we get a full-stack opportunity that is centered in the middle of a future trend. It’s my belief that Apple’s IDFA deprecation will positively impact Roku – and I hope a few others we have picked out too.

That’s what my library of research answered through the past few years. We will touch on this in the upcoming webinar, as well. The simple answer is Roku delivers the targeting capabilities of mobile with the completion rates of Pay TV. This was outlined in May of 2018.

“For example, according to Nielsen in March, ratings, linear TV ratings for adults 18 to 24 was down 22%. Q1 TV ad spending was down 11% and according to Media Radar. Meanwhile, we doubled, monetized video ad impressions on the platform, ad spending by major agency holding companies with Roku more than doubled. We saw strength really up and down the ad business.”linear TV ratings for adults 18 to 24 was down 22%. Q1 TV ad spending was down 11% and according to Media Radar. Meanwhile, we doubled, monetized video ad impressions on the platform, ad spending by major agency holding companies with Roku more than doubled. We saw strength really up and down the ad business.”

Since my coverage began, Roku has become an even bigger force in the Connected TV ad space. OneView is Roku’s move into the demand side while The Roku Channel provides original content to optimize ad formats.

This sums up some of Roku’s strength competitively speaking:

I will say that the use of OneView to buy media on Roku, whether that's media we're selling, for example, a video ad that runs in The Roku Channel or an ad bought from a publisher on Roku through one year. That segment is growing even faster because, of course, we have data and identity and optimization capabilities to help them do that better than were they to buy through a third-party DSP.we have data and identity and optimization capabilities to help them do that better than were they to buy through a third-party DSP.

And also here …

“The second part of your question was about volume and CPMs. Our product remains a premium product. If anything, we've added, better data, better targeting, better measurement, newer ad products over time. And I think that, that bodes well for continuing to be able to command premium CPMs, but I will also call out to the earlier question from Ralph that streaming is increasingly also a performance media.”we've added, better data, better targeting, better measurement, newer ad products over time. And I think that, that bodes well for continuing to be able to command premium CPMs, but I will also call out to the earlier question from Ralph that streaming is increasingly also a performance media.”

Roku also recently acquired Nielsen’s advanced video advertising business and is expected to close in Q2 2021. The automatic content recognition and dynamic ad insertion will help Roku show different ads to different households based on Nielsen data.

We’ve written quite a bit on Roku and I hesitate to spend more time on the company when we have other stocks we are forming a thesis on and/or need a reiteration of our conviction. However, that should not be confused for lack of conviction by any means as Roku has received my highest conviction for some time and continues to.

Here’s a clip we created of me explaining Roku in October of last year – view on YouTube here.

Roku and The Trade Desk: 2019 Analysis
Roku Update & What’s Next in June
Disney+ Killing it on the App Store – Roku Downstream
Check-in: ROKU, TTD, BABA, UBER, TLRA, and upcoming 5G – Nov 6th
Checking in on Tech Trends and My Current Convictions – January 2020
The Crucial Difference Between Roku and Netflix
Q4 Earnings Analysis for Shopify, Roku, Fiverr And Palantir

On Earnings …

Roku delivered excellent Q1 results on May 6th led by strong growth in advertising and the expansion of content distribution partnerships. Total revenue grew 79% YoY to $574.2M, representing a 17% beat above consensus estimates. 

The growth was led by platform revenue, which increased 101% YoY to $466.5M. Gross profit rose 132% YoY to $326.8M while operating income came in at $75.8M after negative operating income $55.2M in the year-ago quarter. 

Roku also announced positive EBITDA of $125.9M in Q1 from a loss of $16.3M in the year-ago quarter. Roku added 2.4M active accounts in Q1 to reach 53.6M in total, representing 35% growth YoY. 

Streaming Hours increased 49% YoY to 18.3 billion, while average revenue per user (ARPU) grew 32% YoY to $32.14. 

For Q2, Roku management is guiding for $615M of revenue at the midpoint (73% YoY growth), representing a 13% raise above consensus estimates. The company is also guiding for total gross profit to rise 104% YoY to $300M and EBITDA of $65M after recording negative EBITDA of $3M in Q2 ’20. 

Roku: Anatomy of a Tech Darling—From Pre-Proven Business Model to Global Acceptance

Posted on by io-fund

When Beth Kindig first wrote about Roku in 2018 (here and here), sentiment towards this then-unpopular stock was not in line with her primary thesis. At best, investors were hesitant. The primary arguments against her thesis were: 1) Roku will get eaten alive by Big Tech, 2) The company is undercapitalized to expand, 3) It’s a glorified hardware play, 4) Roku has no moat.

Here are some examples of the comments made on her analysis back in 2018, which characterized the prevailing sentiment at the time:

  • “ROKU's model doesn't make money. The minute they try to force others to pay a fee, Google's android system will take their customers. And don't forget, Google, Amazon and Apple have voice control of the tv and can search the web for weather and sports. ROKU cannot beat these big boys.”
  • “The problem I see with ROKU is that they have yet defined how exactly they are going to differentiate themselves from the big boys. If push comes to shove and my amazon prime membership gives me a free firestick or my 5 apple devices means I get 50% off apple TV why on earth would I choose a stand-alone platform? Assuming they will be able to drive margins up through advertising is a tough sell for me.”
  • “I love Roku, but right now, it is a hardware company on par with Sonos, while Netflix is a content provider that is spending $12bn on content. Netflix needs to be looked at as a tech company though.”

After the March 2020 selloff, hesitation resumed around the Roku Channel and the company’s earnings. Investors now complained that Roku’s earnings were moving in the wrong direction due to lower margins and its OTT channel was no competition for the already popular and crowded space in OTT.

Today, some investors are worried that the stock’s best days are behind it. Below we reexamine our long thesis for Roku, and look at the technicals to determine what might be next for the stock.

The Future of Connected TV 

Beth firmly believes Roku is benefitting from a trend that has more room to run: OTT and Connected TV Ads. In the U.S., connected TV ad spending is projected to increase from $8.11 billion this year to $18.29 billion in 2024, according to eMarketer.

Normally, it would be a concern that the overall growth is declining – yet Roku owns the majority of programmatic connected TV market with 46% of ad spend on Roku connected devices. This is followed by about 10% market share Samsung, Apple and Amazon each. There is also a 47% increase in Roku apps that support programmatic compared to 13% in Amazon Fire TV apps.

We believe Roku’s leadership will continue on a global scale, which is not accounted for in these statistics.

The power of these misunderstood microtrends are the reason why many investors missed out on Netflix and can’t understand how a company with such “terrible fundamentals” isn’t collapsing. The market simply doesn’t understand tech and that’s to our advantage.

The OTT/Connected TV ad microtrend is what propelled Roku to a recent high of $486 on Feb.16, and it’s the reason why we identified several buying opportunities within this correction. 

We think the strength of an analyst is determined by how accurate their thesis is and the sooner they get the thesis right, the more likely they will continue to get it right. Our original thesis continues to play out today: an agnostic, ad platform that supports the migration of Pay-TV ad dollars through first-party data and a strong operating system. The company is also expanding globally which will be its first attempt at doubling TAM.

I have personally watched Beth hold her original thesis through many bouts of investor doubt and market volatility, as is common with the tech growth stocks she builds a conviction around. Her conviction regarding Roku is how we were able to build the bulk of our position with a cost basis of $28. Her conviction is also how we have been able to weather the volatility to be up more than 1000% as of April 1.

Today, some investors are worried that Roku’s best days are behind it. We believe it’s best to follow the analyst who got it right from the beginning.

Below we go over current technicals, where you’ll see we are well aware of when a stock is extended and also when it’s bottoming, which can provide a good opportunity to build a position. While many traders attempt to sell at the top and buy at the bottom (wash and repeat), we prefer to remain steady with our convictions so our readers trust us and can rely on our convictions. We think trying to squeeze out gains by trading a stock rather than investing can send mixed messages and lowers the accessibility for investors who don’t trade daily. We think it is easier for our readers if our positions are clear and predictable. Very few of our readers have time to trade actively and we want to be a calming force in what can be a turbulent process.

We also take our role seriously in that we disclose our entries and exits in real-time while also being audited by a third-party for full year performance. Below, we illustrate how the I/O Fund works by looking at our current analysis of Roku and the levels we are watching.

 

Relative Strength

More often than not, the leaders out of a large correction tend to lead in the next leg up. Our system is setup to identify sectors and stocks that exhibit this relative strength to help guide our allocations.

However, there are exceptions. Roku is currently trading under its 50-day moving average, which is hovering around $390. Since the March 5th bottom, Roku has shown weaker relative strength than the NASDAQ100 (NDX).  NDX is up ~5% while Roku is down ~5%).

It’s worth noting that Roku is up 1% over the last 3 months, and up 305% over the last year, compared to the NASDAQ100, which is down about 12% over the last 3 months and up about 78% over the last year. 

Time frames are important. In fact, the relative strength of the OTT/Ad Tech world has fallen dramatically and is ranked dead last in our screens over the last 4 weeks.

Usually, when we see this level of poor relative strength potentially coming out of a correction, we take note.

However, there is more to this story than a fading trend. Note the ranks and returns of this microsector further out. On a 3-month and 6-month basis, it’s ranked in the top percentile. This includes the recent selloff. 

The level of strength is further shown in its YTD returns of around 8%, second only to semiconductors, around 11.5%. Once again, this includes the recent bout of weakness.

What changed was Bill Hwang’s leverage bets in Chinese and American media stocks, which caused a $20 billion forced liquidation of his portfolio. Since then, we have seen a fast to slow unwind of many OTT/Ad-Tech names, which has skewed the relative strength of this microsector.

Prior to the forced unwinding, this microsector was ranked in the top decile of all the tech sectors we track. Because of this, we believe that the opportunity to accumulate specific stocks in this field is unique. 

 

Roku’s Opportunity

Regarding Roku, we outlined the potential 4th wave drawdown and warned our readers of a top forming. On February 11th when Roku was trading around $475, within our forum, we stated

“Note all the sell signals – overbought (check), Demark 9 signal (check), RSI and MACD are showing negative divergence (check). I believe we are coming to the end of a minor degree 3rd wave (pink), which will set up a great buying opportunity.”

We later outlined potential tragets for a bottom on March 1st in one of our premium webinars, by stating “I believe Roku has topped out in its 3rd wave. The 4th wave targets are $335 to $265.” 

Again, on March 30th, we reaffirmed our target region by stating “We are square in the 4th wave target box. The $300 level is very strong support. Below that is $275 and then $265. I doubt we tag $265 with the internals where they are.” 

Today, we think the evidence supports a bottom in Roku for this correction. 

For one, the price hit a wall of support at the $300 region, which is square in the middle of the most probable 4th wave target zone. The CCI, which is a momentum oscillator, tagged the same region we saw at the bottom of the March 2020 low. This is classic uptrend behavior, where we see momentum hit major support or lower while price is higher. 

Also, note the positive divergence with RSI, another popular momentum oscillator. RSI is making a lower high while price makes a lower low. The two of these indicators are providing classic bottoming signals.

Learn more about the crucial difference between Netflix and Roku here, and why Beth is confident that Roku’s best years are still ahead. Find out what levels we are watching on NDX to confirm an end to the correction here.

 

Roku: Levels to Watch

We expect the uptrend to continue to all new highs as long as the $292 low holds. Below $292, and we will look next for a bottom around the $280-$275 region, before the uptrend resumes. We think a test of the 200-day SMA ($265) to be less probable based on how oversold the momentum-based internals are with Roku.

In conclusion, the more probable scenario is that the bottom is in.

Disclaimer: Knox Ridley and the I/O Fund is currently invested in ROKU. The content in this article is intended to be used for informational purposes only. The author has not received any compensation from any third party or company discussed in this article. The content is the expressed opinions of the author and is intended for educational and research purposes. Any thesis presented is not a guarantee of any particular stock’s future prices, so please factor this risk into your own analysis. It is very important that you do your own analysis before making any investments based on your personal circumstances. The author is not a licensed professional advisor. Please seek counsel form a licensed professional before acting on any analysis expressed in this article, to see if it is appropriate for your personal situation.

 

 

Netflix And Roku Stock: The Crucial Difference

Posted on by io-fund

This article was originally published on Forbes on Jan 21, 2021,11:20pm ESTForbes on Jan 21, 2021,11:20pm EST

Netflix came in strong with the recent earnings and there is no reason to expect Roku will not also come in strong especially as Covid and stay-at-home orders have accelerated the shift towards Connected TV.

It's easy to compare Roku's roughly 50 million users to Netflix's 200 million and to assume Roku is a much smaller company or lagging the subscription behemoths, such as Disney Plus. This is a mistake as the ad-based video-on-demand (AVOD) market is a newer market than subscription-video on demand (SVOD). The AVOD market is distinguished from SVOD because it's primary driver is pay-TV ad dollars rather than the cord-cutting trend or subscribers.

About $10 billion is spent on Connected TV ads compared to $70 billion on pay television ads in the United States alone. Pay-TV ad spend is now expected to decline by 15% to $60 billion this year due to the postponement of live sports and also due to an increase in cord-cutting from covid.

Here's something to consider – cord-cutters aren't going back to cable, and this places Pay TV ad budgets in a dilemma. These budgets have not cared much for mobile or desktop. Despite the sheer number of data scientists and (frightening) level of behavioral targeting used by Google and Facebook, Pay TV has held on to an impressive level of ad spend at about $70 billion in 2019 compared to $87 billion on mobile. One reason is that advertising on the television is more effective – no amount of data collection can change the video completion rate achieved when you're sitting in your living room.

Although these budgets have not migrated to mobile or desktop in the past, those advertisers now have an opportunity to use data to personalize the advertising while viewers are in their living rooms. Roku and AVOD are the best of both worlds – combining data for targeting and high completion and viewability rates — and this creates a unique market from SVOD. For reference, completion rates on Connected TV ads are as high as 97% with 100% viewability, according to a study by Benchmark.

Below, I review Netflix's earnings as it's essential to keep an eye on exactly how long a winner can run in the OTT media category. I also review Roku's upcoming earnings and what to look for.

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Review of Netflix Earnings:

Netflix surpassed expectations again in Q4 despite many believing the increase in Disney Plus subscribers and HBO Max would weigh on Netflix's subscriber results.

To be fair, the real test is yet to come as dining out, travel, and return-to-work patterns begin to normalize. Netflix is guiding conservatively for Q1 with 6 million net additions.

Revenue grew 21% YoY to $6.6B, topping consensus estimates by $20M. Net adds of 8.5M came in well ahead of expectations calling for 6M. Netflix now expects 2021 free-cash-flow to be “around break-even” versus previous guidance of -$1B. The company also intends to explore a share repurchase program moving forward:

“Combined with our $8.2B cash balance and our $750M undrawn credit facility, we believe we no longer have a need to raise external financing for our day-to-day operations…As we generate excess cash, we intend to maintain $10B-15B in gross debt and will explore returning cash to shareholders through ongoing stock buybacks, as we did in the past (2007-2011)."

Competition has been one of Wall Street's primary concerns regarding Netflix. In Q4, Netflix maintained a healthy lead over the competition with 29% market share. In Q4 2019, Netflix had 31% share of the streaming market. Keep in mind, the market is growing overall so a smaller percentage can still represent subscriber and revenue growth.

Q4 US Video Streaming Chart

Q4 US Video Streaming: Share By Brand – NIELSEN, CREDIT SUISSE

Despite the modest decline in the share of minutes watched, it is evident that competition did not bite into Netflix’s net adds in 2020.

Weekly Global Paid Net Adds Year to Date Graph

NETFLIX SHAREHOLDER LETTER

This supports the thesis that other streaming services, namely Disney+, are complementary to Netflix. Netflix just completed its best year in history while Disney+ and other new streaming services became available. Consumer behavior is showing that consumers prefer to have multiple subscription services.

In Q4, Netflix had 57.2M global app downloads versus 53.5M for Disney+. In Q4 '18 and '19, Netflix had 53M and 58M global app downloads, respectively. These numbers indicate that the success of Disney+ is not coming at the expense of Netflix. Instead, Disney+ is a complimentary service helping to further the acceleration of streaming to the TV.

Streaming to the TV gained significant market share versus all other TV usage during the pandemic.

Graph: Weekly US TV Screen Time - % Share

NIELSEN

Streaming to the TV now owns over a 20% share of the market. The increased demand for streaming during lockdowns represents the acceleration of a trend that was already in progress.

Although I do not own Netflix stock, I track the company closely as I’m invested in other opportunities in this space. I’ve remained bullish on this stock when others doubted its position as new competitors came on the market.

I have also written extensively about why Roku is one of the best ways to play AVOD market growth. Our first entry in ROKU came in the $30 range in 2018, and we remain bullish on the name moving forward. You can read my first article covering Roku in 2018 here.

An investment in Roku does not force investors to choose which streaming service will be #1, as Roku benefits from the success of a broad range of AVOD publishers. Advertisers are planning out strategies to reach cord-cutters effectively, and Roku stands to be a main beneficiary. Roku is positioned to capitalize on AVOD market growth and has now launched an omnichannel marketing platform to extend first-party data for mobile and desktop targeting. This last part is key because Roku can now capitalize not only the $10 billion currently spent on CTV ads and the soon-to-migrate $70 billion from Pay TV – but Roku will offer additional targeting on mobile and desktop with first-party data – opening up the entire $200 billion+ ad market.

For Q3, Roku reported 73% year-over-year revenue to $452 million. Platform revenue increased 78% YoY, and gross profit was up 81% YoY.

In the past, investors have been critical of Roku for dipping sub-60% on margins. I defended the company, stating margins are rarely an issue for an ad-tech company. Roku added 2.9 million incremental accounts with average revenue per user (ARPU) up 20% to $27.00.

Roku is guiding low for a quarter when most people were stuck at home. In general, this management guides low, stays focused, and is out of the limelight. Q4 guidance is for revenue growth in the mid-40% range with a breakdown of platform revenue at 2/3. My guess is Roku will handsomely beat this guidance.

In December, AT&T announced that customers could watch HBO Max on Roku. Part of our early analysis on Roku pointed towards agnosticism working in Roku's favor and the strength of the operating system and number of channels. This was a timely boon as HBO Max had become the fastest-growing major streaming service recently per data from Apptopia with 1984 Wonder Woman being released on Christmas Day.

Graph: Growth of weekly mobile app DAUs since HBO Max Launch

APPTOPIA

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Conclusion:

Over a year later, my statement on why no streaming company will be able to dethrone Netflix in October of 2019 remains true. Disney Plus and HBO Max are great services, as well, but they are not mutually exclusive.

Regarding Roku, we believe first-party data for connected TV ads is a significant trend moving into 2021 and an important distinction from subscription-video on demand (SVOD). Therefore, the main takeaway is that AVOD has an approximate ten-year runway as the trend began taking shape when Roku launched its ad platform in late 2018/early 2019. There were AVOD players in the space before this, but the budgets were negligible. Therefore, the cord-cutting trend is secondary for Roku, whereas Pay TV ad budgets' migration is the primary trend.

There are other reasons that I like Roku, such as owning the whole stack including the operating system, the management, it’s global opportunity, the agnosticism, etcetera– which I have covered in previous analysis. However, I try to keep things simple when discussing my thesis, and the migration of Pay TV ad budgets combined with Roku’s first-party data is why this stock has its best years ahead.

Please note: The I/O Fund conducts research and draws conclusions for the Fund’s positions. We then share that information with our readers. This is not a guarantee of a stock’s performance. Please consult your personal financial advisor before buying any stock in the companies mentioned in this analysis.

FuboTV’s New Path for Monetization: Sports Betting

Posted on by io-fund

Last week, we discussed why live sports OTT presented a unique opportunity for FuboTV and why we think it is positioned well for free-to-play fantasy games and sports betting.

Fubo TV announced Q3 results on November 10th, the company’s first earnings report since its October IPO. Management described the quarter as the “strongest in company history.”

Revenues of $61.2 million increased 47% YoY on a pro forma basis, or +71% excluding 2019 licensing revenue from the FaceBank AG business, which was sold in July 2020.

Subscription revenue increased 64% YoY to $53.4 million, while advertising revenue increased 153% YoY to $7.5 million. Paid subscribers grew 58% YoY and totaled 455K at the end of the quarter, an acceleration from the 42% subscriber growth the company posted last quarter.

Average Revenue per User (ARPU) increased 14% YoY to $67.70, while total content hours streamed by FuboTV users (paid and free trial) in the quarter increased 83% YoY to 133.3 million hours. Monthly active users (MAUs) watched 121 hours per month on average in the quarter, an increase of 20% YoY.

Furthermore, the company also raised Q4 and FY guidance significantly. Management now expects Q4 revenues to be $80-85 million, a 51% to 60% increase YoY. They also expect to end Q4 with 500,000-510,000 paid subscribers, an increase of 58% to 62% YoY.

As a result, FY 2020 revenue is expected to increase 65% YoY to $246M. Most impressively, management is guiding for an acceleration of revenue growth in 2021 to 70% YoY, with total revenue reaching $415-435 million.

All in all, we believe the company will be successful in its pivot to a new monetization method as pivoting is something that nearly every small company does as they look for product-market fit. What matters for a pivot is the audience. This is the core strength to any media company and FuboTV’s key metrics are strong. If the audience continues to grow, then FuboTV has a high likelihood of delivering its new path of monetization which is free-to-play fantasy to maintain growth and reduce churn, and later, sports betting to increase revenue and improve margins.

Read the Full Article at Forbes

FuboTV: Solid Positioning For Sports Betting

Posted on by io-fund

This article was originally published on Forbes on Dec 31, 2020,11:45pm ESTForbes on Dec 31, 2020,11:45pm EST

Recently, FuboTV has been hit hard by short sellers. The criticism is based on FuboTV’s trailing financials and negative gross margins. We recommended FuboTV at $16 and have a blended cost basis of $20.10 and want to take this opportunity to connect a few dots on this company for anyone interested in hearing why we remain long.

Our analysis starts with audience growth because this is the predominant key metric in media. We also discuss the financials including the forward guidance. Lastly, we discuss why live sports OTT is a unique opportunity and why we think FuboTV is positioned well for free-to-play fantasy games and sports betting.

The main argument against FuboTV is the negative margins. This is a lagging argument as the company has laid out a path to increase monetization through sports betting. We are in a speculative period for this, however, we spell out a few key reasons we think the company can execute on this new path for monetization.

Key Metrics and Financials:

Fubo TV announced Q3 results on November 10th, the company’s first earnings report since its October IPO. Management described the quarter as the “strongest in company history.”

Revenues of $61.2 million increased 47% YoY on a pro forma basis, or +71% excluding 2019 licensing revenue from the FaceBank AG business, which was sold in July 2020. 

Subscription revenue increased 64% YoY to $53.4 million, while advertising revenue increased 153% YoY to $7.5 million. Paid subscribers grew 58% YoY and totaled 455K at the end of the quarter, an acceleration from the 42% subscriber growth the company posted last quarter.

Fubo Press Release

Average Revenue per User (ARPU) increased 14% YoY to $67.70, while total content hours streamed by FuboTV users (paid and free trial) in the quarter increased 83% YoY to 133.3 million hours. Monthly active users (MAUs) watched 121 hours per month on average in the quarter, an increase of 20% YoY.

Operating margins were -145.9% and gross margins currently stand at -16%. This would be a concern if FuboTV had not outlined a new path for monetization (see below). Related expenses and sales & marketing expenses increased by 20% and 60% respectively in Fubo’s latest quarter.

Management noted that they use adjusted contribution margin to measure variable costs against subscriber revenue. In Q3, adjusted contribution margin was positive 16.1%, up from 0.5% in Q3 2019. 

The company is expecting margin improvement over time, as discussed in its Q3 Shareholder Letter:

“We expect margin improvement to continue over time, aided by a number of initiatives. This includes the growth of advertising on our platform along with strong attachment rates on value-added services, such as cloud DVR storage and the ability to stream on multiple devices.”   

The company also raised Q4 and FY guidance significantly. Management now expects Q4 revenues to be $80-85 million, a 51% to 60% increase YoY. They also expect to end Q4 with 500,000-510,000 paid subscribers, an increase of 58% to 62% YoY. 

As a result, FY 2020 revenue is expected to increase 65% YoY to $246M. Most impressively, management is guiding for an acceleration of revenue growth in 2021 to 70% YoY, with total revenue reaching $415-435 million.

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FuboTV App Downloads and Sessions:

The short seller report from Kerrisdale Capital did not name the source of the app intelligence it was quoting. There is no reason to not name the source as app download and session data is factual and inherently unbiased. This is the first I’ve seen data referenced in any article or report without the source being named.

There are three main providers for app intelligence: Apptopia, AppAnnie and SensorTower. Apptopia has provided the following data showing that downloads are up for the quarter from 1.16M in Q3 2020 to 1.53M in Q4 2020.

Apptopia

According to Apptopia, FuboTV is up about 50% year-over-year on downloads from 1.001 million in Q4 2019 to 1.53 million in Q4 2020 and up about 70% in sessions from 84 million in Q4 2019 to 143.7 million in Q4 2020.

Apptopia

There is a dip in December when broken down monthly on downloads but sessions remain strong. This does not include a full month as the data was pulled through December 29th.

Apptopia

Despite downloads being lower on a monthly basis, we see sessions are higher in December than September. Downloads could also be affected by new subscribers joining for football at the start of the season, therefore, these fans already having the app downloaded. For this reason, sessions are important to cross-reference.

Apptopia

We think the dip in December downloads should recover with the start of the basketball and hockey season to create a new seasonal spike in downloads. The NFL Network is a competitor and has exclusive content while basketball does not.

SensorTower data does not raise any flags either although it appears the viewership is lumpy with more popularity on the weekends. In this picture, Fubo is green, Youtube is blue and Sling is red.

SENSORTOWER

FuboTV looks similar on the iPhone where weekends are more popular.

SENSORTOWER

Here’s more information regarding how FuboTV’s website traffic has recovered nicely since April when there were no live sports. We see no issues here. Notably, this does not include December.

WEBSITE IQ

Apptopia is available through the Bloomberg Terminal and along with SensorTower was used to predict the spike in Pinterest from iOS 14, Disney Plus downloads when it first launched and the recent information on HBO Max being the fastest growing SVOD service.

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Live Sports:

Live sports is known as the “holy grail” because it’s the last stand for cable television. Loyalty to live sports is the primary reason as to why customers have not cut the cord with 81% of sports fans subscribing to pay-TV and 91% stating they subscribe to pay-TV for access to games. According to Pricewaterhouse Coopers, 82% of live sports fans have stated they would cut their subscription if they could access live sports elsewhere.

This is substantiated by the fact FuboTV – a relatively unknown name —- can command a high fee for its content of $65. This is three times more than Netflix. We are less concerned with the margins at this time and more interested with how Fubo has been able to compete with the largest MVPDs on price – Comcast, Charter, Hulu+ and YouTube — and most importantly, what the willingness to pay a high subscription fee could mean for free-to-play fantasy games and sports betting in the future.

Sports Betting:

FuboTV has stated they will first go into fantasy league free-to-play games and then move into sports betting. FaceBank is a company that is known for its animated digital humans, such as Tupac Shakur during Coachella. However, more importantly, the merger gives FuboTV access to the Facebank Group’s Nexway e-commerce and payment platform with a presence in 180 countries.

We think this payment platform will be useful for global sports wagering and will help FuboTV scale for sports wagering quickly.

Per the April 2020 press release:

fuboTV intends to continue its global expansion with FaceBank’s Nexway AG, a global ecommerce and payment platform with a business presence in 180 countries, accepting payments in roughly 140 currencies.

Please note: This article is updated to reflect that Nexway was sold and is no longer part of the merger with FuboTV, per a disclosure on November 16th. The tool that FuboTV will use to expand into fantasy games is Balto Sports, acquired in early December by FuboTV. Balto Sports is a graduate of Y Combinator, the incubator that has worked with many startups including Stripe and AirBnB in their early days. Balto Sports is co-founded by Joe Montana’s son and has the ability to become a sports book.

Over the past few years, Sky Media led investment rounds in FuboTV along with Fox for a 39% stake. This investment round was increased in late 2017/early 2018 with Sky Media holding Board positions. The former NBA commissioner was also part of the last $15 million round. Media has gone through some very big M&A shifts at the top-level with Comcast acquiring Sky and Disney acquiring 21st Century Fox. However, for FuboTV’s formative years, the company was influenced by arguably the top sports betting company in the world – Sky Media from the UK. The Comcast-owned Sky Media is still a backer for FuboTV along with Disney.

We think FuboTV is an excellent route for these more traditional media companies to have exposure for free-to-play games and sports wagering without involving their mainstream entities, like Hulu. Sports betting can be controversial and FuboTV allows the content to be funneled to another MVPD. We see the same thing happening with DraftKings – where Fox was a backer, and now through acquisition, Disney.

There are debates on who will dominate the free-to-play fantasy and wagering market in the United States but the successful model to replicate is nearly unanimous – which is Sky Media’s model. The company has numerous brands for betting and fantasy football (soccer) and is the largest betting organization in the UK by number of subscribers. Perhaps it is simply a coincidence that Sky Media has been the largest stakeholder in FuboTV along with Fox over the past few years — and now FuboTV is pursuing a similar monetization path as Sky Media – but we don’t think this is a coincidence. We like this synergy and the direct access Fubo has had to Sky in its formative years.

Analysts:

Perhaps the most compelling thing about the market’s reaction is how quickly short sellers with less of a track record were listened to over sell-side analysts who must maintain a high level of credibility. (In one case, the short seller has a #17,000 rank on TipRanks!)

If the company is going bankrupt soon, then the following analysts have produced the first goose egg in their careers.

BMO Capital (12/23):

BMO Capital Markets analyst Daniel Salmon downgrades from Outperform to Market Perform. The big move had taken the stock well north of his $33 price target, which is now lifted to $50. Salmon says FUBO offers "a more promising path to profitability than most new investors expect," but secular and execution tailwinds are already included at this valuation. His raised price target remains lower than last night's close, with Salmon saying the downside "is more a reflection of recent volatility than an incrementally negative view.

Wedbush (12/16):

Wedbush analyst Michael Pachter initiated coverage of FuboTV with an Outperform rating and $40 price target. The rating is initiated as the analyst expects cord-cutting and cord-shaving to continue for the foreseeable future, and thinks that a sizeable portion of the population will grow up as 'cord-nevers', preferring customized content.

Needham (12/22):

Needham boosts its rating on FUBO to Buy from Hold off the 2021 upside drivers it sees for the company. "We believe FUBO will continue to have strong upside momentum into 2021 owing to: a) FUBO is taking share from competitors; b) its Hisense partnership lowers SAC; c) upside from sports betting; d) OTT multiple expansion; e) short covering; and, f) CTV upside," sums up analyst Laura Marting on the bull case. Despite the huge runup in share price since fuboTV's debut in October, valuation is called inexpensive in comparison to OTT comparables.

Roth Capital (12/22):

FuboTV price target raised to $55 from $36.50 at Roth Capital. Analyst Darren Aftahi raised the firm's price target on FuboTV to $55 from $36.50 and keeps a Buy rating on the shares. Recent market research from Antenna suggests FuboTV gained share from larger virtual multichannel video programming distributors Hulu and YouTube TV in the months of October and November, growing 100 and 200 basis points, respectively, from September to 19% in November, Aftahi tells investors in a research note. While part of this gain can be attributed to seasonality around the launch of the football season in the United States, the overall market trend of cord-cutting, along with FuboTV's growth initiatives, should lead to a higher subscriber outlook for the first half of 2021, says the analyst. Aftahi says share gains, categorical growth, further implementation of artificial intelligence to aid acquisition and retention, and the rollout of an initial entree into sports betting expected in fiscal 2021 substantiate his "bullish thesis" on FuboTV.

Oppenheimer (12/7):

FuboTV price target raised to $30 from $21 at Oppenheimer. Oppenheimer analyst Jason Helfstein raised the firm's price target on FuboTV to $30 from $21 and keeps an Outperform rating on the shares after hosting meetings with the company's CEO and CFO. While management sounded confident in its ability to meet near-term targets for core subscription/advertising, the majority of investor focus was on the recent acquisition of Balto Sports, marking FuboTV's first move toward online sports betting, the analyst notes. While there are clear synergies between live sports content and OSB, Helfstein acknowledges that there are significant hurdles to enter this market. However, he is taking a first "stab" at sizing the OSB opportunity at $742M, assuming $295M in 2020 revenue based on a 16% attach rate and comparable margin structure to OSB leaders.

Is FuboTV the next Roku?

I was the first analyst to cover Roku at $30 and to discuss its story at length. While the market argued it was hardware; I detailed how it was an ad exchange and why that was important. This was before Roku reported any ad revenue in its fundamentals. Now, as you know, Roku has more ad revenue than hardware revenue and the market now “likes” Roku for Connected TV ads.

Source: Knox Ridley on Twitter

One argument I’ve continually made is that SVOD (subscription video on demand) is a mature market while AVOD (ad video on demand) is many years behind because Pay-TV advertisers had not migrated. This is why Roku was a developing story while Netflix is a mature story. The market has had a very challenging time understanding where Roku is in the hype cycle.

Of course, FuboTV is not like Roku because it is not an operating system or ad exchange. However, it’s important to know that FuboTV is in the most nascent area of OTT and the peak growth will be years behind Roku due to live sports being the last content type to convert to linear OTT.

Therefore, to require a perfect story and fundamentals right now in linear OTT for live sports is incredibly myopic. Investors will need to come back in two years to find a better fundamental story in linear OTT live sports — and they must be willing to have fewer gains for a surer thing. What short sellers are calling a dumpster fire is actually a market in its infancy. We are not dealing with just a general linear OTT channel. The product is live sports and this was the last to convert for cord cutters.

What Roku and FuboTV do have in common is solid subscriber growth and high ARPU. They’re also both continually under pressure from the market due to margins. Netflix, for that matter, has also been continually attacked for its free cash flow margin. We understand that licensing and distributing sports content has created an issue with margins but we also know that small companies with loyal audience can (and do) successfully pivot frequently.

Although we agree with the short sellers that the gross margins need improvement, that is the only thing we agree with them on. The rest of the reports were opinions that offered no citations on the data. The quotes and sources “from experts” were also unnamed. Finance is a regulated industry and we feel any data or interviews that cause people to lose money should be sourced.

Notably, the shorts had great timing. There was a run-up in price and an over-extension on the technicals and the reports came out during a period of low volume over the holidays (one report came out on Christmas Eve). The reports were also timed to the lock-up expiring. As far as timing goes, it was a perfect storm.

Regarding valuation, there are concerns about the number of shares that have become available which stands between 140 million, according to Oppenheimer. Keep in mind, DraftKings has a similar subscriber number in the 500,000 range and FuboTV makes similar revenue as DraftKings did in 2019 — yet DraftKings trades at a high valuation of 36 with a $18 billion valuation. If Fubo cracks sports betting on the same size audience (that is growing at and proven to already spend a sizable $65 for month for their content) then we think it could end up there.

Conclusion:

We believe the company will be successful in its pivot to a new monetization method as pivoting is something that nearly every small company does as they look for product-market fit. What matters for a pivot is the audience. This is the core strength to any media company and FuboTV’s key metrics are strong. If the audience continues to grow, then FuboTV has a high likelihood of delivering its new path of monetization which is free-to-play fantasy to maintain growth and reduce churn, and later, sports betting to increase revenue and improve margins. As stated above, sell-side analysts believe sports wagering could come as soon as fiscal 2021.

To conclude, we are long FuboTV and our thesis is not changed at this time.

Will Roku Go Boom Or Bust In 2020?

Posted on by io-fund

This article was originally published on Forbes on Apr 30, 2020,01:41am EDTForbes on Apr 30, 2020,01:41am EDT

Roku has gained up to 600% in less than 3 years since its IPO despite having many objectors along the way. In light of these sizable gains, Roku has seen five significant drawdowns ranging between 41% to 67%. Therefore, when considering if Roku will go boom or bust this year, I believe it will do both. 

When I first began bullish coverage on Roku at $30, the company had a misunderstood business model. At the time I pointed out that Roku was an ad platform first and a hardware player second. At the time, the market was backwards-looking as Roku’s device sales made up 59% of total revenue in the six months leading up to its public offering. 

Through 2019, its device sales made up only 34% of its revenue, while the remaining majority came from its platform. What investors initially failed to realize was that the hardware player was a means to its high-yielding ad platform. Roku has an added advantage from the data it has on consumers due to owning the hardware and the many content apps that need access to an OTT device.  

With this history, my guess is investors will get Roku’s story wrong again this year as Roku must chose between its top line and bottom line. Covid-19 offers an important opportunity for Roku as OTT usage is skyrocketing and the company must expand globally for long-term growth. (I’ve covered extensively why the domestic market is no longer pertinent in my Netflix coverage). 

Often times, growth and earnings are at odds with one another as revenue requires sales and marketing (or other investments), which ultimately eat at the bottom line. Or, in Netflix’s case, revenue growth and free cash flow are at odds. Conceptually, most investors know there is a cost to hyper growth, but in practice, it’s hard to see one of your portfolio companies miss those magical analyst estimates.

Despite monetizing through ads rather than subscriptions, Roku’s best role model for becoming a global media company is Netflix. What Netflix has done beautifully is ignore the pressures that comes with being a public company in favor of being a hyper growth company. This included taking on debt and other risks to gain ground. While I’m not suggesting Roku should take on the debt levels that Netflix has, it wouldn’t hurt for Roku to do whatever it takes to solidify itself as the leading global AVOD channel and ad platform this year.

International Expansion

Roku predicts that by 2024 roughly half of all U.S. TV households will have cut the cord or never had traditional pay TV. 

Earlier this year, Roku began its expansion into emerging markets by entering Brazil. Strategically, Roku has partnered with the electronics company AOC to launch AOC Roku TV. The AOC TV/Roku platform will feature popular local content from Globoplay. With over 5,000 channels and over 1,000 free channels, Roku should do well in emerging markets. (I’ve also covered this in detail in a previous analysis.) 

Furthermore, Roku has announced fifteen TV brands that come integrated with the Roku platform models. These models are available not only in the U.S., but also in the UK, Canada, and Mexico as of 2020. This kind of strategic partnership with TV models will help the company scale globally, which is a critical next step for Roku.

Pandemic Outlook

Roku recently stated that its commission revenue is  expected to jump as viewing hours have increased due to COVID-19. However, it will still feel the shock of ad demand drying up. 

Oppenheimer analyst Jason Helfstein cut the price target from $165 to $110. He forecasts Q2 ad platform growth to be around 18% YoY from the previous estimate of 62% growth. With that said, AVOD views are expected to grow 50% and streaming hours increase by 22%.

Needham forecast one or two more quarters of ad weakness, with ad growth uncertain in 2021. Analyst Laura Martin, who has a strong track record on this stock, said Roku may be able to withstand the storm with its unique model. “A key thing that differentiates Roku in this environment is that it doesn't set its ad-prices at auction,” Martin said in a Tuesday note. “It uses a direct sales force to set negotiated prices, just like traditional linear-TV. We believe that, even though ad-demand has been falling, Roku is still charging $30 + CPMs, and instead, is cutting the number of ads it runs per hour.” 

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Any weakness in Roku’s price will likely be temporary, considering its financials and positioning. Although you could argue this is the case for many advertising companies, connected TV ads are in a growth trend while mobile is reaching saturation. 

Unlike many ad-tech peers, Roku is well diversified. According to emarketer, Roku collects $1 million for letting a service like Disney+ take over the Roku home screen. Other companies like Netflix pay $1 for every Roku sold with a Netflix quick-launch button on them.

For every new market Roku expands into and every unit sold, these numbers will only increase with Roku’s brand and helps diversify the company from varying levels of ad demand.

Recent Financials

The company released a preview of Q1 results on April 13, 2020 and reported revenue in the range of $307 to $317 million. This suggests growth of 51% YoY.

For Roku, it matches the same growth we saw in Q1 of 2019, which shows the continued demand in this growing space. Roku estimates 39.8 million active users as of March 31, 2020, which is a net increase of 3 million since December 31, 2019. 

It estimates streaming hours of 13.2 billion, which is a 49% YoY increase.

Gross profits were in the range of $139 to $144 million, which suggests a growth of 40% YoY, while net losses were in the range of $60 – $55 million, compared to a net loss of $9.7 million for the same period last year. 

As Roku scales internationally, profitable earnings are not expected within the next year. This is the part that Wall Street can often be uncomfortable with; however, it should be factored in that Roku’s revenue growth is solid. As stated above, it has little competition in the niche area of OTT it dominates with manageable debt.

Technical Analysis

Roku Technical Analysis

Roku has moved in a clear uptrend off the March lows. It recently hit a wall of resistance, which includes a key level around $125-$120, the 200-Day SMA, as well as a downward sloping trend-line from its recent peaks. 

With low participation at current prices, as exhibited in the volume, it will need to find more buyers to break through this region. The MACD shows weakening momentum on the daily chart and the RSI shows that its uptrend has broken, as well. We can expect a pullback in Roku in the coming days/weeks. 

The key support level to watch is the $102-$86 region. If this zone is broken, we can expect a retest of the recent lows. However, if it holds, we expect new highs for Roku in the coming months.

Netflix: Coronavirus Cements The Company as Untouchable

Posted on by io-fund

This article was originally published on Forbes on Apr 25, 2020,11:30pm EDTForbes on Apr 25, 2020,11:30pm EDT

In October, many analysts predicted Netflix would be crippled by the launch of Apple Plus and Disney Plus. The new over-the-top services were called “Netflix-killers.” Around this time, I published a series of analysis on Netflix that discussed why competitive over-the-top applications would not be able to dethrone the original streaming media company even after Netflix had missed on subscriber numbers both domestically and globally.

Now that Netflix is up 32% while the broader market is down 13%, it’s important to discuss valuation and the longer-term prospects for this high-yielding growth stock.

Netflix is Unshakeable: Macro Overview

There are key reasons as to why Netflix is able to maintain its lead despite there being over 190 OTT providers in the United States. 

The main reason is that Netflix is a global media company whereas the majority of OTT providers are domestic. Netflix has over 60 million subscribers in the United States compared to 128 million households. Of the households that subscribe to OTT services, 87 percent have a Netflix subscription. 

At the time, I had stated that the market had been myopic with Netflix by overlooking broadband penetration rates and the lack of viable competitors on a global scale. For instance, outside of the United States, Netflix outperforms globally with 70-87% of subscription OTT video service users in European English-speaking countries using the service and 55-64% of non-English speaking countries. 

The global user data helps cut through the speculative noise as to whether Apple Plus or Disney Plus could dethrone Netflix. While many analysts were busy considering the domestic competition, they missed how little competition there is globally.

Asia-Pacific and India remain growth opportunities for Netflix, although pricing could be an issue due to high rates of piracy. For entry into China, Netflix secured a licensing deal with iQiyi, which is owned by Baidu. 

Netflix’s Covid-19 Opportunity:

Currently, filming has been halted globally. There is not much impact on new releases in the second quarter as the production is already complete, with the exception of dubbing options for certain titles. With the shutdown, movie studios like Paramount have sent theatrical releases to Netflix.

Netflix management has mentioned that since the company has a large library with thousands of titles for viewing, member satisfaction may be less impacted than with competitors, who have a shortage of new content. Some of the recent shows like the Tiger King, Love Is Blind, and Money Heist have been very popular.

The company did see some disruption in customer service. It has now hired 2,000 agents who are all working remotely. Customer service levels are now fully restored in spite of increased demand.

Using the Open Connect Technology the company was able to reduce network use by over 25 percent upon the request from a number of governments worldwide.

Challenges: Global Streaming Speeds

While traditional fundamental analysis would point towards debt and lack of free cash flow as the major risks for Netflix, I believe both will be greatly improved upon as broadband penetration rises globally. Broadband is slow to non-existent in many countries. For instance, Brazil reports a 20% annual improvement in households with 4 Mbps (megabits per second) or more. Netflix requires 3 Mpbs. Japan and South Korea have 50 million people with speeds of 100 Mbps or higher. 

Fiber technology and broadband are prominent in Japan and South Korea, along with Australia, Hong Kong, Malaysia, Singapore, Taiwan and Vietnam. There is room for growth once higher broadband rates are achieved in New Zealand, Indonesia, Thailand, India and the Philippines.

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Overall, OTT video is projected to grow to 6.4% of emerging market households, or 103 million, by the end of 2019. That is up from 19.4 million in 2014. By 2025, digital growth will add over 1 billion middle-tier consumers for telecom companies, which will help open up the market for OTT players.

Another challenge for Netflix will be growing subscribers after the lockdowns are lifted. As stated in the most recent earnings report, if a person didn’t join Netflix during the confinement, then the person is unlikely to join Netflix after the confinement. 

Current Valuation

Netflix currently trades at a PE ratio of 85. Despite being high relative to most stocks, Netflix’s PE ratio has a five-year average of 212. EV/EBIT is also low in terms of it’s five-year average. Meanwhile, forward price-to-sales is revisiting early 2019 levels at 7.5 and the current price-to-sales is higher than the five-year average at 9. 

As recent as January, Netflix was undervalued relative to its peers. The company had posted 0.17% returns — or nearly 0% — over the past 12 months, while Disney and Comcast were up 30% and 31%, respectively. 

Therefore, one could argue that Netflix was undervalued in January and more accurately valued now in terms of comparables with the 32% YTD gains from $323 to $426. 

Revenue increased 28% y-o-y to $5.77 billion. Net income more than doubled to $709 million from $344 million in the same period last year. Diluted EPS was $1.57 compared to $0.76 for the same period last year. The revenue beat analyst’s estimates by $22 million and EPS missed estimates by $0.07.

The company has added 15.8 million new paid memberships beating its own guidance of 7 million new users for the 1Q 2020. The total paid memberships at the end of the quarter were 182.86 million. However, the management is cautious for Q3 and Q4 as the growth in the first half may be a “pull forward” of the rest of the year. The management used the words guess and guesswork for the next quarter guidance, which it places at 7.5 million new memberships.

About the Debt Load … 

Clearly, Netflix has had to pay huge bills for becoming a global streaming service. The company spent $8.9 billion on content in 2017, $12 billion in 2018 and will pay a projected $15 billion in 2019.

Reed Hastings, one of the best entrepreneurial tech CEOs of the past decade, is clearly gunning for global territory. Naysayers may be right about high-risk debt becoming an albatross for the company, but the first-mover advantage that Netflix has secured is going to be hard to shake. In this way, the barriers to going global is protection from other competitors, albeit at a cost.

The company has cash and cash equivalents of $5.2 billion. Long-term debt was $14.2 billion at the end of the 1Q 2020. Netflix announced yesterday its plan to raise $1.0 billion in debt.

Interestingly enough, the criticism towards Netflix’s debt has now turned into a positive as the company has an arsenal of content at a time when many studios are closed for production. 

For the full-year 2020, due to paused productions, there will be a push in spend to next year. The management had previously estimated negative free cash flow of $2.5 billion and now it expects to be around negative $1.0 billion. Despite the “lumpiness” in free cash flow, management still believes 2019 will be the peak in annual FCF deficit. 

Conclusion:

I believe Netflix’s addressable market stands at 50-70% of the developed world and 20% of the developing world based off of 1.6 billion television households worldwide. This puts the blended rate at 35%, or 560 million on the low end and 720 million on the high end. In order to achieve this number, broadband penetration must become a tailwind rather than a headwind in the regions where growth opportunities remain.  

Covid-19 is an unfortunate circumstance that has revealed which technologies are essential. Gene Munster, an analyst at Loup Ventures, told CNBC that “Netflix is not going to make a dramatic change to our lives in the next decade.” He missed the point entirely that Netflix made this dramatic change in the United States and is set to make an even more dramatic change for the remaining 6.5 billion people globally.