In virtual deal talks over the past several months, Roku execs have delivered a basic message — in not so many words — to WarnerMedia and NBCUniversal negotiators: You need us more than we need you.

So far, Roku is refusing to cede ground on deal terms to add WarnerMedia’s HBO Max and NBCU’s Peacock to its popular streaming platform. Roku’s standard ask is 20% of subscription fees and 30% of ad inventory on partner channels. That ad split has been a nonstarter for Peacock, which is loading 5 minutes (or fewer) of advertising per hour. WarnerMedia, meanwhile, wants to retire the legacy HBO service sold through The Roku Channel to have HBO Max available as a standalone app, at which Roku has balked.

It’s something of a David-and-Goliath story. Amazon also is at a standstill with the media conglomerates over carrying HBO Max and Peacock, for similar reasons. So how did Roku, with a market cap of around $18 billion, get the same bargaining leverage as Amazon — a colossus worth more than $1.6 trillion?

“Our platform is open to these services on very reasonable terms,” says Roku founder and CEO Anthony Wood — an unlikely flag-waving OTT revolutionary who’s shaking up the TV biz. The soft-spoken exec, an engineer by background, is matter-of-fact in discussing the disputes with HBO Max and Peacock. Roku openly publishes its standard distribution agreement for content suppliers, Wood says, and those conditions “haven’t changed over the years.”

After more than a decade selling cheap streaming devices, Roku has built a prodigious customer base far bigger than that of any pay-TV provider. In the U.S., it has the broadest reach of any over-the-top platform, says Wall Street analyst Mark Zgutowicz of Rosenblatt Securities. Of Roku’s 43 million total active accounts at the end of the second quarter of 2020, about 95% are in the United States. Roku will end 2020 with 52 million user accounts and will have roughly 40% penetration of all U.S. broadband households, Zgutowicz estimates.

Today, Roku has more than twice the number of Comcast’s residential TV subscribers, which stood at 19.5 million as of the end of June 2020.

“We’re in a new world here,” Zgutowicz says. “What you’re seeing Roku become is more than just an aggregation platform. They look closer to a gatekeeper, like cable TV companies used to be.”

In 2008, Roku launched its first streaming player, which at the time streamed just Netflix. Now it offers more than 10,000 channels. This year’s COVID stay-at-home orders have only accelerated the migration of consumer viewing from traditional TV to streaming. In the second quarter, Roku usage was up 65% year over year, to 14.6 billion hours of streaming. In addition, Roku’s monetized video ad impressions grew about 50% year-over-year in the quarter — whereas total U.S. TV advertising spending declined 24%, per Magna estimates.

Roku Active Accounts

Regarding HBO Max and Peacock, Wood says, “All of their main competitors are available on the Roku platform. Fair and reasonable content distribution deals are how we finance the low-cost easy-to-use Roku platform that consumers use to access these services on their TVs.”

Wood points to Disney Plus’ success as a close Roku partner, with the Mouse House streamer roaring to more than 60.5 million paid customers nine months after launch. “When they streamed ‘Hamilton,’ we were the largest streaming platform of any of the streaming platforms, including phones,” he told analysts on Roku’s second quarter earnings call.

As for the issue of retaining HBO on The Roku Channel, Wood says the convenience that offers is something consumers really like. He also claims the integrated-programming model results in higher content viewing on Roku compared with separate apps, “which benefits us and our content partners economically.”

AT&T and WarnerMedia execs have lashed out at Amazon over the HBO Max standoff but haven’t directly attacked Roku. WarnerMedia CEO Jason Kilar, though, recently suggested device makers that don’t offer HBO Max will start to feel the pain soon. “As we head into the fourth quarter, when gift-giving happens, it becomes a more material situation for a seller of hardware,” he said in an Aug. 9 interview with Bloomberg.

Wood notes that in the second quarter, premium subscription services on The Roku Channel “achieved significant subscription gains” — he cites ViacomCBS’ Showtime and Lionsgate’s Starz — in part through extended free-trial offers. In addition, movie and TV rentals and purchases on Roku hit an all-time high in the quarter with the release of direct-to-digital feature movies like Warner Bros.’ “Scoob!” and Universal’s “Trolls World Tour.” Roku also stands to get a revenue cut from Disney Plus’ “Mulan” early release on Sept. 4, priced at $29.99.

What’s favoring Roku (and Amazon) in the protracted battles with WarnerMedia and NBCU is that neither HBO Max nor Peacock is a must-have streaming service today for platform providers, industry insiders say.

“I can’t sell a TV without Netflix or YouTube,” says an exec at a large television manufacturer that is not affiliated with Roku. “HBO Max and Peacock are not in that category.”

To a casual observer, Roku is a hardware company. But that’s not how it makes money.

Roku’s streaming players and sticks are essentially a loss leader, with single-digit margins (the segment had a -0.5% gross margin in fourth-quarter 2019). The company’s platform business, comprising ad and subscription revenue, is more than half its sales. In the most recent quarter, platform accounted for 69% of Roku’s overall revenue. 

“In the early days, hardware margins helped finance the company,” explains Wood. “These days, our gross profit is dominated by our platform business. Our platform revenue is what allows us to provide such innovative products to consumers at such a low cost.” Beyond its own hardware, Roku licenses its operating system to makers of budget-priced smart TVs, including those produced under TCL, Sharp, Philips, RCA, Element and Hisense brands. In the second quarter, one-third of all internet-connected TVs sold in the U.S. were Roku-enabled.

According to Wood, the strategy to make Roku’s platform business the centerpiece of its growth was in the cards when he started the company in 2002. “We needed to first achieve scale by building up our installed base before we could focus on monetization, so our early focus as a company was solely on selling awesome streaming players to consumers,” he says. Once Roku hit 5 million active accounts in 2013, Wood says, “we began focusing on monetization of the platform.”

That successful shift, analysts say, is highly unusual in the industry.

“Roku did something you almost never see in tech: They executed a pivot from being a hardware company to a services business,” says Colin Dixon, nScreen Media founder and chief analyst. “It’s incredibly hard to do. Even Apple’s struggling with it.”

Roku is still an engineering-driven company: Of its 1,650 full-time employees at the end of 2019, more than half — about 850 — were in research and development.

Over the years, Roku has been eyed as an acquisition target by an array of suitors, including Amazon. Wood won’t discuss specific M&A talks, but says, “I think the incumbents, both tech and media, vastly underestimated what Roku is doing.”

When Roku in 2017 bowed the free, ad-supported Roku Channel, which aggregates content from third parties, Dixon expected the company to encounter conflicts with content partners. But the move hasn’t actually hurt them, he says: “It’s all been accretive.”

Despite its blistering top-line growth, Roku has been in the red for the past six quarters, as it continues to invest in R&D, sales and marketing to tap into the burst in streaming. 

And while Roku has captured the pole position for programmatic connected-TV ads, it’s facing stepped-up competition from the likes of Samsung, Vizio and LG. “Roku was early with monetization — they have a couple years’ head start,” says Frank Sinton, president and founder of Beachfront Media, an independent video ad management platform for media and advertisers. “But others have caught on to what Roku was doing, and they’re copying it.”

If there’s another Achilles’ heel for Roku, it’s that the company has been slow to expand to non-U.S. markets, analysts say. But it would have had to raise debt to aggressively expand overseas. “It’s not a cash-rich company,” notes Zgutowicz. Amazon’s Fire TV and Google’s Android TV outpace Roku outside the U.S.

Wood acknowledges that “the shift to TV streaming is a global trend” — but so far, Roku hasn’t announced plans to enter Europe beyond the U.K., with limited footprints in Ireland and France. Nor has the company detailed a blueprint for cracking the Asia-Pacific market. In January 2020, Roku launched in Brazil, augmenting a Latin America presence that includes Mexico and several other countries.

“We have a sole focus at Roku to make TV better for everyone,” says Wood, “and we are still far from completing that goal.”

The more immediate issue for the company is coming to mutually acceptable terms with WarnerMedia and NBCU — and how long it can afford to weather the standoffs. “The big question becomes, how aggressive does Roku want to be? Will there be backlash from their consumers?” says Joe McCormack, telecom and media analyst at investment research firm Third Bridge.

As media companies lean into direct-to-consumer business models, the deals Roku cuts for HBO Max and Peacock could establish a precedent for all of its distribution agreements. Ultimately, says McCormack: “These bellwether brands entering the space are going to be make-or-break for Roku.”