Should I Buy NFLX Stock? 3 Pros, 3 Cons

by Carla Lake | November 1, 2013 5:55 am

Netflix Should I Buy NFLX Stock? 3 Pros, 3 Cons[1]Since releasing earnings last week, Netflix (NFLX[2]) is down around 9%. Yet the Q3 report checked the boxes on all important metrics. Netflix earnings per share beat estimates by 8%, revenues were in-line at $1.1 billion and NFLX reached its goal[3] of surpassing Time Warner‘s (TWX[4]) HBO domestic subscribers.

And while growth is ticking along domestically, NFLX is also hoping to take over the rest of the world, with four new country launches since Q3 last year.

But with a 250% gain YTD and a forward P/E near 80, no one can argue Netflix stock is trading on fundamentals. Even CEO Reed Hastings agrees[5] NFLX stock is overvalued.

So what’s next for Netflix stock? To see, let’s take a look at the pros and cons.

NFLX Pros

Subscriber Growth. Subscriber growth is one of the most important numbers to watch for NFLX because it’s the only way for the company to bring in more money. In the U.S., at least, subscribers are extremely resistant to any price increases[6] since Netflix unsuccessfully tried to spin off its DVD business. The Q3 report revealed positive trends on this front. The domestic subscriber count is 1.29 million in the U.S., which is 11% more than the year-ago quarter, and marked an important benchmark — beating HBO’s domestic numbers. Internationally, Netflix’s 9.2 million international subscribers pale in comparison to HBO’s 114 million, but international subscribers doubled year-over-year. NFLX also projects that the growth will continue, estimating 32.7 to 33.5 million total domestic subscribers and 10.1 to 10.9 million international subscribers in Q4.

First-Mover Advantage. NFLX has been around since 1997, shortly after DVDs were starting to catch on, and went on to decimate the VHS and DVD rental business long before anyone had a concept of streaming video. Now, when you think streaming, you think Netflix. That kind of brand recognition is hard for competitors to overcome.

Momentum. Yes, right now momentum traders appear to be heeding Reed Hastings’ warning. But NFLX stock has a history of big swings — both up and down. So traders could easy go back to pushing Netflix stock back up regardless of whether fundamentals support such a move.

NFLX Cons

Valuation. With a forward P/E of 80 and price to book ratio of almost 16, Netflix is approaching Amazon (AMZN[7]) levels of insane valuations. Heck, analyst consensus[8] currently projects around 5% downside from current levels.

High Fixed Costs. Netflix currently has nearly $6.5 billion in contractual content obligations — that’s 35% of NFLX market cap, and a heavy boulder that the company will always have to keep rolling uphill to keep their content offerings fresh. NFLX also plans to double spending[9] on original content in 2014. This is the cost of doing business, but still makes it all the more crucial for NFLX to keep adding new paying subscribers to the pipeline. But while NFLX has branched out internationally, it is not yet profitable overseas … as it is investing heavily in marketing to acquire new members.

Vulnerable to Competitors. There’s nothing about the NFLX streaming video experience that makes it that different from HBO Go, Hulu Plus or Amazon Prime. The content offerings are what differentiate them — hence Netflix’s high content costs to keep ahead of the rest. Because of those high fixed costs, Netflix is particularly vulnerable to price competition from competitors. Right now, Hulu cost about $8 a month, while Amazon Instant Video is $79 per year.

Verdict

Unfortunately, Netflix is a middleman company. Its service is popular, but it has to pay a high cost to license content as well as to market domestically and internationally. And though NFLX is seeing subscriber growth, these costs leave the company vulnerable to any upset.

Taken with the unsustainable run-up in Netflix stock, NFLX is definitely a name to avoid or take profits on if you own it.

As of this writing, Carla Lake did not hold a position in any of the aforementioned securities.

Endnotes:
  1. [Image]: http://investorplace.com/wp-content/uploads/2011/11/Netflix.jpg
  2. NFLX: http://studio-5.financialcontent.com/investplace/quote?Symbol=NFLX
  3.  reached its goal: http://www.businessweek.com/articles/2013-10-21/netflix-passes-hbo-in-subscribers-as-long-as-you-stop-counting-at-the-border
  4. TWX: http://studio-5.financialcontent.com/investplace/quote?Symbol=TWX
  5. Reed Hastings agrees: http://finance.yahoo.com/blogs/the-exchange/worried-netflix-sky-high-stock-price-reed-hastings-225320237.html
  6. resistant to any price increases: http://online.barrons.com/article/SB50001424053111904462504579139851073960422.html?mod=BOL_da_hr
  7. AMZN: http://studio-5.financialcontent.com/investplace/quote?Symbol=AMZN
  8. analyst consensus: http://www.analystratings.net/stocks/NFLX/
  9. plans to double spending: http://variety.com/2013/digital/news/netflix-to-expand-into-original-movies-will-double-spending-on-originals-in-2014-1200748504/

Source URL: http://investorplace.com/2013/11/nflx-stock/
Short URL: http://invstplc.com/1nuSxES