Given the performance of major indexes to start 2016, Netflix, Inc. (NFLX) is having a pretty good year. Netflix stock is up 4% this year — while the NASDAQ’s losses reached more than 8%.
When you consider Netflix’s ability to defy gravity, maybe this performance is not all that surprising. But what will surprise many Netflix stock owners is when this ship starts to sink, and does so very quickly.
One key metric shows why it may happen sooner rather than later.
A Big Reason for Concern
One big reason that Netflix stock has outperformed the broader market in 2016 is because the company accelerated its global roll-out of streaming services. NFLX is now delivered in more than 190 countries after recently launching the service in an additional 130 countries.
On top of this news, NFLX disclosed that total streaming hours rose 46% to 42.5 billion hours in 2015. While this all looks very good, it actually suggests that Netflix subscribers are watching less than a year before.
Netflix finished 2015 with 74.8 million subscribers. If we look back to the end of 2014, Netflix had just 44 million global subscribers. In other words, NFLX grew its subscriber count by 70% from 2014 to 2015, yet viewing hours increased just 46%.
In other words, subscribers are not watching Netflix at the same rate as they were just one year prior. As of now, NFLX is growing its subscriber count, but long-term, if subs are not watching, they will eventually cancel the service.
Also, NFLX still offers a very cheap and reliable streaming service, but fact is that competition is heating up by the month for Netflix, with many of the world’s largest media companies, like Apple Inc. (AAPL) and Amazon.com, Inc. (AMZN) entering the space. The fact that viewing hours are growing at a much slower pace than subscribers suggests that consumers are trying alternative viewing services, or do not see the same value in NFLX that they once did.
In fact, it is very possible that CEO Reed Hastings accelerated his global roll-out of Netflix because viewing growth is decelerating by such a big margin. In the past, Netflix lacked competition in core markets, but that is not the case today. Therefore, Netflix’s big move into 130 new regions gives it that first-to-market advantage it once had.
On the flip side, it also means that Netflix has to be more thrifty with content allocation in each region, where it plans to spend $5 billion this year. Hence, with Netflix in 190 markets, it can’t very well spend all of that $5 billion on content to improve the user experience in the U.S., whereas services like Verizon Communications Inc.‘s (VZ) Go90, Sling TV and others are focused on the U.S. only.
What This Means for Netflix Stock
Regardless, the disconnect between subscriber and viewing hours growth is alarming at best, and not good for long-term direction of the Netflix stock price or business at worst. Ultimately, Netflix needs users engaged to keep retention rates high.
It is important to keep in mind that the majority of competing streaming services just launched in the latter half of 2015.
All things considered, at the epicenter of every great short candidate lies irrational exuberance — a willingness on behalf of investors to completely ignore all of the problems in favor of the positives. Furthermore, there is almost always a valuation that makes no sense, even in the best of valuation models. This most certainly applies to Netflix stock.
And finally, NFLX investors are completely oblivious to the fact that viewing hours per subscriber are headed lower.
In looking ahead, don’t be surprised if this trend proves to be the first indication that competition is causing more of a problem for Netflix than Hastings and the market would have you believe.
As of this writing Brian Nichols did not own any of the aforementioned stocks.
