Netflix, Inc. (NFLX) was one of the hottest stocks in 2015, and almost every investor who owned it last year was rewarded nicely. The company seemed to have it all: a disruptive business model, rapidly expanding margins and a management team willing to take risks to undercut the competition — not to mention overwhelming optimism from investors who thought NFLX stock was headed for the top of the food chain.
Performance in 2016, however, has been less than inspiring.
NFLX stock is down almost 15% year-to-date and down over 25% from its 52-week high, calling into question whether the stock’s meteoric momentum has finally petered out.
The bears and the bulls seem split over this name, so what will it take for Netflix stock to reach the peak of $130 we saw as recently as last December?
One of two scenarios must play out for the stock to get back to those levels. The first is fairly straightforward and more ideal: Investors become as eager to embrace rich growth stories as they were three months ago, and suddenly NFLX looks like such a screaming bargain at its current levels that the Street is willing to bid it up to 500 times current earnings.
It’s within the realm of possibility, as the stock currently commands over 370 times its 2016 earnings target of 26 cents a share — but you can’t really count on that kind of abrupt investor appetite, especially given the leftover wariness from this year’s rocky first month.
How NFLX Stock Can Get Back on Track
The second scenario is more realistic but harder to achieve.
We see that a lot of optimism is priced into NFLX stock as it is. People are holding the stock ahead of what analysts hope is going to be blistering growth starting about a year from now. The working theory is that subscriptions will keep ramping up because the company’s exclusive content makes it the equivalent of a must-have premium channel like HBO. If the math works out, Netflix could earn in the first quarter of 2017 roughly what it makes throughout the entirety of 2016.
But we can’t count on that scenario either because Netflix’s targets actually haven’t been appreciably revised in at least two years. Analysts are stubborn on NFLX stock, and a lot of people really want to believe this is a company that is incapable of falling short.
As a result, analysts keep lowering their short-term targets to fit reality. Back in early 2014, the Street was convinced that NFLX would earn $1.06 a share in 2015, and then ramp up to $1.56 a share in 2016, $2.24 a share in 2017 and so on to the moon. Unfortunately, it quickly became clear that the rocket wasn’t ready to blast off quite so fast. The numbers kept dropping until 2015 ended with 28 cents a share — and now the 2016 target has fallen to 26 cents per share while 2017 has come down to $1.08 a share.
Future year-to-year comparisons look great from here in the present, but we have yet to see any confirmation that the deferred growth is really materializing. A stock like Netflix is dangerous because to justify a 370x multiple over the last two years, we would have needed to see something like 300% growth. What we saw instead was negative growth overall: NFLX stock is now earning only half as much per share as it was back in 2014 when it was a $50 stock.
Since none of us can predict the future, both scenarios I mentioned ultimately depend on the kindness, patience and optimism of traders who love the company through thick and thin.
I’m not that optimistic about the company’s prospects because I think its subscriber base is effectively saturated — but if the growth that some expect comes to fruition, this could be a long-term winning stock.
Hilary Kramer is the editor of GameChangers, Breakout Stocks Under $10, High Octane Trader, Absolute Capital Return and Value Authority. She is an accomplished investment specialist and market strategist with more than 25 years of experience in portfolio management, equity research, trading, and risk management. She has extensive expertise in global financial management, asset allocation, investment banking and private equity ventures, and is regularly sought after to provide her analysis on Bloomberg, CNBC, Fox Business Network and other media.
