By all accounts, everything is going great for Netflix, Inc. (NASDAQ:NFLX) shareholders. The stock is up a bit today, and is up a whopping 47% for the past twelve months. Better yet, NFLX stock was just upgraded by a usually critical analytics outfit — Jefferies — suggesting even the pros are finding it at least a little tougher not to like the on-demand video company.
Take it all with a grain of salt.
A closer look at the upgrade still suggests Jefferies isn’t entirely impressed with NFLX stock. And in the wake of this week’s big news from the company, the upside Jefferies sees brewing may have already been negated.
Netflix Stock Upgraded, But …
Jefferies analyst John Janedis explained in a note posted Wednesday morning:
“We conducted a survey targeting consumers in Germany and India to evaluate NFLX’s opportunity in these two key markets. Conclusion: The growth opportunity appears larger than we had expected, as original content is performing well, mobile consumption is growing, competition appears limited, and the pricing plan is gaining traction. We are raising our Int’l sub est. & upgrading NFLX shares to Hold / raising our PT to $135 (from $95).”
Makes sense. It’s not exactly a big secret that Netflix is doing well overseas, boasting the kind of growth it mustered in the United States a few years back when the whole premise of over-the-top TV was new and competition was minimal. Janedis even went as far as to raise its profit estimates on NFLX for this year and next.
He’s not alone in his new optimism, either. The Motley Fool’s Andrew Tonner recently commented:
“The gradual increases in profitability (of its U.S./domestic business) should excite investors, especially as the same dynamic begins to unfold in the company’s international business.”
Both points are well taken. And yet, while Tonner at least acknowledges that rising content costs here and abroad are a risk, few seem to fully appreciate to what extent Netflix’s costs and obligations are rising relative to revenue.
The (Still) Unanswered Question at Netflix
There’s no denying that stock-picking is a qualitative as well as a quantitative art. Netflix may not have “the right numbers” in the traditional sense, but what it lack in numbers it more than makes up for with an amazing story.
Sooner or later though, the numbers will matter to owners of NFLX stock. The question is, will Netflix ever have compelling numbers regardless of how much overseas traction Jefferies expects the company to get?
The chart below is one yours truly here has served up several times, but an updated version is apropos in light of:
- Janedis’ upgrade
- The broad bullishness the market clearly currently feels about the company
It’s not difficult to see how expenses and obligations are growing at a faster clip than revenue is. Perhaps most alarming of all is the increasingly negative cash flow.
When will the growth of costs and obligations slow down and actually allow the company to make some real money? This is the crux of the Netflix debate; everything else is just details.
Fans (and owners) of Netflix stock will counter by saying the company has to spend — and commit — money now for the big payday later. The market has been hearing “later” for quite some time though. Indeed, it was just this week Netflix announced it would be by making 30 original films this year. That effort hasn’t been cheap in the past, and isn’t apt to get any cheaper now.
Will newly minted margins once its overseas business has enough scale will offset the cost of the movies it intends to make in 2017? Maybe But, video content tailored for the company’s foreign audiences hasn’t necessarily proven to be any cheaper than domestic content has been.
And neither Jefferies or anyone else can say with any confidence that on-demand competition won’t surface for Netflix overseas the way it did domestically, with the likes of Amazon.com, Inc. (NASDAQ:AMZN), PlayStation Vue from Sony Corp. (NYSE:SNE), and SlingTV, from Dish Network Corp (NASDAQ:DISH) entering the on-demand video market.
In other words, Tuesday’s new “Hold” from Jefferies feels like a rating based more on hope than reason. Jefferies ad-hoc ignores the possibility that there’s competition quietly lurking in the markets it surveyed.
Bottom Line for NFLX Stock
Don’t misunderstand. Netflix may well push even higher, and any stock that’s moving higher is technically a good investment.
The bullish theses are rather frail, however.
One has to wonder if most analysts are oddly optimistic only because most other analysts rate Netflix stock as a “Buy” and the stock’s going higher. Crowd-think and story-chasing is certainly possible even among the pros.
Few analysts have even acknowledged the dangerous disparity between the company’s cost trends and its revenue trends, nor has the analyst community addressed the ever-increasing cash burn.
Something’s got to give.
Whatever the case, it’s worth noting that even with Jefferies upgrade to a hold, the firm’s price target on NFLX stock is still below the stock’s current price. That’s not exactly a screaming endorsement.
As of this writing, James Brumley did not hold a position in any of the aforementioned securities.
