Netflix, Inc. Faces Widening Competition Amid a Narrowing Moat

Netflix stock - Netflix, Inc. Faces Widening Competition Amid a Narrowing Moat

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Netflix, Inc. (NASDAQ:NFLX) has plateaued in recent weeks. After a run-up that saw the stock increase in value by 40% after the new year, the stock has paused. Netflix stock has a history of such moves. However, with higher competition and an ever-increasing multiple, one has to wonder how long Netflix stock will continue its rise.

Strategy Has Made Netflix One of the Top Tech Companies

As one of the so-called “FAANG” stocks, Netflix and counterparts Facebook, Inc. (NASDAQ:FB),, Inc. (NASDAQ:AMZN), Apple Inc. (NASDAQ:AAPL) and Google parent Alphabet Inc (NASDAQ:GOOGL, NASDAQ:GOOG) have delivered outsized gains as they have come to dominate American tech and arguably the entire S&P 500.

To be sure, Netflix almost always makes the correct strategic decisions. Moves such as an early focus on original content and collecting customer data have led to impressive subscriber growth.

Netflix’s moves are so impressive that Wall Street shrugs off seemingly bad news. A stock sale by CEO Reed Hastings garners little reaction. Company moves to raise prices have not dampened subscriber growth.

High Valuations on Netflix Stock

However, everything has a limit, including how much higher Netflix stock can move. At an average annual growth rate for revenue of 26.5%, the company keeps attracting new customers. The net income has doubled on average every year in the same time period. And even as earnings per share growth slows to the 50% range, NFLX keeps delivering strong returns.

One problem with NFLX stock lies in the valuation. Consensus estimates place 2018 earnings at $2.73 per share. They expect those earnings to rise to $7.79 per share in 2021. This means that the stock trades at 36 times 2021 earnings! I’d love Netflix stock if the current price-to-earnings (PE) ratio stood at 36. Who wouldn’t? However, the current PE of 225 is expensive.

In fairness, I was saying the same about its valuation when NFLX was priced below $200 per share. Also, in a recent article, I referred to Netflix stock as a bet and not an investment. So far, the bet has worked out well for shareholders as the stock trades over $275 per share.

Admittedly, the stock price may have further to climb. But how many times can investors in NFLX stock let their bet ride before getting wiped out?

Intense Competition on Content

Netflix will also face a huge headwind from Walt Disney Co (NYSE:DIS) as it removes its content from NFLX and launches its own streaming service. To Netflix’s credit, the company has spent billions developing its own content. Shows like House of Cards (before the Kevin Spacey scandal), Orange Is the New Black and Stranger Things have won acclaim from audiences and critics alike.

As great as these shows are, they will likely struggle to compete with the classic Disney movies; Lucasfilm, Marvel and Pixar movies; and the additional franchises it will acquire from Twenty-First Century Fox Inc (NASDAQ:FOX, NASDAQ:FOXA).

As my colleague Dana Blankenhorn points out, one of Netflix’s big moats is its content. The other remains the large amount of data it holds on its customers’ viewing habits. However, the content moat continues to become less relevant as Hulu, Amazon and other streaming services also develop their own content.

Admittedly, the data serves as a competitive advantage. After all, Netflix can better tailor offerings to viewer tastes with this information. For this reason, I predict Netflix will be left standing once its weaker competitors disappear. However, with all the increased competition, I see little that will justify paying over 200 times earnings.

Final Thoughts on Netflix Stock

Netflix stock has served as one of Wall Street’s most profitable plays in the last few years, but with widening competition and a narrowing moat, its heyday may be nearing an end. Netflix’s strategic moves have nearly always proved correct. Great strategic planning has given the company what little moat it retains regarding data and original content.

However, multiples have moved far ahead of growth, and the price of NFLX stock has moved 3-4 years ahead of what investors could perceive as a reasonable valuation. Unfortunately for new investors, the hope of streaming profits from this stock poses an ever-increasing risk of viewing losses.

As of this writing, Will Healy did not hold a position in any of the aforementioned stocks.

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