Streaming giant Netflix (NASDAQ:NFLX) is set to report third-quarter numbers after the bell today. This is perhaps the company’s most crucial earnings report in recent memory. Considering that markets are a mess right now, tech stocks have been pressured by higher interest rates and Netflix stock is down nearly 20% since the company last reported earnings.
In other words, this report will either confirm recent market fears, or put them to rest.
I think the latter is more likely. Netflix’s third-quarter report should be quite good. The global economic backdrop is largely healthy. The original content slate was very impressive in the quarter. Cord-cutting trends remain as powerful as ever. Competition remains muted. Netflix stock is well off its highs. Expectations are relatively depressed.
Overall, the set-up into the Q3 print is quite favorable. If the numbers are good — and I expect them to be — then Netflix stock could stage a huge reversal. As such, I think Netflix stock is an interesting, albeit risky, earnings play.
Why Netflix Will Likely Report Strong Numbers
Netflix stock trades on subscriber numbers. When the sub numbers beat, Netflix stock rallies. When the sub numbers miss, Netflix stock drops. That has been the case with this stock for the past several years, will remain the case so long as Netflix is viewed as a hyper-growth company.
Thus, when determining whether a quarter will be good for Netflix, you have to look at the factors that influence sub growth. Those factors include the economic backdrop, the industry backdrop, the competitive landscape and the original content slate. Across the board, all those factors were generally favorable for Netflix in Q3.
The economic backdrop remains healthy. The U.S. economy is firing on all cylinders, while global economic growth remains generally healthy. Meanwhile, cord-cutting trends are as prevalent as ever, while Netflix’s competition remains next to nothing.
Most importantly, Netflix’s original content slate in the quarter was very, very good. It all started with a new season of Orange is the new Black in late July. Then, in August, Netflix launched surprise hit To All the Boys I’ve Loved Before and the second season of Netflix-favorite Ozark. In September, Netflix released the second season of Atypical, the second season of American Vandal and the star-studded limited-series Maniac.
Overall, it looks like Netflix had a really good quarter. Cord-cutting is accelerating, and Netflix’s original content has been so good that the company likely turned many new cord-cutters into Netflix subscribers. That will show up in the Q3 print, and I fully expect sub numbers to top estimates.
Why Those Strong Numbers Could Lead to a Big Rally
If Netflix does report better-than-expected numbers, Netflix stock could stage a huge reversal and rally in a big way. The red-hot growth narrative surrounding Netflix stock took a breather after last quarter’s earnings report. For the first time since early 2016, the sub numbers missed expectations by a wide margin (there was a slight miss in early 2017). Netflix stock dropped in a big way, and hasn’t recovered since. It currently trades nearly 20% below pre-Q2 levels.
But, the setup is way different this time. Heading into the second-quarter print, expectations were huge. Netflix stock had rallied 20% since the previous earnings report. The stock was trading at 14 times trailing sales and was 50% above its 200-day moving average.
Today, Netflix stock has dropped 20% since the previous earnings report. The stock trades at 11 times sales and is just 3% above its 200-day moving average.
In other words, expectations are relatively depressed. If Netflix can blow those relatively depressed expectations out of the water, this stock could pop in a big way. In the event of a strong Q3 report, I wouldn’t be surprised to see Netflix stock get back to pre-Q2 levels of $400 or higher.
Bottom Line on NFLX Stock
Sentiment in the high-flying tech sector is weak right now. But, that could all change if Netflix reports strong third-quarter numbers. A healthy beat-and-raise Q3 report could spark a huge reversal not just in Netflix stock, but in all tech stocks, and get the ball rolling for a strong earnings season.
As of this writing, Luke Lango was long NFLX.
