The Long-Term Story for Netflix Stock Just Got a Bit Uglier

NFLX stock faces further pressure as it transitions from industry pioneer to just another content provider

Netflix (NASDAQ:NFLX) stock has fallen as the company now faces more competition than ever. For most of its history, NFLX stock sidestepped peers by single-highhandedly pioneering video streaming and persuading millions to cut their pay-TV series.

NFLX Stock: The Long-Term Story for Netflix Just Got a Bit Uglier
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Now, many larger and better-funded companies have themselves gone into streaming. With original content no longer able to hold customers by itself, NFLX faces more direct competition than at any time in its history. While Netflix should hold its own for the foreseeable future, it leaves investors with few reasons to pay a high multiple for NFLX stock.

Competition Continues to Increase

Netflix already faces competition from Disney (NYSE:DIS). Now, Comcast (NASDAQ:CMCSA) has announced that NBCUniversal will also add its own streaming service called Peacock. This means that Netflix faces further competition in the streaming industry it founded.

David Moadel makes a great point about the threat of competition for Netflix stock. Although I agree that the company’s peers have become a threat, I disagree with the reasoning. Competition in itself does not mean that Netflix has to suffer. The problem is the market has not priced NFLX stock to account for the new market entrants.

Despite the increasing threat of competition, NFLX stock still supports a forward price-to-earnings (P/E) ratio of 51.4. That has come down from past years when the forward P/E stood in the triple-digits.

Still, with Disney, Comcast, Amazon (NASDAQ:AMZN), Apple (NASDAQ:AAPL) and many other competitors entering the space, Netflix has become just another streaming company.

NFLX Losing Lead on Content Spending

To its credit, Netflix saw this coming early and invested heavily in content creation early. However, peers have caught up, and content spending has pushed the balance sheet of NFLX stock to the brink. As a result, it has become more selective about content development in recent months.

However, this causes issues of its own. While spending less on content will help its balance sheet, it may hurt revenue growth as more compelling content libraries such as Disney establish dominance. Also, despite the strain on the balance sheet, Disney, NBCUniversal and AT&T’s (NYSE:T) WarnerMedia all have overtaken Netflix on content spending. This puts further pressure on a company that just spent an estimated $500 million to $700 million for the rights to Seinfeld beginning in 2021.

Apple does not yet outspend Netflix in this space. Still, investors need to remember that the company holds $210.6 billion in cash on hand. This could potentially allow the company to outspend Netflix. Moreover, the $4.99 per month cost for Apple’s streaming service comes in well below the $12.99 per month fee for Netflix’s most popular streaming offering.

Worse, the need to spend on content allows the company little latitude to cut its fees. The company has kept up in the content race by issuing more debt. This liability has risen to $12.59 billion. That represents a heavy burden for a company with only $6.11 billion in total equity.

Given a still-elevated multiple, it might have to turn to stock issuance to manage these costs. Thus far, Netflix has kept increases in shares outstanding to a minimum. As of June, the company had issued 452 million shares of NFLX stock. This represents only a 0.14% increase from year-ago levels of 451 million shares outstanding. Still, with debt and price increases becoming less of an option, the company may have little choice but to increase share issuance.

Concluding Thoughts on NFLX Stock

Although Netflix should remain a top streaming service, too many forces stand against NFLX stock. Currently, NFLX exists as an equity in transition. The dominance of an industry it created by destroying video rental and cable TV afforded Netflix an elevated valuation. However, other entrants, some of whom Netflix displaced as customers abandoned cable TV in droves, have emerged as streaming competitors.

Competition has now made NFLX just another streaming service. While this will not destroy Netflix stock, it will bring further multiple compression to the equity. That P/E ratio will only fall more if NFLX chooses to increase the pace of stock issuance.

The one attribute left for Netflix stock involves its rate of profit growth. For now, analyst forecast earnings increases of 21.6% this year and 74.2% in fiscal 2020. Those forecasts have trended downward in recent months. However, even if they fall further, that level of earnings growth could slow the multiple compression.

Still, I do not think the downward trend will stop, let alone reverse. NFLX stock has enjoyed a great run. However, with the downward pressure coming from many fronts, investors should stay away.

As of this writing, Will Healy did not hold a position in any of the aforementioned stocks. You can follow Will on Twitter at @HealyWriting.

 


Article printed from InvestorPlace Media, https://investorplace.com/2019/09/long-term-story-netflix-nflx-stock-just-got-uglier/.

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