Hang on to Netflix, It Will Rise.....Eventually
Maxwell is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
To say Netflix (NASDAQ: NFLX) has experienced a dramatic turn of fortune is a gross understatement. From its 52 week high in July 2011 of $304.79 to a present share price of about $65 reflects a percentage change of almost 80% in the wrong direction! We’ll take a look at Netflix, a few of its competitors and some catalysts that may bear on its future performance.
Okay...we all know what happened. Netflix lost its economic moat. This was not entirely preventable, but it was foreseeable, so CEO, Reed Hastings, should be held accountable. Netflix lost its niche. Compounding the problem, content costs began to rise, narrowing profit margins. Netflix decided to increase fees to customers to stop the bleeding. Inevitably, the 60% price increase resulted in a loss of subscribers. Some reports suggest as many as 800,000 customers fled to other providers.
So the question is, can Netflix rise from the ashes created by spiraling content costs and mis-steps in handling price increases to its customers? In short, will Netflix be a Phoenix or a flop?
Before offering my opinion, I want to look at a few rivals to the throne Netflix once held. In the publicly traded arena, the most robust rival is Amazon.com (NASDAQ: AMZN). Amazon trades at about $215 per share and has a market cap of around $97 billion. In terms of price to earnings, it is possibly the most costly stock on the planet with a price to earnings ratio of 177.18. The price to earnings growth ratio is in the stratosphere at 5.18. Price to book is in the double digits at 12.89 and return on equity takes shelter in the basement at 7.66%.
Quarterly year-over-year revenue growth shines at 33.80%, but once again I am disappointed with a quarterly year-over-year earnings growth in negative territory at -35.30. Amazon’s financial strength is nothing short of awesome. Nevermind the company has no debt and a current ratio of 1.16, it sits atop nearly $9.6 billion in cash, cash equivalents and short term investments, but Amazon pays no dividend.
Another rival , at least in terms of streaming content, is Comcast (CMCSA). Comcast offers streaming video through its Pay-Per-View and On Demand feature. Hulu, Apple’s (AAPL) iTunes, and even Wal-Mart (NYSE: WMT) are competing in the streaming video market and there are others too numerous to mention.
Frankly, if I were Jeff Bezos, Amazon’s CEO, I would make a play for Netflix. With Netflix having an enterprise value of around $3 billion it is within Amazon's reach given their cash position. It is no secret that Amazon wants to be a major player in digital media.
Quoting a January, 2012 article in Wired, “Everything from the Kindle Fire’s video support, to cloud storage for Amazon Video On Demand, to free subscription-based video for Amazon Prime suggests that Bezos wants to make a play for digital television and movies.” In November of 2011, Netflix CEO, Reed Hastings, announced that Netflix would be unprofitable for all of 2012. That said, Netflix shareholders might be unlikely to challenge a reasonable offer if one ever materialized.
The Clintonesque Netflix CEO Reed Hastings is something of a ‘comeback kid.’ True, the loss of 800,000 subscribers sounds horrendous, but that’s a loss of just over 3% of its subscribers which puts the situation in a more positive light. We shouldn’t forget that increasingly costly content is a factor for all the “wannabes” that Netflix will be competing against. In that context, the playing field is level. My money is on Hastings. Taking Netflix into the global market with a foray into the United Kingdom and Ireland should increase subscriptions and revenue will follow.
Netflix is focused on its core competency. One example of this is the in-house CDN (content delivery network) recently launched by Netflix. This will reduce content delivery costs significantly, but the real cost savings won’t hit the bottom line until existing CDN contracts mature. Netflix Competitors like Wal-Mart and Amazon have diverse enterprises and, as a result, lack focus. They are likely to be poorer performers and less competitive. A company like Netflix, zeroed in on a single objective, is a more formidable competitor.
I think Netflix will survive its mis-steps and remain a dominant force in the streaming video market. If I were a current Netflix shareholder, I’d hang on. If not, I would buy on pullbacks and there are certain to be pullbacks. Even Hastings acknowledges that the physical DVD business will forever continue to shrink. Netflix is committed to streaming and that is the right play. The Phoenix will rise, but it is going to be an uphill battle.
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