Can Online Streaming Save this Stock?
Maxwell is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
Everyone knows Netflix (NASDAQ: NFLX). These were the guys that became successful by creating a subscription service and throwing a bunch of DVDs in the mail. This initial prospect is no longer working in today's world of streaming and rental kiosks, as the company did not see a need to upgrade its services to keep up with its competitors - until now. Netflix's desire to become solely a streaming service has analysts raising eyebrows. Personally, my sodium intake is going to increase as I take all of the Netflix news with a grain of salt. The company appears to be abandoning its old plan, which believed that vertically integrated streaming and content providers would destroy the company by raising prices or refusing business services.
The company does not seem to be too worried about that anymore. Netflix is in the process of trying to acquire Open Connect, a caching system that will bring content closer to subscribers. This will greatly reduce transmission costs. This move has been made in an attempt to satisfy what people are predominantly using Netflix for - it is not about movies anymore, but binge watching entire TV series from the premier to the series finale. Becoming exclusively a streaming service has turned Netflix from a $3 billion in sales per year company with margins to a $3.6 billion in sales per year without margins.
Having its own independent content delivery system means that Netflix will be able to be its own video host. And considering that 20 to 30% of all U.S. Internet traffic comes from Netflix, this is incredibly substantial. Sites such as YouTube, owned by Google (NASDAQ: GOOG), have been independently hosting its own video service for years and received lucrative benefits because of it. And, anyone with a pulse knows that Google is one of the most successful companies on the planet. Youtube was able to maintain its distinct image despite being acquired by Google, and this bodes well for Netflix.
Initial reaction to this plan was rather negative, however. Stock prices for competitors such as Limelight Networks (LLNW), Akamai Technologies (AKAM), and Level 3 Communications (LVLT) decreased when the Open Connect plan was announced, but it now seems that this might have been unnecessary. Akamai is trading towards its 52-week high of $31.56 per share, while Limelight Networks and Level 3 Communications are in the lower-middle range of their respective 52-week ranges ($3.10 per share and $20.83 per share, respectively).
In the past, these companies have provided bandwidth to support Netflix's huge operations, and feared they would essentially be out of business. Now, however, they will have more available bandwidth to attract higher margin customers, so things are looking up for them.
Competitor Blockbuster, owned by Dish Network (NASDAQ: DISH), no longer relies on its standing stores and instead focuses on DVDs by mail, kiosks, and streaming. One of the biggest perks Blockbuster has going for it is its access to a greater number of newer titles sooner. This is a huge draw for some people as Netflix tends to have fewer newer titles. Blockbuster was on a downward spiral before it was bought by the Dish Network, and Dish pledged to keep Blockbuster alive for movie rental services. It is performing fairly well on the market, with its current share price of $28.42 falling in the middle of its 52 week range.
Amazon (NASDAQ: AMZN) is trying to push into the home entertainment industry, and this could be a very dangerous move for others in the market. Amazon currently has over 12,000 titles in its library and offers low yearly prices. In addition, any time Amazon steps in to a new market, it is widely successful due to the number of resources at its (and the consumer's) disposal. Consumers are always drawn to the flexibility and diverse resources Amazon has to offer, and its move into the home entertainment market might push Netflix out.
In order for Netflix to increase its content and resources, it has just recently signed a multi-year licensing agreement with Time Warner's (NYSE: TWX) Warner Bros. Licensing and acquiring content is one of the most expensive aspects of Netflix's yearly business operations, and content owners have all the leverage when it comes to negotiations. Since there are alternatives to Netflix, consumers do not have to stay with the company if it is forced to raise prices.
In 2011, Netflix increased subscription prices, and many customers responded by canceling memberships. This helped cause the initial drop in the stock price, and the renaming of its DVD service to "qwikster" drove many away as well.
To make matters worse after losing all these subscribers, the company now owes $9 million due to a class action lawsuit. It kept information from former customers for too long after it canceled subscriptions to its services. This creates a bad image for the company as consumers will be skeptical about its privacy and information being misused. The publicity from this case may drive potential (or even current) customers away. The increased subscription prices and the lawsuit were two major factors in the company's stock price dropping.
Netflix does not pay dividends. Over the next five years the company is expected to increase earnings by 15%, and this equals a price earnings growth ratio of 1.46 times. In comparison, competitor's stocks are trading lower. Time Warner is trading at 13 times earnings and has a dividend yield of 0.95%. Viacom (VIAB) is at 12 times earnings and DirecTV (DTV) is also at 12 times earnings. These are all companies that are performing better - and have better public images at the moment - than Netflix.
Liabilities have increased, and on a whole the stock is trading at prices below where it was last year. Analysts are skeptical about this switch and are wondering if Netflix is going to be able to produce a practical product. Its business plan is designed for the short term, so no one is really sure how the growing pains will affect the company. It does not match the prices right now. While many are holding on to their stock for the time being, some analysts recommend selling at the first hint of another negative trend.
Furthermore, analysts have given Netflix's stock a hold rating for the time being. With the bad publicity, rising competition, and poor ratings, it might not be the best time to invest in the company.
At one point, Netflix was massively ahead of the curve, and nothing seemed to be able to weaken the media giant. But as times changed, Netflix quickly became the hare from the childhood fable, "The Tortoise and the Hare." It may have started out strong, but as time went on it did not keep up with its competition.
In order to rebound and be successful, Netflix is going to have to remain ahead of the curve in the rapidly changing home entertainment industry. Cable and satellite providers are going to try to outdo the company every chance they get, and Netflix's success as a company might just depend on discovering what the next big thing in the industry is. And at this rate, the company definitely needs that leading edge, or it will risk becoming obsolete. We all remember Napster, right?
StockCroc1 has no positions in the stocks mentioned above. The Motley Fool owns shares of Amazon.com, Google, and Netflix. Motley Fool newsletter services recommend Amazon.com, Google, and Netflix. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.