Why Now Might Be Prime Time To Buy Netflix

Why Now Might Be Prime Time To Buy Netflix

over 3 years ago3 mins

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Netflix’s third-quarter results released late on Tuesday missed investors’ expectations dramatically: not only did the streaming giant add fewer new subscribers than promised, it also said this quarter would be weaker than analysts had forecast. No surprise, then, that its stock dropped around 5% on Wednesday.

What does this mean?

People stuck at home thanks to pandemic-induced lockdowns helped Netflix to a record-breaking first half of the year. But the rush of new users “pulled forward” demand, meaning there were fewer potential new subscribers out there. Coupled with existing subscribers canceling Netflix when lockdowns started easing, and there wasn’t much the company could do to avoid falling short.

Netflix's subscriber actuals and forecast
Source: Netflix

Still, Netflix’s investors probably won’t mind too much: even after the 5% drop, Netflix’s stock is up over 50% this year versus US stocks’ 7% rise…

Netflix's share price vs US stock market

Why should I care?

For stock pickers, Netflix’s drop could be an attractive buying opportunity. Here’s why:

4 reasons Netflix looks attractive

1️⃣ Coronavirus cases are rising again – and parts of Europe have already started imposing fresh lockdown measures. That could provide a fresh tailwind to subscriber growth, with homebound people looking for fresh entertainment.

2️⃣ Continued spending on content will attract and drive new subscribers. According to this analysis by Goldman Sachs, there’s 0.92 correlation between the amount Netflix spends on content and subscriber growth in the following 12 months.

Relationship between content investment and subscribers
Source: Goldman Sachs

3️⃣ Improving profit margin and cash flow – thanks to subscription price hikes over the last year. That gives Netflix more cash to invest in content to drive greater subscriber growth as shown above. For Netflix’s shares to reflect that virtuous circle, it’ll likely require a shift in investors’ thinking away from simply responding to better or worse subscriber growth than predicted and towards the company’s profitability.

4️⃣ Using history as a guide and according to Jefferies’ analyst, “History says to accumulate shares on earnings dips and own the stock longer-term, and we recommend sticking to that strategy.”

Stock pickers might also see Netflix's drop as a warning sign to sell or stay clear. Here’s why:

3 reasons Netflix could struggle

1️⃣ If you believe competition is hotting up. Disney+ only launched last November and it already has 60 million subscribers. That’s still nowhere near Netflix’s 195 million subscribers, and the company’s reported no signs of losing market share. But if you think Netflix may no longer cut muster among the three streaming services people subscribe to on average (in a market of eight major players), you’d want to avoid the stock at all costs.

2️⃣ Live sports have come back after being canceled at the peak of the pandemic. That’ll give some Netflix subscribers a reason to cancel. Indeed, some analysts acknowledge that they underestimated the churn from more recent subscribers, which given Netflix’s size, can add up pretty quickly.

3️⃣ Further lockdowns won’t be as positive for Netflix since they so far appear to be less strict than earlier this year, meaning there might not be as great a demand for streaming services. And given live sports’ return, Netflix will also be competing for attention and money with sports channels next time around.

Maths gif

Please let us know what you think of this Insight, direct from our analyst Carl. Your feedback is invaluable in helping us improve ✌️

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Disclaimer: These articles are provided for information purposes only. Occasionally, an opinion about whether to buy or sell a specific investment may be provided. The content is not intended to be a personal recommendation to buy or sell any financial instrument or product, or to adopt any investment strategy as it is not provided based on an assessment of your investing knowledge and experience, your financial situation or your investment objectives. The value of your investments, and the income derived from them, may go down as well as up. You may not get back all the money that you invest. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment advisor.

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