Tuesday, October 25, 2011

Netflix Stock Slammed Unfairly?


Earlier in 2011, Netflix was a $300 stock and a hit with investors. In October 2011 it is a $77 stock and hated by almost “everybody.” It is possible Netflix finally has met a challenge it cannot surmount. But it might also be worth noting that Amazon equity also is being slammed as it clearly is making investments in its future that investors don’t like.

There are, to be sure, reasons to be concerned about Netflix. Some would argue the 75 percent loss of value in less than six months is the result of three mistakes, many will say. Among the  key events were raising fees, trying to create separate streaming and DVD-by-mail businesses and shocking investors by warning that Netflix might not make money for all of 2012 as the company ramps up international expansiion plans.

The decline follows Netflix's quarterly earnings report, in which profit and revenue were up sharply but the video-rental company was haunted by its decision to raise prices and its admittedly botched effort to divorce rentals of DVDs from streaming video services. Those moves caused more than 800,000 subscribers to flee in the third quarter and spoiled a lot of goodwill with investors. But revenue is up sharply


But some might note that a significant slide in net customer additions happened months before any of those events, in the quarter ended in June 2011. 



Investor Whitney Tilson has been buying Netflix, though. “It’s been frustrating to see our original investment thesis validated, yet not profit from it.  It certainly highlights the importance of getting the timing right and maintaining your conviction even when the market moves against you.  The core of our short thesis was always Netflix’s high valuation.  In light of the stock’s collapse, we now think it’s cheap and today established a small long position.  We hope it gets cheaper so we can add to it.” Some are buying.

And some think the panic is overdone. Watch the video.

Some might argue Netflix now is a buying opportunity. Netflix's streaming business, its future, is already at a about a $2 billion revenue run-rate, with 21 million subscribers paying $8 a month. Some might compare that to cable TV, satellite TV or telco TV, but the better analogy for the moment is HBO. The issue then is what HBO, as a stand-alone business, might be worth.

At $75 a share, Netflix's market cap is $4 billion, or two time the revenue of its product of the future. Assuming one values the DVD business at zero, the market is valuing Netflix's streaming business at two times run-rate revenue. Some would argue that is low for any company whose future revenue is expected to grow sharply. Netflix bullish case

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