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What Long-Term Investors Need to Know About Netflix (NFLX)

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In a week filled with big news, a story that had a large impact on a single stock was the earnings report from Netflix (NFLX). I use the words “earnings report” rather than just “earnings” here advisedly. The earnings showed an EPS of $3.53, which beat the average Wall Street estimate of around $2.89. But the company also reported a loss of 200,000 subscribers rather than the gain of around 2.5 million that they had previously forecasted for the first quarter.

The stock dropped significantly on the news. One might even be tempted to say, as I heard one pundit do yesterday, that it is “unprecedented.” However, the good news for Netflix is that it isn’t unprecedented at all. There are actually two other times in the last twenty years when NFLX dropped around 70%. However, the stock recovered and moved significantly higher than the starting point for the drop each time. The most interesting and relevant of those was in 2011, when circumstances were eerily similar.

That too was a time when a massive shock to the economy and therefore the market had been followed by two years of very strong growth. Then, as until recently this time, Netflix was seen as a major beneficiary of that environment. In 2011, the stock had been on a tear, gaining 450% from where it was trading at the beginning of 2010 before hitting its high in July of 2011. Then, as now, a generalized weakness in tech weighed on the stock somewhat before an earnings report that detailed subscriber losses sent it into freefall.

The chart for 2010 and 2011 looked like this.

Now compare that to the last five years.

2

When the collapse ended in 2011, NFLX was at the equivalent of $8.96, a far cry from the $700+ high in November of last year or even yesterday’s close of $218.22.

Obviously, circumstances are different now as compared to eleven years ago. Back then, the conventional wisdom was that a subscription streaming movie service would just never catch on. Why would people pay extra for that when they already had cable and could rent or buy DVDs? Netflix found an answer to that. They started making their own, original TV shows, and as you may be aware, that went pretty well. The thing is, Netflix as a corporation got to where it was based on that kind of flexibility and innovation. They started out as a mail order video rental company and have changed as the media landscape has changed, or rather they have led changes in that area. Do you want to bet against them doing that again? I don’t.

It will, however, take time for them to evolve again, if that is what they are going to do. The real recovery after the 2011 drop, for example, didn’t come until 2013, when Netflix started to air their own shows. They may need time again, but there are a few ways that they can buy that time for themselves. The first is to do what they said they would do following this week’s earnings report, crack down on password sharing. Most of us don’t think of it this way, but each time any of the estimated 100 million people who share Netflix passwords does that, they steal from the company. It is a form of digital shoplifting. Making it more difficult to do password sharing will be unpopular among consumers for a while, but it has to be done.

The second way to buy time is producing more excellent programming and soon, which is not as straightforward as it sounds. For starters, TV shows in general take time to conceive and make, and high-quality shows take longer. Then there is the level of competition in streaming, something that everyone seems to be saying is the main reason for Netflix’s woes. Recent events, though, suggest that maybe that won’t be as big of a problem in the future.

Sure, there are lots of choices in streaming, but none of them are Netflix. The closest in terms of style and quality of programming may be Amazon (AMZN)’s Prime Video and Apple (AAPL)’s Apple TV, but there is ample evidence over the last few years that those three can survive and even thrive alongside each other. As for other, more recent entrants and hopefuls, a clue to the fate of many of them came this week when CNN+ was closed after three weeks of operation. It is, indeed, a crowded market, but it will become less crowded as the weak go to the wall. Free cash flow in Q1 2022 of $15.6 billion over the last twelve months tells you that Netflix is not one of the weak.

So, as you listen to those who say Netflix is done for, remember that we have heard it all before. Twice over the last twenty years, NFLX has dropped 70%, and each time, the naysayers have prematurely announced the company’s death. But each time, the company bounced back. So if nothing else, history suggests they will do so again.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.



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