Netflix Stock: Good Business Pricey!

  • Strong growth in revenue and member base is a big positive for Netflix
  • High margin DVD business is on the decline
  • Streaming business is growing at a fast pace
  • Profit margins are thin but expanding
  • Netflix is expensive at its current Price/Earnings multiple of 216
Netflix good business pricey stock

Netflix (NASDAQ:NFLX), the most popular online video streaming service delivered a blockbuster quarter to end FY 2013. The company’s growth in revenue and overall member base is robust even though the DVD rental business continues to drag both these numbers.

Netflix - Revenue, Profitability and Member base

Netflix recorded a strong revenue growth of 24% in Q4 2013 over the same quarter a year ago (Y/Y), rebounding from a low of 8% in Q4 2012. The rebound was fuelled by healthy growth in the overall member base which grew to over 41 million paid members, up by 36% in the year. The company’s overall member base is divided into:

A) Member base for the domestic streaming business

B) Member base for the international streaming business

C) Member base for the DVD rental business

Netflix Segmental Member Base Trend

In Q4 2013, Netflix recorded operating and net profit margins of 7% and 4% respectively, representing a constant improvement in both numbers over the last few quarters. However, margins might get squeezed in Q1 FY 2014 on the back of compensation hikes. With its strong revenue growth, Netflix could become far more attractive than it currently is, if it manages further improvements in profitability.

DVD business Segment

Netflix’s share of revenue from its DVD rental business has declined to 18% from 42% at the end of FY 2011. The change is a result of the continuous absolute decline in the subscriber base and revenue for this segment, both of which fell by 16% Y/Y in Q4 2013. The company expects the member base to continue shrinking.

Though this business model may not be as scalable as the online streaming business, it had attractive gross margins of close to 50%. However, margins in this segment are likely to come under pressure in the coming quarter due to an increase in postal and delivery charges.

Streaming business

Revenue growth in the streaming business has been robust at 39% in Q4 2013, a growth rate the company has sustained over the last 4 quarters. Subscribers/members in domestic streaming business showed strong growth of 25% while the international streaming business nearly doubled its subscriber base. The segment has a total member base of a little over 41 million subscribers.

Netflix has started producing content of its own and this could be the next big push for the company. If their own content gains popularity, it would bring down licensing costs and license renewal costs, leaving the company with the opportunity of gaining more incremental income from each viewer.

Netflix Segmental Revenue Trend

Netflix Valuation

Healthy growth in revenue and member base are definite positives. However, the current pricing of the company’s stock comes across as being irrational at a Price/Earnings multiple of 216 and Price/Sales multiple of 5.5. The stock price indicates that it has already factored in supernormal top-line growth with improving profit margins for the next 3-4 years and any slowdown in growth could impact the stock price severely. We classify Netflix as a risky investment. While the company’s stock price might continue to move up depending on the growth in coming quarters, we don’t find a rationale that supports a price of $420 a share.

To see the current stock price, please click here Netflix (NASDAQ:NFLX)

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Neither Amigobulls, nor any members of its staff hold positions in any of the stocks discussed in this post. The author may not be a certified/registered investment advisor, and the opinions expressed should not be treated as investment advice. Buying and selling of securities carries the risk of monetary losses. Readers/Viewers are advised to carry out their own due diligence and consult their investment advisors before making any investment decisions. Neither Amigobulls, nor the author have any business relationship with any of the companies covered in this post.

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