Has Netflix Peaked?

A few weeks ago I wrote the following article for an investment website called seekingalpha.com. Unfortunately, the website chose not to publish it and it’s been sitting on my desktop ever since. Netflix reported its 2nd quarter earnings yesterday and the stock has since dropped 12%. Here’s the original article:

Earlier this week, one of the most popular TV shows of all time announced that it would officially be leaving Netflix. The Office, which has gained a cult-like following over the years, will be leaving Netflix at the end of 2020 and will begin streaming exclusively on NBCUniversal’s forthcoming streaming service. Is this a bump-in-the road or are Netflix’s best days behind it?

Current User Data

Many of Netflix’s most popular shows are owned by companies that plan to directly compete with Netflix. The following chart shows the top 20 shows on Netflix, the red bars are licensed shows while the grey bars are owned by Netflix.

13 of the top 20 shows on Netflix are owned by companies that compete with Netflix. The departure of The Office likely means that Friends and Parks and Recreation will soon follow as they are also owned by NBC.

Streaming Service or Content Producer?

Netflix’s ability to pivot in the past has been the primary catalyst for its tremendous growth over the last decade. Netflix began as an online movie rental service. Subscribers would select the movie they wanted to watch and wait 2-3 days for the DVD to be shipped to their residence, once they finished watching the movie they would ship the DVD back to Netflix. In general, the model was successful until Redbox came along. Redbox was more convenient and eliminated the 2-3 day wait for shipping. Netflix saw this as an opportunity and began to invest heavily in technology and eventually became the most popular streaming service in the world.

It appears that Netflix has found itself at another crossroads. Competition from Hulu and Amazon continues to heat up and major players will soon enter the streaming market:

  • Disney Plus will launch in November of this year with a price tag of $7/month.
  • AT&T’s “Netflix Killer” will launch sometime in 2020 and will combine content of HBO, Cinemax, and Warner Bros with a price tag between $16 and $17/month.
  • NBCUniversal is set to launch sometime in 2020 with an expected price tag of around $10/month.

Netflix has significantly increased its investment in “original content” over the past few years, the problem is that most of the viewers spend the bulk of their time watching programming Netflix didn’t make itself. Research firm 7Park Data found that more than 80% of Netflix streams were for licensed content and that 42% of subscribers watched little or no original Netflix content. If Netflix is unable to become a successful content producer, the streaming service may be in trouble.

Current Valuation

Below is a comparison of Netflix and Amazon. The data was derived from the respective company’s most recent 10-K:

Netflix’s multiples, across the board, are significantly higher than Amazon. Although the firm’s are not identical, the disparity between the valuations is eye-opening. Amazon appears to be widening its economic moat and can enter new industries seamlessly, while Netflix is constantly facing pressure from current competitors and will have some big names enter the market in the near future.

Cash Burn

Netflix’s cash burn from operating activities has significantly increased since 2018. The following data was derived from 10-K filings:

Which has resulted in an increasing reliance on debt financing:

The current trend will likely accelerate as new service providers enter the market and Netflix continues investing heavily in original content.

Conclusion

I’m staying away from Netflix and am considering going short or buying long-dated put options for the following reasons:

  • Increased competition
  • Lack of traction for original content
  • Current valuation
  • Accelerating cash burn
  • Increasing leverage

If you’re looking to start investing or would like me to review your current portfolio, please send me a direct message, email me at Blake@SuccessfulPortfolios.com, or call/text at (402) 515-3382.


This article can also be found on LinkedIn