I have been a bear on shares of Netflix (NFLX) for some time now as the stock has looked heavily overvalued to me. The stock was trading at more than 70 times earnings despite seeing growth rates declining. Netflix continued its upward ascent over the past few months as investors have poured money into the stock despite several warning signs. Well, Netflix reported earnings after the bell and investors were none to pleased. The stock plummeted in after hours trading as investors did not like what they heard.
Netflix’s Rough Quarter
First, the good news on the earnings call. The company hit its earnings target out of the ballpark. Netflix reported earnings of $1.26 a share, which was higher than the $1.11 expected by analysts. That was about all of the good news that Netflix had to offer.
The bad news is that the company’s sales were below par. Netflix reported earnings of $789 million dollars which came in below the estimated $791 million a share. The 52% revenue growth would be good for most companies but not for one which was priced for absolute perfection.
Netflix also tempered expectations for the next quarter as well. Netflix is expecting earnings to come in at $1.07 and under. That is also below Wall Street expectations. Netflix is looking for little to no growth in subscribers over the next few months. The company expects many customers to cancel or reduce their service due to higher prices.
The higher prices that Netflix is charging is a result of higher content costs that studios are charging Netflix. That is the great weakness of Netflix. For as great as the company has been over the years, Netflix is basically a middleman. The company relies on movie studios to provide them with content and is at the mercy of whatever studios charge the movie rental company. (Read Does Netflix Deserve Its $270 Valuation?)
If the studios decide to distribute their own content or go with another competitor then Netflix’s business model become irrelevant. I never want to buy stocks unless I am sure that they have a substantial economic moat. There is nothing that separates Netflix from Amazon, Apple, Facebook, Google, or Hulu. They will all likely compete for streaming content rights over the next decade. I also think that Netflix is underestimating the anger of its customers over the recent price hike.
Investors dumped the stock in the after hours market and the stock lost almost $30 per shares. Shares were trading at $252 per share. The stock was down over 10% when the market closed. It will be interesting to see if the selloff in Netflix shares continues during the trading hours tomorrow.
Photo by: PseudoGil