Beyond Earnings... 8 Things To Help Netflix Stock Hit $400 (NFLX)

Netflix, Inc. (NASDAQ: NFLX) is one of the top earnings reports for this week.  It is unlikely to be a market-mover, but Netflix is perhaps one of the top high-dollar stocks that active traders and momentum traders alike have chased and chased.  Shares were around $282 today ahead of earnings and its 52-week trading range is $95.33 to $304.79.  We are not going to call the stock overvalued today, because there has been a strong case that its shares have been overvalued for quite some time.  It hasn’t really mattered until lately.

The earnings report has dealt a serious blow to active traders and swing traders who were looking for gains on the earnings.  This scenario analysis about what could get Netflix stock has nothing to do with just this week’s earnings.  It doesn’t even have to do with next quarter’s earnings report.  This is looking further and further out…

As far as tonight’s earnings report, the news is good but not good enough and the stock is being punished severely.  The company showed that its subscribers are now 24.6 million strong, but promotions and subscriber acquisition costs were higher.  The report of $1.26 EPS managed to handily beat the $1.11 estimate from Thomson Reuters, but the $770 million sales figure was light.  Another issue is that the company does not plan to bid for Hulu as its ad-supported model is not its goal currently.  It is also not going to sell its DVD division.

The company is now targeting 24.6 to 25.4 million subscribers by the end of the third quarter. One interesting aspect ahead is that a Facebook integration is now expected before the next earnings report.  Unfortunately, the company is forecasting $780 to $805 million in domestic sales for the quarter we are currently in.  The total estimate from Thomson Reuters is more than $846 million. The company sees a lower add in domestic additions for this coming third quarter than for the third quarter of 2010.

After a huge run higher over the last year it is not really a shock to see this stock down so much after the report.  Shares are now down 9% at $255.00 in the after-hours session.  Netflix has risen handily before earnings and our question is simple…. Regardless of valuation opinions, what can Netflix really do to get its stock to $400 or higher per share?  We have several suggestions, some of which are obvious and some of which might not be obvious.

Underpromise & Overdeliver, But Keeping Solid Long-Term Forecasting…

Companies like Apple have made millionaires and (and probably a few billionaires) by simply ‘underpromising and overdelivering.’  Yes, the company has to keep beating earnings expectations.  The company has to maintain a slightly higher guidance than before but it has to also set the bar low enough that it can live up to expectations.  Estimates for the June quarter are $1.11 EPS and $791.48 million in revenues.  If you go out far, the 2012 targets from Thomson Reuters estimates are $6.65 EPS and $4.41 billion in sales.  With a near-$15 billion market cap today, perhaps the company could adopt a long-term forecast similar to what IBM has done… When the day comes that Netflix can claim a $1 billion per month in subscription revenues alone, who knows what the value will be from the market.  Did Reed Hastings just underpromise so he can overdeliver?

A Simple Stock Split…

The current trend in the market for growth stocks seems to be to keep high nominal share prices.  Look at Apple, Amazon, Google, and Priceline.  Still, Lululemon recently has seen its shares soar since its 2-for-1 stock split was declared.  Netflix did announce a 2-for-1 stock split in January 2004 when shares were at $65.80 and shares jumped to $77.77 on the split announced with earnings and those prices are not adjusted for the split today.  An 18% gain from beating earnings and announcing a stock split is impressive enough, and if you did that from today’s price you would instantly have a $330 share price or so.

Communicating Price Structure Better…

Shares have faltered since Netflix changed its pricing structure.  Maybe you can blame Washington D.C. or maybe you can blame other economic uncertainty.  The price structure change is the recent drag.  Customers have resistance to change.  What the company needs to truly communicate is that this not only deals with holes in the digital model.  It needs to show better that this will maximize revenue growth and profits.  Higher subscriber acquisition costs on top of a price change won’t be great, particularly if its DVD model peaked.

International Growth For the Next Decade & Beyond…

Netflix is currently based almost entirely upon its real operation in the United States and Canada.  Sure, Latin America and Europe are part of the valuation discounting, but the company needs to be able to demonstrate that it can stream movies in a price-consistent model to the Middle East, the Far East, and key markets in the Pacific Rim.  The future of Netflix already has growth intentions on a global basis.  None of the significant growth of the company to date has been from the lands outside of the U.S. and Canada.  This will change in the future, and perhaps it is as simple as the company telegraphing that there are another 200 million or so subscribers that it can actively target as a realistic future marketplace.

Cost Controls for Delivery…

Historically it is the cost of postage that has been a threat to Netflix.  With its new pricing and with the media trends, the future cost is going to be streaming and delivering a movie.  The company has already made service provider change announcements and that is most certainly an effort to contain costs while increasing delivery statistics.  We do not doubt that the company will lower delivery costs either per unit or per customer through time, and admittedly this may be a call from the Department of Redundancy Department.

Leveraging Social Networking & New Media Even Further…

Reed Hastings recently was announced as having joined the board of directors of Facebook.  This was a huge coup for the company as it implies that The Facebookers are going to keep their operating costs of streaming movies or streaming content cheap.  That interface reference could be a huge boom for the company if successful.  Asking for a piece of the business rather than investing in the infrastructure may be the best structure for Facebook.  This whole effort could ultimately give a backdoor to the international growth targets already addressed.  Facebook is the big one today, but we all need to remember that there is nothing preventing Facebook from fading if a huge problem arises or if customer sentiment changes or migrates away.  The company has to remain nimble here.  Still, Reed Hastings is a board member of Microsoft as well.

Muting Competition…

Netflix is far from being alone in streaming and delivering movies.  Comcast, Time Warner Cable, Blockbuster, Coinstar’s Redbox, Amazon, Apple, and even Wal-Mart now compete.  These are only a handful of the outfits that compete.  If Netflix can keep Hulu, YouTube, and the other dozen or more threats at bay, then the company has ample room for growing loyal customers.  This is always one of the great challenges because movie studios will deliver their content to and through almost anyone if they can get their price.  Customers choose Netflix either over competitors, or in tandem with competitors, for a reason.  The company has to be able to maintain that loyalty and drive down that churn rate through time.  Winning back lost customers is not easy.  Still, Netflix is one of the disruptive technologies that threaten cable companies and also which has helped to kill video stores.

Future Business Opportunities…

We already mentioned competition, and the device players have had to accept the Netflix culture even if they have competing platforms.  Video game delivery business models, eBook delivery, music, competing platforms, and on and on…  While threats or at least competitive pressures are there from any and all of these, any of these avenues in media could be the next multi-billion dollar opportunity for Netflix.  It is our understanding that Netflix has loosely considered any and all forms of media models either selectively or at least in theory.  We never really considered Hulu a target of the company, although it does make for a potentially interesting scenario for using Netflix in the “cutting the cords” model for video and TV content.

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Netflix already claimed more than 23 million members in the United States and Canada before earnings, and that is before the expansion into Latin America and the Caribbean, Europe, and other giant growth opportunities.  Whatever happens with the post-earnings reaction after today, there are many things that can still drive this one higher.

As you can see, these are just some of the challenges and opportunities for Netflix today.  There are no assurances that $400 is coming, just like there are no assurances that the company has an assured success of growth in the years ahead.  Our intent was to focus on the opportunities and the threats that can be turned into opportunities in the future. Now the company has to keep delivering upon those opportunities.  It might help if the company goes back to a real reporting format for earnings as well.

As far as predicting a price is concerned, let’s just say that no one has been real good at this in Netflix.  Short sellers have attacked Netflix all the way up.  Analysts have been behind the ball on this one the whole ride up.  The reason is that valuations have always been excessive.  A move to $400 would only be another 30% up from the recent all-time high, which sounds not unrealistic at all if you consider the move over the last year.  If the after-earnings reaction holds up, that $400 possibility would take closer to a 60% move.

JON C. OGG