By Michael Brush, MarketWatch
The so-called FAANG stocks have done so well for so long that it seems almost unimaginable that there could ever be a contrarian “buying opportunity” in one of them.
Yet that’s the case with Netflix /zigman2/quotes/202353025/composite NFLX +3.70% now. Talk about a surprising plot twist.
The stock price has fallen recently for all the wrong reasons. Chief among them, management guided for a “soft” second half of the year. Investors hate weak guidance. They’re programmed to think it’s a sign of a long stretch of bad news to come.
But Netflix subscriber growth will cool off because the COVID-19 stay-at-home lifestyle pulled so much growth forward to the first half. This a good problem to have. And the long-term story is still intact. So the stock will recover, and outperform. I’m not the only one who thinks so.
“While the soft third-quarter outlook may put the stock in the penalty box near-term, there is no change to our positive long-term thesis,” says Jefferies analyst Alex Giaimo. “We view Netflix as a consistent high double-digit growth story with sizable margin expansion over time.”
Before we get to the long-term growth story, let’s look at that “problem” of weak guidance.
So slow, but so what?
Netflix guided for just 2.5 million net subscriber adds in the third quarter, way below Wall Street estimates of 5 million, and less than half the 6.8 million net adds in the same quarter in 2019. Growth investors never like a 63% contraction in a key business metric.
But forgive Netflix the “slowdown.” It’s happening because the company posted 110% subscriber growth in the first half of this year. It added a massive 25.8 million subscribers (net) compared to 12.3 million in the first half of 2019. That surpassed 20%-22% growth in the three quarters leading up to 2020. Netflix added nearly as many subscribers so far this year, as it did in all of 2019.
I’ll take that.
Besides, “cash in the door now is better than cash in the door three months from now,” says Giaimo at Jefferies.
One “conspiracy theory” going around is Netflix deliberately guided low to create an easy win for newly appointed co-CEO Ted Sarandos in the third quarter. “They set the bar low for the third quarter, and if they beat those numbers, the stock is going to go up,” said one mutual fund analyst who follows the company.
Netflix is a great international growth story
There are about 800 million broadband households, and over two billion smartphones in the world (outside of China), says RBC Capital Markets analyst Mark Mahaney. If Netflix can match the 57% penetration rate in the U.S., that means it could get nearly 500 million subscribers. For context, Netflix currently has around 193 million subscribers in the U.S. And it only has about 10% market penetration in most major markets abroad, says Mahaney.
There’s little reason to doubt the company can hit U.S.-level penetration abroad, because RBC Capital Markets surveys tell us foreign customers like Netflix even more than U.S. customers do.
That subscriber base could produce $50 in earnings per share, which could translate into a $1,000 stock in five years, says Mahaney. He just upped his 12-month price target to $610 from $500.
Meanwhile, international growth could boost profit margins because foreign markets are generally less competitive and local production costs can be dramatically lower. Netflix has about 130 new non-English original programs in 18 languages slated for 2020 and beyond, three times that of Amazon.com.