KEY POINTS

  • After Netflix released its first-quarter earnings report, its stock fell to its lowest levels in more than three years.
  • It was the first time in a decade that it lost subscribers.
  • The company blames competition, shared passwords, and Russia for the slump. It doesn’t think it’ll be able to break out of its rut anytime.

After the stock dropped 26% during after-hours trading on April 19, following the company’s first-quarter earnings release, is Netflix stock a buy?

Netflix’s revenue rose 9.8% year over year to $7.87 billion, but it fell short of analysts’ expectations by $70 million. In addition, its paid subscribers increased by 6.7% to 221.64 million, below its goal of 8% growth.

Netflix (NASDAQ:NFLX) also saw a subscriber decline of 200,000 in the first quarter, representing its first quarterly loss since 2011. It expects another two million subscribers loss in the second quarter.

Earnings exceeded

Netflix’s operating margin fell 230 basis points year-over-year to 25.1% as it ramped up its spending on new content in the second quarter. As a result, net income decreased 6% to $1.60 billion, or $3.53 per share, which exceeded analysts’ conservative expectations by $0.62.

Unfortunately, Netflix’s subscriber losses overshadowed its earnings beat, and the stock plummeted to its lowest levels since late 2018. So should investors consider buying Netflix stock after it fell so much?

Has Netflix’s growth peaked?

Over the last decade, Netflix has gained subscribers as it has expanded its original programming and overseas market. In addition, it’s been able to create hit new shows and movies by relying less on well-known IPs and brands, thanks to its use of AI algorithms to study viewing habits.

Competitive market

The streaming market has also been increasingly competitive in recent years, with well-funded rivals like Disney (NASDAQ:DIS)Amazon (NASDAQ:AMZN), and Warner Bros. Discovery (NASDAQ:WBD) entering and saturating it.

Netflix’s robust expansion throughout the pandemic misled many investors into believing that competitive risks had vanished. However, its subscriber and revenue growth slowed as the lockdowns ended.

Netflix claims competition is a serious barrier in its fourth-quarter and first-quarter shareholder letters for the first time. That isn’t a surprise. Disney has 196.4 million streaming subscribers across all of its services, and following its spin-off from AT&T (NYSE:T), WBD serves nearly 100 million streaming customers across HBO Max and Discovery+.

Password sharing

Netflix attributed its slowing subscriber growth to passwords being shared. Over 100 million additional households worldwide used shared passwords in the first quarter. In addition, it claims that because of those shared passwords, it is “harder to grow membership in many markets — an issue that was obscured by our COVID growth.”

During the quarterly earnings call, Netflix’s COO Gregory Peters said it would “not shut down sharing,” but it might start asking members to “pay a bit more to share the service with others outside of their home.”Netflix co-CEO Reed Hastings also stated that the firm might attempt cheaper ad-supported plans to reach more “advertising-tolerant” customers.

Russia conflict

Last, the loss of subscribers at Netflix in the first three months was primarily due to suspending its services in Russia due to the Russo-Ukrainian conflict. If you look at it without Russia, Netflix would have gained about 500,000 subscriptions sequentially instead of losing 200,000 subscribers.

Netflix missed its guidance by about two million subscribers even after excluding Russia. The second-quarter guidance implies that Russia isn’t the only problem.

Cash flow growth

On the bright side, Netflix’s operating margin rebounded sequentially in the first quarter and exceeded expectations. That improvement follows three quarters of more significant content investment. Additionally, it enables Netflix’s free cash flow to become positive even as earnings per share (EPS) fell.

Netflix is anticipating its revenue and earnings to increase 10% and 1% in the second quarter, respectively, as its operating margin falls back to 21.5%. Analysts anticipate Netflix’s revenue to climb 12%, with a corresponding decrease in EPS of 1%. Its operating margin expects to decline by 90 points to 20%.

That forecast appears pessimistic, yet we think it simply represents that Netflix’s business is maturing, not declining precipitously.

Too cheap to ignore?

Netflix’s stock was expensive based on forward earnings before its most recent financial statement. But after the company’s post-earnings drop, it is selling for about 23 times forward profits. That is a reasonable price-to-earnings ratio for a mature technology giant, but we wouldn’t call Netflix stock a buy.

It makes no sense to invest in a firm with decreasing growth and rising costs when there are still many outstanding high-quality stocks on the market.

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