Netflix, Inc. (NASDAQ: NFLX) easily ranks as one of the best-performing stocks on the market over the last half-decade.
It’s crazy to imagine, but the popular streaming company was trading at just $7.93 a share only five years ago. Today, the stock is flirting with all-time highs at $180. That’s around a 2,170% return for anyone who committed to a buy-and-hold strategy back in 2012.
But as any seasoned investor understands, markets aren’t always rational. Emotions and hype can inflate the value of a stock. As we’ve seen countless times before, greed especially can fuel unbridled optimism, inflating what investors are willing to pay.
Today, the numbers behind Netflix’s stock would likely make most seasoned value investors (folks like Warren Buffett and Charlie Munger) sneer and chuckle. The company trades at 7.8 times sales and 217 times earnings, which are absolutely absurd figures pertaining to value.
Of course, no single measure of valuation ever tells the whole story. Multiples like this can sometimes be justified with a strong enough growth trajectory, particularly when a stock is still small in size relative to its addressable market. That’s why you’ll commonly hear people debating growth versus value.
Sink Your Teeth Into This…
The reality, though, is that Netflix is no longer the $200 million David-versus-Goliath growth story it once was. The company is now valued at ~$80 billion, making it an imposing colossus in its own right.
Netflix has even secured its place as a “FANG” stock, right alongside Facebook, Amazon, and Google, some of the market’s most powerful tech companies. At this point, the market already considers it a bellwether.
Yet Netflix’s stockholders have become burdened with growth expectations well beyond its peers. Its price-to-sales ratio is more than twice that of Amazon, and its price-to-earnings ratio is six times that of Google and Facebook.
By the income statement alone, Netflix is easily the most expensive of the four FANG stocks.
Now, that premium could be justified if Netflix’s growth was surpassing its peers’ by a significant margin, but this simply isn’t the case.
Netflix’s quarterly revenue is up 32% from last year, compared to an average standing growth of 30.7% for FANG. Facebook, for perspective, came in at 44.8% year-over-year growth last quarter, so Netflix isn’t exactly standing out among the pack.
With Netflix failing to break through resistance at $189 first in July and again in September, investors are now looking at an infamously bearish indicator: the double top. It’s only natural at this point to wonder whether the company’s once explosive momentum is finally sputtering out.
Content Will Always Be King
Of course, calling an exact top is difficult, and trying to time the market perfectly is typically a fool’s errand, but when push comes to shove, there are more reasons to sell right now than there are to bet Netflix will continue its upward climb.
Aside from the simple matter of valuation, Netflix is facing increasing pressure as it pertains to content.
In August, Netflix (NASDAQ: NFLX) was dealt a major blow after Walt Disney Co. (NYSE: DIS) announced it would be pulling its Disney- and Pixar-branded films from the streaming service. The list includes almost 100 different titles, which Netflix will lose the rights to stream in 2019.
It doesn’t seem like those titles will be coming back anytime soon, either. Disney unveiled its plans to introduce its own over-the-top streaming service for Disney- and Pixar-branded content once its titles are removed from Netflix. The company is also looking to roll out an ESPN streaming service early next year.
Then in September Disney hit Netflix again, saying the company will not get any of its new Star Wars or Marvel Entertainment films starting in 2019.
This blow from Disney comes alongside 20th Century Fox and FX announcing they would be pulling some of their hottest shows from Netflix starting later this year after striking a deal with Hulu. This includes seasons of a number of incredibly popular titles such as Futurama, The X-Files, American Dad, Prison Break, Last Man Standing, and House M.D.
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If Fox and FX continue to pull more titles as they expire, Netflix could eventually lose It’s Always Sunny in Philadelphia, American Horror Story, Archer, The League, and Family Guy, to name just a few.
Further, on Monday, Recode reported that 21st Century Fox is adding more inventory to its FX+ streaming service, sparking a 4% sell-off of Netflix. All told, Fox now has 31 original FX productions available on the service.
With announcements like these, the market is coming to terms with that fact that studios are striking back at Netflix by reclaiming their old shows and effectively starving it of any third-party content.
In order to prevent this from happening, Netflix is being forced to throw down incredible sums of cash — as much as $6 billion in 2017 alone and $7 billion in 2018. For perspective, the company’s trailing twelve-month revenue is $10.19 billion.
Unfortunately for Netflix, this isn’t an expense that’s going to let up anytime soon, and with margins already thin at 2.36%, that’s not a positive sign for shareholders.
Netflix: It’s Just a Channel
Perhaps more alarming for Netflix investors than anything else, though, is how these developments expose the company for what it really is, and that’s little more than an over-the-top (OTT) television channel.
What was once framed by the market as a full-fledged replacement to cable is basically working out to be another entertainment studio, just like HBO, Fox, or Disney. This potentially gives the company a little more room to grow but caps its ceiling significantly.
Netflix is facing fierce OTT competition from YouTube, which is now in 53% of OTT homes; Amazon Video, which is now in 33% of OTT homes; and Hulu, which is now in 17% of OTT homes. Netflix finds itself in a commanding 75% of OTT homes, but that limits its growth, while others have the opportunity to catch up.
With the global OTT market expected to reach $62.0 billion in 2020, according to MarketsandMarkets, Netflix is likely overvalued at $80 billion. The momentum could continue but, in my opinion, simply isn’t worth the risk.
Until next time,
Jason Stutman is Wealth Daily’s senior technology analyst and editor of investment advisory newsletters Technology and Opportunity and The Cutting Edge. His strategy for building winning portfolios is simple: Buy the disruptor, sell the disrupted.
Covering the broad sector of technology and occasionally dabbling in the political sphere, Jason has written hundreds of articles spanning topics from consumer electronics and development stage biotechnology to political forecasting and social commentary.
Outside the office Jason is a lover of science fiction and the outdoors, and an amateur squash player at best. He writes through the lens of a futurist, free market advocate, and fiscal conservative. Jason currently hails from Baltimore, Maryland, with roots in the great state of New York.
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