Netflix Has Little Margin for Error
Netflix, Inc. (NASDAQ:NFLX) has been sizzling on the stock chart, reaching a historical high on January 6, driven by massive expectations that try to support the ambitious valuation.
NFLX stock is pricing in another strong quarter of growth, as the provider of streaming video reports its earnings on Wednesday, January 18. The results better be above the consensus, given that NFLX stock trades at a whopping 358 times trailing earnings per share (EPS) and 141 times its 2017 EPS.
Netflix stock trades at over four times its estimated five-year earnings growth rate, which is fundamentally excessive. Consider also that NFLX stock trades at 23 times its book value, and you’d understand why the company has a very low margin of error for results.
Based on the options market, NFLX stock is estimated to have a price move of around 9.8% in either direction in the weeks following the results. The inherent volatility foreshadows the massive expectations for Netflix stock, which could get slammed on disappointing news or surge on a strong quarter.
Chart courtesy of StockCharts.com
Option traders could initiate a long straddle call and put strategy if they believe that NFLX stock could really move. Of course, this is only an example of a possible trading strategy to play earnings.
The key to look for in the earnings report will be the subscriber growth, particularly in the international market where the company has seen superior growth.
Netflix, Inc. is battling Amazon.com, Inc (NASDAQ:AMZN), Hulu, LLC, and HBO in the domestic market and—to a much lesser extent—in foreign markets, which helps to explain why Netflix, Inc. does well internationally.
NFLX Stock Needs Big Subscriber Growth
Netflix stock has beaten the consensus EPS in four consecutive quarters. After an impressive third quarter that helped to vault up NFLX stock, the company is estimated to report $0.13 per diluted share on year-over-year revenue growth of 35.2% to $2.47 billion in the fourth quarter (Source: “Netflix, Inc. (NFLX),” Yahoo Finance, last accessed January 13, 2017).
Based on what happened in previous quarters, including the fourth quarter of 2015, there are again high hopes for another Wall Street-beating performance.
Netflix stock beat the consensus EPS by an average of 237% over the past four quarters, although the third quarter only managed to beat the consensus EPS by 100%. Nonetheless, these are strong growth metrics and lofty expectations that Netflix, Inc. must deliver, given the valuation.
In the third quarter, Netflix, Inc. delivered an additional 3.57 million new subscribers. The significance of international subscribers was evident, as 32 million were from outside the United States.
For the fourth quarter, Netflix, Inc. expects to add 5.2 million subscribers, with 3.75 million subscribers from the international market. Note the expected major jump in the domestic additions versus the international component.
The view on Netflix stock is mixed from Wall Street. Over the past 30 days, there were four higher EPS revisions for 2016 coupled with two downward EPS revisions. For 2017, there were three downward EPS revisions versus two higher revisions. (Source: Ibid.)
Whether investors feel that NFLX stock is overvalued or undervalued will continue to sort itself out, but the value of the Netflix stock will continue to be based on the content and on whether Netflix, Inc. can continue to dominate the foreign markets.