Interactive Investor

Is Netflix share price crash a buying opportunity?

20th April 2022 12:55

Graeme Evans from interactive investor

Star US investor Bill Ackman recently took a large stake in Netflix, so what must he be thinking now? These comments give us a great clue.

Wall Street’s 'Peak' Netflix Inc (NASDAQ:NFLX) fears are in sharp contrast to the recent views of star fund manager Bill Ackman after he hailed the streaming giant’s “exceptional growth potential”.

The annual report of Ackman’s FTSE 100-listed Pershing Square Holdings Ord GBP (LSE:PSH), published less than a month ago, predicted near-term variability in Netflix’s quarterly growth and profitability but added that investors should be confident in the longer-term outlook.

The upbeat comments followed January’s acquisition of a top 20 stake in the US-based platform at a price that Ackman regarded as too good to miss. The Squid Game creator had just lost 20% of its value on slowing subscriber growth figures, but Ackman noted that many of Pershing’s best investments were when time horizons of other investors were too short.

Combined with an existing stake in Universal Music Group NV (EURONEXT:UMG), the acquisition represented a move by Ackman to be “all-in on streaming”. He said: “Over the next decade, we estimate the company can achieve double-digit annual revenue growth, significantly expand its operating profit margins, and grow its earnings per share by more than 20% per year.”

Wall Street has taken a much more cautious view on Netflix’s prospects, even before last night’s shock first-quarter results sent shares sliding a further 25% in after-hours trading.

Netflix reported its first quarterly decline in subscribers in a decade, losing 200,000 customers compared with expectations that it would gain 2.5 million. It is also braced to lose another two million subscribers in the current quarter, meaning Wall Street’s forecast for more than 17 million additions in 2022 has been reduced to 5.4 million.

Despite a strengthening content line-up, the company is under pressure even before any obvious impact on the consumer from cost of living pressures or a weaker global economy. It also faces increased competition from Disney+, Amazon Prime and Apple TV+.

Netflix expects to grow revenues by less than 10% year-on-year in the current quarter, which  compares with a rate of almost 20% seen in the same quarter a year ago. It is still aiming to achieve an operating margin of around 20%, a figure that has increased from 4% in 2016 as the business benefits from increased scale.

The company told shareholders: “Streaming is winning over linear, as we predicted, and Netflix titles are very popular globally. However, our relatively high household penetration - when including the large number of households sharing accounts - combined with competition, is creating revenue growth headwinds.

“The big Covid boost to streaming obscured the picture until recently.”

Netflix pledged to re-accelerate revenues growth through improvements to its service and more effective monetisation of multi-household sharing.

UBS removed its “buy” recommendation following the results, adding: “While we see Netflix as a long-term winner, we believe rising competition, macro headwinds and market saturation will continue to weigh on subscriber growth and are stepping to the sidelines.”

The Swiss bank has lowered its price target from $575 to $355, which is in line with the pre-pandemic level and compares with $254 in last night’s after-hours trading.

UBS’s analysts added: “While efforts to crack down on account sharing and a new ad-supported tier could enhance financial performance, we believe it will take one to two years for such efforts to play out and margins will remain stagnant as the company invests to restart growth.”

Before last night’s fall, Pershing Square said Netflix’s share price was at a “meaningful discount to intrinsic value for a business of its quality and exceptional growth potential”.

Ackman said Netflix remained well positioned as the dominant market leader and had several advantages relative to existing legacy media incumbents and large-cap technology entrants.

He added: “Netflix’s competitors are not currently profitable on a standalone basis and may struggle to spend ever increasing amounts on content unless they achieve significant future subscriber growth.

“Large-capitalisation technology competitors such as Amazon.com Inc (NASDAQ:AMZN) and Apple Inc (NASDAQ:AAPL) have deployed cash flows from their significantly larger core businesses to fund video content, but we believe they will not spend unlimited sums to advance video streaming businesses that remain unprofitable and are ancillary to their core businesses.”

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