I’ve always admired Netflix as a company, and have frequently checked on the stock only to find its PE ratio too high each time, without doing much analysis. I see that it’s had a big run-up and decided to do some analysis. Backwards, I know, but I was curious.
Currently Netflix has over 10 million subscribers, which is near 10% of US households. It makes $11.50 in income off each subscriber per year. I’d like to propose a few scenarios going forward:
1. Netflix grows until it has 20% of US households subscribing, and makes $15 off each household. Its income would be $342M, and at a PE of 15, that would give it market cap of 5.1 billion.
2. Netflix grows until it has 25% of US households, and makes $20 off each. Income would be $570M, and at a PE of 15, it would have a market cap of $8.5B.
Today’s market cap is $4.3B, which means in scenario 1, market cap growth is 22%, and in scenario 2 it’s 100%. I leave the PE ratio at a relatively low level of 15, because I picked levels where I thought that growth would slow or stop for Netflix. I choose numbers for scenario 1 that I thought were most reasonable. I don’t think Netflix will ever have more than 25% of the population subscribing, nor will it make more than $20 off each household. It doesn’t have the pricing power, because it doesn’t have a big enough moat when things go digital, and it doesn’t own the content. I can’t see a world where movie owners let Netflix make a ton of money by letting people download their movies.
If the best a stock can do is double in 5 years, and clearly the worst it can do is a lot less, I’d rather look elsewhere. I don’t particularly recommend shorting, but I’d rather do technical shorting of this stock than the market as a whole.
What would change my mind? A new high-margin business model for premium access that looked compelling.
April 7, 2010 (NFLX: $80)
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