The Netflix (Nasdaq: NFLX ) rally was fun while it lasted.
Shares of the leading premium video service provider soared 22% last week -- and another 10% yesterday -- on a wave of favorable analyst notes.
The party ended today with Bank of America Merrill Lynch analyst Nat Schindler downgrading the stock. The strong run this month found the stock closing yesterday above his earlier $72 price target. It makes more sense to him to downgrade the investment -- from buy to underperform -- than to bump his price objective higher.
A lack of visibility on when Netflix will turn a profit with its growing international business and concerns on the health of its domestic streaming business are weighing on Schindler's opinion of the company.
CNBC's Herb Greenberg is also waxing bearish on Netflix today. In a CNBC.com column, Greenberg rolls out the Chanos rule.
Named after noted naysayer Jim Chanos, Greenberg argues that Chanos believes that growth starts slowing -- if not peaking altogether -- when it sells 25 million to 30 million units or has that many subscribers.
There are even better examples when it comes to subscriber services as everything from HBO to AOL (NYSE: AOL ) to the country's leading cable and satellite television providers. They've all had a funny way of topping out after penetrating roughly a quarter of the homes in this country.
Netflix is already there. It has just topped 30 million global subscribers, but back in the U.S. it has 26.4 million accounts. There are 23.9 million streaming customers, and just 2.5 million of its 9.2 million disc-based renters don't also pay for streaming.
Should Netflix be worried about its popularity peaking? Greenberg points to a comScore report showing that Netflix's traffic declined in the third quarter.
Got all that? Good. It can be pretty grim.
There are obvious flaws in the Chanos rule. Going by that 25 million to 30 million mark, investors would've bailed on Apple (Nasdaq: AAPL ) several iPhone generations ago.
We're also talking about the only premium video service that's really generating any kind of traction. We can't compare it to individual cable and satellite companies that are carving out what's a little more than 100 million homes in this country that pay for TV.
Oh, and don't put too much weight in that comScore metric. This isn't 2005. Folks rarely engage with Netflix.com these days. Subscribers use Blu-ray players, tablet apps, and consoles to interact with their queues and sort through suggestions.
Greenberg's a sharp guy. He has been rightfully skeptical on Netflix over the past year. However, the Chanos rule doesn't make a lot of sense here.
Green Mountain's Keurig brewers are stateside anomalies. Netflix has international ambitions, going from zero to 3.6 million overseas accounts in less than two years. How big will the international market be? Hastings is "confident" that Netflix will be available in every company with the possible exception of China within 10 years.
The competitive landscape will be different. Amazon is a poorly marketed and difficult to access Netflix Lite, but it's certainly out there. When Apple hits us with a TV service, it would make perfect sense to introduce a video service of some kind. Netflix has already run into some entrenched players in the U.K. as BSkyB and Amazon's LOVEFiLM were already streaming before it arrived. However, if we were going to wipe away Netflix's international prospects from its growth potential, then we may as well wipe out the losses being incurred overseas and admire Netflix as a very profitable domestic operator.
I think there's something to the Chanos rule. It wouldn't surprise me to see Netflix's domestic subscriber growth begin to slow dramatically here. However, that's just one part of the equation. It will then be up to Netflix to see what it can do to milk more than $7.99 a month out of its tens of millions of customers. Hastings doesn't seem very interested in exploring the prospects of pay-per-view rentals or tiered pricing, but it would be a bigger mistake to think that Netflix's revenue-generating potential stops here.
Every rally deserves a break, but to argue that Netflix -- now with 30.1 million global customers and climbing -- has topped out as a global provider of video is at odds with what's really happening.
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