Three Reasons Netflix Can Keep Growing

In the fourth quarter, Netflix (NASDAQ: NFLX) reported earnings that were more than six times higher than what the company earned last year. The company beat revenue estimates by $10 million, improved its contribution margin by about 400 basis points, and grew the number of U.S. subscribers by 14% on a year-on-year basis. Despite its success, many bears think Netflix is well into its growth stage. This is primarily because the companies' valuation of 49 times FY 2015 estimated earnings. But it is a massive misconception to think Netflix cannot sustain its growth. For one, the streaming video business as a portion of entertainment viewing is still in its infancy.  Also, Netflix has signed a deal with Comcast that should bring in more subscribers looking for faster streaming speeds. In addition, Netflix has a strong pipeline of content that will draw more viewers.

Growth prospects of video streaming
While Netflix got its start partially by mailing DVDs to customers, the future of the company lies in the video streaming business. It accounted for over 80% of its $1.17 billion revenue in the last quarter. Mintel, another research firm, recently carried out a survey on the streaming video sector. It found that the sector was still in its early stages. 46% of people living in the U.S. used a subscription video account. It is likely that they will continue to use this service due to industry trends. Mintel expects total sales to reach $16.7 billion by 2018. This would benefit Netflix, which is currently found in a quarter of U.S. households.

The Comcast agreement
Netflix has agreed to pay Comcast to ensure that its customers can watch its content free of problems. Comcast already has nearly 21 million broadband customers. The number will grow to about 30 million by December if it wins  approval to purchase Time Warner Cable If Netflix's video streaming quality doesn't improve on Comcast, it risks alienating its own subscribers. The discontent could undercut Netflix's subscriber growth.With the Comcast deal, Netflix retains its subscribers.In the long term, Statista, a research firm, forecasts  the wireline broadband availability in the United States is estimated to cover 95.7 percent of the U.S. households in 2015.  Clearly, Netflix  still has a room for growth in the sector.

Ahead of the pack
Netflix's experience with its contents gives it a significant advantage over its rivals. It has a strong pipeline of content that will draw more viewers, which will in turn improve the company's top line. In the fourth quarter of 2012, Netflix earned just 13 cents per share. After millions of viewers watched its movies and all the other content, Netflix's earnings per share in the last quarter were $0.79.  Netflix's  content initiatives could enable the company meet its net income target of $48 million for the present quarter.

Competitors
Time Warner
's (NYSE: TWX) HBO for a time was not a direct competitor to Netflix. However, Netflix's recent success with its streaming original shows puts it in a competition with HBO. Also, HBO presents a threat not only to Netflix in connection with where viewers get their entertainment, but also to the content that Netflix is able to stream. The cable network can secure exclusive contracts that limit the content that Netflix can offer.  According to Cisco, global online video users are expected to grow from 1.1 billion in 2012 to nearly 2 billion by 2017 -- a compound annual growth rate 13.2 percent. HBO made $4.9 billion from subscription fees in 2013. It wants more improvement by gaining a sizable share of this market.

Recently, Amazon.com (NASDAQ: AMZN) tested its second round of original productions. The first round led to 1 or 2 shows getting full seasons. Since the trend favors the growth of the video streaming business, Amazon will be in a position to make a run at Netflix. Though it trades at a somewhat similar price with Netflix at $342 per share, Amazon has a valuation of 81 times forward earnings. In other words, it is more expensive than Netflix. But the number of U.S. digital TV viewers will reach 145.3 million in 2017, up from 106.2 million in 2012, according to eMarketer. Amazon clearly has reasons to improve its streaming content to gain a significant share of the market.

Foolish takeaway
In the fourth quarter, Netflix's revenue and net income came in at $1.2 billion and $48 million respectively. In addition, it has gained a lot of experience marketing its original content. The video streaming business is set to show more growth, and the company's deal with Comcast should bring in more subscribers. As a result of this, I believe Netflix is set for more growth in the near future.

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Read/Post Comments (4) | Recommend This Article (1)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On April 07, 2014, at 7:40 PM, Fo45 wrote:

    I do not know in which LALALAND you live but you are misleading everyone. First, the deal with comcast costed millions to Netflix and opened the door for all ISPs to reclaim tolls for content delivery to the point that Hastings was crying bloody murder in his blog. Second, talking about ahead the game with original content production ? HBO has done it for decades with 20/1 award wining originals. The only problem with HBO is it has to be offered as a bundle but this will soon be resolved. Already HBO Reported earning separately and soon will be offered on a subscription bases alone. Third, Netflix is counting on new members but that has significantly slowed down due to fierce competition. Netflix is selling $20 for $19 this is not sustainable.

  • Report this Comment On April 07, 2014, at 7:52 PM, AceInMySleeve wrote:

    Netflix's global opportunity is profound and is underscored here with the expected increase in broadband penetration. I expect this stock to be a growth stock for the next decade.

    The domestic ISP situation is the one major wart I've seen in the last year. Netflix made peace with Comcast begrudgingly (as Reed made clear), and they have yet to make deals with many other major ISPs which I think is potentially a big problem. If these ISPs do not expand their bandwidth peering then as Netflix grows the customer experience will continue to deteriorate. I have a feeling that since Q2 is essentially flat in sub terms, Netflix might be playing some hardball in negotiations, but they will need to make a deal. I think it hurts Netflix more than the ISP to have poor connections, and the ISP likely knows it.

    Increased domestic competition so far is noise, but that's always possible to change, and anything that slows Netflix down is damaging since first mover is their biggest (though not only) advantage.

  • Report this Comment On April 07, 2014, at 8:15 PM, sj95135 wrote:

    I agree with you and I am just going through your last few articles and your thoughts are correct. Lets see... if you are correct this time also. Netflix expanding outside US also. Content is expensive and I don't think anyone can afford like netflix. Netflix can afford due to large customers base.

  • Report this Comment On April 08, 2014, at 3:51 AM, Fo45 wrote:

    Just the noise of competition caused Netflix to drop 20% I wander if the noise become a melody what will happen to netflix.

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