A soaring stock price recently pushed Netflix (NASDAQ:NFLX) past $80 billion in market capitalization -- up from $25 billion at the start of 2015. That surge reflects growing investor confidence that the streaming video giant will boost its global subscriber base and profitability for many years to come.
But with the company already valued on par with traditional cable giants like Time Warner, is it too late to buy the stock? Let's look at the key factors supporting Netflix's continued gains.
Management gets surprised
CEO Reed Hastings and his executive team aren't known for having a conservative business outlook. Their long-term view envisions a complete reordering of the TV industry around on-demand apps that replace the linear broadcast TV model that's dominated home entertainment since the 1960s. As a leading company propelling this shift, Netflix believes it can grow to as many as 90 million paying members in the U.S. and many more users in international markets.
Despite that bullish forecast, Netflix's management team continues to be surprised by much faster subscriber gains than it expected. Rather than slowing to an 8.2 million member pace through the first half of 2017 as predicted, membership growth instead has been 10 million so far, which translates to a 21% increase over the prior-year period.
Bright profit outlook
Investors are also seeing strong indications that Netflix will be a more profitable business in time. The recent blockbuster growth, after all, has come despite the price increase it rolled out across most of its subscriber base. That success means the company is delivering plenty of value to its users over and above what they're paying in monthly fees.
Netflix is on track to almost double its operating margin to 7% this year as the mature U.S. segment continues to get more profitable. New international markets, meanwhile, are racing toward the breakeven point before they begin contributing meaningful earnings.
These trends add weight to management's claim that they intend to "steadily increase operating profit" in the years ahead. Netflix isn't anywhere near the 25% margin that Time Warner enjoys today, but it's not hard to imagine profitability doubling over the next several years as it takes advantage of its uniquely global streaming footprint.
Can Netflix grow into its valuation?
Investors are trying to value a business that's seeing accelerating subscriber growth and earnings gains that promise to blow away its current profit output. That helps explain why Netflix's price-to-earnings ratio has been so volatile, ranging from below 50 to over 600 in just the past five years.
There are far cheaper options in the entertainment industry, including Walt Disney (NYSE:DIS), which is valued at an unusually low 17 times earnings. The House of Mouse recently announced plans to step back from its content deal with Netflix by creating its own stand-alone subscriber service that, beginning in 2020, will be the exclusive streaming home to its first-run theatrical releases.
Sure, that's an example of the rising competitive threats to Netflix's business. But the move also confirms that an app-driven TV future is arriving faster than anyone expected. As the dominant force leading that massive shift in how the world consumes its entertainment, Netflix stands to gain the most from the change. Thus, its premium stock price ensures plenty of volatility ahead for investors -- but also reflects the likelihood that it will be a far stronger business in just a few years.