In this MarketFoolery podcast, host Chris Hill is joined by Million Dollar Portfolio's Matt Argersinger to discuss three stories from various fronts of "The War on Cable." First, they check in on the latest Netflix (NFLX +3.23%) quarterly report. Can Reed Hastings' company do anything other than deliver bigger subscriber growth than we expect?
Second, they shift to Roku (ROKU +2.91%), which is a harder value proposition for the guys to justify, but which nonetheless won Wall Street's admiration with its deal to carry Disney's (DIS +0.05%) new ESPN Plus service on its platform.
And third, Argersinger explains why the underlying story of iQiYi (IQ +1.09%) led him to do something he rarely does: He invested in the Chinese video-streaming giant on the day of its IPO. To wrap up, Hill tosses this question to his comrade: What companies would you most like to see turn in one ugly quarter of results, so that their stocks pull back and give you a better entry point to buy shares? You'll want to stick around to the end of the show to hear his answers.
A full transcript follows the video.
This video was recorded on April 17, 2018.
Chris Hill: It's Tuesday, April 17th. Welcome to Market Foolery! I'm Chris Hill. Joining me in studio, Matt Argersinger. How are you?
Matt Argersinger: Hey! Pretty good. How are you?
Hill: I'm good. Part of the reason you and I are both good, neither one of us was in Boston yesterday for the marathon.
Argersinger: [laughs] I know. Weather was horrible! Looked like a good time, but, yeah, the weather was ...
Hill: I think it was the woman who came in third overall, she compared running in the marathon yesterday to running in a washing machine, because it was just so chaotic --
Argersinger: Wow! On cold cycle, too.
Hill: Exactly. It was brutal. But, kudos to everyone who ran. We're going to be heavy on the video stocks today. I should start by expressing my condolences for our friend and colleague Taylor Muckerman, because on yesterday's episode, Taylor was talking about how he was really hoping that Netflix was going to put up a terrible quarter so that there would be a pullback in the stock so that he could buy some shares. In fact, the exact opposite happened.
Argersinger: Yeah. Sorry, Taylor! That didn't work out for you.
Hill: First quarter report from Netflix, nearly seven and a half million subscribers added worldwide. Shares of Netflix up 8% this morning. [laughs] That's the sound of both of us shaking our heads. What stood out to you? Was it the global beat?
Argersinger: To me, the subscriber numbers are everything. That's what the market has decided to focus on, obviously, because if you're looking at the profits or the cash flow, eh. But, what actually stood out to me was not so much the global beat. I thought the global subscriber numbers would be big, but they added almost two million net subscribers in the U.S. Which, I don't know how many households are left that don't have Netflix, but apparently, it's still many. I'm surprised that that number is still growing as fast as it is. So, that was surprising to me.
But then, yeah, almost five and a half million net additions internationally, that's huge. Overall a 26% year over year increase in total subscribers to 125 million. And remember, they raised prices this last year. I think that's probably what's galvanized investors and the stock price. This is a service with pricing power, it's as popular as ever, and visions of adding tens of millions of more subscribers in the years to come. I can see why the market is excited.
Hill: And it seems like they have, I don't want to give Amazon all the credit here, but if you look at the value proposition of Amazon Prime, it appears as though Reed Hastings and his team at Netflix are operating from a similar level of confidence in this regard: "We feel like our service is so good that if we can just get people to try it, they're going to stick with it." And when you look at the partnership with Comcast, when you look at the telecoms, the mobile carriers that are including some version of, "Hey, we'll give you three months of Netflix for free," that sort of thing, I think that as much as anything is probably continuing to feed into the U.S. growth.
Argersinger: I totally agree. What Netflix has done over the past several years is invest in so much content. Now, if you try Netflix for a month or two, there's a high likelihood you're going to find at least something that you like and are going to want to watch on Netflix. So, what I'm looking at in terms of what they planned just for this year, they're going to spend about $8 billion on content, which is a staggering number. That's more than the biggest media companies in the world spent on content on any given year. They're going to release 700 original pieces of programming, and that includes about 80 movies. That's more than any film studio. They're going to release a stand-up special roughly once a week, and as many unscripted series as any U.S. cable network. So, if I get on Netflix, I'm going to find some things that I like, you know? And, again, the price, depending on what plan you're on, but, $10 a month for Netflix is still not a big hurdle for a lot of people who go to it for entertainment at least several times a month.
Hill: I don't know to what extent, if any, on the conference call, marketing costs were discussed, but I did see that Reed Hastings, I think it was he or someone on the call, called out the Super Bowl ad that they bought promoting the Cloverfield experiment movie -- I'm botching the name of it, but calling that out, calling that a successful move on their part. I think a lot of investors have looked at this company and said, "Yeah, they need to invest in content, that's money well spent." It seems like there's at least a little bit more talk now coming from Netflix about the money they're spending on marketing, and presumably that needs to ramp up as well. And I don't know if it's anywhere near the point where it's concerning.
Argersinger: I don't think it's concerning, but you're right, that's going to be another big source of expense. That's in addition to the $8 billion that they're going to have to spend just on creation of content, licensing of content. But I do believe the billions that they're going to spend on that are money well spent. Because, like I said, I'm not interested in Cloverfield, but guess what? Probably several million people are, so they tried Netflix to get into the platform and see what else is out there.
I will say this: as of this morning as we tape, Netflix's market cap, $140 billion. So, 125 million subscribers, do a little math, the market is valuing each Netflix subscriber at about $1,100 each. Now, I am not an expert when it comes to lifetime value, valuations and models and things like that, but that's a pretty expensive multiple for any subscription business. So, what the market is clearly saying is, this is a platform that should, in a few years, have 200 million, 300 million, eventually maybe 500 million. I know our colleague here, David Kretzmann, put out a tweet the other day, reckless prediction, he thinks Netflix will have a billion subscribers worldwide. You know, maybe, it's possible. But, clearly, the market is definitely valuing it as that. This is now one of the biggest companies in the world. And they do one thing really, really well, and the market seems to appreciate the growth in subscribers.
Hill: Alright, we're going to stick with video, go to a company with a much smaller market cap, although it is getting larger today, and that's Roku. Roku shares are up 12% this morning on the announcement that Roku is going to offer access to Disney's new ESPN+ video streaming service. On, the surface, that just seems like a good move for Roku, and I could see the stock bumping up a little bit on that partnership. 12% seems a little high to me, but, you tell me.
Argersinger: No, I don't get the move, either. In fact, I don't really get Roku. [laughs] Maybe we should start there. Roku is essentially a nice interface for you to access all your entertainment apps in one place. There's other things you can do. But what I don't get is the value proposition of Roku vs., say, my PlayStation 4, which does a lot of the same things, or any smart TV nowadays, which can bring together all of your apps, as long as they're connected to a broadband connection. We're going to have Dylan Lewis on the show at some point and tell us, because I just don't understand this business well enough, and I can't understand why it's trading out the valuation it is.
Hill: And when you're looking at Netflix's business model, it's really easy to understand. It's a subscriber model. Roku's is a little tougher. Overwhelmingly, Roku is streaming a lot of Netflix, and that's great if you're Netflix. Roku is not really making nearly the amount of money off of that streaming that Netflix is. By the way, this seems like a pretty nice move for Disney, because they are looking to get the ESPN+ app into as many people's devices as possible, so I get why they're doing it. I'm not really sure where the value proposition is for Roku.
Argersinger: No, I don't understand where they sit in the value chain of all this. They are, in my view, a hardware device, even though it's kind of built in nowadays. But, it's nothing beyond Amazon Fire TV or Apple TV or just a smart TV. I don't understand, I don't get, competitively, where they sit. Now, as you said, Disney, with their ESPN+, similar to Netflix, they're just trying to get it in front of as many people as possible and try to hook in subscribers. And Roku is a popular platform right now for doing that. I don't see a lot of long-term value for Roku, but right now a lot of people use Roku. And now that that's there, that's good for Disney.
Hill: Absolutely, it is good for Disney. And I think what's similar in the case of Netflix and Roku and really all of these -- Hulu, Amazon Prime -- they're all trying to not just get as much content as they can without drastically overpaying for it, but they're also trying to appeal to as many pockets as they can, as many demographics. So, in the case of Netflix, it's -- I'm right there with you, Cloverfield, that's not my type of movie, but I'm interested in the stand-up specials. I'm interested in original series, as well as older series. Right now, in my house, as a family, we're binge-watching Parks and Recreation, which is great, because everyone can enjoy it. But, I think in the case of Roku, everybody knows ESPN. That's a brand that they don't have to spend a lot of time and energy explaining to people. So, again, it seems like a plus, I just don't know if it's a 12% plus.
Argersinger: I totally agree.
Hill: By the way, speaking of ESPN, I should mention, on Motley Fool Money this weekend, our guest is going to be Jim Miller, who may be best known for writing the ESPN book, Those Guys Have All the Fun. He also has the Origins podcast. The first season was about Curb Your Enthusiasm and the second season was about ESPN. Later this week, going to be sitting down with him, and if anyone knows ESPN inside and out, it's Jim Miller, so we're definitely going to be digging into the new app and what it means for Disney and more.
Argersinger: Do you think you're going to give it a try, ESPN+?
Hill: I think at some point, I probably will, but I'm still one of those people who has cable in the home, so I already have ESPN. I need more time, that's what I need. If I had more time --
Argersinger: Well, yeah. And that's a great point with all of these things. They're all competing for our time. There's a limited amount of time.
Hill: By the way, how great was that line from Reed Hastings, when talking about competition, and he said, "Sleep." [laughs]
Argersinger: That's a hall-of-famer.
Hill: We'll stick with video for a minute or two longer. Now that iQiyi is public -- you've talked about this before, is this of interest to you? Is this a stock you've already bought, or it's on the watch list? And for those who don't know, iQiyi was essentially spun out of Baidu (BIDU 0.84%). So, the Google of China spins out the Netflix of China. And as you said before, it seems like, if nothing else, it's a win for Baidu shareholders, because Baidu still has the ownership stake.
Argersinger: Yes, big majority ownership stake. This was rare for me, I don't think I've ever done this, ever -- I bought iQiyi the day of the IPO. Historically, that's not a great time to buy a stock, the day of its IPO, because it's coming in with a lot of momentum, it's priced very high, it's goosed up the numbers, use your excuse. But, I'm just so compelled by the position of this company relative to its market opportunity, its relationship with Baidu, and the fact that it's grown subscribers in China from 10 million at the end of 2015 to more than 60 million now as of February. And I imagine, just like Netflix, they're adding several million net subscribers a month now. So, I'm very excited to see where this goes.
The Chinese market is interesting in the sense that, I think it's going to come down to a few players. They don't have the cable legacies that we have here in the U.S., there's just not a lot of competing time, in other words. So, it's really coming down to, I think, to iQiyi, controlled by Baidu, you have Tencent, which has a big video service, and then you have Alibaba, which also owns a stake in a popular video streaming service. In terms of mobile, these three are really competing for everyone's time. And I think iQiyi has a little bit of the edge right now. They have a relationship with Netflix, which I think is only going to help. But, they have some of the most popular TV shows and films in China. So, I just think a lot of people are going to gravitate to that platform.
And the stock, the market value of the company right now, $14 billion. That's less than a tenth of the value of Netflix, but it has roughly half the subscribers. That's a really simplistic view of it. There's no way I can assign the same lifetime value to an iQiyi subscriber as I can to a Netflix subscriber, but if iQiyi can become one of the leading streaming services in China -- if not elsewhere, but certainly in China -- it's going to be a much, much bigger company in the future.
Hill: Yeah. And this really is yet another industry where there's going to be more than one winner.
Argersinger: Oh, totally.
Hill: When we talk about the war on cash, and Jason Moser a year ago said, "I'm buying a basket of stocks that are competing against cash." I mean, you could do a whole lot worse than to take a chunk of your portfolio and make it the war on cable basket. [laughs] And just say, "I'm going to buy a little bit of Netflix. Sure, I'm going to throw a couple of dollars at Roku, because who knows, and throw iQiyi in there as well."
Argersinger: And Disney, with what they're doing, and eventually, hopefully by the end of this year, having a majority stake in Hulu, which I think is another one of the big players. Yeah, buy a basket of a bunch of these companies, and I think you'll do very well. And it's certainly where entertainment is going, there's no question about that.
Hill: Last thing before we go, because I name-checked you on yesterday's episode in talking about the upcoming earnings season, is there a company this earnings season that you would love to see put up a terrible quarter and have some irrational selling against so that you could say, "I'm going to pick up a couple of shares at a cheaper price."
Argersinger: I'll give you two. One I already mentioned, which is Tencent, which is a company that there's so much to admire about. Where they are competitively in China is essentially China's largest social media company. It's one of the planet's biggest video game publishers. So much going for it. Video streaming, as we mentioned. It's a massive company that's had a huge run, and I'd love to see them take a hit.
Then, one company that I follow very closely is a company called Atlassian, ticker TEAM. It's an international software company. They own Trello, which is a workforce collaboration --
Hill: Oh, yeah! We use that all the time.
Argersinger: Yeah, we use it at The Fool. Really great business, run by a couple of founders. So expensive, though, on a valuation basis. But, just doing a lot of great things, and I would love if the market just hated them for one quarter or two and I could buy their shares cheaper.
Hill: The ticker symbol is TEAM?
Argersinger: TEAM. It is. They're a team collaboration software business, so it makes sense.
Hill: Matt Argersinger, thanks for being here, man!
Argersinger: Thanks, Chris!
Hill: As always, people on the program may have interests in the stocks they talk about, and The Motley Fool may have formal recommendations for or against, so don't buy or sell stocks based solely on what you hear. That's going to do it for this edition of Market Foolery. The show is mixed by Dan Boyd. I'm Chris Hill. Thanks for listening! We'll see you tomorrow!
