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5 Reasons to Buy Netflix Stock and Never Sell

By Brian Stoffel – May 17, 2018 at 4:40PM

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Is it expensive? Yes. But reason No. 4 should convince you to buy anyway.

It's easy to forget that just ten years ago, most Netflix (NFLX 2.22%) subscribers were checking their mail on a daily basis, hoping that those red envelopes had arrived to binge on their favorite shows. The world comes at you fast!

Today, that side of the business is nothing more than an afterthought. Streaming is the new game in town, and it has taken the world by storm. Netflix was one of the first to realize that trend, and it has rewarded investors handsomely: Shares are up more than 7,000% over the past decade.

Man lying on a bed and watching a streaming series on a laptop computer

Image source: Getty Images.

But does that mean the stock's best days are behind it? Shares, after all, are pretty expensive -- trading at over 220 times trailing earnings. And the company has actually lost $1.8 billion in free cash flow over the past twelve months.

Despite that, I still think there are five big reasons to buy Netflix stock at today's prices and never sell.

1. A founder-led company with skin in the game

Netflix was born when founder and current CEO Reed Hastings had to return a movie to Blockbuster after the due date...and pay some hefty fees. There had to be a better way, he thought; Netflix's DVD-by-mail business was the solution.

I always like investing in founder-led companies because over time, the company itself becomes an extension of its founder. For better or worse, that individual's legacy and ego are tied to the long-term value that the company produces. That kind of attachment gives me confidence that the CEO is focused on building long-term value.

In addition, while it's not the highest level of insider ownership I've ever seen, I'm heartened to see that Hastings owns 2.5% of shares outstanding -- worth roughly $3.5 billion at today's prices. In addition, his employees give him an 88% approval rating on

2. Its vision has given the company an enormous head start

In 2007, the word "streaming" didn't even appear in Netflix's annual report. Five years later, it was used 216 times! The company didn't waste any time experimenting with the concept and then rolling it out on a massive scale.

Of course, that didn't all play out in the smoothest fashion. Netflix completely botched the separation of the streaming and DVD businesses with the Qwikster debacle. But Hastings was willing to respond to the naysayers -- he even responded to an open letter I wrote him -- and focus on growing the streaming business internationally.

That quick pivot was difficult; it was a PR nightmare, and it involved allowing the core DVD business to be cannibalized. But it was also vital. Netflix was able to roll out its streaming services across the globe in less than a decade, before the competition could even blink. As a result, it captured millions of subscribers:

Chart showing growth of Netflix subscribers

Data source: Netflix filings with the Securities and Exchange Commission. Chart by author. 2018 results only reflect subscribers at end of first fiscal quarter of 2018.

3. This isn't a winner-take-all industry

If you're a long-term investor, there are few things more worthy of your investigation than a company's economic moat. At its core, a moat is what keeps customers coming back for more year after year, while holding the competition at bay for decades.

For a long time, I believed Netflix had a narrow moat, and it would eventually succumb to competition taking business away. It's not that hard, after all, to simply cancel your Netflix membership and focus on the next streaming service you want.

But then I looked at my own home's spending habits when it came to streaming. We might go months without watching a Netflix show, but that didn't mean we canceled our subscription. It also didn't mean that we would shy away from using Amazon Prime streaming or Hulu. The prices for these services are so reasonable that we were perfectly content subscribing to them all -- this isn't a winner-take-all industry.

So I wouldn't necessarily say that Netflix has high switching costs. But because its prices are so low, and are usually billed automatically to credit cards without any effort, the revenue is very sticky.

4. There's a sneaky network effect at play

Normally, when we think of network effects, we think of companies like Twitter or Facebook. With each additional user that joins these networks, the value of the platform increases. After all, who would want to join a social network if no one else they knew was there?

But that's not the only way that network effects play out. In some ways, by joining Netflix, you become part of a huge buying group: The subscription fee that you pay is pooled together with over 100 million others. As more people join, there's more money for Netflix to spend on both licensed content and original content.

For investors, original content is key. That's the hook that normally draws nonsubscribers into the ecosystem. And as they are drawn in, the purchasing power of Netflix increases. It's a virtuous cycle that keeps the company churning out more original content and drawing in more subscribers.

5. There is still a lot of room for growth

Right now, Netflix is situated in just about every country in the world, save China, North Korea, and Syria. Geographic expansion may be close to over, but there are still lots of inroads to be made in its existing markets. Internet penetration in much of the world is still nowhere near where it is in developed economies. As more and more people come online -- primarily through mobile devices -- Netflix's cheap streaming option will have more potential customers.

Just as importantly, there are still lots of areas where Netflix can expand. While the company hasn't made any overtures as of yet, huge swaths of content -- like live news and sports -- are still available for the company to explore. Once the platform has been built out and millions of users are signed on, it wouldn't be inconceivable for Netflix to offer ancillary streaming at an extra cost for those willing to pay more.

How I'm approaching Netflix stock

When it comes to Netflix stock, my skin is firmly in the game: Shares of the company currently account for over 3% of my family's real-life holdings. At the same time, I'm not jumping to add more; as I said, the company is free cash flow negative and its stock is extremely expensive. That shouldn't stop you from buying -- and holding -- some shares. It's just worth understanding that they tend to be volatile, and there's nothing wrong with building your position over time.

John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool’s board of directors. Brian Stoffel owns shares of, and The Motley Fool owns shares of and recommends, AMZN, FB, Netflix, and TWTR. The Motley Fool has a disclosure policy.

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