There's little doubt that Netflix (NASDAQ:NFLX) has been among the clear winners of the ongoing stay-at-home economy: The stock is up an impressive 70% so far this year. To put that into context, the Dow Jones Industrial Average is down about 7%, the S&P 500 sits near breakeven, and the NASDAQ Composite has gained about 20%.
Given the stock's meteoric rise and the fact that Netflix's second-quarter financial report is scheduled for Thursday, July 16 after the market close, many investors are asking themselves this critical question: With the market-beating gains it has achieved so far in 2020, and with so much growth already baked into the stock price, should I consider adding Netflix right now?
An unrivaled streaming library
Netflix was already generating robust growth even before COVID-19 reared its ugly head. The company closed out 2019 with a paid subscriber count that grew by 20% year over year, and -- due to its pricing power -- revenue increased by nearly 31%. Growth in its mature U.S. market had slowed to a crawl, increasing just 4%, while international markets accounted for the lion's share of subscriber growth, up 31%.
It was the coronavirus pandemic and the resulting stay-at-home orders that kicked Netflix's subscriber growth into high gear. In the first quarter, global memberships increased by 23% year over year, adding a record 15.77 million subscribers, sailing past the 9.6 million from the prior-year quarter. Even North American subscriber growth, which had been largely stagnant, accelerated, adding 2.3 million customers, up 23%.
This all helps illustrate why Netflix's stock has been on fire, but is it still a buy?
The competition is increasing
While Netflix long had the streaming technology market to itself, its impressive growth attracted a host of competitors, which has only increased over the past several years. Longtime rivals Amazon Prime Video and Disney (NYSE:DIS)-controlled Hulu have been joined by Apple TV+, Disney+, and AT&T's HBO Max -- and that's just the paid competitors. Comcast's (NASDAQ:CMCSA) NBCUniversal is launching Peacock this week. That's just a few of the company's myriad rivals in the streaming space.
Yet, with many people subscribing to multiple services, it isn't a zero-sum game. Netflix merely needs to continue to be among the top three or four streaming video choices in order to thrive. Disney+ had 10 million subscribers by the time it launched in mid-November, but demand has remained high, spurred on by the pandemic. By the time it reported earnings in early April, that number had surged to nearly 55 million. This shows that there's plenty of room for multiple winners in the space, and Netflix is clearly one of them, even in the midst of competition.
The road ahead is long
Netflix ended 2019 with about 61 million U.S. subscribers, about half of the 120 million households in the country. Analyst Yung Kim of Piper Sandler puts the number at about 47%, but says the company has achieved just 7% penetration globally, excluding China.
If the company were to achieve a global penetration similar to what it has in the U.S., Netflix could tack on as many as 600 million additional subscribers, more than three times the 182 million paying customers currently on its rolls. While one estimate is as good as another, this shows that Netflix has a long way to go before the streaming market is saturated.
Even after setting first-quarter records, the current estimates of Netflix subscriber growth could still be too conservative. The company's management guided for paid net additions of 7.5 million in the second quarter, while analysts' consensus estimates clock in at 7.7 million, which would represent year-over-year growth of about 26%.
SunTrust Robinson Humphrey analyst Matthew Thornton argues that subscriber additions are tracking well ahead of expectations, and says data suggests that Netflix will add between 9 million and 12 million new members in Q2. His prognosis was spot on last quarter, so this bears watching. If it comes to pass, the stock could still have additional upside in 2020.
It's worth noting that the stock is by no means cheap. As of Monday, Netflix trades at 10 times forward sales -- when a ratio between 1 and 2 is considered good. At the same time, its price-to-earnings (P/E) ratio comes in at a whopping 112, while the average for the S&P 500 is about 28. It's clear that investors continue to expect impressive growth from the streaming leader for the foreseeable future.
To put those metrics into perspective, analysts are expecting sales growth of 24% in the current quarter, 23% for the current year, and 18% next year -- though Netflix has frequently exceeded expectations and the pandemic has increased the likelihood that will happen again.
The bottom line
But the key investing question is: Should you buy Netflix stock right now?
While I'm absolutely convinced that the stock is worth owning, it certainly won't be without volatility. Thus far, investors have been willing to pay up for the likelihood of continued strong growth, particularly since the pandemic is far from over and strong demand for home-based entertainment will likely continue.
Even given these circumstances and the nosebleed valuation, I would argue that investors with the appropriate long-term time horizon should buy Netflix stock and wait for the thesis to play out over the coming decade.