Longtime Netflix (NASDAQ:NFLX) shareholders have plenty of reasons to love the streaming giant. Yet there's another company that looks today a lot like the entertainment giant did back in 2007, when it was just getting started in video streaming.

That company is Peloton Interactive (NASDAQ:PTON).

What makes Netflix great

Netflix is the global leader in the subscription video on demand (SVOD) business, with 193 million paid streaming memberships as of the end of June. Three key factors have made it an exceptional investment:

  • Its position as the SVOD industry leader is virtually unassailable at this point because scale begets scale in this business. Its massive subscriber base gives Netflix the ability to spend $15 billion or more on content annually -- a figure that will almost certainly continue to grow. The SVOD competition can't offer as much content because they don't have enough subscribers to justify that much spending. That's why companies like Amazon, Apple, and Alphabet aren't matching Netflix on content spending despite having the resources to do so. Netflix's industry lead on content appears rock solid.
A woman rides a Peloton bike in her bedroom.

Image source: Peloton Interactive.

  • Netflix's global growth opportunity remains massive. While 193 million paid subscribers sounds like a big number -- and it is -- it's still only about 10% of the number of internet-connected households that should exist worldwide in a couple of decades.
  • Netflix licenses and produces fixed-cost content that it offers to an unlimited number of subscribers. This is a thing of beauty because the next subscriber adds nothing to its content costs -- those have already been paid for. That means the profit margin on incremental subscriptions is extremely high.

Peloton's parallels

One might not notice at first glance, but several key aspects of Peloton's business model are similar to that of Netflix.

  • With about seven years in business, 1.1 million Connected Fitness subscribers, and 3.1 million total memberships including digital subscribers, Peloton also has a massive lead over its competition, having created the interactive home fitness category from scratch and operated without direct competition for about five years. Similar products and services started to hit the market about two years ago, but they haven't negatively impacted Peloton's growth. It also has a firm grip on mind share in the category, as evidenced by the Peloton All-Star ride with professional athletes that aired on ESPN in May.
  • Like Netflix, Peloton appears to have a massive global growth opportunity. While the addressable market for interactive home fitness equipment is unlikely to be as large as the market for SVOD, it looks substantial. And importantly, Peloton has probably capitalized on an even smaller fraction of its potential long-term subscriber opportunity than Netflix has, given that it's at an earlier stage of growth. 
  • Peloton's subscription business is similar to Netflix's subscription business. It, too, produces content for a fixed cost, which it then utilizes to generate revenue from an unlimited number of subscribers. The next Peloton subscriber is extremely profitable because the company does not have to spend anything incremental on content to serve them. That's why Peloton, like Netflix, should see substantial margin expansion over the long term.

How Peloton is different...and perhaps even better

There are several differences between the two companies as well. For example, customers who want to fully participate in the interactive Peloton experience have to buy one of its bikes or treadmills up front. That makes it more difficult for consumers to try Peloton. Netflix, of course, requires no such upfront investment by the customer.   

At the same time, that hardware investment provides Peloton with a healthy gross profit at the start of the subscriber relationship. It also drives down subscriber churn. After all, once a person pays $1,895 for a Peloton bike, they're less likely to balk at paying $39 per month for the subscription. As a result, Peloton's Connected Fitness monthly churn was only 0.52% last quarter, which implies an impressive average subscriber lifetime of 16 years.

Another difference is that many Netflix subscribers also subscribe to other SVOD services, including Amazon Prime Video, HBO Max, or Disney's Disney+ and Hulu. In contrast, most Peloton users are unlikely to subscribe to other interactive home fitness platforms. In that sense, its business -- while admittedly having a smaller and less certain addressable market than Netflix -- may lend itself to more of a winner-take-all or winner-take-most dynamic. 

Finally, Netflix will likely need to spend greater and greater sums on content to meet the varying needs of an array of demographic groups globally. Annual content spending could easily reach $20 billion or $30 billion in not too many years.

In contrast, fitness content is much more of a niche category and is less expensive to produce. It would be hard to imagine Peloton spending much more than a couple hundred million dollars a year on content, regardless of how many subscribers it eventually has. That should allow even more rapid margin expansion than Netflix.

Netflix investors should absolutely hang on to their shares, but they should also consider buying Peloton during this recession, considering the qualities it shares with that high-performing entertainment company, as well as its additional advantages.