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Is Netflix Still a Growth Stock?

By Demitri Kalogeropoulos – Oct 25, 2021 at 6:35AM

Key Points

  • Growth is dropping below a key milestone.
  • There's room to expand the business with higher engagement.
  • Improving earnings and cash flow imply solid returns even at slower expansion rates.

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It's getting harder to push sales growth above 20%.

Netflix's (NFLX 1.35%) latest earnings update contained plenty of good news about the business. The streaming video giant is speeding up its subscriber gains in the second half of 2021 thanks to a flood of new TV and film content. Cash flow and profit margins are expanding, too, implying soaring earnings over the next few years.

But Netflix posted a second consecutive quarter of sales growth below the 20% mark that it used to routinely surpass. And co-CEO Reed Hastings and his team are projecting just 16% higher sales in the final quarter of the year. Is this the beginning of the end of Netflix's huge growth days?

Let's take a closer look.

A family watching TV together.

Image source: Getty Images.

The big prize

That 20% level might seem arbitrary, but it's a good indicator of high-quality growth. Netflix executives believe its an important milestone for the business.

CFO Spencer Neumann said in July that the pace was necessary to keep operating margins rising at the same impressive rate investors have seen over the past five years. Adding 3 percentage points to profitability each year is "accomplishable for sure," he said, "when we're growing in that 20% or so revenue [pace] per year ."

Hastings stressed the same figure later in the conference call, saying "the big prize is keeping revenue growth at 20%."

NFLX Operating Margin (TTM) Chart

NFLX Operating Margin (TTM) data by YCharts

Tough going

The bad news is that Netflix might struggle to boost sales at that rate from here on out. Sure, the 2021 fiscal year is an outlier because it is going up against the pandemic-influenced prior year that saw the video giant add 24% to its sales footprint as it gained a record 37 million subscribers. It makes sense that a slowdown would follow that surge, especially given the company's temporary pause in new content production.

But Netflix is also big enough today that it is getting harder to move its revenue needle. It will enter 2022 with roughly 222 million subscribers, meaning it would need to add over 30 million paying users to boost its base by 15%. Add higher average monthly prices, and revenue might get close to that 20% mark in that optimistic growth scenario.

Different kinds of growth

The good news is that Netflix has lots of room to raise its prices over time. It still accounts for a tiny proportion of overall TV viewing hours -- less than 10% today. By attracting more engagement with its original content and new video game services, the company might easily reach average monthly revenue that's above the current $14.50 in the U.S. market.

And, even if Netflix comes up short of that 20% annual revenue mark in 2022 and beyond, investors should see huge financial returns from the business.

Netflix should start gushing free cash flow beginning next year after breaking even for the first time in 2021. Operating margin will cross 20% of sales this year, too, up from 10% in 2018.

That means shareholders are likely to see strong growth over the next few years, both in subscribers and average spending, plus increasing profitability. Those are impressive factors for a business with $30 billion of annual revenue, which might be past its days of posting 20% or higher annual growth.

Demitri Kalogeropoulos owns shares of Netflix. The Motley Fool owns shares of and recommends Netflix. The Motley Fool has a disclosure policy.

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