A 35% drop in a stock's value is hard to stomach. When it happens in one day, it feels even worse. That's what happened to Netflix's (NFLX 0.50%) stock on Wednesday after it reported first quarter earnings. However, the meltdown was deserved due to its membership dropping for the first time in more than 10 years. The company reported that it lost 200,000 subscribers in the quarter and anticipates losing a whopping 2 million more in Q2.
After trading for more than $700 last November, the stock is down more than 67% from its all-time high. Anyone who bought at those levels or within the previous four years is now in the red. Is it time to purge your portfolio of Netflix stock?
Image source: Getty Images.
Is Netflix's content worth paying for?
For more than a decade, people have subscribed to Netflix and enjoyed on-demand streaming content. Now that nearly every content creator has a streaming service, Netflix's appeal has dropped. They've lost shows and movies to the original studios and have had to generate their own to fill the platform. If this content were the best, Netflix likely wouldn't be losing subscribers. Just ask your friends if they think the majority of Netflix's original content is good, you might hear a negative answer.
This content isn't cheap either. From 2016 to 2021, Netflix spent more than $70 billion on content. For context, its current market cap is $100 billion.
In the same period, Netflix's standard pricing package (high definition HD and two screens) has risen from $9.99 to $15.49 per month as of the most recent price hike in January. In a time with several streaming options, Netflix may have just proven it has lost its pricing power.
More revenue ahead?
Before investors write Netflix off for dead, they should examine the rest of the quarter as it still posted solid numbers in metrics not dealing with subscribers. Quarterly revenue was up 9.8% YOY (year-over-year), and Netflix generated a 25.1% operating margin. While management is projecting this margin to fall to 21.5% in Q2, sales are expected to rise another 9.7% YOY.
NASDAQ: NFLX
Key Data Points
Some of this revenue will likely come from Netflix's decision to crack down on password sharing. Many viewers are using someone else's Netflix account, and Netflix will start monetizing this practice shortly. According to management, it has already been testing this feature in Latin America, and Netflix will roll it out in the short to mid-term time frame.
Another feature potentially coming is a lower tier, ad-supported platform, something co-CEO and founder Reed Hastings has historically been against. However, he admitted in the conference call that Netflix is now open to that opportunity to give consumers more options when it comes to Netflix subscriptions.
These two revenue streams could provide Netflix with a solid sales boost, and the ad-supported tier may bring back some departed customers. This isn't the first time Netflix has found itself in a pickle (remember when it split its streaming and DVD business?), and Hastings has led the company to new highs every time.
Is Netflix stock at this low price a buy or a sell?
Predicting Netflix's future from this point in time is nearly impossible. If I had a crystal ball to see three years into the future, I wouldn't be surprised to see Netflix struggling or booming. Unfortunately, investors don't have this luxury; they must take action or hold onto the stock.
Image source: Netflix.
After this massive sell-off, Netflix trades for a bargain 20 times forward earnings. This valuation is practically the same as Home Depot (19.5) and Johnson & Johnson (17.6). The market is pricing Netflix as a market grower -- a projection that seems low considering management's goal is to sustain double-digit revenue growth, which they refer to as a "slow" period. With the group of companies Netflix is currently valued with, double-digit growth is a great year for them.
Investors shouldn't buy or sell a stock based solely on valuation, they must also examine the business. If consumers have to make budget cuts, Netflix may be one of the first luxuries to go, as it isn't the "new" service. Plus, some of Netflix's content has been on the platform for a long time, and its original content isn't always the greatest.
If more subscriptions are lost, investors should expect Netflix's revenue growth to taper off. Additionally, Netflix may see pushback on its multi-household pricing plan or future price increases. These missteps could trigger a new wave of selling or negative revenue growth.
Netflix's falling membership metric stole the quarter, yet its other numbers looked decent. While every news outlet has plastered Netflix's 35% drop and subscriber loss, investors need to dig deeper to determine what is going on. I'm not a Netflix shareholder and have no plans to become one soon. There are too many better potential investments to consider putting my money here. For current shareholders, you'll need to make a judgment call on Netflix's business prospects, as it could get worse for Netflix's stock in the future.
