Netflix (NFLX 0.43%) built the first primary streaming service without the help of an ad-supported tier. In fact, founder and co-CEO Reed Hastings has often expressed his disdain for ads on the platform.
However, Netflix has seemingly switched to the dark side with its new, ad-supported tier. Starting Nov. 3, Netflix will launch its new "Basic with Ads" package that costs $6.99 a month and is available in 12 countries.
This announcement (although not a surprise, as Netflix has been planning this for a while) can affect the company's trajectory. With the stock down over 60% year to date, could this be the shot in the arm Netflix needs to rebound?
Netflix knocked its offering out of the park
The ad format on Netflix's platform will consist of 15- to 30-second ads viewed before and during shows. Overall, the number of ads will be about four to five minutes of ads per hour, which is comparable with other ad-supported tiers of streaming services like Disney+ and Paramount Plus.
Additionally, most of Netflix's content will be available, except for a few titles due to licensing restrictions, which Netflix says it is still working on. However, users won't be able to download titles, aligning with how other streamers run their ad platforms.
The most significant part of this announcement is the price point. Netflix undercut Disney+'s, HBO Max's (part of Warner Bros. Discovery), and Hulu's ad tiers by at least $1.
I think this is a genius move by Netflix's management, as it gives Netflix a competitive offering instead of being the most expensive subscription on the block (its "standard" plan costs $15.49 per month). Now, if consumers are deciding if they want to add another service, an ad-supported Netflix may beat out its competitors just due to the vast library of content it has.
Still, it will be a tall order to reverse Netflix's current trends.
Netflix must work hard to turn its business around
In the second quarter, Netflix lost nearly 1 million subscribers worldwide and 1.3 billion in the U.S. and Canada alone (other geographical areas gained customers to offset the U.S. and Canada's lost subscribers). Despite these losses, Netflix grew its revenue by 8.6% YOY (year over year), mainly due to price hikes.
Its earnings per share (EPS) also rose $0.23 to $3.20 in the quarter, showing it still grew its profitability despite challenging circumstances.
Q3 results will be announced on Oct. 18, so they won't include any benefit from Netflix's new tier. However, Netflix believes its revenue will grow 5% YOY, with currency effects causing a 7% headwind (revenue growth would be 12% without currency effects).
Q4 will be the first quarter where the ad-supported tier will benefit, but it won't be until Q1 2023 that we have a full quarter of its results. That means if you take a position in Netflix's stock now because of the ad-supported tier, you'll have to wait another six months to hear how it's truly doing. But six months isn't long to wait if you view Netflix as a long-term investment opportunity.
Image source: Netflix.
With the stock only trading for 20 times earnings, there isn't much risk involved with purchasing the stock. Additionally, suppose the economy plunges into a recession. In that case, Netflix may see a renewed viewer base (especially through its ad tier) as consumers will cut out more expensive activities (like eating out or going to movie theaters) in favor of a night at home catching up on a new series. This growth happened in 2020 for obvious reasons (lockdowns), but Netflix also thrived during the Great Recession in 2008 and 2009.
I'm not sure if this ad-supported tier has the power to change the trajectory of Netflix (it may have saturated the market), but it could certainly help bring back some subscribers who axed their subscriptions. Additionally, when Netflix cracks down on password sharing (another publicly addressed move), some customers may migrate to an ad-supported tier.
Netflix has so far done everything it needs to do for the ad tier to be successful; now it just needs to convince consumers it's a quality product. At Netflix's low valuation, I think now could be a solid opportunity to open a position in the company. Still, I don't expect the stock to reach its 2021 highs for some time, as investors will need to see its success before getting bullish on Netflix again.
