Is It Time to Sell Netflix Stock?

Netflix (NFLX 1.74%) has been one of the defining stocks of the 21st century, rising nearly 27,000% since its IPO. However, the past few years have been a rollercoaster ride for shareholders as the company enters a new business phase. Over the past five years, Netflix's stock is only up 2%, but within that time frame, it was down as much as 47% and up as high as 120%.

With that kind of volatility, investors might wonder if it's time to move on from Netflix and place their investment dollars elsewhere. So let's look at Netflix's prospects and decide what to do with the stock from there.

Netflix is no longer a growth stock

When the COVID-19 pandemic struck in 2020, Netflix experienced a massive demand boom as people suddenly had nowhere to go. Now that initial impact of the pandemic has dissipated, Netflix has lost a few subscribers but has kept the lion's share of them. Its global streaming paid memberships rose from 182.9 million to 232.5 million from first-quarter 2020 to Q1 2023. However, its growth has ground to a near-halt, as Netflix only grew its membership count by 4.9% in Q1. That's not an abnormal slowdown either; 2022 showed almost no growth too.

Data source: Netflix. YOY = Year over year.

With slow membership growth, it's even harder to grow revenue. With Netflix's revenue barely squeaking higher at 3.7% in Q1, it doesn't have much room for expenses to grow. The second quarter doesn't look any better, as management gave guidance for only 3.4% revenue growth.

This is a problem, as expenses cannot grow faster than its already slow revenue growth, or the company will decrease in profitability. While it was responsible with its operating expenses (they only increased by 2% in Q1), the cost of revenue skyrocketed 13.5%, causing its operating income to fall by 18%.

Netflix is struggling, but to get the full picture it's necessary to examine how its new business initiatives are going.

Investors got their first look at how Netflix's cheaper ad-supported tier is performing, and the results were encouraging. In the U.S., the subscription cost plus ad revenue generates more money than the standard plan ($15.49 per month). Additionally, Netflix is seeing a positive result in its crackdown on password sharing in a few of its markets, like Canada, Spain and New Zealand. When this change comes to the U.S. in Q2, Netflix expects a quick cancellation spike, followed by a return to growth shortly after.

However, both initiatives present a problem: They are one-time factors. After Netflix captures what audience is left with a cheaper ad tier and monetizes password sharing, these items don't contribute anything to growth one year later. As a result, Netflix may see a year of decent revenue growth, but with the company already capturing a vast majority of the market, it won't stay at those levels for long.

That's why I think it's prudent to consider selling here, as this stock has had a massive return in 2023.

But Netflix stock still trades at a growth-like valuation

So far in 2023, Netflix's stock is up 9% but has gained over 70% since bottoming last May. While the stock is still down over 50% from its all-time high, Netflix may never regain those levels.

Although the company is slowly growing revenue, the stock trades like a growth stock.

NFLX PE Ratio data by YCharts

At 35 times earnings, Netflix is an expensive stock without the growth to show for it. Even if you utilize forward projections, the stock trades at 29 times earnings.

So does that make Netflix's stock a sell? Not necessarily.

If you believe in the company and think its advertising tier can drive meaningful growth for some time, it could be worth holding on to your shares. However, I'd urge investors to look at past performance to determine if that's a wise view.

At its premium valuation, the stock is far from a buy. With much better values available in the market and more significant growth prospects, it may be worth trimming some Netflix shares to purchase those stocks, as they can likely provide greater upside than what Netflix can in its current state.