A bottle of decent wine. A cab ride into town. A pair of new flip flops. A month's subscription to Netflix (NASDAQ:NFLX)is cheaper than any of those things ... even in Costa Rica. On the heels of another breakout earnings report from the video streaming leader, I sat back to consider how Netflix stock continues to produce such amazing results.
Then I looked around the tiny, rural, Costa Rican neighborhood my family and I live in (for half of the year) and the answer hit me like a ton of bricks: once customers are signed on, it doesn't need to worry too much about competition. That's because of its cheap price tag ... even here in rural Costa Rica. In many ways, it doesn't need much of a moat -- the company doesn't have to worry about users signing on for other similar services -- because it doesn't necessarily mean they'll be leaving Netflix.
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The most important metric for any investor to study
In my nine years as a Foolish investor, I've come to realize that a company's sustainable competitive advantage -- often referred to as a its "moat" -- is the single most important thing to evaluate. In short, a company's moat is what -- if anything -- separates it from the pack; the special something that keeps customers coming back for more.
There are different types of moats that companies can enjoy. Here are four examples from companies we all know and use.
|
Company |
Moat |
Explanation |
|---|---|---|
|
Coke |
Brand |
People will buy Coke over cheaper brands simply because they're familiar with it, and trust it. |
|
Facebook |
Network Effect |
With each additional user, non-users are incentivized to join, creating a virtuous cycle. |
|
Amazon (NASDAQ:AMZN) |
Scale |
Its enormous network of fulfillment centers allows it to deliver packages quicker than anyone else. |
|
Paychex |
High Switching Costs |
Companies build whole systems around paycheck payment. Switching providers would be expensive, cumbersome and headache-producing. |
This certainly isn't an exhaustive list, but it gives you an idea of the types of things I spend most of my time evaluating when picking stocks for my portfolio.
Which brings us to the curious case of Netflix
I own shares of Netflix, but I've always been concerned about the robustness of the company's moat. Content owners like Disney, competitors in distribution like Amazon (through its Prime Video option), and hybrids of both -- like Hulu -- are prime causes of my concern. What's to stop any of these from offering something as good or better than Netflix?
Then I stopped worrying, because ... it simply doesn't much matter what the company's moat is.
Here's what I mean: My wife and I have been Netflix subscribers for over a decade. We go through spurts where we binge watch shows ... and periods when we don't watch anything at all on it. We like the original content, but we like other stuff, too. We even pay for other services, like Amazon Prime Video.
But we've never once considered cancelling our subscription. The monthly payments are auto-billed, and are so low that we don't even really notice them when they pop up on our credit card statement. At this point, adding additional streaming services like Hulu or HBO Now wouldn't mean that we'd think about dropping Netflix. The new and the old would just supplement each other.
In the real world, none of these revelations are surprising, but for an investor focused on moats, I'm at a loss. What do we call this? Service-costs-that-are-so-low-it-doesn't-matter? That seems a bit wordy. Would it be an anti-moat? I'm not really sure.
The bottom line is what makes Netflix appealing for non-users is increasingly becoming original content. And at these prices, it doesn't need to offer 10 blockbusters that appeal to each potential new subscriber to get them to sign on. It just needs one.
But of course, it has so many more than one. With popular shows like House of Cards, Orange is the New Black, The Crown, Daredevil, Arrested Development, BoJack Horsemen -- just to name a few -- and the volumes of international-only originals, the company easily offers enough unique content to capture huge additional swaths of the globe's viewing audiences.
Other "anti-moat" companies
In a lot of ways, Amazon benefits from some of the same advantages. The company's Prime memberships is often talked about on an annual basis of $99. But if we break that down into monthly payments -- the way that Netflix does -- we see that Prime only costs $8.25 per month. That's cheaper than Netflix will be after recent price increases go into full effect.
As other entertainment and distribution companies enter the fray, they will no doubt start to benefit from the same phenomenon. Hulu Plus costs $7.99, and HBO Now is available for $14.99 per month. Obviously, any user can reach a saturation point where the number of services one is subscribing to can become prohibitively expensive. That's where Netflix's first-mover advantage -- as well as its data trove that gives it the upper-hand in knowing what subscribers truly want to watch -- really comes into play.
This isn't to say that you should pile into Netflix stock right now. But there's a reason that the stock has advanced over 1,700% since August of 2012, even though analysts have consistently questioned it's ability to handle the competition: once customers are locked in, "the competition" is much less threatening than we've been led to believe.
