Netflix (NFLX 0.97%) has proven that it can win in streaming in a huge way. Not only is the business highly profitable, but it has successfully gone toe-to-toe against some of the biggest content producers in the world. It has crafted a great growth story and turned a once-risky stock into a blue-chip investment.
As Netflix has grown, however, so too have investors’ expectations for it. The company’s market cap is more than $460 billion, making it one of the 20 most valuable stocks in the U.S. market. But recently, when Netflix reported its third-quarter earnings, the results fell short of Wall Street’s targets. Could this spell trouble for the stock?
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Netflix blames its big earnings miss on a tax dispute
Last week, Netflix released third-quarter results that were by no means impressive when compared to analysts’ expectations. Revenue of $11.51 billion merely met expectations. But more troubling was its massive miss on the bottom line: The company’s adjusted earnings per share of $5.87 came in nowhere near the $6.97 that Wall Street was looking for.
The problem, according to Netflix’s management, was that a big tax dispute with Brazilian authorities resulted in $619 million in unexpected expenses hitting the company’s books this past quarter. That’s considerable given that the company’s net income was $2.5 billion. Such a charge would easily have made the difference between strong and just mild earnings growth. The company says the expense, which relates to multiple periods over the past couple of years, reduced its operating margin by more than 5 percentage points. But management said that the Brazil issue shouldn’t have any significant impact on its future results.
Unfortunately, the explanation did not prevent the stock from slipping following the quarterly release.
Is Netflix’s valuation too high?
Tax dispute or not, investors clearly expected better from the business. While a one-time miss on the bottom line due to an unexpected issue may be forgivable, investors may be more concerned that the top line didn’t clear analysts’ expectations with ease.
Netflix’s revenue rose by a healthy rate of 17% last quarter, but with growth in its ad business and the surging popularity of KPop Demon Hunters (its most popular movie ever), investors may have been expecting the top line to be a bit more impressive. The problem is that with the streaming stock trading at a price-to-earnings multiple of 50, it’s not going to be easy for Netflix to justify such a high premium without robust financials. By comparison, the average S&P 500 component trades at a P/E multiple of only 25.
Analysts who follow Netflix, however, believe it hasn’t run out of steam. Their consensus 12-month price target is just under $1,353 per share, more than 20% above where the stock trades right now. While some analysts lowered their price targets following the release of Netflix’s Q3 numbers, overall, they remain fairly bullish on it.
Today’s Change
(-0.97%) $-10.71
Current Price
$1089.70
Key Data Points
Market Cap
$461B
Day’s Range
$1088.37 – $1106.28
52wk Range
$747.77 – $1341.15
Volume
197K
Avg Vol
3.4M
Gross Margin
48.02%
Dividend Yield
N/A
Why Netflix still looks like a good buy
Share prices of Netflix are up by about 24% this year (as of Oct. 28), and the stock continues to attract many growth investors. It’s not a cheap stock to buy by any stretch, but with the company’s growing library of movies and TV shows and impressive operating margins that are well above 20%, the business looks to be on a terrific trajectory, especially as its ad-supported plans grow in popularity.
In the short term, the stock could conceivably fall further in value simply due to concerns about the U.S. economy. But if you’re a long-term investor and are willing to hang on for years, Netflix could still be a good growth stock to buy and hold. It’s a highly innovative company, and its premium valuation does look to be justifiable given its impressive growth prospects.