Netflix’s (NFLX) - Get Report streaming video traffic is hitting all-time highs amidst the Covid-19 shutdown, and Wall Street loves it. The stock is down only 11% from its 52-week high at a recent $348.54, and shares have surged by 17% since the most onerous quarantine measures came into force in the U.S.
But the lockdown also presents a quandary. Hollywood is on hold, which means Netflix can’t produce any new content, limiting its ability to bring new shows to subscribers. There may be months worth of content still to appear on Netflix, such as the Korean thriller Time to Hunt, which is expected to show up on April 10. But is it enough to keep subscribers?
"When you’re selling an all-you-can-eat subscription and there’s no new content coming into it, that’s a problem,” says Laura Martin with Needham & Co., who rates the shares Underperform.
Netflix, which sells a fixed subscription price, is not getting any of the upside in that increased usage, Martin observes. Martin instead recommends shares of Roku (ROKU) - Get Report, which can sell more advertising as video viewership surges.
No one disputes the production risk, but bulls on Netflix don’t see a serious threat any time soon.
“The thing to remember is that everyone is likely in the same boat,” observes Matthew Thornton, who follows Netflix for SunTrust Robinson Humphrey and rates its stock a Buy, with a $402 price target. “Most studios will likely be unable to keep production up and running at any scale and without delays, whether it's Netflix or Disney or Starz or any other.”
In the meantime, what’s in the catalog is highly desirable, Thornton observes. “Netflix is way ahead of their competitors in terms of local, international content,” he says.
The pressure on Netflix is greater than it would otherwise be during a content slowdown because competitors seem finally to have gotten their act together with their offerings, including, most prominently, Walt Disney’s (DIS) - Get Report “Disney+” and Apple’s (AAPL) - Get Report “Apple TV+." Data from Nielsen show that all streaming is on the rise generally, notes Needham’s Martin, not just Netflix.
That increased competition shows up in Netflix’s subscriber numbers. Martin notes Netflix’s net subscriber additions — how many people it adds net of those who churn off the service — have been negative “for most of the past 12 months,” and that churn hit a high of 3% in November, as Disney+ went live.
Bulls think the trends are a blip. "[Disney's launch] was a headwind, but we are past the worst of that," says Jason Helfstein of Oppenheimer & Co, who rates the stock a Buy with a $400 price target. Wall Street expects Netflix to add slightly fewer paying subscribers this year, net of churn, compared to last, at 26.8 million, ending the year with a total of 193.8 million subscribers globally, including 61 million in the U.S.
Options for Netflix to fill the gap during this time of stalled production include licensing more catalog content, something that Thornton expects Netflix may “take a harder look at.”
There probably aren’t a lot of very popular titles that would have the same draw as Seinfeld, for which Netflix reportedly paid $500 million last year for streaming rights starting in 2021. But it’s possible new properties will open up if content owners suddenly need to find more revenue sources should a recession hit.
“The question is whether the studios find a way to unlock more content,” says Oppenheimer's Helfstein. “One would imagine in this environment you focus on maximization of cash flow,” noting Disney’s parks business is taking a hit during the pandemic.
Of course, recession would raise another concern for Netflix, which is whether strapped consumers will dump the service to save money.
Netflix has been through tough times before, notes Oppenheimer’s Helfstein, having started its streaming operation just before the Great Recession of 2008.
“Subscription-based services tend to do well during short-term economic shocks,” says Helfstein. “If people are looking to cut back on their spending, Netflix is a cheaper option than going out.”
Whatever happens to subscriber numbers, Netflix’s financial picture is likely to throw the Street some curves this year. It’s expected Netflix will continue to tap the debt markets, but how much it will borrow is now a more complex question. If production costs remain subdued, Netflix might not need as much new debt. But if churn rises, Netflix might need more capital to cover increased marketing expenses.
Netflix had $5 billion in cash at the end of 2019, $14.9 billion in long-term debt, and is expected to burn through $2 billion this year, though that could be higher or lower depending on shifting development and marketing expenses.
For the time being, while investors sit inside their homes, glued to the British thriller Broadchurch on Netflix, they can ponder another mystery, which is what exactly will make people stick around or churn away.
“People have been consuming Netflix for the past ten years,” observes Needham’s Martin. “So how long will it be before people tire of what’s left?”