The Analyst Who Got Netflix Right When Everyone Else Was Wrong

BOSTON (TheStreet) -- The Netflix (NFLX) downgrade parade finally marched down Wall Street after the DVD-by-mail and movie-streaming company posted the ugliest results since it went public during the dot-com bubble in 2002.

Five analysts at research firms cut their ratings on Netflix on Tuesday after the company said Monday following the market close that it lost 800,000 subscribers in the third quarter. For Netflix investors, it's no help that analysts who recommended buying the stock only three months ago at $300 now say they should hold on to them at $75.

Among them are Goldman Sachs analyst Ingrid Chung, who pinned a "buy" rating on Netflix in March and didn't waver until today, when she cut her rating to "hold" with a $75 price target. JPMorgan analyst Doug Anmuth also said Netflix was a buy in July, a rating he maintained until today, when he downgraded Netflix to "hold" with a $67 target.

As it turns out, many analysts following Netflix thought the high-flying growth stock was still a buy at $300 a share, including those at Oppenheimer, Citigroup, Credit Suisse, Atlantic Equities, Piper Jaffray and Barclays Capital. Some of these researchers even reaffirmed their "outperform" ratings today, even though the stock has crumbled more than 70% in three months.

Tony Wible, an analyst at Janney Montgomery Scott, is among the analysts who downgraded Netflix Tuesday. He dropped his rating on the stock to "sell" with a price target of $51, which would be another 30% loss.

Unlike most of his counterparts, Wible has a long history of being bearish on Netflix. At no point did he recommend purchasing Netflix shares. His "hold" recommendation a week and a half ago, up from a "sell," wasn't an endorsement of Netflix shares, but instead a prelude to his report today, which calls Netflix "a better sell opportunity, as expected."

"We said the stock would run up into earnings and it would be a sell after earnings," Wible told TheStreet today after his downgrade. He has the distinction of being one of few analysts who argued that selling Netflix shares close to $300 was the right call. "Our core pessimism has never changed. I've been consistently cautious on this name. And I think there's more downside."

Bulls said Wible was wrong in holding a "sell" rating on Netflix for as long as he did, and Wible certainly appeared foolish in maintaining that bearish view from April 2009 until late 2010 as the stock rallied from $50 to nearly $200. Short sellers, like hedge fund manager Whitney Tilson, were also burned by Netflix as it soared more than 120% from July 2010 to July 2011.

But Wible stuck to his guns even as Netflix rose above $300. Three weeks before Netflix's infamous announcement it would raise prices, Wible did an in-depth dive into Netflix's accounting and came to the conclusion the company could only sustain the business by increasing pricing by 60%, which reinforced his bearish view.

"You can pull that report. It's the last sentence in our note that day," Wible says. "That pricing decision set off a series of bad judgments since then to try and con the consumer and investors into thinking this was a brilliant strategic move. Netflix ultimately failed to have their customers step up and pay more to fund the bills that are coming due."

Wible says investors now see a company in Netflix "that has broken investor confidence and fumbled on so many things in the quarter. The business model is fundamentally flawed. They were losing money on a cash basis but hid it with accounting treatments. The laundry list of things to look at is pretty extensive."

Among that laundry list is a fundamental deterioration in core metrics, a costly international expansion that isn't as strong as bullish investors have believed, and what Wible calls a "stagger increase in off-balance sheet obligations at a time when revenue visibility is at all-time lows." Wible compares it to "having a balloon mortgage payment out there but unsure if you have a job."

The bullish case for Netflix had been that executives were geniuses and no one quite understood the company. There was also an international growth story, as well as the prospect for M&A. Now, all of those things are in jeopardy, Wible says.

"The investment case for a 'sell' is huge," Wible says. "Management has lost credibility. International is struggling. And I maintain it's far cheaper to buy Netflix's subscribers than the company. They don't own content. People have inaccurately been assigning a digital multiple to an antiquated business. People should be valuing this company on a sum-of-the-parts basis."

Wible offers investors a hard lesson that could've helped counterbalance the enthusiasm of "buy" calls at $300 a share: Follow insider selling.

"The smartest guys in the board room have been telling you for a long time that this is a name you should sell," Wible says. "The CEO Reed Hastingsowns no shares directly and has been selling a million shares. There are low-level directors that own more shares than the CEO and co-founder. Management has been defecting and selling shares as they defect."

-- Written by Robert Holmes in Boston.

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Disclosure: TheStreet's editorial policy prohibits staff editors, reporters and analysts from holding positions in any individual stocks.

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