Netflix sentiment improved among analysts as ad-tier nears launch
Netflix (NFLX) is scheduled to report third quarter results after market close on Tuesday, October 18. A video interview with Netflix executives, including co-CEO Reed Hastings and co-CEO & Chief Content Officer Ted Sarandos, will follow at 6:00 pm ET. What to watch:
Netflix’s membership trends are a closely-watched measure of the company’s growth trajectory, so much so that Wolfe Research analyst Peter Supino previously contended that the stock has mainly been judged by that one key performance indicator, or KPI. However, as more investors are warming up to the idea of Netflix ad-supported video-on-demand contributing incremental revenue and cash flow relative to a few months ago, Supino believes that the stock may begin to be driven by a more balanced set of KPIs that include AVOD/SVOD sub mix, gross adds, churn, retail prices, ad loads, CPMs and consumer engagement. Supino, who expects Netflix to protect margins during its period of transition to a faster growing model, has an Outperform rating on Netflix shares.
In the second quarter, the company reported global streaming paid net losses of 970,000, compared to a 2M subscriber loss forecast and 1.5M additions in the year ago quarter. For Q3, Netflix has forecast paid net adds of 1M, versus 4.4M added in the year ago quarter.
In its last quarterly letter to investors, Netflix said: “In the near term, a key priority to re-accelerate revenue growth is to evolve and improve our monetization. In the early days of streaming, we kept our pricing very simple with just one plan level. In 2014, we introduced three price tiers to better segment demand. Going forward, we will focus on better monetizing usage through both continued optimization of our pricing and tiering structures as well as the addition of a new, lower-priced ad-supported tier. Our lower priced advertising-supported offering will complement our existing plans, which will remain ad-free.”
On the day after the company’s last earnings report, Stifel analyst Scott Devitt upgraded Netflix to Buy from Hold. With signs of stabilization in the subscriber base emerging, the prospect of a “prolonged period of subscriber losses is becoming increasingly unlikely,” Devitt told investors at the time. He believes investor focus can now “appropriately shift” to the viability of Netflix’s growth initiatives, including monetizing password sharing and the introduction of advertising supported tiers. Devitt sees “numerous potential catalysts” over a multi-year period as management realigns the business for its next phase of growth.
More recently, Evercore ISI analyst Mark Mahaney upgraded Netflix to Outperform from In Line. The company’s advertising supported tier and password sharing revenue opportunities constitute catalysts that can drive a “material reacceleration” in revenue growth, Mahaney has told investors. He thinks the global streaming market remains attractive, Netflix is the “proven market leader,” and that the business model has proven its operating margin leverage and is in the process of generating substantial free cash flow.
Consensus forecasts recently called for $7.84B in revenue and $2.13 in earnings per share for the September-end quarter, versus the company’s forecast for Q3 revenue of $7.84B and EPS of $2.14.
On September 14, The Wall Street Journal’s Suzanne Vranica and Sarah Krouse reported that executives from Netflix and advertising technology partner Microsoft (MSFT) had been meeting with ad buyers and told ad executives that the company’s preliminary projections see it having 4.4M unique viewers worldwide at the end of the year for its upcoming advertising-supported tier of its streaming service. Netflix has estimated that viewer count would grow to over 40M unique viewers by the third quarter of 2023, with 13.3M of those estimated to come from the U.S., according to the report.
Subsequently, on October 13, Netflix stated on its corporate site: “We’re excited to launch Basic with Ads – Netflix’s lower priced ad-supported plan – in November. Unmissable entertainment at unbeatable value: Basic with Ads will cost just $6.99 a month in the US and launch on November 3 at 9 am PT. Available in 12 countries: Basic with Ads will be available in Australia, Brazil, Canada, France, Germany, Italy, Japan, Korea, Mexico, Spain, the UK and the US. A plan for every fan: Our current plans and members will not be impacted. Basic with Ads complements our existing ad-free Basic, Standard and Premium plans… In short, Basic with Ads is everything people love about Netflix, at a lower price, with a few ads in-between. Starting in November, signing up will be easy – visit Netflix.com, and register with your email, date of birth, and gender to get started.” The company added: “Basic with Ads will launch just six months after we first announced the option of a lower priced ads tier. None of this would have been possible without our team’s hard work or Microsoft’s extraordinary partnership. The switch from linear is happening at an ever increasing speed, with streaming now surpassing broadcast and cable in the US. We’re confident that with Netflix starting at $6.99 a month, we now have a price and plan for every fan. While it’s still very early days, we’re pleased with the interest from both consumers and the advertising community – and couldn’t be more excited about what’s ahead. As we learn from and improve the experience, we expect to launch in more countries over time.”
Afterward, Truist analyst Matthew Thornton reiterated a Hold rating and $210 price target on Netflix, stating there were “no major surprises” with the announcement. He said that the low price point should appeal to the value segment and aid churn and gross additions as assumed in his recent deep-dive, though Thornton added that the impact from this new tier on ARPU is less clear.
Evercore’s Mark Mahaney reiterated his Outperform rating on Netflix shares in the wake of the release of the details about the launch of its ad-supported service. Mahaney views this as “the biggest catalyst” across the internet sector. Further, Mahaney believes the low price of the offering, its simplicity, and its differentiation will likely materially boost the value proposition of Netflix to consumers, help reduce churn, and expand gross subscriber ads by addressing one of the biggest challenges the service has faced over the last couple of years, namely rising price sensitivity. Finally, he does not believe this is correctly captured in Street estimates or in the company’s current valuation.
Pivotal Research analyst Jeffrey Wlodarczak has taken the other side. In a note published October 11, Wlodarczak reiterated a Sell rating on shares, saying support for the stock coming from the company’s advertising tier “looks misplaced.” The move to offer an ad supported tier is “defensive not offensive” and fraught with average revenue per user, technological, product perception and results variability risk that continues to be underappreciated, Wlodarczak told investors. He views the stock’s valuation as “rich,” the analyst added.
In a preview published this week, Credit Suisse analyst Douglas Mitchelson says app downloads were inconclusive again this quarter, though investors he has talked to tend to expect a modest Q3 miss versus the 1M Credit Suisse and Street estimate for Netflix subscriber additions in Q3. For Q4, the launch of the ad tier in early November at $6.99 in the U.S. and 11 other countries suggests his and the Street’s 4M global net add estimate could prove too conservative, Mitchelson added. Further, the analyst believes Netflix’s new lower price point for a service with only 4-5 minutes per hour of advertisements should broaden its appeal and entice rejoiners. He also sees a healthy Q4 content slate with The Crown season 5, Manifest season 4, 1899 and others being released in the quarter. Overall, the set-up into Q3 appears “modestly favorable,” argues Mitchelson, who has a Neutral rating on the shares.
In his own preview note, KeyBanc analyst Justin Patterson said he believes Netflix Q3 net adds are likely to come in at least in line at 1M due to better-than-expected content. Further, the analyst thinks Q4 total net adds may come in above expectations due to the ad-supported service launch being broader than expected. While he is encouraged with ad potential over time, Patterson believes meaningful positive revisions are unlikely near-term due to foreign exchange impacts and slowing ad-free sub growth. Given the current valuation, the analyst believes ad success is already priced in. Patterson has a Sector Weight rating on Netflix shares.
Originally Posted October 18, 2022 – What Wall Street is saying about Netflix ahead of earnings
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