Should I buy Netflix stock that’s up 15% after crushing earnings estimates?

Netflix stock soared after the company reported strong subscriber numbers. But why does our author think the market is missing something important?

| More on:

The content of this article was relevant at the time of publishing. Circumstances change continuously and caution should therefore be exercised when relying upon any content contained within this article.

Young Caucasian man making doubtful face at camera

Image source: Getty Images

When investing, your capital is at risk. The value of your investments can go down as well as up and you may get back less than you put in.

Read More

The content of this article is provided for information purposes only and is not intended to be, nor does it constitute, any form of personal advice. Investments in a currency other than sterling are exposed to currency exchange risk. Currency exchange rates are constantly changing, which may affect the value of the investment in sterling terms. You could lose money in sterling even if the stock price rises in the currency of origin. Stocks listed on overseas exchanges may be subject to additional dealing and exchange rate charges, and may have other tax implications, and may not provide the same, or any, regulatory protection as in the UK.

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More.

Netflix stock rose 15% after hours as the company announced significant growth in its earnings report last night. After a disappointing few months for the streaming business, is it time to buy Netflix shares?

Strong earnings

It beat expectations on both revenue and profits last night. Reported revenue was $7.93bn (against a $7.837bn forecast) and earnings per share were $3.10 (against a $2.13 forecast).

Most importantly though, the company managed to add 2.41m new subscribers over the last three months. Management had been forecasting a 1m subscriber increase.

That’s why the stock is surging in extended trading. Last night’s results marked a sharp change of fortune for the business.

Since the start of the year, the number of Netflix subscribers had declined by around 1.2m. As a result, the stock had fallen by around 60%.

Management also announced that it expects subscriber growth to continue. In its earnings release, it indicated that it’s aiming to add 4.5m new subscribers before the end of the year. 

In addition, Netflix’s new ad-supported service launches in November. Starting next year, the company will also begin making moves to crack down on account sharing.

To my mind, this is clearly an encouraging report for shareholders. But with the share price still nowhere near where it was at the start of the year, should I buy Netflix stock?

Time to buy?

I don’t own Netflix shares. And despite a positive quarter, I don’t anticipate buying the stock any time soon. 

In my view, Netflix doesn’t generate enough cash to justify an investment at today’s prices. Yesterday’s report did nothing to change my mind on this. 

Despite reporting $1.4bn in net income, free cash flow came in at just $500m. For a company with a valuation of $107bn, I don’t think that’s high enough.

The reason cash flow is so low is that Netflix has to spend heavily on its content. According to its financial statements, the company spent $4.5bn on content assets during the last three months.

Furthermore, this shows no signs of slowing down. The company’s spend in Q3 last year was around $4.6bn. 

Since the start of the year, it has generated $4.4bn in net income, but just $1.2bn in free cash flow. It has spent almost $13bn on content.

In order to invest in the shares, I’d need to see how the company is going to produce enough cash to justify my initial outlay. The company’s content expenses mean I don’t see that right now.

Investing in Netflix

There are a couple of ways that Netflix shares could become an investable proposition for me. One is by generating significantly more revenue and profit.

If the company can generate enough income to offset its high content expenses, then I’d be willing to buy the stock. But that seems to be some way off at the moment.

The other is by bringing down its content spend and converting more of its net income into free cash. This also seems to be some way off at the moment, which is why I’m not buying the shares yet.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

Stephen Wright has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

More on Investing Articles

Illustration of flames over a black background
Investing Articles

2 red-hot UK growth stocks to consider buying in April

These two growth stocks are performing well, but can they continue to deliver for investors through 2024 and beyond?

Read more »

Charticle

Is JD Sports Fashion one of the FTSE 100’s best value stocks? Here’s what the charts say!

The JD Sports Fashion share price remains a wild ride during the first quarter. Could it be one of the…

Read more »

Investing Articles

Could the JD Sports Fashion share price double in the next five years?

The JD Sports Fashion share price has nearly halved in the past five years. Our writer thinks a proven business…

Read more »

Bus waiting in front of the London Stock Exchange on a sunny day.
Investing Articles

If interest rate cuts are coming, I think these UK growth stocks could soar!

Falling interest could be great news for UK growth stocks, especially those that have been under the cosh recently. Paul…

Read more »

Investing Articles

Are these the best stocks to buy on the FTSE right now?

With the UK stock market on the way to hitting new highs, this Fool is considering which are the best…

Read more »

Petrochemical engineer working at night with digital tablet inside oil and gas refinery plant
Investing Articles

Can the Centrica dividend keep on growing?

Christopher Ruane considers some positive factors that might see continued growth in the Centrica dividend -- as well as some…

Read more »

Smiling family of four enjoying breakfast at sunrise while camping
Investing Articles

How I’d turn my £12,000 of savings into passive income of £1,275 a month

This Fool is considering a strategy that he believes can help him achieve a stable passive income stream with a…

Read more »

Person holding magnifying glass over important document, reading the small print
Investing Articles

2 top FTSE 250 investment trusts trading at attractive discounts!

This pair of discounted FTSE 250 trusts appear to be on sale right now. Here's why I'd scoop up their…

Read more »