Netflix’s latest decision may frustrate you if you own its stock

Netflix is making a significant change in the information it gives shareholders.

Apr 20, 2024 - 18:30
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Netflix’s latest decision may frustrate you if you own its stock

Netflix has been one of the stock market's brightest shining stars. Over the past 20 years, its business has morphed from delivering movie DVDs to subscribers through the mail into the world's largest digital media streaming company.

Along the way, it has enjoyed incredible success, serving hundreds of millions of households and generating billions of dollars in revenue and profit. As a result, its stock has become a staple in many investors' portfolios, making its quarterly sales and profit reports a highly anticipated event.

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Netflix  (NFLX)  shareholders use these regular updates to keep tabs on the company's progress, and the company uses them to announce big changes to its business and strategy. For instance, its crackdown on password sharing, the introduction of its ad tier, and price increases have been a big focus of past earnings releases.

The company's latest financial report was unveiled on April 18. It detailed its progress on previously announced strategy shifts and announced a big change that many investors may not like.

The media streaming giant is making a big change that could anger investors.


Netflix is the dominant player in streaming entertainment

Netflix was panned by shareholders for its pivot away from its mail-order business toward digital entertainment streaming. Given Netflix's success, those who doubted former CEO and founder Reed Hastings were proven to be massively mistaken.

When it began its digital push in 2007, the company had just 7.3 million members. By 2010, it boasted over 18 million subscribers, and users exceeded 70 million in 2015 as streaming became the norm because of the widespread adoption of next-generation smartphones, tablets, computers, and connected televisions (Google Chromecast launched in 2013).

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Netflix's expansion into global markets and its continued penetration of the valuable U.S. market drove membership above 200 million in 2020 when COVID further fueled demand for in-home entertainment. Today, Netflix boasts nearly 270 million global subscribers, including 9.3 million who signed up for the service in the first quarter.

As a result, Netflix commands 20% of the subscription video-on-demand (SVOD) market, trailing only Amazon Prime, which boasts a 21% market share, according to Statista.

Unsurprisingly, membership growth over the years has translated into significant sales and earnings per share (EPS) growth.

Netflix's revenue was $3.2 billion in 2011, $25 billion in 2020, and $33.7 billion in 2023. In Q1, sales were almost $9.4 billion, almost triple what they were in 2011.

Expanding revenue, leveraged against fixed costs, has meant that despite spending heavily on original content, Netflix has become much more profitable. In 2017, it earned $1.25 per share. In 2024, earnings were a whopping $5.28 per share in the first quarter alone.

Given those numbers, it's probably not shocking to learn that its stock has delivered life-changing gains for those who invested early on. Netflix's shares are up an astonishing 14,531% since 2007.

Netflix makes a decision that impacts shareholders

Netflix's rapid top-and-bottom-line growth wasn't surprising to investors who owned the stock and were closely watching changes to its subscriber numbers. 

Shareholders could quickly gauge future revenue and profit potential based on the number of new users who signed up for Netflix. By tracking a metric called average revenue per membership, they could see how much pricing power Netflix had.

Related: Analysts reset Netflix price targets ahead of earnings amid ad-tier push

Unfortunately, Netflix has decided that information isn't nearly as useful as it has been in the past. Now that it's achieved so-called cruising altitude, having reached widespread adoption, it's transitioned its focus not to stockpiling users but to maximizing its sales and profit in other ways.

The potential positive for investors is that no longer concentrating on user growth means there's less incentive to spend wildly to attract new subscribers, providing more opportunities to expand its profit margin.

Netflix's guidance is for revenue growth of 13% to 15% and an operating margin of 25% this year. Its operating margin was 21% and 18% in 2023 and 2022, respectively.

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The bad news, however, is the implicit reality that Netflix has a limited runway to attract new users. That could leave some investors wondering if Netflix is really a growth stock anymore. 

Based on investors' knee-jerk reaction, the answer for many may be that it isn't.

Despite Netflix's revenue and profit coming in ahead of Wall Street's estimates and arguably solid second-quarter guidance, which also outpaced analysts' outlook, shares tumbled nearly 9% on April 19.

"The goal here is to evolve the way Wall Street judges the firm's performance from sheer subscription growth to the ability to produce and grow profitability and free cash flow," said TheStreet Pro analyst Stephen Guilfoyle. "How Wall Street is taking it now is that subscription growth must have peaked."

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