To say that Netflix had a bad quarter is an understatement. On the weakness of new subscriber additions, the company lost as much as 16% in stock value on Monday July 18 after hours trading.
Adding only 1.7 million new subscribers against a forecast of 2.5 million for the quarter, the company saw soft numbers both at home as well as internationally. In the United States, they added a mere 160,000 new customers, and the international figure was about 1.5 million, bringing that total to 33.6 million. U.S. subscribers continued to number in the 46 million range.
What many people – including investors – don’t understand is that Netflix will continue to grow, but its growth can never be a straight line path to their ultimate goal of having at least 60 million subscribers in the United States.
Another major point most people are missing is the fact that gross additions were actually on target. According to executives, it was the churn rate that went higher than expected. Some sources also say that media coverage on possible pricing increases was the cause of the high churn rate.
But possibly the biggest thing that was missed in the fray is the fact that revenues grew by an impressive magnitude. Quarterly revenue went from from $1.6 billion last year to $2.1 billion this quarter, a 27% YoY increase. And net income grew by a whopping 58% from $26 million last year to $41 million this past quarter.
CEO Reed Hastings surprised many by actually apologizing for the “volatility”, but I personally think that it’s the market that is causing the volatility, not the company or its growth.
Yes, there will be road bumps impeding progress from time to time. As they achieve deeper penetration in any market, growth will happen in fits and starts. Expecting a company to follow straight line growth and then punishing it for missing expectations is like asking a tree to grow the same number of inches every year. It’s ridiculous, to say the least.
If anyone is to be blamed, it’s the investors and analysts that create unrealistic expectations around a company’s growth, forcing the company to commit to higher guidances that may or may not become reality.
And that’s essentially the problem with high-valuation companies such as Netflix, which is still trading at a forward price to earnings (P/E) ratio of around 95. The market expects consistent strong growth, and there’s nothing wrong with that. But when expectations aren’t met even for a single quarter, the stock takes a beating.
Fortunately, this does provide lucrative entry points to some of the world’s biggest companies like Google (5.8% stock price hit on a $120 million revenue miss), for example. Get in at these earnings shockers, but stay for the long-term – that’s the way to make money on high-valuation stocks.
As for Netflix, it’s not about earnings shocks as much as it is about subscriber addition shocks, as we’ve just seen. I’d say this was a great time to pick up some NFLX for your portfolio.