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Netflix (NFLX) is off over 10% from its high of over $477 per share since it released its Q2 results. But does that make it a buy now? The company's recently released financials show that investors may have overreacted. On Friday, July 21, NFLX stock was trading at $428.37, off another 2.0%.
In fact, on July 19 the company said in its Q2 shareholder letter that it posted an increase of 5.89 million in memberships for the quarter over Q1. That was significantly better than the 1.75 million QoQ increase in Q1 over the prior quarter.
Membership Worries
A year ago NFLX stock took a huge tumble when the company posted a slight drop in memberships to 220.67 million. Since then the company has gained 17.72 members, climbing to $238.67 in Q2 2023.
So, the markets can't have it both ways, or can they? The markets don't seem to like the fact that much of the growth appears to be from its ad-included plans. But these have not delivered the goods.
For example, ad revenue was not material for Netflix, according to the company. To counteract this, Netflix has now gotten rid of its existing $9.99 per month ad-free plan in the US and the UK (except for existing members who don't change their plan).
The company wants to see users sign up for the $6.99/mo plan that includes ads, or else pay $15.99 per month without ads.
So, if Netflix can eventually extract a significant new line of revenue, plus pick up new streaming membership recurring revenue, it could potentially have its cake and eat it too.
For example, Hulu recently went to an ad-free revenue package of $16.99 per month and bundled Disney and EPSN for $19.99 a month. As a result, at some point, analysts will start measuring Netflix's ARPU (average revenue per user), just like they do at other media companies that have a mix of revenue from each user.
Meanwhile, the company is generating significant amounts of free cash flow (FCF). And this is what sets it apart from other streaming companies and should investors a good deal of hope.
Netflix's Surging Free Cash Flow (FCF)
For example, during Q2 the company generated $1.339 billion in FCF during Q2, although this was down from $2.117 billion in the prior quarter.
In fact, compared to the $13 million a year ago and even the $332 million it generated in Q4 2022, this $1.339 billion is quite a feat.
Moreover, Netflix says it expects to generate $5.0 billion in free cash flow this year, up from the $3.5 billion it had earlier forecasted. Granted, some of this is due to the effects of the writers' and actors' strikes, effectively bringing forward FCF from the future.
This effectively lowers the company's valuation metrics and could make it a buy.
Valuation Attractive
For example, at its $193.5 billion market valuation today, NFLX stock is only 38.7x its FCF. That gives it an attractive 2.58% FCF yield.
That does not make it one of the highest valuations in the market by any means. For example, NVDA stock trades at well over 44x forward cash flow, according to Seeking Alpha. That is equivalent to an FCF yield of 2.25%.
But, even more importantly, this FCF gives the company even more juice to increase its lead in the streaming wars. For example, FCF is computed even after all of its capex spending on existing movies and production. That extra $5 billion is over and above its existing movie deal business requirements.
As a result, once the strikes are over the company will have sufficient firepower to make even better movies, attract the best talent and directors, etc. That will allow it cut deals that will enhance its market share.
Moreover, don't be surprised to see the company make an acquisition, if it finds a brand that is failing. That is what its powerful FCF allows it to consider.
The bottom line is that NFLX stock may be reaching a point that value investors can find attractive.
On the date of publication, Mark R. Hake, CFA did not have (either directly or indirectly) positions in any of the securities mentioned in this article. All information and data in this article is solely for informational purposes. For more information please view the Barchart Disclosure Policy here.
