Netflix Stock Looks Cheap to Value Investors Based on Its Huge Free Cash Flow

Netflix Inc (NFLX) reported impressive free cash flow (FCF) growth in Q3 on Thursday, Oct. 17. This was up 81% over the prior quarter and +16% YoY. Moreover, its quarterly FCF margins rose significantly to over 22.3% of sales, up from 19% in the last 12 months (LTM). 

As of close on Friday, Oct. 18, NFLX was at $763.89, up over 11% from the day before when it reported earnings. However, despite this rise, NFLX stock could be worth substantially more, based on its strong FCF and FCF margins.

I will show here why NFLX stock could be worth 23% more, over $940 per share, and possibly much more than that ($975 per share - see below), in the next 12 months.

Free Cash Flow Surges

Netflix reported that its Q3 free cash flow (FCF) surged from $1.213 billion in Q2 to $2.194 billion in Q3. That represents a QoQ gain of 81% and over +16% from the prior year Q3 FCF of $1.992 billion.

Moreover, its FCF margins rose significantly from 12.7% last quarter and 19% in the last 12 months (LTM) to over 22.3% in Q3 2024. That has huge implications for NFLX stock. This can be seen in the table below.

Netflix's FCF and FCF margins - Q3 2024

It shows that in the last 12 months (FCF) the company has generated $7.125 billion in FCF. That represents just 18.9% of the $37.587 billion in LTM sales, compared to its 22.3% in Q3 (i.e., $2.194b/$9.825 billion).

Moreover, management raised its FCF forecast from $6.0 billion to $6.5 billion this fiscal year. That seems very achievable since Netflix has already generated $5.544 billion in the first 9 months (or 19.3% of YTD revenue of $28.754 billion). 

For example, if Netflix makes a 22.3% FCF margin in Q4, based on its own Q4 $10.128 billion est. sales (see table above), the Q4 FCF forecast is $2.259 billion. That works out to $7.803 billion for 2024 (i.e., $5.544b YTD +$2.259b Q4 est). 

Even using a 20% FCF margin results in a 2024 FCF forecast of $7.570 billion (i.e., $2.026 billion in Q4 +5.544 billion YTD).

Higher FCF Forecasts

The 2024 estimated FCF of $7.570 billion represents 20% of $37.89 billion in est. 2024 sales. So, if we apply this conservative margin (despite making 22.3% FCF margins in Q3), to 2025 estimated sales of $43.65 billion (Seeking Analyst survey of 43 analysts), the result is $8.73 billion in free cash flow in 2025(i.e., 0.20 x $43.65b = $8.73 b FCF).

That $8.73 billion FCF estimate is 22.5% higher than the $7.125 billion in the last 12 months (LTM) FCF  - as can be seen in the table above.

Moreover, this is based on analysts' estimates of sales and a conservative FCF margin. That means that the market's fears about its sources of growth is somewhat moot. The point is that Netflix is gushing huge amounts of cash from its existing operations. Growth will almost certainly add to this.

This also leads to a higher market valuation for NFLX stock. Here's how.

Higher Price Targets for NFLX Stock

For example, let's assume that the market will value NFLX with at least a 2.0% FCF yield metric. For example, its market cap today is $327.83 billion, and as shown above, it has generated $7.125 billion in FCF over the last 12 months (LTM).

So, $7.125b LTM FCF / $327.83 billion market equals an FCF yield of 2.17%. Therefore, using a 2.17% Yield with the $8.73 billion 2025 forecast for FCF could raise its value to over $400 billion (i.e., $8.73b/0.0217 = $402.3 billion). That is 22.7% higher than its $327.83 billion market cap today.

In other words, its price target is worth 23% more, or $939.59 per share or roughly $940 per share (i.e., 1.23 x $763.89 price today). 

Moreover, using a simple 2.0% yield, which is the same as a 50x multiple on FCF results in a market cap estimate of $418.5 billion (i.e., 50x $8.73b). That is over 27.6% higher than its present market value, resulting in a target price of $975 per share.

The bottom line is that value investors, using a simple FCF margin and FCF yield analysis technique, see Netflix as worth substantially more.

In another article this week, I will show how investors can play this by shorting out-of-the-money puts and/or buying LEAPs (long-dated call options).

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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.