Chill, the Netflix Pullback is a Buy Opportunity

Netflix (NASDAQ:NFLX) investors have seen this movie before. Time and time again, pullbacks in the streaming video king's stock have turned out to be royally good buy opportunities. The recent downturn looks no different.

Since hitting a record intraday high of $593.29 on January 20^th, the stock has corrected 15% as the market has hit the pause button on Netflix and other high-flying technology names. But with the fundamental growth story as solid as ever, the next act in the Netflix uptrend is likely in the coming attractions.

Why is Netflix Stock Down Since January?

In recent weeks, rising interest rates and concerns around accelerating inflation have been kryptonite to Netflix and other high growth tech names. Analysts' valuation models are being impacted by higher discount rates with some of the highest P/E stocks getting adjusted the most. This makes intuitive sense although we should keep in mind interest rates are still likely to remain near historic lows for some time especially given the support from the Fed. This should allow companies like Netflix to secure cheap funding to pursue growth opportunities as they see fit.

Then there is the dreaded C word, competition. Some analysts have grown weary about customer losses at Netflix due to the flurry of streaming entertainment offerings hitting the market. NBC's Peacock, CBSViacom's Paramount+, Disney+, and several others threaten to drag subscribers and potential new customers away from Netflix. This is a legitimate concern especially in Netflix's core U.S. and European markets. With so many companies competing on price and content, to what extent Netflix is dethroned remains to be seen. 

A final part of the correction relates to the stock's link to a group of pandemic plays. Some investors have headed for the exits simply because the hyper growth spurred by stay-at-home entertainment demand is waning. While growth has probably peaked and a valuation adjustment is in order, we knew all along that the recent growth metrics were unsustainable. To not see the type of growth seen earlier in the pandemic may be a buzzkill to some. But looking further into the Netflix storyline shows that its growth prospects should support an increasing share price over time.

Does Netflix Still Have Competitive Advantages?

Perhaps the most important point related to the 15% Netflix correction is that there haven't been any company specific flaws. Although the competitive headwinds are more intense than ever, Netflix still has some valuable competitive advantages.

Netflix still enjoys a first mover's advantage in the digital media industry. Although the barriers to entry are limited as we've seen, the company's head start has given it a strong brand name and loyal customer base. Some people will naturally jump ship and explore the other options, but most will stick around because they are comfortable with the platform and don't see much reason to move. Still others will subscribe to more than one streaming service.

A big part of why Netflix still has an edge has is the growing stable of original content. Subscribers have grown attached to many hit original series and eagerly await new TV shows and movies. Competitors have also launched their own Hollywood productions, but their gap with Netflix remains wide. As Netflix continues to crank out its own productions, it will be hard for others to close the gap.

Although Netflix has come a long way since its inception as a domestic-only business, it still has a lot of room to expand internationally. Roughly half of revenue comes from outside the U.S., but this is likely to increase over time as Netflix pursues new growth markets overseas.

 Is it a Good Time to Buy Netflix?

Spoiler alert, the conclusion here is yes. Stocks that go into correction mode often do so for a good reason. They typically have had long runs and there may be some froth built into the share price in the form of trader emotions.

In the case of Netflix, there will be some tough comparisons ahead as early and late-stage pandemic figures are stacked up against each other. This will mean the growth metrics will be all over the place—and the market doesn't like inconsistency.

However, it could also be a good thing, because with subscriber and revenue growth so difficult to predict in this environment, we could see some better-than-expected results and upward analyst revisions. This could be the near-term catalyst that reignites the uptrend.

Netflix shares are trading an enterprise value-to-revenue (EV/Rev) multiple of 9.4x which is above its historic median of 8.0x. The question then becomes—given the tough comps and competitive pressures ahead, is the premium valuation warranted? The case can certainly be made either way, but it's hard to bet against a company that has managed to repeatedly fend off the competition and debunk the naysayers.

Until there is evidence of weakening fundamentals or widespread customer churn, investors are better off viewing the pullback as a buy. Yes, Netflix is still expensive, but the price tag may not come down much further before the stock recharges. So, relax, sit back, and enjoy the feature presentation, 'The Next Netflix Rally'.