Netflix is Taking Steps to Solve a Long-Term Issue

Many Netflix NASDAQ: NFLX users posted photos of a pop-up message they received when logging into the service last week. It said, “If you don’t live with the owner of this account, you need your own account to keep watching.”

When asked about the reports, Netflix asserted that the pop-up message was a test meant to “ensure that people using Netflix accounts are authorized to do so.” There is no evidence that a widespread crackdown on password sharing is imminent. But Netflix shares still went up 3.7% on the possibility that Netflix will eventually solve this long-term issue.

If the company does put an end to password sharing, shares could go up a lot more.

 Last June, The Wall Street Journal reported that around one-third of Netflix subscribers share their password with someone outside their household. The percentage of people sharing Netflix subscriptions is higher than the percentage sharing other streaming services; 18% of users share their Hulu account, 17% share their Amazon NASDAQ: AMZN Prime Video account, and 14% share their DisneyNYSE: DIS Disney+ account.

Some investors fear that a zero-tolerance policy on password sharing would cause the non-paying users to flee the service. They believe it could even cause some of the paying users to cancel their subscriptions if they are sharing the costs with their friends.

But the data indicates that the concerns are misplaced. Back in 2016, a survey concluded that almost half of the people that share a password to access Netflix would pay for their own subscription if they were no longer able to share an account.

Netflix had 203.6 million global subscribers at last count. If around one-third of them are sharing their passwords with someone outside the household, that works out to just over 67 million password sharers. But wait, some of those people are sharing their password with more than one person. Nobody knows exactly how many people are using Netflix without paying, but 100 million sounds reasonable. If half of them were in fact willing to pay for their own subscription, that would mean that Netflix could add 50 million paying subscribers.

So, why hasn’t Netflix done much to stop password sharing? 

There are a few reasons:

• The company hasn’t felt the need to. Netflix has added around 30 million subscribers per year, give or take, over the last three years. With that type of growth, it’s easy to overlook password sharing.
• There is a PR risk that comes from alienating a large percentage of users. Yes, Netflix would be well within its rights to crackdown on password sharing, but a lot of people wouldn’t see it that way.
• By overlooking password sharing, Netflix can get more people using its service. A lot of people are unwilling or unable to pony up $13.99 a month for a subscription. At least at first. Netflix’s non-paying users are a growing cohort that could be converted into paying subscribers. When the time is right.

 Here’s how it could play out:

Netflix could continue adding non-paying users until growth slows down. When that happens, Netflix can institute a widespread crackdown on password sharing and convert those potential subscribers into actual subscribers.

Right now, the company is keeping this play in its back pocket. Instead of being frustrated by the lack of immediate action, investors would be wise to take the long view. Netflix will most likely – at some point – take care of this problem.

How Should You Play Netflix?

Netflix shares soared to all-time highs in January following stellar fourth-quarter earnings. The company added 8.5 million subscribers in the quarter, blowing away its October forecast of 6 million. But Netflix has gotten caught up in the recent shift away from growth stocks, and now trades more than 70 points below those January highs.

Shares are currently getting support around the 200-day moving average, a place where falling stocks tend to make a stand. In Netflix’s case, a suddenly attractive valuation makes it more likely that the correction will end here; shares are now trading at 52.1x forward earnings.

We could be looking at an excellent opportunity to pick up a long-term winner at a discount.