The biggest loser in the market over the past week has been Netflix (NASDAQ:NFLX). Netflix is the large cap company that offers the digital delivery of movie and television content to its subscribers for a monthly fee. The company has been one of the market’s best performers over the past decade. In recent years, the stock has traded at such a high valuation that it was never a good value investment. Now that shares have taken a hit, is the stock finally undervalued?
Let’s take a look. Shares of Netflix have dropped from the upper $200’s to $155. The reason for the huge drop in shares is lower subscriber growth totals reported for the current quarter. Netflix has seen a number of cancellations over the past two months since the company has instituted a new pricing structure that is forcing some customers to pay more for content. Customers voiced their displeasure by canceling their subscriptions with Netflix.
Netflix investors dumped the stock because of the bad news. Subscriber growth was the primary reason to own the stock since its shares were trading at 70 times earnings. The stock was priced for continued growth of 50% or more per annum. Some investors are looking to buy now that the stock has dropped back to nearly half of its price from last year.
The company is in a new position since it is no longer a favorite of growth investors and is facing pressure from competitors. Netflix is finding that it is not as easy as the management thought to pass on rising cost to subscribers. Subscribers have a lot of options with Redbox and cable providers both offering similar options. The company’s biggest challenge will be figuring out how to attract new subscribers while holding onto its existing base.
Netflix has just announced a smart change to its current services to appease customers. The CEO has apologized to customers and has broken the company up into two distinct companies. Netflix will handle all of the streaming content and a new company called Qwikster will handle the DVD by mail business. Qwikster will also handle video game rentals by mail. Netflix is hoping that the separation of the two businesses will win over customers.
The market does not seem to like the decision as the stock has fallen further today to $147 per share.
Netflix currently trades at 35 times this year’s earnings and 21 times next year’s earnings. The stock trades at 3 times sales and 22 times the free cash flow. The 21 times next year’s earnings estimate is right in line with the revenue growth of the past three years. Margins are still higher than the industry average at 13% and return on equity is outstanding at 83% for the year.
The stock has a lot of positive metrics but it is still not cheap enough, Based on the fundamentals of the company I would not consider Netflix a value stock yet. Shares have dropped substantially but there is still room for a further decline. The stock is still overvalued at $147 a share and would be fairly priced at $140.