Netflix Has Nowhere To Go But Down

| About: Netflix, Inc. (NFLX)
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Netflix, Inc. (NASDAQ:NFLX) provides subscription based Internet services for TV shows and movies in the United States and internationally. The company allows its subscribers to watch unlimited TV shows and movies streamed over the Internet to their televisions, computers, and mobile devices. Its subscribers in the United States also receive standard definition DVDs and Blu-ray discs delivered to their homes. As of June 30, 2011, the company had approximately 25 million subscribers. Netflix, Inc. was founded in 1997 and is headquartered in Los Gatos, California.

Netflix is an innovative company that created a system that allows users to watch movies in a cheap and efficient way. I used to be one of its earliest subscribers, and I still am very happy with the service it provides. I have nothing negative to say about its operations, but when investing in a company it all comes down to valuation.

Netflix trades at a forward P/E of 30, so it seems that the market sees significant growth ahead. I believe Netflix's days of strong growth has passed. There are many reasons why I believe this. For one, competition has improved significantly with Amazon (NASDAQ:AMZN) offering streaming movies online and Coinstar's (NASDAQ:CSTR) Redbox having thousands of convenient locations. If you want to watch a movie on Amazon, you can stream it for about $3.99 or use Coinstar's Redbox for $1. Keep in mind this is the price of one movie against Netflix, which gets you unlimited movies for $7.99. So it seems Netflix is better for the consumer, except for the fact that it has started to raise prices.

Netflix used to offer DVDs by mail and online streaming for $9.99, but the company changed its pricing. Effective last week, if you want both streaming and mail subscription it will cost you 50% more-- so each subscription costs $7.50 now. A survey in July of nearly 1100 Netflix users by Wedbush Securities found that 22 percent planned to cancel their Netflix subscriptions and migrate to Hulu, Redbox and Amazon's streaming video service. A 22% decrease in the company's customer base will surely have a material impact on the company's earnings.

Here is a summary of the reasons why I believe Netflix's growth will slow:

  • Rise in Netflix prices means a loss of customers
  • Coinstar's Redbox plans to announce unlimited online streaming for $3.99
  • Blockbuster Total Access offering cheaper prices and special offers
  • Amazon's LoveFilm will be operational in the U.S. soon
  • Starz recently ended its contract with Netflix
  • Google (NASDAQ:GOOG) recently launched its Youtube movies service in Canada

I really like Netflix's business model and it should continue to profit, but its current P/E ratio suggests significant growth ahead, which I believe will not come to fruition as competition erodes its subscriber base. The area that Netflix operates in has low barriers to entry. I believe Netflix is a perfect short candidate at it has lost its competitive advantage, as well as its moat.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.