Why Netflix Share Prices Crashed

Why Netflix Share Prices Crashed

Netflixย share prices crashed after it reported a ๐๐ž๐œ๐ฅ๐ข๐ง๐ž ๐ข๐ง ๐ฌ๐ฎ๐›๐ฌ๐œ๐ซ๐ข๐›๐ž๐ซ ๐š๐๐๐ข๐ญ๐ข๐จ๐ง๐ฌ last quarter. The company further forecasted the subscriber count to decline in the coming quarter and thus has looked at other avenues like advertising revenues to meet the growth targets.

There are ๐ญ๐ฐ๐จ ๐ฐ๐š๐ฒ๐ฌ ๐ญ๐จ ๐ฏ๐š๐ฅ๐ฎ๐ž ๐๐ž๐ญ๐Ÿ๐ฅ๐ข๐ฑ. One is the conventional DCF, and the other is to value the subscriber to arrive at the firm value. If your assumptions are correct, both the methods should yield the same number.

I decided to value Netflix by valuing its subscriber.

Netflix Subscriber Valuation

Thus the,

๐•๐š๐ฅ๐ฎ๐ž ๐จ๐Ÿ ๐Ž๐ฉ๐ž๐ซ๐š๐ญ๐ข๐ง๐  ๐š๐ฌ๐ฌ๐ž๐ญ๐ฌ = (๐•๐š๐ฅ๐ฎ๐ž ๐จ๐Ÿ ๐„๐ฑ๐ข๐ฌ๐ญ๐ข๐ง๐  ๐’๐ฎ๐›๐ฌ๐œ๐ซ๐ข๐›๐ž๐ซ)* ๐„๐ฑ๐ข๐ฌ๐ญ๐ข๐ง๐  ๐ฌ๐ฎ๐›๐ฌ๐œ๐ซ๐ข๐›๐ž๐ซ๐ฌ + (๐•๐š๐ฅ๐ฎ๐ž ๐จ๐Ÿ ๐๐ž๐ฐ ๐ฌ๐ฎ๐›๐ฌ๐œ๐ซ๐ข๐›๐ž๐ซ * ๐๐ž๐ฐ ๐’๐ฎ๐›๐ฌ๐œ๐ซ๐ข๐›๐ž๐ซ๐ฌ) – ๐•๐š๐ฅ๐ฎ๐ž ๐จ๐Ÿ ๐‚๐จ๐ซ๐ฉ๐จ๐ซ๐š๐ญ๐ž ๐ž๐ฑ๐ฉ๐ž๐ง๐ฌ๐ž๐ฌ.

To value the existing subscriber, I assumed the following:

1)Netflix’s cost to service the subscriber = G&A Costs + 20% of Content costs

2)I assume the remaining 80% of the content costs are corporate expenses.

3)A Netflix subscriber’s lifetime period on the platform = is ten years

4)Renewal rates = 93%

5)Growth in annual subscription membership costs/yr = 5%

6)The growth rate in customer services cost/yr =2%

After ten years, the value of the existing subscriber becomes zero.

I get the value of the existing subscriber = $650.92

๐•๐š๐ฅ๐ฎ๐ž ๐Ÿ๐ซ๐จ๐ฆ ๐ญ๐จ๐ญ๐š๐ฅ ๐ž๐ฑ๐ข๐ฌ๐ญ๐ข๐ง๐  ๐ฌ๐ฎ๐›๐ฌ๐œ๐ซ๐ข๐›๐ž๐ซ๐ฌ = $๐Ÿ”๐Ÿ“๐ŸŽ.๐Ÿ—๐Ÿ*๐Ÿ๐Ÿ๐Ÿ.๐Ÿ•๐Ÿ’ = $๐Ÿ,๐Ÿ’๐Ÿ’,๐Ÿ‘๐Ÿ‘๐Ÿ”.๐Ÿ—๐Ÿ’ ๐ฆ๐ข๐ฅ๐ฅ๐ข๐จ๐ง

Costs/New Subscribers = Marketing costs/(2022 total subs – 93%*2021 Total Subs) = $84.92
Value/New Subscriber = $650.92 – $84.92 = $577.32

Value of Corporate drag = 80% of Content costs *(1-tax rate) discounted at Netflix WACC (6.76%)

๐•๐š๐ฅ๐ฎ๐ž ๐จ๐Ÿ ๐‚๐จ๐ซ๐ฉ๐จ๐ซ๐š๐ญ๐ž ๐๐ซ๐š๐  = $๐Ÿ,๐Ÿ“๐Ÿ”,๐Ÿ”๐Ÿ–๐Ÿ’.๐Ÿ๐Ÿ— ๐ฆ๐ข๐ฅ๐ฅ๐ข๐จ๐ง

Current EV = $1,06,973.56
Value of New subscribers = EV + Value of Corporate drag – Value of Existing subscribers

Value of New subscribers = $1,19,320.80
Count of New subscribers = $1,19,320.80/$577.32 = 206.68 Million

๐๐ž๐ญ๐Ÿ๐ฅ๐ข๐ฑ ๐ง๐ž๐ž๐๐ฌ ๐ญ๐จ ๐š๐๐ ๐š๐ง๐จ๐ญ๐ก๐ž๐ซ ๐Ÿ๐ŸŽ๐Ÿ• ๐ฆ๐ข๐ฅ๐ฅ๐ข๐จ๐ง ๐ฌ๐ฎ๐›๐ฌ๐œ๐ซ๐ข๐›๐ž๐ซ๐ฌ to justify its current EV.

In my view, a few challenges for Netflix are:

1)If they increase membership costs, churn increases due to competition.

2)The TAM for OTT will not expand as the assumption that every content will move to digital is not realistic, and due to competition, Netflix will not tap this market share due to expanding TAM.

Thus, in my view, ๐๐ž๐ญ๐Ÿ๐ฅ๐ข๐ฑ’๐ฌ ๐›๐ฎ๐ฌ๐ข๐ง๐ž๐ฌ๐ฌ ๐ฆ๐จ๐๐ž๐ฅ ๐ข๐ญ๐ฌ๐ž๐ฅ๐Ÿ ๐ข๐ฌ ๐š๐ญ ๐ซ๐ข๐ฌ๐ค, and there are no networking effects that the firm will enjoy. So if Netflix has to achieve its growth targets, it either has to grow at the expense of margins or slow its growth.

Thus, Netflix’s decline in share price is not because it had a poor quarter but due to a ๐œ๐ก๐š๐ง๐ ๐ž ๐ข๐ง ๐ข๐ญ๐ฌ ๐Ÿ๐ฎ๐ง๐๐š๐ฆ๐ž๐ง๐ญ๐š๐ฅ๐ฌ.

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