Netflix Q3 Earnings Preview: Will Pandemic Continue to Drive Growth?
Netflix has seen skyrocketing success in 2020, and the streaming heavyweight is looking to keep it going next week, when it kicks off tech earnings season with its Q3 report.
So far this year, Netflix has seen its stock price soar 68%, easily eclipsing both its own and Wall Street’s subscriber projections during the first half of the year. To put it into perspective: Netflix added about 26 million global customers during Q1 and Q2, only two million less than it did in all of 2019. Heading into its Q3 report next Tuesday, Netflix sits at 192.9 million subscribers overall.
While the coronavirus pandemic has decimated the cinema business and has giants like AMC and Regal fighting for survival, the pandemic has helped spur Netflix’s massive growth. How long that trend continues is open for debate among analysts, however.
Pivotal Research analyst Jeffrey Wlodarczak, in a recent note to clients, said he’s bullish on Netflix’s continued growth. Wlodarczak put a $650 target price on Netflix, thanks to the company benefiting from what he called a “virtuous cycle.”
Here’s how he explained it: “As the larger [Netflix’s] subscriber base grows, the more they can spend on original content, which increases the potential target market for their service.” This leads to reduced subscriber churn, he added.
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In other words, growth fosters growth. With more money coming in, Netflix can afford to spend on shows that appeal to customers outside the U.S. — helping the company pad its lead on its competitors in the process. Netflix CEO Reed Hastings already hinted the company had started to get production back on track towards the end of Q2, including in several parts of Asia.
On top of that, Netflix benefits from a low churn rate that keeps its revenue haul stable. Netflix’s churn rate, which factors in the number of subscribers who drop the service, between July 2018 and July 2020 ranged between 2 and 3%, according to stats compiled recently by Antenna Data; other services tend to hover in the 4-10% range, as subscribers drop their service for a month or two after binging a show or two.
While “Netflix benefited massively from global Covid-19 stay-at-home orders,” Wlodarczak said, “our view remains that the unfortunate Covid-19 situation simply accelerated trends already in place, and Netflix is likely to remain as the dominant global SVOD player for the foreseeable future.”
Not all analysts are as optimistic about Netflix, at least in the short-term, though.
Needham analyst Laura Martin, in a recent note to client, pointed to a few reasons she believes Netflix will come back down to earth. For one, she attributed Netflix’s big first half of the year — and, in particular, its strong Q2 — as a byproduct of it having the “only original content” out of the top streamers at the time. (Netflix continued to benefit from “Tiger King,” as well, which came out late in Q1.) Not only were competitors offering better content of late, Martin said, but internal data showed ad-supported streaming picked up steam during Q3, indicating Netflix may suffer from overall “SVOD fatigue” in Q3.
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Martin also pointed to data from Reelgood that showed a 22% dip in Netflix shows being started from Q2 to Q3. The takeaway: Subscribers may have hit a wall when it comes to binging.
Netflix’s “penetration is mature with more downside risk than upside growth potential, in our view,” Martin said.
And to be fair, Netflix itself isn’t projecting a massive Q3. The company said it only expected to add 2.5 million new subscribers during Q3 — which would be 4.3 million less than it did during the same period last year. That estimate, along with its projection of $6.3 billion in Q3 revenue, fell short of Wall Street’s expectations. (This isn’t the first time that’s been the case with Netflix, either.) If Netflix can top its subscriber projection next week, all will likely be forgiven and the stock could continue its upward march towards $600.
But there’s no guarantee that’ll be the case. If anything, there are warning signs Netflix’s quarter may be a modest one. Bank of America analysts Nat Schindler, Justin Post and Benjamin Sherlund, in a note to clients, said a few data points suggest there could be a potential “spike” in cancelations. The reason? “Cuties,” the French film that caused an uproar last month when some viewers complained it depicted a hyper-sexualized view of minors and promoted pedophilia. A #CancelNetflix trended on Twitter, as a result. On Monday, Netflix Chief Content Officer said the film is “misunderstood,” before adding “it’s a little surprising that in 2020 America, we’re having a discussion about censoring storytelling.”
The Bank of America analysts have a $575 price target on Netflix, but said there are a few other reasons to be wary about Netflix’s Q3; the return of live sports eating into hours spent streaming, and a 23% dip in quarter-over-quarter app downloads were chief among them.
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It’ll be worth keeping these in mind next Tuesday when Netflix’s report comes out. Netflix has been cruising since the start of the year, but these factors could provide at least a temporary speed bump for the streaming giant.
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