My thesis is that Netflix (NASDAQ:NFLX) has a more secure future now that the competitive landscape is becoming rational.
An April 2021 WSJ article notes that Netflix is now using more financial discipline per senior executives The article quotes the director of Global TV, Bela Bajaria:
We should adjust budgets based on what the creative dictates and what the size of the audience is.
Since the time of that April article, we’re seeing streaming competitors also shifting focus from subscriptions to financial metrics. Without Hulu, Disney (DIS) and Warner Bros. Discovery (WBD) combined only have about 2/3 of the direct-to-consumer (“DTC”) streaming revenue we see on Netflix. Viewed through this lens as opposed to subscriber numbers, it’s easy to see that WBD and Disney don’t have the necessary broadcast scale to earn positive operating income. It would be bad for every company in the streaming space if WBD and Disney continued to blindly go after subscribers without worrying about the economy, but recent comments reveal that they are being more cautious, especially on the WBD side.
Discovery of Warner Bros.
Focused on storytelling, WBD is one of Netflix’s most direct competitors, and the comments WBD made on the Q2 2022 call were a bombshell, as they talked about reducing the lushness of streaming and putting more energy back. to other businesses. When AT&T owned HBO, management had a more ruthless mindset against Netflix, and it seemed like they would neglect their linear and theatrical TV segments. On the 2Q22 call, WBD CEO David Zaslav made it clear that the strategy is changing so movies will be released in theaters again:
We have a different take on the wisdom of releasing movies direct-to-broadcast, and we’ve taken some aggressive steps to course-correct from the previous strategy.
This change is good for Netflix because it means WBD is a little less tempting as an alternative to consumers now that they’ll have to wait before movies come out on the streaming service.
Historically, Time Warner has made its content available to multiple sources. After AT&T acquired Time Warner in 2018, it seemed that this availability would decrease, but CEO Zaslav made it clear on the 2Q22 call that availability will remain open, citing the example of Warner’s Ted Lasso Apple TV (AAPL):
And something [content] it will be placed on other platforms such as Ted Lasso and Abbot Elementary.
Discovery International CEO Jean-Briac Perrette made it clear on the Q2 2022 call that they are done chasing subs blindly and that financial considerations will guide them moving forward:
Our goal is for the US streaming business to be profitable by 2024 and for the global streaming segment to generate $1 billion in EBITDA by 2025.
He went on to say that price increases are coming and that they will steer clear of deeply discounted promotions that increase subscriber numbers but not revenue.
CFO Gunnar Wiedenfels repeated on the 2Q22 call that decisions made by AT&T management are being reversed. AT&T management reduced sales of third-party content and, in an effort to prioritize HBO Max, halted new third-party content licensing deals. They also limited the B2B distribution of HBO Max. Investments in children’s content and animation were made without measuring the investment case. Capital got ahead of HBO Max movies where the return on investment wasn’t there. By reversing these decisions, WBD is now using a framework where capital allocation is based on financial metrics rather than underwriting runs. Netflix has been making decisions based on financial metrics rather than sub-runs for years, and it’s a healthier market now that WBD joins them in this logical approach.
Like WBD, Disney (DIS) is a formidable competitor, but Disney spends a lot of resources on parks, linear TV, and sports in the US.
Obviously, it’s bad for Netflix if competitors use deep discounts and come close to giving away their service. Recognizing the value of its unique content, Disney announced price increases on August 10; Ad-Free Disney+ will go up from $7.99 to $10.99. I think Disney will focus more on financial metrics than undercounts in the next few years. They started doing this in the quarterly filings, which show that the monthly ARPU for Hotstar subscribers is only $1.20, which is more than 5 times less than their monthly ARPU of $6.27 for US Disney+ subscribers. .and Canada. The lowest monthly ARPU numbers for Netflix come from the Latin American segment, where they are $8.67, but this is not even double their highest segment, the US and Canada, where the monthly ARPU is $8.67. 15.95.
Amazon (AMZN) should be careful with their top offering as they are being closely investigated by the FTC. Netflix’s decision in the early days to focus on content outside of live sports was prescient, given the way Amazon is jacking up fees for competitors like Disney’s ESPN with efforts like Thursday Night Football. Again, the best show on Apple TV, Ted Lasso, isn’t even made by Apple. His focus is on iPhones, and I don’t see them posing a significant threat to Netflix in the near future.
Looking at the quarter through June 2022, Netflix had an operating profit of $1.578 million on revenue of $7.97 billion. Meanwhile, WBD had a DTC streaming operating loss of $(1,534) million on revenue of $2.41 billion and Disney DTC, including Hulu, had an operating loss of $(1,061) million. DTC’s quarterly revenue of $5.058 million for Disney needs to be clarified because more than half of it comes from Hulu, which is not an apples-to-apples comparison with Netflix and WBD DTC. These disparate operating income and revenue figures show that subscriber numbers of 220.7 million, 92.1 million and 152.1 million for Netflix, WBD and the Disney+/ESPN+ combo, respectively, aren’t very revealing. Again, one of the problems with Disney is that their 58.4 million Hotstar subscribers have a monthly ARPU of just $1.20 each, thus generating less than a quarter of a billion in quarterly revenue.
Headlines focus too much on where broadcast competitors stand against one another, failing to acknowledge that the size of the broadcast pie is continually growing relative to cable and broadcast.
Nielsen shows that in the US, streaming jumped from 28.9% of TV share in January to 34.8% just 6 months later in July. Despite facing more streaming competition than ever, Netflix went from 6.6% of TV share in January to 8% in July.
As the competitive landscape has become more sensible over the past month, my valuation thoughts are more optimistic than they were at the time of my July 22 article. Netflix stock has risen a bit since the time of that article, but I still think it’s undervalued.
Disclaimer: No material in this article should be relied upon as a formal investment recommendation. Never buy a stock without doing your own extensive research.