Netflix’s stock is “overblown” and “expensive”, this investor says

Netflix (Netflix Stock Quote, Chart, News, Analysts, Financials NASDAQ:NFLX) got a good drubbing after its latest earnings report, but if you’re thinking of buying on the pullback, you might want to reconsider, says David Burrows of Barometer Capital Management. Burrows thinks despite the company’s success the wider turn away from Big Tech will keep stocks like Netflix in the dark for a while.

Netflix shares dropped eight per cent this week as the market reacted to first quarter numbers from the streaming giant. While the company posted beats on both earnings and revenue, generating a monster $3.75 per share compared to $1.57 per share a year ago and revenue of $6.644 billion versus $5.768 billion for Q1 2020. The consensus expectation was for $2.97 per share and $7.16 billion in revenue.

But the news wasn’t all sparkling as the company added 4.0 million paid net subscribers compared to the 6.2 million expected by analysts. The company said it ended the quarter with 208 million paid memberships, up 14 per cent year-over-year but below management’s guidance of 210 million paid memberships, with a drop in new shows and content attributed to the pandemic.

“We believe paid membership growth slowed due to the big COVID-19 pull forward in 2020 and a lighter content slate in the first half of this year, due to COVID-19 production delays,” Netflix said in a press release.

“We continue to anticipate a strong second half with the return of new seasons of some of our biggest hits and an exciting film lineup. In the short-term, there is some uncertainty from COVID-19; in the long-term, the rise of streaming to replace linear TV around the world is the clear trend in entertainment,” the company said.

But Burrows thinks Netflix has forces beyond its own business that are playing out against the stock, at least for the next while.

“We’re headed into a reflating economy and into a growth cycle. There was a period of time where we had very little choice as to where to go to buy growth, and so some of the very large cap, secular growth stocks like Netflix were one of the only places to go,” said Burrows, president and chief investment strategist at Barometer, speaking on BNN Bloomberg on Thursday.

“And so they became incredibly broadly, maybe, overblown and arguably very, very expensive,” he said.

“And we now find ourselves in a situation where the world is opening up, but we have a surge in demand across a lot of different industries. And, as an investor, you have an ability to go and find companies that will have significant uptick in earnings growth next year, the year after and the year after that — and arguably they’re a lot less expensive,” Burrows said.

Netflix, of course, has been at the vanguard for streaming services breaking through in the past ten years to now occupy a prominent place in terms of entertainment dollars spent not just in North America but worldwide. The company spends billions annually to develop new content and while doubters persist as to the long-term profitability of its business, its dominance in the streaming space has been ongoing, notably through a recent influx of new players such as Disney and Universal.

Netflix registered a profit of $542 million in its fourth quarter 2020, reported in January, which it followed up with net income of $1.707 billion for the Q1 2021. Netflix said a lower content spend in the first quarter led to an uptick in operating margin to 27 per cent, an all-time high.

Still, it could be hard going for NFLX due to the secular movement away from tech stocks and towards an array of sectors set to benefit from the reopening of economies post-pandemic.

For a taste of how technology stocks have fared this year, there’s a three percentage point difference between the tech-heavy NASDAQ Composite Index which has put on ten per cent in 2021 and the broader S&P 500 which has grown by 13 per cent.

Burrows said investors should keep that current shift in mind when considering stocks like Netflix.

“I would put Netflix in a camp that I call a long-duration asset where you’re paying for many, many years of earnings growth in the future. Today, and when interest rates start going up and inflation picks up a little bit, it makes that a little bit less attractive,” Burrows said.

“So, not to say it’s not a great service. It’s just maybe not the time to be a buyer of that of the stock,” he said.

Burrows said his firm has recently moved from just over 33 per cent of its portfolio in technology and growth stocks to a weighting of about nine per cent.

“We have a very significant weight in things that are more economically sensitive like industrials, transportation companies and basic materials that will have very significant percentage point gains in earnings next year and the year after that,” Burrows said. “Arguably, there may be some room to run in those a little bit more than in the large growth stocks.”