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Thoughts on Netflix -- what you're underwriting with an investment in $NFLX at today's price ($507):
Let's first stipulate that NFLX offers a wonderful product at a very good price. They have a great management team, a long runway for growth, an insurmountable lead in content, and a fantastic customer experience. So, let's join the #neversell crowd and own this for 20 years.
Currently, there are roughly 2 billion households in the world (Wikipedia). NFLX ended 2020 with 204M subscribers, so they have approximately 10% of households globally. To start my analysis, let's assume households CAGR at 0.5% for the next two decades, ending at ~2.225 billion.
First question for a potential NFLX investor -- what will be the ultimate global household penetration? Let's say you estimate penetration at 45%, then you think that NFLX will eventually have just about 1 billion subscribers.
Next, what will each household pay each month? In 2020, the average NFLX subscriber paid $10.91 per month. Let's say in 2040, they'll pay $25/month. That works out to a 4.2% annual price increase for those 20 years. Keep in mind that US subs paid 22% more than avg sub in 2020.
If we use 1 billion subscribers at $25/mo, we get $300 billion in revenues for 2040. In 2020, revenues were $25 billion, so we're going to assume 13.2% revenue CAGR if we use the inputs above.
Let's move to margins. 2020 EBIT margin was 18.3%. Everyone knows they'll get margin expansion with scale. How about we more than double operating margins over that time? Let's use 40% EBIT margins in 2040. That leaves us with an operating profit of $120B.
The company thinks they'll be cash flow breakeven this year, and they are comfortable with their current debt load. That makes it easy for us. Interest expense stays flat. Moving to taxes, let's just assume a 25% global tax rate in 2040.
How many shares will be outstanding? There is quite a bit of stock-based comp, but let's assume that they can use some of their free cash flow over the next 20 years to keep the share count flat.
Using all of those assumptions, NFLX will earn $197/share in 2040. Let's round off to $200. What's a fair multiple at that point? Keep in mind that growth will have slowed, and the runway is shorter given they would already have 1 billion subscribers.
If you think 20x is fair value, your IRR is 10.8%
If you think 25x is fair value, your IRR is 12.0%
Are those returns high enough to take the risks in these assumptions? Are these assumptions too low? Too high? Love to get feedback from NFLX investors (I have no position).
If you think 25x is fair value, your IRR is 12.0%
Are those returns high enough to take the risks in these assumptions? Are these assumptions too low? Too high? Love to get feedback from NFLX investors (I have no position).
