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Investors Are Giving Up on Netflix. That’s a Good Reason to Buy.

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Netflix added 8.3 million subscribers in the fourth quarter, but the company’s first- quarter forecast came up well short of Wall Street’s estimate.
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And just like that, Netflix provided a new appreciation of what can happen to shares of good companies when fundamentals deteriorate in a volatile stock market.

Netflix (ticker: NFLX) shares have been struggling for months. Heading into this past week’s fateful fourth-quarter earnings report, there were worries about increased competition from Walt Disney (DIS), Apple (AAPL), and others, along with consumers’ reaction to a recent price hike. With the Nasdaq Composite firmly in correction territory—down more than 10% from its November peak—the hope was that an upbeat report could revive the sagging fortunes of Netflix, and tech stocks more broadly.

As it turned out, Thursday’s report was a big deal, just not in the way that bulls would have liked. Netflix missed subscriber estimates, the only number that matters to investors.

For the fourth quarter, Netflix added 8.3 million users, a little below the company’s target of 8.5 million. But the company’s first-quarter forecast was a bigger whiff: Netflix projected 2.5 million net adds, well below Wall Street’s previous consensus forecast of 5.7 million. Adding to the troubles, Netflix projected first-quarter revenue of $7.9 billion, falling short of $8.2 billion That’s a growth rate of 10%, down from 16% in the fourth quarter.

And there were other issues. Netflix is projecting a 2022 operating margin of 19% to 20%, down from 20.8% in 2021. Netflix also didn’t buy back stock in its latest quarter, instead using spare cash to pay for its recent acquisition of the Roald Dahl catalog.

It all adds up to a company experiencing slowing growth, and that raises valuation questions. Netflix shares plunged more than 20% on the news, cutting the streaming giant’s market value by around $50 billion, roughly the combined values of Roku (ROKU) and ViacomCBS (VIAC). Netflix shares are now trading about where they were at the start of the pandemic.

Netflix’s subscriber miss spurred a selloff across the streaming landscape, with Roku, ViacomCBS, FuboTV (FUBO), and Disney all down significantly on Friday.

What makes the whole situation more worrisome is that Netflix couldn’t cleanly explain its soft outlook.

The company said that the debut of its new content in the first quarter would be skewed toward the end of the period, with the second season of Bridgerton, for instance, scheduled for March. Founder and co-CEO Reed Hastings said the crosscurrents from the pandemic have made the numbers harder to figure out.

In a letter to shareholders announcing results, the company also said that “competition may be affecting our marginal growth,” a slight but notable change in tone about the risks from rivals. The company conceded that its recent subscription price hike could slow growth. And Latin American net adds were soft, potentially due to pandemic issues.

Whatever the reason, analysts weren’t happy. Evercore ISI’s Mark Mahaney, who has been a multiyear bull on Netflix shares, cut his rating to In Line from Outperform. He says the guidance implies the weakest first-quarter subscriber growth in the company’s history, and he slashed his outlook for 2022 net subscriber adds to roughly 17 million, from 26 million. “While this could be a one-off with a myriad of factors in play, we believe that this may also be a sign of Netflix’s further maturation in more established markets,” he wrote. Morgan Stanley’s Benjamin Swinburne downgraded the stock to Equal Weight, noting that heavy content spending—an expected $18 billion this year—isn’t generating as much growth as expected.

I’ve been unrelentingly bullish about Netflix in this column—count me among those who didn’t see this coming. But it seems a little late in the game to turn bearish now. Over the past two years, Netflix has still added nearly 55 million subscribers, increasing the total by nearly 33%. The company has said it expects to be profitable this year and going forward, and that it plans to be back in the market, repurchasing stock before long.

In short, Netflix became a bigger and more profitable company during the pandemic, with a richer and expanding content catalog. The streaming video trend that it pioneered continues to erode the legacy television business. Meanwhile, Netflix has made an initial foray into mobile videogames and merchandising, and it’s getting aggressive about expanding its international footprint, cutting prices in India to spur growth.

To be sure, the latest results turn Netflix into a show-me story, and any further erosion in growth wouldn’t be well-received. But the stock looks de-risked, down more than 40% from its mid-November peak. And there is compelling content on the way. The new season of Ozark was just released. Stranger Things will be back soon. A second Squid Game is in the works.

Pivotal Research analyst Jeff Wlodarczak wrote in a research note late Thursday that he’s sticking with his bullish call on the stock. “Our basic thesis remains unchanged,” he declared. “Netflix continues to have a five-plus year head start on its peers, with a broad focus across most demographics.”

Wlodarczak contends that the company is still on track to be “the dominant player globally in the move to streaming away from traditional Pay TV,” and he thinks opportunities remain to grow both global subscribers and revenue per user.

Despite this quarter’s terrible reviews, it might be time to start nibbling.

Write to Eric J. Savitz at eric.savitz@barrons.com

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