Options Trade – Netflix, Inc. (NASDAQ:NFLX) Calls
Monday, October 13, 2014

**OPTIONS TRADE: Buy the NFLX Dec 2014 500.000 call (NFLX141220C00500000) at or under $7.50, good for the day. Place a protective stop loss at $3.00 and a pre-determined sell at $12.50.

by Ian Harvey

October 13, 2014

Introduction

Netflix, Inc. (NASDAQ: NFLX), an Internet television network with more than 44 million members in over 40 countries, will report its third-quarter results on October 15th. Analysts have forecast earnings per share of $0.91 for the quarter, up from $0.52 during the same period last year.

The stock has done well in 2014, greatly outperforming the market with a gain of 26.8% year to date. The past three months has seen a rise of 4%. Over the last 12 months the stock has soared nearly 50%. Following the company's expansion into six new markets in Europe last month, Netflix stock has been hovering around $460, just short of its all-time high.

Netflix has been strong this year, fueled in part by its most recent quarterly numbers, which showed the company had eclipsed the 50 million-subscriber mark. The company is seeing good international growth, with a 1.12 million gain in international subscribers in its recent quarter.

Domestically the company is also growing, but at a slower rate due to saturation. Netflix has an impressive library of shows, and it is expected to see its international subscriber base continue to grow, which should, in turn, lead to higher earnings and revenues.

Just three years ago, Netflix was in the doldrums because investors and customers were ill-advised with the attempt to spin off its DVD business as a separate company called "Qwikster."

Those problems have long since been forgotten. Between the end of 2011 and the middle of 2014, Netflix grew its domestic streaming subscriber base by 67%: from 21.67 million users to 36.24 million users. Meanwhile, the international subscriber base has exploded from less than 2 million subscribers to nearly 14 million.

Netflix's rapid growth in the U.S. has allowed it to spread its content costs over more users, thus boosting its domestic profit margin. Furthermore, while Netflix is still losing money on its international operations, these losses have narrowed considerably in the last 2 years.

Technical Details

Netflix has a 1-year low of $299.50 and a 1-year high of $489.29. The stock’s 50-day moving average is $464.4 and its 200-day moving average is $416.5. The company has a market cap of $27.166 billion and a price-to-earnings ratio of 138.42.

Technical indicators for NFLX are bullish and the stock is currently in an upwards trend. The stock has support above $452.50 and has recent resistance below $476.50.

Earnings

Netflix last announced its earnings results on Monday, July 21st. The company reported $1.15 earnings per share for the quarter, beating the analysts’ consensus estimate of $1.14 by $0.01. The company had revenue of $1.34 billion for the quarter, compared to the consensus estimate of $1.34 billion.

During the same quarter last year, the company posted $0.49 earnings per share. Netflix’s revenue was up 25.4% compared to the same quarter last year. Analysts expect that Netflix will post $3.85 EPS for the current fiscal year.

Analysts are expecting a lot from the video streaming company in the future. In an article on Trading Floor, Mads Koefoed from Saxo Bank said that by all consensus, Netflix, Inc. will report around $1.4 billion sales. This will be an increase by no less than 27.4% year over year for Netflix. Earnings per share is also going to get a boost to $1.17 from $0.52.

According to Netflix, Inc.’s estimate, its revenue will be around $1.22 billion. The company has recently rolled out its services in major countries in Europe. Australia and other parts of the world is now its target. The sudden expansion and sustenance of existing user base will give the company a great surge in its stock price in the coming quarters.

Experts think that number of subscribers are the key factor for Netflix, Inc. in defining its future course of action and growth. In the second quarter, Netflix, Inc. reported 50 million subscribers. The company is likely to add 3.69 million more new subscribers to this number. The company’s business model is completely fixated on subscription and the increase in subscriber base all over the world for Netflix, Inc. is the key to further growth in services curve.

Continued Growth

Netflix's rapid growth in the U.S. and its international markets has demonstrated that Netflix is still running circles around its would-be competitors. Amazon.com's Prime Instant Video is Netflix's most serious competition in the U.S., and also competes with Netflix in the U.K. and Germany.

Amazon doesn't release any statistics about user numbers -- let alone active user numbers (many people subscribe to Prime solely for its free shipping benefits). However, it appears to be way behind Netflix in terms of usage.

Statistics show that Netflix accounts for more than 34% of downstream Internet traffic in North America. By contrast, Amazon represents less than 2% of downstream Internet traffic. (Hulu, the other major subscription video-on-demand service, is also at less than 2%.)

Netflix is the dominant subscription video service by traffic in most of the international markets where it is available. For example, during peak evening hours, Netflix already accounts for 17.8% of downstream traffic in the U.K. and Ireland -- markets opened in early 2012. Other competitors are in the 1%-3% range.

Strategies Driving Growth For Netflix

Speaking at the 8th ACM Conference on Recommender Systems, Netflix, Inc.’s chief product officer, Neil Hunt, said the company spends $150 million a year on content recommendation. The company has a staff of 300 employees dedicated only to the task of improving and maintaining content recommendation on its app and its website. Mr. Hunt believes users look at the app for only a couple of minutes and the company has only a limited window to engage users into viewing content; an average user views 20-50 titles before choosing to view something or giving up.

Netflix continues to make consumer experience more interactive and customized. Earlier this year, the company launched a feature on its app that asks people to recommend content to their Facebook friends.

Netflix is a premier player in the video-streaming industry. It has been in the news often because of its adaptability to new technology. The Internet TV industry has grown rapidly in recent years and has replaced the concept of traditional pay-TV to a large extent. Netflix has stayed abreast with the positive spillover from changes in market conditions by keeping its website up to date with the latest and most-highly rated content.

The company has established its name as an innovation master. It believes that its investments in improving content recommendation are justified since they can lead to a drastic increase in revenue, even for a smaller churn. The company’s business model rests on customer subscriptions and the streaming giant is working on increasing its customer base, while competing against several established players in international markets. As part of its growth and subscriber-acquisition strategy, the company’s primary focus is to improve customer service and come up with innovations that make the product more attractive.

Netflix is also going Hollywood. The leading premium video service announced a pair of deals recently to bring first-run movies to its streaming platform.

It's about more than just trying to repeat the same trick that it has done with original TV shows over the past couple of years with the award-winning success of House of Cards, Orange Is the New Black, and others. Netflix is trying to reshape the multiplex industry with its latest swings.

Netflix announced a deal to bring Crouching Tiger, Hidden Dragon: The Green Legend -- the sequel to the 2000 Ang Lee wire-fu classic -- to its streaming customers next summer. The release will coincide with its theatrical debut in a partnership with IMAX (NYSE: IMAX) to screen on its more than 800 super-sized theaters worldwide.

It also announced last week that it would be bankrolling four upcoming Adam Sandler movies. There's no timetable on those releases. They are unlikely to simultaneously debut on IMAX, because that larger-than-life projecting platform gravitates toward big-budget action movies.

Analysts Opinions

Netflix‘s stock had its “buy” rating reaffirmed by research analysts at Wedbush in a report released last Friday. They currently have a $500.00 price objective on the stock. Wedbush’s price objective suggests a potential upside of 10.60% from the stock’s previous close.

Also, on Friday, Cantor Fitzgerald maintained its Buy rating and $500 price target on Netflix, Inc. and saw more growth ahead from a European launch.

Analyst Youssef Squali commented that he expects "Netflix to report solid 3Q 2014 results on October 15, with strength across both the U.S. and international markets."

Squali felt that "we could see additional upside to international (free) subs given the six-country European launch last month. The stock is up ~26 percent YTD, dramatically outperforming both the S&P500 and our CII."

"For the stock to work from here, we need to see further international strength, above and beyond what's already baked into current expectations, and further contribution margin improvement domestically," according to Squali.

The firm’s 3Q 2014 revenue, EBITDA and EPS estimates were "$1,432.1M (+29.5 percent Y/Y, implying further Y/Y acceleration), $149.8M (10.5 percent margin), and $0.92, slightly above (FactSet) consensus at $1,408.9M, $146.6M, and $0.91, respectively. Management guided to 3Q EPS of $0.89."

According to Squali, for Q4 2014 "consensus is modeling for revenue of $1,495.3M, EBITDA of $143.7M, and $0.87 EPS,” while the report modeled “year-end domestic streaming subs of 40.1M and international subs of 17.0M."

The company has also been the subject of a number of other research reports:-

• Analysts at Nomura reiterated a “buy” rating on shares of Netflix in a research note on Thursday. They now have a $425.00 price target on the stock, down previously from $455.00.

• Separately, analysts at Barclays upgraded shares of Netflix from an “underperform” rating to an “equal weight” rating in a research note on Friday, September 12th. They now have a $480.00 price target on the stock, up previously from $420.00.

• Finally, analysts at SunTrust initiated coverage on shares of Netflix in a research note on Wednesday, September 10th. They set a “neutral” rating and a $525.00 price target on the stock.

Four research analysts have rated the stock with a sell rating, sixteen have issued a hold rating and twenty-two have issued a buy rating to the company. Netflix presently has a consensus rating of “Hold” and a consensus price target of $448.52.

Conclusion

The company appears to be running on all cylinders, and there seems to be little reason to expect anything in the earnings report that will result in a stock pullback. It has an astronomical P/E ratio of 138, but with analysts expecting earnings growth of 71% next year, the high valuation can be tolerated, and even understood.

Netflix has a big audience. There are more than 50 million global streaming subscribers, and that grows by the millions with every passing quarter. If you think Netflix has a wide reach now, it will be even wider next summer for the Crouching Tiger, Hidden Dragon sequel and wider than that when the Sandler movies start to roll out.

NFLX is a stock with plenty of upside potential from its current level.

Therefore, based on the facts above the following options trade is recommended…..


**OPTIONS TRADE: Buy the NFLX Dec 2014 500.000 call (NFLX141220C00500000) at or under $7.50, good for the day. Place a protective stop loss at $3.00 and a pre-determined sell at $12.50.



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