This Stock Could Rally 40%-Plus in 2021

Shares of Netflix (NASDAQ:NFLX) soared Wednesday after the streaming video giant reported strong fourth-quarter numbers which breezed past expectations. As of this writing, NFLX stock is up more than 13% on the day.

The big move in Netflix stock makes complete sense.

This was a blockbuster earnings report which strongly underscored the long-term bull thesis on Netflix stock that — despite rising competition — Netflix remains the unrivaled leader in the burgeoning streaming TV market.

Assuming this remains the case for the balance of 2021 (it should), then the stage is set for Netflix stock to run above $700 over the next 12 months.

Here’s a deeper look:

Netflix Remains the Streaming King

The robust success of Disney+ and fuboTV (NYSE:FUBO) — coupled with the launch of HBO Max, Hulu with Live Sports and many others — has created this false narrative in markets that competition will kill the Netflix growth narrative.

News flash: It won’t.

Netflix’s earnings confirmed as much.

Netflix has more competition than ever before. Yet, in the quarter, the company added 8.5 million new subscribers — one of its best quarters ever, sans the Covid-19 era. Even further, Netflix expects to add another 6 million new subs next quarter.

In other words, Netflix is sustaining its red-hot subscriber growth trends, even amid a ton of new competition. The implication? The competition doesn’t matter. Netflix makes the best content, and sells that best content through the best streaming platform. Current subs aren’t going to quit the service anytime soon. New subs will keep flocking to the service.

The data unequivocally illustrates that Netflix has always been, still is, and will forever remain the streaming TV king.

Of course, that’s exceptionally bullish for NFLX stock.

Profitability Continues to Improve

Another false narrative flying around NFLX stock has been that Netflix’s business model doesn’t have much operating leverage — which is something that was also proven wrong by fourth-quarter numbers.

In Q4, Netflix’s operating margins rose 600 basis points year-over-year, bringing fiscal 2020 operating margins to 18% (up 500 basis points year-over-year). Q1 operating margins are expected to rise 840 basis points. Fiscal 2021 operating margins are expected to clock in around 20% (up 200 basis points).

The pattern here is crystal clear. Each and every quarter, Netflix’s profit margins are dramatically improving.

That’s because Netflix’s business model has tons of operating leverage. The amount of money it takes to make a good movie or TV show is relatively fixed and consistent. Therefore, the more subscribers Netflix can get to pay to watch that content, the more the company can drive revenues higher without driving costs higher.

That’s a winning strategy for margin expansion.

Netflix is executing that strategy flawlessly, to the tune of several hundred basis points of margin expansion every year. This trend will continue. Ultimately, Netflix will pan out as a 30%-plus operating margin company.

Financial Structure Strengthening

For years, NFLX stock bears have hammered the company for its poor cash flows, and pointed to the fact that this has historically been a debt-driven growth story (Netflix has financed most of its content costs through debt issuances).

Neither weaknesses are true anymore.

In the fourth quarter of 2020, free cash burn was a mere $284 million, versus $1.7 billion of burn in the year-ago quarter. For the full year 2020, free cash flow was $1.9 billion, versus $3.3 billion of burn in 2019.

In other words, Netflix is now a cash flow positive company.

This reality means that Netflix will no longer need to rely on debt to finance content production. From the Q4 Shareholder Letter:

“Combined with our $8.2 billion cash balance and our $750m undrawn credit facility, we believe we no longer have a need to raise external financing for our day-to-day operations.”

Big picture: Netflix’s financial strength was once shaky. Now, it’s rock-solid. That should result in meaningful multiple expansion for NFLX stock.

Bottom Line on NFLX Stock

Netflix’s fourth-quarter earnings report was a home run hit. It broadly underscored that: 1) competition concerns are overstated, 2) Netflix remains the undisputed streaming king, 3) the company’s business model is very scalable and highly profitable, and 4) the company’s financial strength will significantly improve over the next few years.

Given these positive takeaways, I’ve revised my long-term model Netflix higher to account for more rapid sub growth and better-than-expected profit margin ramp.

I now see Netflix netting about $60 in earnings per share in 2030. Based on a 22X forward earnings multiple and an 8% annual discount rate, that implies a 2021 price target for NFLX stock of over $700.

— Luke Lango

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Source: Investor Place