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Netflix defies Wall Street skeptics with membership beat, improved cash flow

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Netflix defies Wall Street skeptics with membership beat, improved cash flow

Netflix Inc.'s stock soared Jan. 20 as Wall Street reconsidered whether the bear case on the company's outlook was dead following a fourth-quarter 2020 earnings report that beat expectations on key membership and cash flow metrics.

Netflix surpassed 200 million global paid members in the just-ended period, adding 8.5 million net paid subscribers versus its 6.0 million guidance. But analysts pointed to the company's positive free cash flow as a key sign that Netflix's future was more stable than previously anticipated. The company's spending and cash burn have long cast a cloud of doubt over its future, especially as the streaming market grows more crowded with new, well-funded competitors bidding up the price of production.

That cloud began to clear Jan. 19, as the company reported positive cash flow of $1.9 billion in 2020 and expectations for a break-even year in 2021. Further, Netflix executives said the company will no longer depend on third-party financing to fund its day-to-day operations. Shares of Netflix gained nearly 17% in the day following the news, closing Jan. 20 at $586.34.

"The company has consistently surprised us by keeping its foot on the gas pedal for subscriber growth, while benefiting from a disruption in production to generate positive free cash flow," wrote Wedbush Securities analyst Michael Pachter in a Jan. 20 note. "We have long believed that Netflix faced a difficult path to positive free cash flow, but its performance in 2020 has convinced us that we were wrong."

Pachter reiterated his "underperform" rating, however. Even if Netflix is able to generate $1 billion in cash each year after 2021 and investors give the company generous discounts and multiples on its cash flow, he still believes the company should have a 12-month price target of $340 per share, far below its Jan. 20 trading price.

Other analysts were more bullish. Truist Securities analyst Matthew Thornton reiterated a "buy" rating on Netflix's stock and raised his price target to $630 from $560 in a Jan. 20 note, calling the company's fourth-quarter results a "nail in the coffin of the cash flow bear-case."

Meanwhile, Pivotal Research Group analyst Jeffrey Wlodarczak raised his price target to $750 from $660, pointing to the company's unexpectedly strong U.S. growth as a sign that concerns about the maturity of the company's domestic market were overblown.

Netflix added 860,000 net paid subscribers in the U.S. and Canada during the fourth quarter, up from 180,000 in the third quarter, a low point for the year. Wlodarczak had forecast domestic net adds of 375,000 for the just-ended period.

Most of Netflix's new fourth-quarter subscribers — 4.5 million — came from Europe, the Middle East and Africa. The EMEA region has been adding more paid members than any other over the past two years. Netflix reported 66.7 million total EMEA members at the end of 2020, second only to the U.S. and Canada, with 73.9 million members.

The company's fastest-growing region was Asia-Pacific, which gained 57% members year over year, though the region's growth is measured from a smaller base. Netflix ended 2020 with 25.5 million Asia-Pacific members, including 2 million added in the fourth quarter. In comparison, the EMEA net additions drove year-over-year growth of 28.8%. In the U.S. and Canada, the company's subscribers grew by 9.3% year over year.

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The fourth-quarter membership growth implied that there could be higher penetration potential not only in the U.S. and Canada but in each of its reported geographies, said Wlodarczak in a Jan. 20 note that reiterated his "buy" rating on the company's stock.

Splitting the difference between the bears and the bulls, MoffettNathanson lead analyst Michael Nathanson reiterated a "neutral" rating on the company following the earnings results. Nathanson said he expected the company's advantage in releasing new programming content would "narrow" as the pandemic waned and new streaming entrants matured. He pointed to the company's growing international footprint as critical to its outlook.

"Netflix's biggest structural advantage remains their global footprint, which few can rival and is providing a fresh source of new content," Nathanson said in a Jan. 20 note.

The analyst also said Netflix's stock has natural valuation limits that will become more apparent as the company struggles to outdo its 2020 performance.

Nathanson raised his price target on Netflix $45 to $465.

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