Will Netflix Maintain Its Coronavirus-Fueled Subscriber Momentum?

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Netflix CEO Reed Hastings

Goldman Sachs' Heath Terry has become the biggest bull on Wall Street, estimating the streaming giant added "at least" 12.5 million subscribers in the second quarter.

A few months can make a big difference for a company like Netflix.

The global streaming giant is set to report its latest quarterly earnings Thursday following a first-quarter report that included 15.8 million subscriber additions worldwide, well above even the most optimistic Wall Street expectations amid the novel coronavirus pandemic. But investors, analysts and Hollywood are likely to pay even closer attention to the latest quarterly figures.

After all, Netflix was among the limited list of companies to share quarterly guidance despite the lack of clarity due to the pandemic, calling for 7.5 million subscriber additions for the three months ended June 30. It also warned that its forecast was "mostly guesswork" given the uncertainty around how long its subscribers would be sheltering at home. "In our 20-plus year history, we have never seen a future more uncertain or unsettling," CEO Reed Hastings wrote in a letter to shareholders. After "temporarily higher viewing and increased membership growth," he said his team expects "viewing to decline and membership growth to decelerate as home confinement ends, which we hope is soon." 

Plus, Netflix management has a history of struggling with its estimates for the second quarter. "For reasons not completely clear to us, Netflix has had trouble in the past predicting subscriber growth in a June quarter, with the most egregious example being last year’s second quarter, in which management had predicted subscriber guidance of 5 million, only to produce a mere 2.7 million," Imperial Capital analyst David Miller wrote in a June 18 report. Similar misses happened in 2016 and 2018.

Netflix's quarterly report comes after its stock closed last week at $548.73 following a recent all-time high of $555.88. That was up 30 percent from the $422.96 price the stock had closed at the week before its first-quarter earnings report, and in early Monday trading, Netflix shares at some point zoomed past the $575 mark.

As is often the case, Wall Street analysts' subscriber forecasts differ for Netflix's second quarter, with some sticking close to management's guidance while others predict a big upside surprise. 

Citing the "cocooning effect" of the virus pandemic, Miller forecasts nearly 8 million net user additions thanks to 7.4 million new international and 550,000 new U.S. and Canadian customers. "Not only is Netflix's service impervious to the effects of the virus, but because the price is so low, it is impervious to any derivative recessionary effects that may arise as a result," he argued.

Cowen analyst John Blackledge expects 7.51 million new subscribers for the latest quarter, including more than 1.1 million in the U.S. and Canada, highlighting that would be "well above the approximately 2.70 million in the second quarter of 2019." He added, "Netflix's sub forecast is achievable in our view given increased Netflix viewing as a result of the current COVID-19 pandemic in key Netflix markets around the world, an increasingly robust originals slate" and a "further rollout of mobile-only plans both in new and existing markets."

The analyst also highlighted "continued international strength driven by local originals and benefits from global set-top box integrations, which per management has surpassed 10 worldwide operator bundles."

In terms of originals, he estimated that Netflix will again report a year-over-year gain of original hours growth in the latest quarter: "The extensive content slate included the return of global hit Money Heist, and breakout shows Nailed It and Terrace House, as well as new series, including Too Hot to HandleSpace Force#blackAF, and Hollywood (from producer Ryan Murphy), as well as action film Extraction, and several comedy specials, including Jerry Seinfeld."

In a Sunday report, BMO Capital Markets analyst Daniel Salmon maintained his estimates for nearly 1.04 million U.S. net subscriber additions in the second quarter and more than 6.50 million new international subs. But he raised his stock target price from $500 to $625. 

Meanwhile, Benchmark Capital analyst Matthew Harrigan, one of the Netflix bears on Wall Street who launched coverage of the stock in April with a "sell" rating, in a Monday report raised his stock price target on Netflix from $340 to $397. While he still has his "sell" rating, Harrigan mentioned "continued member growth momentum" as his reason for the higher price target, but also argued that the pandemic may have led to more demand for the streaming service earlier than previously expected.

Goldman Sachs' Heath Terry on Friday became the biggest Netflix bull, estimating in a report that the company added "at least" 12.5 million subscribers during the period "as quarterly app downloads reached a record high and year-over-year downloads growth reached its highest level since the first quarter of 2016." Citing "a dramatically changing world that is pushing changes into every corner of consumer behavior," he also boosted his price target on the stock by $130 to $670, the highest among his peers.

"While management is likely to guide the third quarter conservatively given the first-half outperformance and the massive uncertainty in the current environment, we believe consensus estimates for the second half and beyond remain too low," he concluded. "Specific to Netflix, we continue to believe the COVID-19 crisis is accelerating the shift from traditional content consumption (linear TV, theaters, live events, etc.) to streaming services, as the network effect of subscriber additions, the sheer scale of Netflix's ad free content library, and its growing distribution ecosystem serve to steepen Netflix's growth curve both in the immediate and long term."

Hollywood and Wall Street will also keep eyes and ears peeled for what management says in the latest shareholder letter and earnings call about the state of productions around the world. The company has previously said it was mostly set for 2020 and announced earlier this month that it would extend hit drama The Crown by another season.

Wall Street will also be curious about what that means for the streaming giant's free cash flow after Netflix surprised many by posting positive free cash flow for the first quarter, the first time it has done so in years. Terry said it could remain positive in the second quarter to the tune of up to $100 million. 

"Netflix [shares] can move higher still as the focus shifts from being a beneficiary of stay-at-home behavior to the improving FCF profile instead," Salmon wrote in his report. He expects a $1 billion free cash flow loss this year and a $1.8 billion loss next year, but highlighted: "We believe Netflix will start generating positive free cash flow during 2022 and drive substantial growth through 2030, when we estimate free cash flow reaches $22.5 billion."