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How Netflix Could Turn $2 Into $1.7 Billion

Netflix (NASDAQ: NFLX) shares are up significantly this year, despite new competition and an uncertain economic environment. The pandemic is helping the company show off its valuable catalog to millions of new subscribers. Next year, the tiger king in the streaming business will likely ask consumers to pay more to Netflix and chill. Normally, a price increase might seem like bad news -- but Netflix's subscribers probably won't flinch, because the service's value is top notch. Investors who have been treated to a strong stock performance in 2020 should be excited for a potential 2021 sequel.

Indispensable

A group of 16-to-34-year old U.S. consumers was asked to identify the most indispensable TV networks and video sources.

Most indispensable video source as of January 2019, includes Netflix, Hulu, ESPN, HBO, and Amazon Prime.

Source: Statista. Chart by author.

It's not a strange thing that for this age group, Netflix is number one, and it's not even close.

Netflix on television and remote showing customer choosing what to watch.

Source: Getty Images.

Based on the streaming leader's popularity, Piper Sandler analyst Michael J. Olsen conducted a survey  to determine how much more domestic customers would be willing to pay for their Netflix habit. Over 1,000 subscribers responded, with a majority willing to accept an average price increase of $2.40 per month.

Netflix's pricing power corresponds with Fool.com contributor Adam Levy's findings: Netflix is gaining market share, and subscribers seem to be sticking around longer. Top services tend to gain market share, and higher customer satisfaction leads to less churn.

It's somewhat surprising that loyalty to Netflix is improving, even as The Walt Disney Company's Disney+ surpassed 60 million paid subscribers globally. According to a poll of over 63,000 Americans by Piplsay, over 50% of 18 to 38 year-olds have subscribed to Disney+. In addition, Disney+ has broad demographic appeal, with everything from the Toy Story movies for kids to Marvel and Star Wars movies for adults. Yet Disney+ and its ability to woo subscribers don't seem to deter Netflix's strategy of increasing prices every year or so to invest in more content.

In the last six years, Netflix has increased prices four times. The most recent price hike was in January 2019, when domestic plans increased by $2 per month. Though this was the largest increase in the company's history, full-year 2019 subscriber growth remained impressive at 20% year over year.

Netflix has just under 73 million paying subscribers in the U.S. and Canada as of Q2 2020, representing roughly 38% of the company's total global customers. A price increase of $2 per month would make Netflix's standard plan $14.99. Netflix might want to send AT&T a thank-you card, because its HBO Max costs $14.99 per month, giving Netflix more of an excuse to charge a similar price.

In the US & Canada, Netflix generated average revenue per user (ARPU) of $13.25 during Q2 2020. Further, the company's ARPU in this region has consistently exceeded $13 each of the last four quarters. A $2 price increase would move its ARPU here to $15.25, assuming no customers upgrade or downgrade in response.

This $2 per month would generate more than $1.7 billion in additional US & Canada annual revenue even with no subscriber growth.Netflix might see some increased churn because of the price increase. However, within a few quarters of the last price increase, churn levels returned to normal. In addition, based on Netflix's international catalogs, there seem to be opportunities for overseas price increases.

Turning pennies into millions

Domestic Netflix subscribers pay an average of $13.25 per month, yet this is far more than the international customer average.

Netflix average revenue per user ARPU broken down by domestic and international divisions over the last five quarters.

Source: Netflix. Chart by author.

Over the last four quarters, Netflix has become a tale of two halves. The company's ARPU in its domestic, Europe, Middle East, and Africa businesses gradually increased. By contrast, the Latin America, and Asia-Pacific businesses, have witnessed an annual ARPU decline .

In addition, Netflix's content library, and cost per title, are quite different on a country-specific level. The argument can be made that a broad content library should give Netflix pricing power. Theoretically, customers are willing to pay more for a broader selection. This relationship seems to hold true in most of the company's top markets. 

Price per title for Netflix for six different countries comparing the price per title based on the Netflix basic plan.

Source: Comparitech. Chart by author.

It should be no surprise that the United Kingdom generates the second-highest average ARPU for Netflix, along with offering the second largest title library. Canada offers a similar value, as it is included with the United States as the highest average ARPU, and offers the third-largest library. Netflix generally makes the most money per user where it offers a broad selection of titles.

However, there are countries where Netflix is still investing for future pricing power. Though many countries have been hard hit by the pandemic, the streaming giant may have the opportunity to raise prices as these areas recover. For instance: In India, Brazil, and Japan, subscription pricing is 32% to 39% less than domestic plans, yet these countries rank in the top 10 largest catalogs.

The bottom line: Netflix will likely ask domestic subscribers to pay more in 2021. Subscribers will probably be OK with the new pricing because they perceive a lot of value in Netflix's service. Investors can buy shares of this growth stock now, before the benefit of potential price increases drives the stock higher.

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Chad Henage owns shares of AT&T. The Motley Fool owns shares of and recommends Netflix and Walt Disney and recommends the following options: long January 2021 $60 calls on Walt Disney and short October 2020 $125 calls on Walt Disney. The Motley Fool has a disclosure policy.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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