Earnings

Netflix Dropped on Earnings Last Quarter; Why This Time is Different

Person holding a tablet with the Netflix loading screen visible on display
Credit: sitthiphong - stock.adobe.com

When Netflix (NFLX) released their Q1 earnings three months ago, the results prompted a massive selloff. The numbers were released after the market close on April 20, and NFLX opened the next day more than 7% below its previous close. That selloff continued for a while, with the stock dropping just below $480 before bouncing back strongly. Back then, I wrote that while that selling was prompted by the disappointing subscriber growth numbers, it was exacerbated by a bearish mood in the market at the time. That, I maintained, would be temporary, and NFLX would recover.

That was pretty much how it worked out, so, after yesterday’s massive drop and with Netflix reporting later today, should traders and investors expect the same thing today? Will Q2 earnings prompt another opportunity to buy NFLX at a discount?

Netflix chart

Probably not, because the circumstances today are completely different from three months ago, not least in terms of expectations.

One of the things stressed by the sellers last quarter was that the subscriber miss was not just a miss of inflated analysts’ predictions; the company actually fell woefully short of their own subscriber growth guidance. They had forecast adding six million subscribers in Q1 yet reported only four million additions. One of the effects of that was to force a revision of estimates by both the company and analysts, and the current guidance for Q2 for one million net subscriber additions looks a lot more achievable that last quarter’s, even though the content launches this quarter have been a lot less spectacular than in the first three.

Then there is the question of market positioning, the thing that I maintain is one of the most important factors in determining the reaction to news of any kind. In the five days leading up to the Q1 release, NFLX gained ground, whereas this time it has fallen over the last few days, despite yesterday’s gains. Of course, today’s action will tell you what the real fast money is doing, but so far in premarket trading, the stock is indicating a lower opening, even though the market as a whole is looking like opening higher. All that means that rather than there being a big crowd of longs looking to take profits on good news, there are probably a few shorts this time around that could get squeezed if that comes about.

Based on what happened three months ago, the short-term price action in NFLX will be based on those two factors, subscriber growth relative to guidance and market positioning. With a much more conservative new subscriber guidance and analyst forecasts going in, and with some selling in advance of the numbers evident, the conditions reduce the chances of a big miss and a negative reaction in the stock such as we saw back then.

Still, the longer-term fate of Netflix will not be about one quarter’s subscriber numbers, nor will it be predicated on trader positioning. It will be about whether or not the company can deliver enough “must-see” content to continue to grow, while still making money as it does so.

Richard Saintvilus points out in his earnings preview this morning that the prospects are good on both those fronts. They plan to spend $17 billion on content this year, and their record of both critical and popular success with originals speaks for itself. Meanwhile, they have been steadily increasing margins and overall profitability, and seem to have finally put to bed the idea that the likes Apple+ TV and Disney+ would do serious damage to their business.

As I said three months ago, and have done on numerous other occasions, streaming subscriptions don’t work that way, at least in terms of Netflix. For most subscribers, Netflix is the base subscription to which others are added. Some people may not be able to afford everything and have to choose between services, but nobody is cancelling Netflix to add Discovery+ or whatever other new streaming service is offered.

All in all, the chances of another big drop in NFLX on earnings this time around look negligible at best and, if they continue to improve their profitability and show expansion in international markets, there is even a good chance of a decent pop tomorrow morning. So I, for one, will be staying long the stock, riding out any bumpiness that may come along, and looking for a return to around $600 before too long.

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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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Martin Tillier

Martin Tillier spent years working in the Foreign Exchange market, which required an in-depth understanding of both the world’s markets and psychology and techniques of traders. In 2002, Martin left the markets, moved to the U.S., and opened a successful wine store, but the lure of the financial world proved too strong, leading Martin to join a major firm as financial advisor.

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