Impressive user growth for Instagram mixed with bearish opinions regarding profitability have prompted analysts to weigh in on Facebook Inc (NASDAQ:FB) and Netflix, Inc. (NASDAQ:NFLX), respectively. Let’s take a closer look:
Baird analyst Colin Sebastian provided his insights on Facebook after the company’s photo sharing app, Instagram, reported impressive growth. Instagram now has over 500 million monthly active users and 300 million daily active users, compared to 300 M MAU/200 M DAU just two years ago. According to the analyst, these numbers “[suggest] that growth remains strong despite the relatively large user base.” The analyst is impressed by Instagram’s ongoing popularity in the App store, taking the #3 spot, supported by its relation and similarity to Facebook.
Despite recent growth, the analyst points to a slight decrease in Instagram user engagement in light of “concerns around usage patterns” for the Facebook app. According to the analyst, this decrease in engagement indicates either more passive new users or “legacy users engaging less frequently.” However, the analyst believes these declines are temporary. He explains, “As Instagram functionality is improved (i.e. suggest video pages) we expect engagement trends to stabilize.”
The analyst also comments on Facebook’s recent conversion tracking capabilities for its “Local Awareness” ads, allowing stores to see the effectiveness of ads in bringing foot traffic and in store purchases. The analyst sees this as a positive step for Facebook despite some minor flaws. He explains, “While this type of attribution methodology is imperfect (only measures “last click” attribution, only works with Facebook campaigns), we believe the additional clarity around advertising ROI should help increase Facebook’s share of overall ad budgets, a key positive.”
The analyst reiterates an Outperform rating on the stock with a $135 price target.
Colin Sebastian is ranked #26 out of 3,984 analysts on TipRanks, which measures analysts’ and bloggers’ success rate based on how their calls perform. The analyst has a 70% success rate recommending stocks with an average return of 14.7% per recommendation.
According to TipRanks’ statistics, out of all the analysts who have rated Facebook in the last 3 months, 95% are bullish while 5% remain on the sidelines. The average 12-month price target for the stock is $145.25, marking a 27% upside from current levels.
Pacific Crest analyst Andy Hargreaves commented on Netflix, refuting the bear case on the company, which states that the company’s return on invested capital (ROIC) is below the cost of capital, indicating they cannot make a profitable return on their investment, specifically related to content costs. The Bearish camp believes that in the future, content producers will either increase their prices for the company or pull their content off of Netflix completely.
Despite these bearish views, the analyst believes that “the negative view misses the model’s history of strong returns in the United States, underestimates the leverage a dominant distributor can create over time, and undervalues Netflix’s unique position in a massive global market.” The analyst states that his calculated ROIC, ascribing operated expenses and invested capital on a pro-rate basis, translates to 15% domestic ROIC which has been “up significantly and consistently” over the past three years. The analyst argues that a “disproportionate” amount of incremental capital raised by the company in the past two years went to international expansion efforts.
The analyst praises the company’s impressive returns in the U.S. “by steadily converting content investment into subscriber growth and pricing power,” driving 50% incremental contribution margins. He believes this threat will continue, predicting the company’s U.S. business to generate 2016 operating profits of over $1 billion. He continues, “When executed effectively, the business generates returns that increase with time and (and) the low corporate-level ROIC and operating margins are driven by investments into new markets, not weak performance for the business as a whole.”
He’s also confident in management’s ability to gauge profitability. He explains, “No logical manager would continue investing in markets that are perpetual loss-makers.” As a result, Hargreaves notes there is a “limited downside” to shares considering over $1 billion in domestic operating profits with 50% growth. The analyst also disagrees with bearish views that Netflix will have a tough time overseas. Hargreaves notes that due to Netflix’s success in the U.S, the “most competitive video market in the world”, they will likely succeed in international markets. Also, Netflix has had a relatively profitable international track record. He explains “The historical performance of Netflix’s international business suggests that margin expansion and returns on capital are following a similar pattern to the United States.”
Finally, Hargreaves refutes concerns regarding off-balance sheet spending, such as more than $12 of streaming content liabilities that bears argue could negatively impact profitability. However, Hargreaves reassures investors not to worry. He states that “long term commitments are a normal course of business in video distribution,” and highlights Disney as an example, which has more than $55 billion in content commitments with an annual revenue run-rate of $23 billion. The analyst notes that Netflix has a more realistic, less harsh structure. He explains, “Netflix’s liabilities are spaced through time and are contemplated in the existing content cost estimates through Netflix’s income statement.” He continues, “Further, the annual commitments are not particularly large compared to Netflix’s annual revenue of over $8 billion, so there is little merit to concerns related to the off- balance-sheet liabilities, in our view.”
The analyst reiterates an Overweight rating on the company with a $130 price target.
According to TipRanks.com, analyst Andy Hargreaves has a yearly average return of 18.8% and a 47% success rate. Hargreaves has a 54% average return when recommending NFLX, and is ranked #165 out of 3984 analysts.
Out of all the analysts who have rated the company in the past 3 months, 64% gave a Buy rating, 7% gave a Buy rating, and 29% remain on the sidelines. The average 12-month price target for the stock is $120.12, marking a 32% upside from current levels.