FBR has set a seemingly outrageous price target of $900 a share after last night’s report, becoming the latest in a series of analyst upgrades, although that price target makes the firm an outlier.
FBR upgrades Netflix (NFLX)
While this morning’s rally is all about Netflix earnings surprise, FBR analysts Barton Crockett and Howard Ma said they more than doubled their price target because of the results of their recent survey. They upgraded Netflix to Outperform and increased their target from $400 to an astonishing $900 per share (not a typo – How they picked the $900 number is anyone’s guess). Indeed, Netflix stock has been on a tremendous tear of late as management pursues a possible stock split.
Their proprietary survey was conducted with ClearVoice Research, and it indicated that almost 40% of U.S. TV households have Netflix and that they love it more than TV. They note that last night’s strong earnings report supports their theory that the company will reach 180 million global subscribers within the next five years. Of that total, they expect more than 60 million will be in the U.S.
They think their survey also suggests that over time, Netflix will have average revenue per user growth in the mid-single digits or possibly even higher. As a result, they suggest Netflix might be able to achieve a contribution margin greater than the 40% management is targeting by 2020.
Details on FBR’s survey
The analysts conducted their survey this month, polling more than 2,000 in various U.S. demographics, almost 800 of whom were Netflix subscribers. They report that 57% of those Netflix subscribers said if they had to choose between the video streaming service and pay TV, they would pick Netflix, Inc. (NASDAQ:NFLX). Also 49% of them indicated that they spend more time watching Netflix than they do pay TV.
One of the biggest drivers for usage of Netflix is original content, which the company plans to offer 320 hours of this year. Later the video streaming provider wants to double that amount, making the total number of hours and ramp of original content larger than that of any other major competitor.During the first quarter, Netflix’s average subscriber watched its service 1.9 hours each day, a 29% year over year increase. Nielsen estimates that viewers watch about five hours of TV per day.
Netflix posts strong earnings results
During the first quarter, Netflix reported adding 4.8 million new streaming subscribers, 2.28 million of whom were in the U.S. That was good enough to beat management’s guidance by 21%, and the FBR team estimates that the company could have more than 5.6 million U.S. adds this year and possibly more than 10 million internationally.
As Netflix ramps its international expansion quickly, the segment is expected to continue posting losses this year and next and be supported by the company’s U.S. business. When the international business becomes profitable, they estimate that every 1 million in subscribers results in $100 million in annual operating profit, assuming “steady-state content spending.” They also said every $1 increase in price should rive $750 million in annual profits.
The firm says (or perhaps they just think $900 is a nice number):
We derive our $900 price target using a sum-of-the-parts analysis, with a DCF that values domestic streaming at $300 (9.5x 2020E operating profit, or 6x 2015E sales) and values international at nearly 2x the U.S., with a market opportunity abroad that is 7x the U.S. in terms of addressable broadband homes.
The FBR team summarized the debate on Netflix right now, including their expected time frame of when they think each step will happen, in this chart: