KeyBanc Downgrades Netflix, Cites A Need For Stronger Revenue Growth

Exiting Netflix, Inc. NFLX's third-quarter earnings report, KeyBanc's bullish stance on the stock has come to an end after being in place since October 2015.

The Analyst

KeyBanc Capital Markets' Andy Hargreaves downgraded Netflix from Overweight to Sector Weight. The firm estimates fair value at $377.

The Thesis

Netflix showed a "renewed momentum" in subscriber net additions given a beat in domestic and international net additions. Management's guidance for fourth-quarter net additions also came in ahead of expectations, but guidance for global streaming contribution profit of $874 million was short of the analyst's prior estimate of $1.08 billion.

Hargeaves said the math behind management's fourth-quarter guidance implies the cost of acquiring a global paid subscribers will notably rise from $76 a year ago to $111. The rising cost could be attributed to deteriorating investment efficiency in the U.S. market. Management's guidance also implies incremental contribution margin in the fourth quarter will likely fall from 46 percent in the third quarter and 27 percent a year ago to 19 percent.

Netflix could leverage its global leadership position to generate new revenue streams from consumer products, advertising, mobile-only subscriptions and other new initiatives.

"We believe they will take several years to develop and view the opportunities as roughly offset by risks associated from rising interest rates and growing competition over the next year," Hargreaves wrote in the note.

For the stock to continue moving to the upside, however, the company needs to show both strong revenue growth and accelerating margin expansion -- both of which were absent in the third quarter.

Price Action

Shares of Netflix were trading higher by more than 9 percent to $380 early Wednesday morning.

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