Netflix's Ad Tier Accretion Despite Subscriber Deceleration Add To Stock Upside, Analyst Projects

Wedbush analyst Michael Pachter maintained Netflix Inc NFLX with an Outperform and raised the price target from $615 to $725.

After a year of significant growth, the analyst removed Netflix from Wedbush's Best Ideas List (BIL). 

His quarterly survey indicates a seasonal deceleration in subscribers (though likely continued year-on-year growth) and an expansion of subscribers on Netflix's ad tier. 

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As long as global trends remain consistent and the ad market continues to improve this year, he expects Netflix to continue to report strong results. 

With that said, some of the significant catalysts that drove his BIL placement have been priced in, including benefits from the password-sharing crackdown and reduced churn from the introduction of the ad tier. 

Pachter noted the ad tier will continue to limit churn, and it has a significant opportunity to expand its advertising revenue in 2024 and beyond. 

He noted Netflix has reached the right formula with global content creation, balancing costs, and increasing profitability. 

Pachter noted Netflix will continue to expand profitability and generate increasing free cash flow, supporting his re-rating and new price target.

With further catalysts ahead, like complete digestion of the advertising potential of WWE in 2025 and beyond, gaming expansion into more licensed IP, and growth in viewership (leading to accretion) on the ad tier, he raised his price target.

The re-rating reflects a P/E multiple of 36x (from 30x) on his 2025 EPS estimate. 

Netflix can meet expectations for EPS to more than double between 2023 and 2026, supporting its premium valuation. 

However, Pachter removed Netflix from Wedbush's BIL, given that Netflix's ability to beat investors' high expectations will be more challenging over the coming year.

The Wedbush quarterly survey results continue to point to net subscriber additions, ad tier expansion, and higher ARPU in the UCAN region.

Pachter once again commissioned a streaming-focused survey through Momentive in March 2024, tracking trends for the first quarter of 2024 and looking forward to the second quarter of 2024. 

The primary takeaways from his survey (concerning the U.S. market only) are 1) subscriber growth decelerated sequentially but likely rose year-over-year, in line with guidance, 2) the proportion of subscribers on the ad-supported tier again ticked higher in the quarter, 3) new and returning subscribers are more likely to opt for the ad-supported tier in the second quarter of 2024, and 4) Netflix continues to benefit from former account-sharers, at least 13% of whom opted to pay more for the extra-member feature post-crackdown, resulting in higher ARPU. 

Another 10% of former account sharers kicked off extra members, many of whom have signed up or will sign up for accounts in the coming quarters, Pachter stated. 

As per the analyst, Netflix is nearing accretion on its ad tier, a likely 2024 event. 

He expects the ad tier to drive ARPU, revenue, earnings, and free cash flow meaningfully higher in the coming years.

Pachter projects a first-quarter revenue and EPS of $9.25 billion and $4.55.

The stock gained 89% in the last 12 months. Investors can gain exposure to the stock via Invesco Next Gen Media And Gaming ETF GGME and REX FANG & Innovation Equity Premium Income ETF FEPI.

Price Action: NFLX shares traded lower by 2.58% at $612.87 on the last check Wednesday.

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