Netflix Is Still Way Too Expensive

I regret that I must admit that I have a terrible track record with Netflix (NFLX). Last April, I called Netflix “the absolute worst stock to buy.” Not only was I wrong, but I was horribly wrong. The stock has soared dramatically ever since.

On top of that, I got an email from the CEO telling me I had misspelled the name of the company. (For the record, it’s Netflix, not NetFlix. Consider yourself warned.)

Let me clear up a point of confusion about investing. Stock analysis isn’t about predicting the future; it’s about making reasonable judgments about the future. Everyone is going to be wrong. If I could predict the future accurately, well…I wouldn’t be bothering myself with stocks.

Still, it’s important to learn from your mistakes. The judgments of the market can be very humbling. I’ve looked at the numbers and I still think Netflix is dramatically overpriced. Unfortunately, I don’t have the ability to say that it won’t become evermore overpriced.

Let’s look at some of the math. For 2010, Netflix had a net profit margin of 7.4%. The current market value is $12.2 billion. Assuming the margins stay constant, Netflix will need to generate revenues of $165 billion to earn its market value back. That works out to about $500 per every person in North America.

Now let’s add some context. Last year, Netflix generated revenues of $2.1 billion. This year, they’re projected to generate revenues of $3.1 billion. We’re at the point where people are only buying Netflix because they think they can dump the shares off at a higher price to someone else. This is also known as “the Greater Fool Theory.” The problem isn’t that it doesn’t work. It does work, just for everyone else.

Posted by on February 14th, 2011 at 9:26 am


The information in this blog post represents my own opinions and does not contain a recommendation for any particular security or investment. I or my affiliates may hold positions or other interests in securities mentioned in the Blog, please see my Disclaimer page for my full disclaimer.