Netflix Opens a New Front in the Streaming War. How Games Can Boost the Stock.
Almost ignored amid last week’s torrent of earnings news was confirmation from
that the streaming video service plans to jump into mobile gaming. Investors largely shrugged off the low-key announcement, focusing instead on another quarter of disappointing subscriber-growth guidance. But the move has the potential to shake up the nascent streaming gaming market—and to resolve some of the biggest concerns about the future of Netflix.
The news came at the bottom of the fourth page of the Netflix (ticker: NFLX) June-quarter letter to shareholders, with juicier details disclosed by Chief Product Officer Greg Peters on the company’s quarterly earnings Q&A (which, weirdly enough, it conducts via live video streamed on…YouTube). Peters said that Netflix views gaming as just another content category, like movies or TV shows. Netflix will target games for mobile phones, rather than TV, which makes sense; as Peters says, almost all of their customers have game-capable smartphones. (And playing a game on a connected TV poses obvious logistical challenges—a Roku remote would not make a good game controller.)
The kicker is that Netflix is not going to charge anything extra for games, and it isn’t going to include in-game ads or in-game purchases, either. This, in short, is a revenue-free upgrade. At least on the surface.
CEO Reed Hastings said on the call that Netflix remains a one-product company. Yes, it has opened a merch store, and sure, it is pursuing product-licensing deals for some programming, but Hastings sees all of that simply as a way to get people to watch more video, so they’ll stay loyal to the service, which would hold down churn. That’s how he thinks about gaming, too: There won’t directly be additional revenue, but it should make a Netflix membership more valuable to consumers.
That decision has ramifications for other players in gaming. If Netflix can create or license compelling games, the revenue-free business model would pose a challenge to nascent streaming gaming services from
(AAPL), and others. Other services are priced at $5 to $10 a month. And almost every popular mobile game in the Apple and Android app stores has an obvious revenue model; buy the game, see ads, or purchase upgrades. The Netflix model should offer a better experience, in the same way that the subscription video experience is better than ad-littered linear TV.
Meanwhile, Netflix posted June- quarter results that were largely in line with its own guidance and Street estimates. Net new subscriber gains of 1.5 million were a bit better than the one million that Netflix had projected. The company forecasts 3.5 million subscriber adds in the September quarter, about two million below the Street’s old forecast. There are plenty of reasons for the slower growth: the “pull forward” effect of huge subscriber gains during the pandemic; a weak first-half content slate, hampered by last year’s Covid-related restrictions on new film and TV production, and recent price hikes in some markets. Also, some Netflix bears think that the company has been hurt by intensifying competition from HBO Max, Disney+, and other streaming services, although, on the call, Hastings denied that is true.
In a research note, Evercore ISI analyst Mark Mahaney declared the quarter to be a “clearing event,” setting the stage for a rebound in both fundamentals and shares. His view: Year-over-year comparisons with the Covid period will ease, production challenges will fade, the content slate will get richer in the second half, and subscriber growth should accelerate. He believes that the stock “should surge” from here.
Taking the long view, Mahaney thinks the Netflix subscriber count can reach 500 million by 2030, from a little over 200 million now. At that point, he says, Netflix should generate close to $80 a share in profits, up from an expected $10 and change this year. That implies nearly 30% annual growth on a compounded basis. The year 2030 admittedly is a long way out. But he sees profits of close to $30 a share by 2025. If Netflix stays on track, he says the stock in 2024 could trade for 30 to 35 times that level, down from a 40 multiple on forward earnings, indicating that the stock could double. As he notes, that would be a very good return, indeed.
Update: Last week, I wrote an article about German enterprise software giant
(SAP), and asserted that the company should benefit over time as it shifts to a cloud-based business model.
As I noted, whenever a software company makes that shift, it always results in some financial upheaval, since it tends to reduce revenue in the short run as customers shift from perpetual licenses (recognized upfront) to subscriptions (recognized ratably over time). You could see that in SAP’s June-quarter results, announced last week. Revenue was up 3% on a constant currency basis, in line with Street estimates. But below the surface, the business was shifting. Cloud backlog was up 20%, and backlog for the cloud-based version of SAP’s flagship S/4 Hana enterprise resource-planning software jumped 48%. But traditional software license revenue fell 13% on a currency-adjusted basis, and services revenue—also tied to the old business model—fell 7%. While the stock sagged a bit, the story hasn’t changed. SAP will emerge with a better model and double-digit revenue growth. Stay the course.
Write to Eric J. Savitz at [email protected]