Contrarian Investors Eye FAANG's Netflix

Contrarian Investors Eye FAANG's Netflix

Financial Markets
June 17, 2018

When it comes to investing in capital markets institutional and retail (individual) investors usually have contrasting opinions.  Institutional investors claim superiority in "beating the markets" by talking about their models, investment theses backed by complex research, and throw in a mix of technical Greek jargon (Alpha, Beta, Gamma, Delta...) - in an attempt to prove to the individual investor their claim to the Street.

However, when investors of all calibers start talking asset selection - high-cap growth specifically - everyone seems to be on the same page: invest in FAANG.

Facebook ($FB), Amazon ($AMZN), Apple ($AAPL), Netflix (NFLX), and Alphabet ($GOOG), make up the notorious FAANG group of stocks that miraculously continues to outperform all benchmarks of investing. Maddening highbrow investors - if you asked a random person what stocks they would buy, they would probably respond with at least two of the five.

Institutional sentiment for FAANG stocks continues looking up.

Despite the Cambridge Analytica debacle plunging Facebook share prices many notable funds used the opportunity to average down - purchasing more shares at the discounted price, SEC May filings show.

Apple is on the verge of a 1 Trillion US Dollar valuation, needing their share price hit the $199.2 - $203.3 trading range. The valuation would not only serve as a great achievement for the company, but also as a milestone for corporate America and capitalism.

The tech giant Alphabet continues making big plays in AI and driverless cars with Waymo, and consumer plays with the release of their new Pixel smart phone.

Amazon's success has warranted a pseudo-beauty pageant for what city will be home to the firm's new headquarters. The company continues to expand into the heart of every home in America with its assistive devices that bring all of Amazon's products together.

Finally, there's Netflix.

Contrarian Positions

Many activist and contrarian investors have for a long time argued FAANG's overvaluation. Questioning the pricing for high-cap growth stocks is nothing new, however seldom does any skeptic commit to a short position.

The compiled, abridged, and simplified short thesis is:

Netflix is a glorified VOD streaming service that will have to face deep-pocketed competitors down the line.

Andrew Left, a short seller (Citron Research) with a track record of a handful of successful shorts ($VRX , $UBNT , $ROKU) and several failed positions ($SHOP, $TSLA), has also expressed his discontent with the company in March.

A Netflix short may sound absurd partly because of the time in which it's presented. The company boasts increased userbase, increased earnings, and overall increased customer satisfaction. Netflix has captured an estimated 61% of VOD customers across mainstream platforms. The problem remains in maintaining growth, and retaining existing customers. As the VOD industry grows in popularity content becomes the main commodity, and even though Netflix continuously pours money into their Original programs - it's nowhere close to the production quality of major brands such as HBO, DC Entertainment, and Warner Bros - all recently acquired by AT&T ($T) during the Time Warner Inc. merger.

Indeed, the AT&T acquisition of Time Warner Inc serves as a scary reminder to Netflix of the massive operational scale of conglomerates. Lest they forget 21st Century Fox ($FOX) is still stuck in the middle of a bidding war between Comcast ($CMCSA) and Disney ($DIS).

With major production studios caught in the turmoil of M&A, Netflix must rely on existing licensing deals, but still worry about Amazon Prime and Hulu's uneasy presence. From the investment standpoint; Amazon Prime contributes only 5% to Amazon's total revenue - hardly worrying the shareholders.

The Verge recently covered the implications of AT&T's acquisition in a comprehensive article, citing many faults of the government in allowing the merger to take place. The following excerpt details why AT&T has an incredible edge on other content producers:

Tech companies might have vertically integrated the creation and production of content with consumer-facing apps and services, but they all depend on internet connections to reach their audiences. And those connections are increasingly wireless. AT&T and Time Warner aren’t trying to catch up to Netflix by merging; they’re trying to step ahead of them in line by marrying Time Warner’s content to AT&T’s network. (Source)

Investors must examine Netflix through a different lens. If the company fails to evolve into an ISP or to diversify their revenue stream it will feel the pressure from conglomerates like AT&T. In the past Netflix was disruptive, innovative, the new Blockbuster, and shares have traded with the attached premium. While recent events have not yet reflected upon Netflix's operations, nor the share price, the possibility of Netflix losing market share to AT&T should remain in the minds of shareholders.