By : Erik Gruenwedel | Posted: 14 Apr 2009
egruenwedel@questex.com

Shares of online DVD rental pioneer and Wall Street darling Netflix Inc. have apparently reached their zenith for fiscal 2009, according to a new analyst report.

Michael Pachter with Wedbush Morgan Securities in Los Angeles April 14 said Netflix’s shares currently traded 27 times above fiscal-year earnings estimates — nearly twice the market multiple. Therefore, the analyst said he considered the stock to be fully valued and downgraded it from “buy” to “hold.”

Los Gatos, Calif.-based Netflix’s shares closed April 13 at a near record $49.43 per share — $1.43 per share above Wedbush’s 12-month target price of $48.

“We acknowledge that this downgrade may appear ‘early’ in light of the company’s recent spectacular results and improving fundamentals; however, we believe that Netflix’s shares … reflect positive guidance as well as better performance in the future,” Pachter wrote in a research note.

He said Netflix would continue to invest a significant percentage of its earnings into improved content for the Watch Instantly streaming service totaling about $100 million this year, compared to $75 million in 2008.

The analyst said the 25% surge in streaming investment would be partially offset by reduced subscriber demand for DVD rentals and related postage and fulfillment expenses. He said Netflix’s average-revenue-per-user (ARPU) would begin to rise gradually through the company’s recent increase in Blu-ray pricing, resulting in improved operating leverage.

Pachter said Netflix’s recent content deal with MTV/Comedy Central for “South Park” episodes and related agreements with Starz substantially increase the quality of its streaming fare.

Research analyst Edward Woo concurred that Netflix is using the Blu-ray price increase to gauge subscriber reaction to a possible future charge for streaming.

“They will risk getting much better content by raising prices similar to what they are doing with Blu-ray users,” Woo said.

Wedbush believes Netflix can reach 10% household penetration via streaming partnerships with Microsoft, LG Electronics, Samsung and others. He said streaming accounted for 610,000 new subscribers during the first six weeks of the year.

“We continue to expect streaming to drive new customers to Netflix and limit churn of existing customers, ultimately allowing the company to manage its operating costs,” Pachter wrote. “Netflix controls its own destiny.”

The analysts doubt Netflix is looking at renting video games, despite online scuttlebutt to the contrary. They said the economics of video game rentals are much tougher since games depreciate more quickly than movies.

“They may do it [just] to mess with Blockbuster’s plan to tie game rentals with Total Access,” Woo said.

As a policy Netflix does not comment publicly regarding analyst projections or movement of its stock.

Netflix reports first-quarter results April 23.
 

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