Up More Than 40% Over the Last Year, Is It Time to Buy Netflix?

Netflix (NFLX -1.79%) reported earnings on July 18 and showed some strong momentum heading into the third quarter. As the No. 1 name in streaming, the company’s continued push for quality content, coupled with its focus on creating a larger ad-based membership, give it room to drive sustained revenue growth.

A rising star in the ad-supported plan

With plans to phase out its cheapest ad-free plan, Netflix is putting in place a strategy to get more out of its subscribers. This shift, with more emphasis on the company’s ad-supported tier, gives Netflix room to run in terms of top-line growth.

In the second quarter, total ad-based subscribers increased 34% on a sequential basis. Co-CEO Gregory Peters noted during the earnings call that while average revenue per member for the ad-supported tier is still lagging that of ad-free members, “it’s a revenue growth opportunity for us as we scale into that.” There’s real potential on this front for Netflix to grow its top line as it continues to sign up ad-supported subscribers while better monetizing them at the same time.

To complement this side of the business, Netflix is launching its own in-house adtech platform aimed at improving the user experience and offering “better advertiser features.” The ad platform will launch in Canada this year with new markets coming in 2025.

Second-quarter strength

Revenue increased 16.8% year over year to $9.56 billion in the second quarter, marking the company’s fourth straight quarter of accelerating growth. Operating margin also improved from 22.3% to 27.2%, and earnings increased a whopping 48.3% to $4.88 per share.

Global paid memberships increased 16.5% to 277.65 million, handily outpacing the 8.0% growth from a year ago. CFO Spencer Neumann noted this strong performance was attributable to three main factors: a strong content slate, the appealing price point for the ad-supported plan, and ongoing success of the paid-sharing offer.

If there’s one complaint that could be made about Netflix’s Q2 results, it’s free cash flow, which declined nearly 10% year over year to $1.21 billion.

Promising guidance

Management’s Q3 outlook calls for further growth with expectations for revenue of $9.73 billion, which would represent a 13.9% increase year over year. Earnings are expected to climb 36.7% to $5.10 per share, beating the analyst consensus of $5.05 per share.

Looking further out, Netflix anticipates full-year revenue to increase 14% to 15%. At its size, that would be a great result.

The importance of content

Netflix has gained more than 21,000% in the last 20 years. Without a doubt, the most important thing for its continued success is content. The streaming wars are alive and well, and the latest round of Emmy nominations is a nice indicator that Netflix is on the right track. The studio was the most nominated for the 76th Emmy awards with 107 nominations over 35 different programs. As impressive as that may be, perhaps more appealing is the market share of viewing time that’s still left for Netflix to target.

As of the second-quarter earnings release, Netflix noted there is 80% or more of television time that’s not represented by Netflix or Alphabet’s YouTube. That leaves a huge market opportunity for the company to strive for.

And trading at 39 times trailing earnings, Netflix shares are below their five-year average price-to-earnings ratio of 57. This is still a good time for long-term investors to buy shares.

Suzanne Frey, an executive at Alphabet, is a member of The Motley Fool’s board of directors. David Butler has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Alphabet and Netflix. The Motley Fool has a disclosure policy.