Why Netflix Stock Is Still a Buy

Netflix (NFLX 0.85%) isn’t the stock market darling it once was. While the video streamer was once squarely featured in the FAANG group of fast-growing tech stocks, it’s the only one of the group to be left out of the “Magnificent Seven,” one of the current groupings of elite tech stocks.

The company suffered a setback as the pandemic wound down — subscribers briefly dipped and profits fell — but Netflix has adapted to the new streaming landscape and is thriving once again, even as its legacy media competitors continue to fall flat. It launched an advertising tier, something investors had long asked for, giving customers a lower-priced subscription option and advertisers a way to reach a massive audience. It also cracked down on password-sharing, which boosted revenue, much of which went straight to the bottom line.

It may have fallen out of the stock market’s vanguard, but the streaming stock just set another all-time high following its third-quarter earnings report, and the numbers show why.

Strong numbers

Netflix continues to deliver strong growth across the board, adding 5.1 million subscribers in the quarter, or 35.6 million over the last four quarters. That drove revenue up 15% in the quarter to $9.83 billion, which edged past estimates of $9.78 billion.

The company also delivered strong growth in operating margin, its primary focus in profitability; that margin jumped from 22.4% to 29.6%, though it was partly influenced by the timing of content spending. In response, management raised the full-year operating margin forecast from 26% to 27%.

On the bottom line, earnings per share based on generally accepted accounting principles (GAAP) came in at $5.40, up from $3.73 in the year-ago quarter and ahead of the consensus of $5.16.

Netflix also gave solid guidance for the fourth quarter, calling for revenue growth of 14.7% and earnings per share of $4.23. Both figures were ahead of analyst forecasts.

Despite the strong results, there’s some concern that the growth driven by the password-sharing crackdown is fading. Subscriber additions, though solid at 5 million, were the slowest in the last five quarters.

Image source: Getty Images.

Why Netflix can keep gaining

Those are valid concerns, as the service has already signed up nearly 300 million households, and is likely to approach a ceiling in its addressable market at some point. However, Netflix shared one insight that should give investors some reassurance.

In the shareholder letter, management told investors, “We still see plenty of room to increase our margins over the long term.” That’s an important statement to understand, even as Netflix investors often focus on subscriber growth instead of the bottom line.

The 27% operating margin Netflix is on track for this year is certainly impressive. But the company still has the potential to expand that significantly, as its subscription model scales and affords it the kind of leverage that companies like Meta Platforms and Alphabet have earned in digital advertising.

Even as the tailwinds from paid sharing start to fade, Netflix has a number of levers it can pull to both grow the top line and expand margins.

Its advertising business is starting to reach scale, and while management said it doesn’t expect advertising to be a meaningful revenue growth driver in 2025, the ad business is growing quickly. Membership in the ads plan grew 35% quarter over quarter, and more than half of sign-ups in countries with the ads plan opted for that option.

Offering advertising also gives the company more flexibility in programming. It’s starting to experiment with live sports, as it will stream the Jake Paul/Mike Tyson fight in November and two NFL games on Christmas Dat. Programming like live sports and games also gives the company an opportunity to expand margins and justify gradual price increases.

Netflix is still far from exhausting its addressable market, and there’s room for the stock to move higher as the business scales and margins expand.

Its global entertainment model is working — and it’s given the company significant competitive advantages.

Suzanne Frey, an executive at Alphabet, is a member of The Motley Fool’s board of directors. Randi Zuckerberg, a former director of market development and spokeswoman for Facebook and sister to Meta Platforms CEO Mark Zuckerberg, is a member of The Motley Fool’s board of directors. Jeremy Bowman has positions in Meta Platforms and Netflix. The Motley Fool has positions in and recommends Alphabet, Meta Platforms, and Netflix. The Motley Fool has a disclosure policy.