Wall Street Has Serious Doubts About Netflix's Future

Shares plummeted after news that the internet video store lost a million subscribers

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The share price of Netflix plummeted over 17 percent in Thursday morning trading after the company announced that a million subscribers have fled the service since they hiked the price in July. Netflix CEO Reid Hastings assured investors that the exodus of paying customers would not affect the company's financial projections, but financial analysts remain skeptical. Netflix has been winning the online movie rental business for some time, but competition from Apple, Walmart and Amazon is catching up. The most popular word on Wall Street associated with Netflix stock lately has been "sell." Even Netflix's top executives are heeding the call.

Netflix CEO Reid Hastings doesn't even own any direct shares explains Tony Wible, an analyst with Janney Capital, to The Wall Street Journal. In fact, all of the company's top employees have been making money "at the expense of shareholders":

Insiders have sold $67.6 million of stock over the past six months with much of this funded by options that were exercised at a $1.50 per share. The CEO has sold $1.0 to $1.5 million of stock on almost a weekly basis (total of $32 million) and continues to not own any direct shares. The Chief Product Officer, Chief Content Office, Chief Marketing Officer, Chief Talent Officer, and various Directors have also sold. We believe this activity is tied to NFLX’s unique compensation policy that minimizes the cost of options on the income statement but essentially allows NFLX to fund some compensation through the balance sheet at the expense of shareholders.

The level of backlash is a sign of Netflix's "a rare, large and surprising misstep" argues Barton Crockett at Lazard Capital in an interview with Barron's:

This highlights the difficulty that Netflix has internally of forecasting consumer response to the major price change … Netflix can test the impact of new pricing plans on new subs, but it can't easily test the impact on the installed base of a pricing change.

It could be years before Netflix recovers says Morgan Stanley analyst Scott Devitt. Netflix recently lost Starz due to pricing disputes and signing up new content partners does not happen over night:

We think there may be an investment case for Netflix shares that builds in the next year or so based on a thesis that Netflix business model / access to capital positions it well to acquire premium TV content directly from studios … but this content does not seem accessible until 2014/2015 at the earliest.

However, Netflix is still doing okay in the DVD business points out Greg Sandoval at CNET:

The number of people who are willing to pay for access to both DVDs and streaming video is unchanged at 12 million.

Netflix can take that to the studios and note that more of the people who didn't want to pay $16 to acquire streaming as well as DVDs, still chose streaming over discs. Netflix managers can show the studios chiefs additional proof that streaming is the future of home video and no other service is as equipped or as popular for streaming than Netflix.

Disappointment on Wall Street does not necessarily mean this is a melt-down says Stifel Nicolaus analyst George Askew, who offered up one of the more optimistic interpretations of Thursday's news. Askew doesn't make the stability on the DVD side of things sound very encouraging, though:

There is no crisis at Netflix in our view. Fewer 3Q11 domestic subscribers than guidance is a disappointing development. We believe we are seeing temporary churn related to the pricing change, but not a long-term crack in the business model. The company’s facts show the company’s subscriber mix is shifting even more rapidly to the streaming service. This trend should be positive for the company’s franchise and margins as spending on postage and fulfillment can more quickly be shifted to streaming content purchases. The real message here is that the DVD is even more dead than we thought; short the post office, but support your local postal worker.

This article is from the archive of our partner The Wire.