Netflix Goes Gaming
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Netflix Goes Gaming

Netflix, Inc. (Nasdaq: NFLX) whiffed on second-quarter financial results on Tuesday after the close.

However, that’s not the big news investors should be focusing on: The streaming giant is officially expanding into gaming.

The Los Gatos, California-based company missed the $3.16 earnings per share (EPS) forecast by 17 cents. Paid subscriber growth bested lowered forecasts, yet managers were not especially upbeat about new member adds in Q3.

Don’t worry. Netflix is changing its business again, and investors should love that.

Netflix is an iconic business because of its nimbleness. Only 15 years ago, the company was primarily a mail order DVD rental business. Customers received fragile plastic discs in the mail that they then inserted into relatively expensive black metal boxes hooked up to the back of their television sets.

Looking back, it seems arcane … yet in the era of Blockbuster Video, that business model was considered revolutionary.

Blockbuster, DVDs and the players have all been relegated to the scrap bin of history. That’s largely due to really smart managers like Reed Hastings, Netflix’s founder and chief executive, going all-in on digital streaming media.

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When the streaming business began to grow exponentially, he had the firm start investing in content production. At the time, many thought it was a suicide mission.

Netflix was spending all of its free cash flow developing shows that were never going to have the cachet of popular films from The Walt Disney Co. (NYSE: DIS) or TV shows from Comcast Corp. (Nasdaq: CMCSA).

However, Hastings knew that as long as Netflix relied on media giants for content, the business could never really scale. Plus, he could see that one day those firms might launch competing streaming services.

He was correct. Both Disney and Comcast now have subscription video on demand (SVOD) services that compete directly with Netflix: Disney+ and Xfinity Stream.

Some will argue that Disney+ is in a superior position. The house that mouse built has a barrage of studios and lots of popular film franchises like “Star Wars,” “Avatar,” “The Avengers” and “The Simpsons” TV series. Yet only Netflix is able to routinely raise SVOD prices. The company is also still growing, albeit slower than Disney.

On Tuesday, Netflix managers said new subscribers in the second quarter were 1.54 million, slightly ahead of the 1.19 million forecast. The company expects to add 3.5 million new subscribers in Q3, although that is down from the original expectation of 5.46 million, according to a report at CNBC.

That’s why getting into gaming is so significant. Gaming positions the company to better monetize its customers’ free time.

Gaming is sticky. Done right, it keeps subscribers connected in ways that passively watching content simply can’t match. It also puts the streaming media company in the pole position for the race to the next generation of couch potatoes.

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Analysts at Newzoo, a gaming data analytics firm, estimate that the global games market will generate $175.8 billion in sales during 2021. Gaming is on track to surpass $200 billion in 2023.

Moreover, millennials are now more likely to choose gaming over watching sports on TV. It’s a culture shift that a smart corporate manager like Hastings was always going to get in front of.

Hastings joked in 2019 that “Fortnite,” the wildly popular online multiplayer game, was a bigger threat to Netflix than HBO’s “Game of Thrones,” which was then by far the most popular show on TV.

Expansion into gaming will wisely start on mobile, and it will come at no added cost to a Netflix subscription. That’s smart. It feels free, and smartphones are where people play games.

In a letter to investors, managers wrote gaming is merely another new content category, similar to the firm’s expansion into original content, animation and reality TV.


 

Netflix has been a great stock through the years. Morningstar lists the 15-year compound growth rate at 40.22%.

A $10,000 investment made back in the DVD rental era (when Netflix went public) is worth a staggering $1,592,752 today. All investors had to do was trust that Hastings and his managers were building for what came next.

This is an inflection point, and gaming could be the next step needed to take Netflix to even more unreached heights.

Longer-term investors should use any near-term weakness as a buying opportunity.

Best wishes,

Jon D. Markman

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