Bull or Bear: Who’s Right About Netflix?

Netflix of late has been a battleground, Cramer said Monday. It’s been a veritable “Stalingrad stock” where a 224-percent run so far this year ran straight into a brick wall of short selling, one that has cost the share price more than 30 points.

As in any investing war, the bulls have a case and the bears have theirs. Cramer wanted to dissect this back-and-forth for shareholders because so many right now must be wondering what to do with their once-beloved stock. On Dec. 1, he told them to sell half their position, but with the continued decline of Netflix , should they still hold onto the rest? Here’s how the “Mad Money” host breaks down the debate:

First, the bears’ argument. The shorts, who represent about a third of the total Netflix shares outstanding, think this stock is too pricy and no longer warrants its present valuation. They also fear the competition—whether from Apple’s iTunes or Amazon.com’s video-on-demand service or Hulu—now that video streaming is becoming Netflix’s primary business. Lastly, these shorts assume Netflix will have to shell out big bucks to acquire more high-quality content for its streaming service, which will cut into margins and profits. One noted value investor, Whitney Tilson, predicted the spending on new content would cost the company as much as half its pre-tax profits in 2011.

But what do the bulls, meaning Cramer, think? Aside of the fact that Netflix down $31 is no longer “priced to perfection,” as the bears would say, Cramer said they’re missing the big picture. Netflix is a play on the tectonic shift to online video streaming from DVDs, and the company brings this ever-more-popular technology to consumers through Apple’s iPad, iPhone and iPod Touch, through Sony’s PlayStation 3 or Microsoft’s Xbox or Nintendo Wii or through any other device that connect the television to the Web. None of the company’s so-called competitors has this kind of reach.

Consumers get this, which is why Netflix is on track to book about 20 million subscribers by the end of the year. The subscriber base grew by 52 percent year-over-year in the most recent quarter, and there’s the potential for another 40-percent worth’s of growth in 2011. And that’s just in the U.S. and Canada. Goldman Sachs estimates that Netflix could have 15 million international subscribers by 2015 as the streaming service is launched in other countries. Cramer thinks the company could hit that mark even sooner. Not to mention, none of this growth is in the numbers yet, meaning estimates raises that will push the stock higher are most likely on their way. Those overseas launches should catalyze the stock, too.

As for NFLX’s valuation, the stock trades at 47 times 2011 earnings and has a 29-percent long-term growth rate. That number drops to 33 times earnings when you look at 2012, which is cheap. Keep in mind also that money managers would be willing to pay up to twice the growth rate for a momentum name like this, and Netflix isn’t trading anywhere near that high. So there’s virtually no way anyone can say this stock is overvalued.

A final, quick comparison to put this in perspective: Goldman thinks Netflix is on track to serve 50 million subscribers—15 million overseas and 35 million in the U.S., with the latter number being equal to 40-percent of all broadband households. But still the company’s market cap is just $9.3 billion, a figure too small to contain this brand, Cramer said. Will Netflix then be the next Amazon.com, which almost doubled its market cap between 1998 and 1999 to $32.2 billion from $16.8 billion and now boasts a market cap of $80 billion?

“I don’t know,” Cramer said, “but it could sure be the next Amazon of a decade ago, which would mean a market cap about 80 percent larger than it is now.”

Cramer therefore is once again bullish on NFLX, especially down at these levels. He recommended that viewers start to buy the stock. One of the best ways to do so, he said, is with deep-in-the-money call options.

When this story published, Cramer's charitable trust owned Apple.

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