![]() At the interest rate assumption of 1% US10Y (quite okay at the time), if we back-calculate, the market expected Netflix to grow its free cash flow at an annualised rate of 40% per annum for the first decade. The stock price at its peak (in November 2021) stood at around $687 per share. The combined effect of rising interest rates and lower growth can be massive. Investors later realise that things might not be as hunky dory as they initially estimated, and reality sets in. In a market that was fuelled by liquidity, it is easy to err on the side of optimism. While each participant (analyst, institutional investor, retail investors, etc) will have their estimates, it is the collective median (consensus) that counts. The second variable at hand is the growth rate for individual companies. The larger the percentage, the bigger the problem that rising interest rates pose. Well, how big a deal it is depends on many things, but it boils down to one variable: terminal value as a proportion of the net present value. The US10Y rose from lows of 1% to close to 3% recently.Īre we really that worried about a couple of percentage points’ increase in interest rates, one might wonder. As the Fed started communicating its intent, the market caught on and started repricing assets. A little while ago, the Federal Reserve decided that inflation, due to years of easy monetary policy, was getting out of control and the only way to subdue it was to raise rates. We will play around with these two variables to gauge what transpired. While the rate of interest that the US government pays on its 10-year debt (US10Y) is widely considered risk-free, the expected growth rate is company specific. ![]() The two variables we want to focus on here are growth rate and risk-free rate. ![]() The cost of capital in turn is based on risk-free rate of return and equity risk premium. One must make many assumptions (like revenue growth, cost inflation, capital expenditure, etc) to determine future cash flows, and discount them back (at the rate of weighted average cost of capital) to today’s value. The operative words are “future cash flows” and “present value”. The simplicity of that statement conceals the difficulty of what the process entails. CNBC's Michael Bloom contributed reporting.Essentially, the value of any business is the present value of all its future cash flows. However, as more and more competitors come online and build their content libraries, the collective power of and fragmentation of the industry under Netflix is going to be an increasing driver of churn," Schindler said. "We believe Netflix will remain the dominant provider so long as its content library remains expansive and has several big-name original content products that keep users subscribed. Furthermore, Bank of America sees the company's "must-have" status as more of a blessing than a curse. However, that would benefit Netflix's competitors more than Netflix itself, he noted. It would allow them to trade down in order to subscribe to an additional service. "If a recession were to take hold," he added, "it wouldn't be surprising to see incremental churn." Ad-tiering could be one way for customers across income brackets to stretch their streaming budget, Schindler said. "Streaming could be sticky in a recession, but platforms will see recurring cancellations and resubscriptions coinciding with scheduled releases of original content, particularly among the lower-income user base," he said. A recession scenario could drive higher subscriber churn or limit pricing power, the firm's analyst Nat Schindler said in a note Thursday. Bank of America also reiterated its underperform rating on the stock. The new price target is almost 10% away from where the stock price closed Wednesday. The firm lowered its price target on Netflix shares Thursday, to $196 from $240. Netflix is still a must-have service, but if there's a recession on its way, it could bode poorly for the streaming stock, according to Bank of America.
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