Netflix Shares Down on Pricing Woes

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Shares of Netflix Inc. (NASD:NFLX) declined $7.58 (2.24%) to close at $330.38 on Jan 15, close in the heels of Verizon’s (NYSE:VZ) legal victory over Federal Communications Commission (:FCC), which threatens its current price structure.

Most recently, the U.S. Court of Appeals threw down FCC’s net neutrality regulation, which asked Internet Service Providers (ISPs) to treat all online traffic equally. The ruling now allows the likes of Verizon and AT&T (NYSE:T) to charge extra fees for faster service.

This is particularly a concern for the likes of Netflix and Amazon’s (NASD:AMZN) prime streaming service, as the broadband carriers can now charge them extra for providing preferential treatment. This will increase operating costs ultimately hurting profitability.

We believe that the recent ruling puts Netflix in a precarious situation. The company is already facing significant headwind related to rising content costs. An increase in carrier charges will put additional burden on Netflix’s business model in the long run.

Netflix currently charges $7.99 for its streaming service that had 33.1 million U.S. subscribers at the end of third-quarter 2013. The increase in operating costs may force Netflix to increase subscription price, which can negatively impact subscriber growth, going forward.

However, we believe that the company’s ever expanding content portfolio will continue to attract subscribers despite a price rise. Its partnerships with major film studios and production houses have helped it to expand its content portfolio faster than its rivals. These deals have enabled it to venture into different genres like comedy, political thrillers, autobiographies and horror.

The partnerships will help Netflix to stream original shows such as Sense 8 (some time in 2014) and Narcos over the next 12 months. Netflix’s agreement with Walt Disney’s Marvel Entertainment will bring at least four new 13-episode series and a mini-series in 2015.

Although rising costs and uncertainty related to additional carrier charges will remain an overhang on the stock in the near term, we believe that Netflix’s growing subscriber base and international expansion opportunities are significant positives.

Currently, Netflix sports a Zacks Rank #1 (Strong Buy).

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