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Rich Smith of the Motley Fool’s mouth says “no” but his heart says “yes.”

Rich Smith recently undertook the unenviable task of painting Netflix as a bearish stock in this Motley Fool article. Much like a debate team captain that knows he’s on the losing side, you can read in his tone that his heart just wasn’t in this argument. He prefaces the article with an admission that his arguments are going to be lame, “You wait until now to ask me to make the case that Netflix is doomed? Sure, man. Sign me up. Netflix is doomed. What? You want more?”

Now, I’m not a Motley Fool stock advisor by any stretch of the imagination, but I know bullshit when I read it. With that in mind, I have prepared the following rebuttal.

Note: I have not read Rich Munarriz’s bullish response, but he has apparently made one. Any similarities between his article and mine are coincidental, and, to be honest, his is probably much better.

Back to the matter at hand:

Smith makes three major arguments. His first is that Netflix is not profitable, that it is “burning cash.” This is strictly true, but, as he points out, just one year ago they were quite profitable, to the tune of almost $30 million.

This year, however, they are down over $9 million. By all accounts they’re doing better this year… I mean, they’re signing up subscribers by the droves, putting Blockbuster out of business, and yet, they’ve lost $9 million. I wonder why that could be? I guess maybe it might have something to do with the $140 MILLION they spent on a massive advertising campaign, the first of its kind for Netflix. They’ve also increased spending on new customer service initiatives, new product initiatives, and cross promotions. These marketing and R&D expenditures are what have allowed Netflix to increase their projected subscribers to 20,000,000 by 2012. I have a feeling that when they’re raking in $360,000,000 a month in subscription fees they’ll be plenty profitable.

His second point is that Netflix’s service will be irrelevant when DVR services such as TiVo become more commonplace. According to the article, 500 channel cable and satellite services will air every movie in your Netflix queue eventually, so what’s the point of paying to see the same movie twice?

The fact is, that in the future everything will be viewable via VOD (Video On Demand) and that Netflix has been moving toward a download model since its inception. When Netflix offers the ability to see any movie at any time just by pushing a button, it’ll make those premium cable channels look mighty silly. Far from putting Netflix out of business, DVR services like TiVo will pave the way for Netflix to offer these services. A TiVo/Netflix partnership has been in the works for a long time now; the board is set and the pieces are already moving. When the VOD revolution comes, Netflix is going to be in the driver’s seat. Trust me.

Last, and basically least, he talks about a process called “churn.” The idea is that many Netflix customers, including himself, are only subscribers 3 months out of the year when the cable programming slows down around May. The churn costs Netflix money. However, he paints the churn in a very glass-is-half-empty light. Most Netflix customers are subscribed for 12 months a year. A few, like Mr. Smith, are fair-weather subscribers. In my view, those 9 “slow” months of the year are where Netflix lives. When the churn customers subscribe in May, it’s icing on the cake, creating a small profit spike until September when subscriptions return to normal. This churn will not harm Netflix in the long term.

Netflix remains a smart investment, and a great service.

Disclaimer: The author does not own stock in any of the companies mentioned in the above article.

This entry was posted on Thursday, September 22nd, 2005 at 4:07 pm and is filed under News. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.