, Inc. (AMZN): Is Netflix, Inc. (NFLX) Destined for Greatness?

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Investors love stocks that consistently beat the Street without getting ahead of their fundamentals and risking a meltdown. The best stocks offer sustainable market-beating gains, with robust and improving financial metrics that support strong price growth. Does Netflix, Inc. (NASDAQ:NFLX) fit the bill? Let’s look at what its recent results tell us about its potential for future gains.

Netflix, Inc. (NASDAQ:NFLX)

What we’re looking for
The graphs you’re about to see tell Netflix, Inc. (NASDAQ:NFLX)’s story, and we’ll be grading the quality of that story in several ways:

Growth: Are profits, margins, and free cash flow all increasing?

Valuation: Is share price growing in line with earnings per share?

Opportunities: Is return on equity increasing while debt to equity declines?

Dividends: Are dividends consistently growing in a sustainable way?

What the numbers tell you
Now, let’s take a look at Netflix, Inc. (NASDAQ:NFLX)’s key statistics:

NFLX Total Return Price Chart

NFLX Total Return Price data by YCharts

Passing Criteria 3-Year* Change Grade
Revenue growth > 30% 109.6% Pass
Improving profit margin (83.4%) Fail
Free cash flow growth > Net income growth (577.2%) vs. (65.1%) Fail
Improving EPS (67.3%) Fail
Stock growth (+ 15%) < EPS growth 171.8% vs. (67.3%) Fail

Source: YCharts.
*Period begins at end of Q2 2010.

NFLX Return on Equity Chart

NFLX Return on Equity data by YCharts

Passing Criteria 3-Year* Change Grade
Improving return on equity (90.8%) Fail
Declining debt to equity (60.1%) Pass

Source: YCharts.
*Period begins at end of Q2 2010.

How we got here and where we’re going
Things don’t look too good for Netflix, Inc. (NASDAQ:NFLX) today, as the streaming video kingpin has earned only two out of seven passing grades. Both net income and free cash flow have tanked in recent quarters as Netflix spends itself into losses (in free cash flow terms, at least) to build out its library of licensed and original content. Despite this weakness, Netflix’s shares have made an impressive comeback since its late-2011 debacle. Is this surge sustainable, or will Netflix’s fundamental weaknesses catch up it to the end? Let’s dig a little deeper to figure things out

Netflix, Inc. (NASDAQ:NFLX and, Inc. (NASDAQ:AMZN) have both looking into advertising opportunities as a means of expanding the market for their streaming-video services. This has long been Netflix’s territory, as neither, Inc. (NASDAQ:AMZN) nor TV-focused streamer Hulu expended anything close to Netflix, Inc. (NASDAQ:NFLX’s $160 million in 2012 ad costs. Should Amazon decide to open its ad wallet for Prime, millions of consumers who have been on the fence about subscribing to this service may decide to take the plunge. Amazon’s Prime Instant Video service already offers the immense secondary benefit of free Amazon shipping, something Netflix can never hope to match. Amazon may have to hike prices to build out a comparably deep streaming library, but Jeff Bezos has never had a problem driving Amazon’s margins to the floor as long as the company can seize market share in the end.

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