Key Points
Investors are concerned that short-form content and artificial intelligence may cut into Netflix's business.
In particular, there has been concern about these trends in the U.S., Netflix's largest, most mature market.
Streaming giant Netflix (NASDAQ: NFLX) recently reported third-quarter earnings per share that was ahead of Wall Street consensus estimates -- while revenue came in line. However, investors came away disappointed after management said it expects full-year revenue of $51.1 billion, at the lower end of its outlook and slightly below consensus estimates.
Netflix attributed the softness to weaker ad revenue due to a slower-than-expected release of certain ad product capabilities. Still, the crux of the debate on Netflix, and likely overhang on the stock, concerns user engagement amid shifting consumer preferences.
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During Netflix's third-quarter earnings call, Co-CEO Greg Peters told analysts, "We know that we can do better" when it comes to U.S. engagement. Should investors be worried?
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Adapting as content preferences shift
Netflix stock is now down over 47% in the past year, and a major reason for that decline is investor concerns about a shift in consumer viewing habits. Part of the shift can be attributed to short-form content on social media platforms and YouTube, while another concern is the disruption from artificial intelligence, as investors worry that the cost and barriers of creating content will come down.
During Netflix's earnings call, management was asked how engagement trends in the U.S. compare with those in other regions. Peters addressed this question, noting that overall subscriber retention remains healthy across all regions, despite price increases.
Peters also noted that engagement trends are strong in the Asia-Pacific region, Latin America, and Europe, the Middle East, and Africa (EMEA). Specifically, Peters highlighted India, where total viewed hours grew 24% year over year.
In the U.S., Netflix's largest and most mature market, Peters was slightly more reserved, but framed the U.S. as an opportunity. "Our engagement is solid, and it will allow us to continue to grow as we have for the last several years, but we know that we can do better. And that better is our upside. It's our goal to go from very good to great on the performance of that slate," he said.
This may have concerned investors worried that there is little room left to grow in the U.S.
But later in the call, when Netflix Co-President Ted Sarandos was discussing Netflix's EMEA strategy, he cited Netflix's performance in the Nordic countries as evidence that the company is still succeeding in mature markets. "The content slate is killing it there. And it's proof that when we have the right focus, make the right choices and deliver creatively, we can drive outsized impact on the business around the world," he said.
Peters also said management is very excited about Netflix's slate for the fourth quarter, including shows like East of Eden, which is already out, season 4 of The Diplomat, the final season of Emily in Paris, as well as movies such as Bad Day and The Further Mis-Adventures of Cliff Booth written by Quentin Tarantino.
Netflix will also have NFL Christmas Day games.
Should investors be worried?
The threat of AI and short-form content is definitely the big overhang on the stock, in my opinion. Trying to assess whether Netflix's entire business model will be disrupted by AI is just about as difficult as assessing AI's impact on every other sector. But I would bet that Netflix ends up being OK and leveraging AI to complement its business rather than being totally disrupted by it.
Billionaire investor Bill Ackman and his team at Pershing Square USA bought the dip on Netflix earlier this year. Part of their thesis is that the market's concerns on the company "understate the cost of generating long-form, high-quality video, which remains among the most compute-intensive AI tasks."
So it remains to be seen whether the barrier to making high-quality content will actually come down, and I still think there will be demand for it even if viewers continue to gravitate toward short-form content. Given the company's immense resources and industry expertise, I am sure Netflix will continue to add diverse content as consumer preferences evolve and remain one of the dominant streaming platforms in the sector.
Bram Berkowitz has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Netflix. The Motley Fool has a disclosure policy.