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Netflix Stock Is Losing Steam — Sell Now

Last week, I warned Netflix (NFLX) will suffer an earnings letdown. Turns out I was right, with Netflix earnings revealing slower subscriber growth and results that barely hit the mark.

Shares of Netflix stock are slumping this morning, and some investors may write this off as a bit of profit-taking or an overreaction. But it is likely much worse than that — it’s a sign that you should leave Netflix stock before the credits roll.

A Wedbush Securities analyst recently told the San Jose Mercury News that “[Netflix] stock is priced for perfect execution,” and that “Any number that comes in below the high end of their guidance is less-than-perfect execution.”

Separately a Reuters report quotes an Evercore Partners note to clients saying, “The stock was priced for perfection; hence the drop after hours.”

That sentiment just about sums it up — and when you look at the data, less-than-perfect is a pretty charitable description of what’s up with Netflix earnings.

Netflix earnings showed an additional 630,000 U.S. customers for its streaming business on the quarter, short of the 700,000 forecast.

Not good.

Furthermore, there were hints that programming costs were going to rise — and considering the big expense of original series like House of Cards and a revamped Arrested Development as well as big-ticket deals that include a late-2012 pact with Disney (DIS) and a contract with Dreamworks (DWA) just several weeks ago, that’s saying something.

The headline numbers were good, of course, but this looming rise in programming costs is what’s sending NFLX shares lower.

If you care about those headline numbers, they include sales growing 20% to hit $1.07 billion, precisely what was expected, and profits that were up handily to an EPS of 49 cents a share, topping forecasts of 40 cents a share. But clearly the future growth path is what’s in focus right now.

Shares of Netflix stock have almost tripled since January, up 180% even after the recent pullback, with a forward price-to-earnings ratio of more than 80. There’s not a whole lot of room for error with that kind of valuation.

A recent piece in The Wall Street Journal rightly asserted that “building a formidable subscriber base should be a more immediate concern than raising margins,” and that Netflix needs to be more like Amazon (AMZN) than HBO — with a focus on people and growth, not a premium model and profits.

It seems a wise piece of advice considering competitors including Hulu and subscription-based YouTube programming from Google (GOOG), among others, are gaining steam.

And don’t forget that entrenched cable companies like Comcast (CMCSA) are not thrilled about losing their cash cows and will look to complicate matters wherever they can … including building out on-demand video and offering packages with streaming and cable together.

If growth is slowing and Netflix can’t reach a mammoth scale fast enough, the company may find itself in an uncomfortable position where both subscribers and profits become difficult to grow.

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Jeff Reeves is the editor of InvestorPlace.com and the author of “The Frugal Investor’s Guide to Finding Great Stocks.” Write him at editor@investorplace.com or follow him on Twitter via @JeffReevesIP. As of this writing, he did not own a position in any of the stocks named here.

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