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NFLX – Netflix Stock Is a Screaming Sell Amid Earnings Pressure

netflix earnings nflx logoNetflix (NFLX) is set to report earnings on Monday. And the million-dollar questions for NFLX stock investors are whether it has made enough strides overseas and whether it can post the growth necessary to live up to its soaring valuation.

NFLX investors better prepare themselves for the the answer to that question to be “no way.”

That’s because Netflix stock is facing a history of unprofitable foreign operations, increased content costs and the hard reality of a bandwidth bottleneck that will limit growth for NFLX as long as it relies on reliable high-speed Internet.

And while Netflix is racing to evolve its business in the long-term and admittedly has a strong core of subscribers that believe in the NFLX brand … the pain might start to materialize in Netflix earnings as soon as this fall, but definitely in 2014.

Netflix Earnings Are All About Subscriber Growth

Netflix revenue should top $1 billion in its Q3 earnings report, representing growth of about 20%, and NFLX should expect a huge jump in earnings per share thanks to a very favorable year-over-year comparison. It might not be be unrealistic to see EPS figures jump four-fold since Netflix earnings in 2012 were weighed down by a big capital expense for original content, overseas expansion and other growth plans.

But while Netflix has seen returns on that investment via good subscriber growth, it’s crucial that NFLX continues to see brisk expansion at home and abroad in its upcoming third-quarter earnings.

Investors might be willing to give Netflix a pass on margins and valuation for now, but a miss in expected subscriber growth could be disastrous for the stock.

One analyst at Bernstein recently estimated that, by his math, NFLX anticipates subscriber growth well above 45 million in domestic subscribers by 2015. Last quarter, the Netflix earnings report showed about 29 million domestic subscribers … so there’s no room for a miss, given the 55% growth necessary in just a few short years.

And the sad reality is that while there definitely are 45 million people who might want to watch streaming video, the addressable market remains constrained by technology and high-speed Internet penetration.

After all, you can’t watch Netflix shows on a dial-up connection in rural America even if you wanted to.

That fact might not show up in Netflix earnings this quarter … but it will soon, and with big results.

NFLX Risks a Crash

Netflix might very well post decent earnings to end 2013 that keep this stock on track. And there are no guarantees that a miss could even result in trouble, since Netflix disappointed on subscriber growth in July but has managed to tack on 25% since that earnings report.

But the burden is very high on NFLX, and that means it’s prudent to take some money off the table after an impressive 250% run from January through mid-October. The stock sports a forward price-to-earnings ratio of nearly 100, and a lot of the gains seem to have already been made.

Sure, there are hopes that a partnership with cable providers could bring increased penetration for Netflix — with an unholy alliance between NFLX and companies Comcast (CMCSA) and Time Warner Cable (TWC) floated as a way to link the streaming service with the existing telecom infrastructure of cable providers. But that won’t pay off any time soon, even if it gets off the ground.

And furthermore, short interest in Netflix remains north of 16% of the float — meaning the bears haven’t given up, even if NFLX stock has taken off in the past several months.

Couple this with a recent ho-hum rating of “market perform” from Northland Capital on Oct. 17 with a price target of $300 — about 9% under current NFLX pricing — and it’s hard to get excited about Netflix stock.

I have been proven wrong many times on this company and don’t claim to know what the future holds. But when you look at the nosebleed valuation, the challenge of penetration in lower-speed Internet markets both at home and abroad, and the very high level of subscriber growth that is expected … well, it doesn’t look like a safe bet in my book.

If you own NFLX, I would take profits before earnings. And if you don’t have Netflix stock, I certainly wouldn’t initiate a position any time soon.

Related Reading on Netflix Earnings

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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