BOSTON (CNN/Money) -
Hidden in the swirling mists of a London fog stood Netflix investors' biggest fear. For months it was invisible, but last week the creature finally emerged in press release outlines.
The beast in the shadows?
Amazon.com, which announced the long-rumored launch of its U.K. DVD-rental business.
After poring over the details of Amazon's offering, Netflix investors let out a collective "feh." They evidently realized that Amazon likely wouldn't come charging into the U.S. market in a profit-be-damned attempt to topple Netflix.
Some analysts even wondered if the move meant that Amazon was throwing in the towel on the U.S. market. "I found it strange that a U.S.-based company with operations in the U.S. would launch its new business initiative in the U.K.," says Alden Mahabir, an analyst with Vintage Research. "Amazon might not think there's enough room for a fourth player in the U.S. market."
As a result of the Amazon announcement, Netflix (Research) ended the week up roughly 5 percent, with its investors far more comfortable with a prudent Amazon approach.
The stock could use some momentum. The company has done well thus far at fending off the nascent attacks from Blockbuster and Wal-Mart. But despite the recent uptick, Netflix stock is down 70 percent this year and is still reeling from its brutal mid-October earnings call, when eight analysts issued downgrades within a single day.
With negative sentiment toward the company at a high (most investors side with the analysts on this one -- a full 53 percent of the stock's float is shorted) and with the looming unknown threat finally revealed, is it time to reconsider Netflix? I say yes, but only if you plan to hold on to it for at least 18 months, because next year may also be a rough one for the company.
The reason? Netflix plans to cut into its earnings growth and spend more on customer acquisition during fiscal year 2005. As a result the stock will likely take a major hit from Wall Street, which largely -- and rightfully -- considers this a growth stock.
"Netflix will reverse a trend of earnings growth next year," says Daniel Ernst, an analyst with Hudson Square Soleil Securities -- and the only major analyst who currently has a "buy" rating on the stock. "It will be a little tougher to value next year."
But the Amazon information is good news for Netflix's expenditure level for next year. If Amazon had shown an inclination to undercut Netflix's price significantly, Netflix likely would have to spend even more next year on customer acquisition to fend off a serious price war.
All of this raises a pretty big question, however: Why doesn't Amazon just buy Netflix?
Netflix has no real debt and is trading near its 52-week low, and the two companies mesh together fairly well -- even when they're not trying to. Netflix announced it was pulling out of its efforts to go into the United Kingdom not long before Amazon launched its service.
"We think [Amazon buying Netflix] would make a lot of sense," Ernst says. "They're similarly designed companies." Even with this most recent stock bump, Netflix could probably be had for about $1 billion, or one-sixteenth of Amazon's market cap.
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