Growth stocks stand out on a valuation spectrum between penny stocks and blue chip stocks. While not nearly as speculative and volatile as penny stocks, growth stocks are based on the expectation that they will eventually take the highest form — blue chip stocks. After all, blue chip companies are expected to both deliver reliable dividends and grow.
Netflix and Tesla: two sides of the growth coin
On this path of accelerated growth, some companies are fumbling while others occupy a category of their own. This process appears to be unfolding at Netflix and Tesla. Netflix’s April earnings report tells a story about hitting the wall of expectations TeslaThe valuation forecast of seems limitless.
Netflix stock pushed out of the growth club?
Netflix gained momentum by naturally filling the niche of a dying breed, the video rental business spearheaded by Blockbuster. In fact, Blockbuster CEO John Antioco spectacularly failed to notice the new video streaming trend on the horizon. Netflix founder approached him in early 2000 Selling Netflix for $50 million.
Fast-forward to the end of 2021, and Netflix grew 7,536%, from a $50 million deal offer to one Market capitalization of $318 billion. As growth technology companies replace and corner a particular market, one could not have asked for a better outcome. Year-to-date, however, Netflix (NFLX) has Dropped to bottom in early 2022and returned to a December 2017 market cap of $83.36 billion.
Has Netflix lost its status as a growth stock?
Not quite. The Covid-19 pandemic may have boosted Netflix’s use as a content delivery platform, but Netflix’s valuation has been heavily dependent on subscriber numbers. It was an open secret that Netflix has an account-sharing issue, which the company tolerated to spur growth and openly admitted to in April Letter to Shareholders.
“Our relatively high household penetration — when you factor in the large number of households with joint accounts — combined with competition creates headwinds for revenue growth. The big COVID surge in streaming obscured the picture until recently.”
There are two important approvals here. The baseline for Netflix’s rating is largely inaccurate, having relied on account sharing. Additionally, the company is now forecasting a 2 million drop in subscribers for the second quarter of 2022 once the Covid-19 surge has passed. As a result, Netflix has been reset to where it was in late 2017 by the Bank of Americaa downgraded its ranking from Buy to Underperform in April.
With a fresh reset price, Netflix’s story of explosive growth is over, but it’s also serving as a new starting point. Netflix itself, however, admits that it will take at least 2024 for its crackdown on password sharing and ad-supported subscription monetization to have a major impact.
Bank of America analyst Nat Schindler called, “It will be a while before investors believe Netflix can return to growth.”
Even so, Netflix’s revenue for the first quarter of 2022 is still up 9.8% year over year to $7.8 billion. It’s not hypergrowth, but growth nonetheless. Ultimately, shouldn’t it be that removing unsupported growth numbers has the same valuation reset effect on another growth company?
Tesla continues to defy the odds
Teslas Earnings Report April showed that the company has a 6.5 times higher turnover than in the previous year. Electric vehicles generated profit of $3.3 billion in the first quarter, up 658% from the first quarter of 2021. Tesla also reported an 81% increase in total revenue to $18.8 billion. While these numbers are positive, do they justify Tesla’s massive $797.7 billion market cap?
In other words, is another rating reset coming? Over the past 5 years, like Netflix, Tesla’s story has been a hyper-growth story, with a 1,137% appreciation in value. Year-to-date, Tesla (TSLA) stock has also suffered, but not nearly as much as Netflix (NFLX).
If anything, Tesla’s downturn appears to have been solely due to the general stock market decline due to the Fed’s rate hike. The Fed’s tapering raises the cost of borrowing, so investors tend to shift growth and especially tech assets to safer commodity havens.
However, if there’s one company due for a reassessment, it would be Tesla. Elon Musk’s basic business model revolves around the manufacture and sale of electric vehicles (EVs). However, it has done so at a significantly lower cost than traditional car companies.
Example: Ford sold 3.9 million cars in 2021 while Tesla sold less than a million 937,172, in the same year. Tesla’s market valuation doesn’t reflect this gap at all. In fact, compared to top automakers, Tesla is the largest vehicle maker in the world. This leads many investors to classify TSLA as an overvalued stock.
What else is in play, then, for Tesla to maintain its hyper-growth rating? Does that mean Tesla’s expectation is more valid than Netflix’s?
Above all, Tesla has the first-mover advantage in the area that matters most. While there were many EV companies before Tesla, it was the first to push EVs out of the awkward EV aesthetic. While Tesla had to push its electric vehicles into the luxury vehicle category to achieve this, it successfully made its cars status signaling devices.
Governments around the world are fueling this speculation by announcing phased bans on gas-powered vehicles. Because of this, there is now an expectation that most vehicles on the roads will be electric by 2040, with Tesla leading the way.
Consumer behavior has also become a factor. Despite Car insurance tariffs Because electric vehicles are generally more expensive than traditional gas-powered vehicles, Tesla has made efforts to make their vehicles more affordable. However, they also serve more as status signaling means, which is usually the case with luxury products.
Combined with Elon Musk’s 80M+ ubiquitous online personality Twitter followers and SpaceX’s involvement, this creates a big cushion for Tesla. So much so that not even major supply disruptions can wipe out Tesla’s profits.
With so much market turmoil, it’s important to remember why the average stock market return has remained steady at 10% for the last 100 years. While it’s unclear whether Tesla will maintain this momentum, it’s also important to remember that Tesla has made it happen openly admit past underperformance and future downturn.
“Our own factories have been running below capacity for several quarters as supply chain has become the main constraining factor, which is likely to continue through the end of 2022.”
Given such a contrast, it’s safe to say that Tesla sits in its own premium growth stock category, especially now that gas prices are soaring. case study, AAA Research showed significant pressure to switch to electric vehicles as fuel prices soared.
At the same time, as a software platform, Netflix is more of a take-or-leave proposition, with many people opting for the latter, viewing Netflix as a luxury item in times of economic hardship. While Tesla may offer luxury EVs and abandon its plan to enter the mid-range category, it seems Elon Musk has managed to refine Tesla’s elite brand to absorb negative pressure.
About the author: Shane Neagle is Editor-in-Chief at The Tokenist.