This year will be a litmus test for Netflix

Netflix (NFLX) shares are like its shows: full-on action. The stock received a significant boost after it reported earnings results on Monday, where it posted a 50% increase in new subscribers, surprising analysts and investors alike. Shares shot up over 7% taking it to an all-time high. But how sustainable is this stock, given the rate at which it is burning cash? Let’s take a look.

In Monday’s earnings report, the streaming giant said it currently has about 119 million paid subscribers worldwide. But this is a tiny figure considering the extent of the global market that is left to be brought under the company’s user base.

Senior equity analyst at Canaccord Genuity, Michael Graham, predicts that Netflix will add about 70 million subscribers by the end of 2020. Keeping in mind the company’s guidance of 6.20 million net adds in the current quarter alone, this projection doesn’t seem like hyperbole at all. Separately, KeyBanc Capital Markets predicts that the subscriber base will grow to 250 million in the next decade, of which 80 million users will be from the home market.

Therefore, there is a vast playground for this company to grow and prosper. And the first thing it needs to do to keep up the net adds is maintaining quality content — an area where Netflix is apparently putting its entire focus into. The company has never shied away from shelling out massive amounts to produce quality content. It had last year stated that it would spend about $8 billion in 2018 to make original content.

And this is where many tech-averse investors have problems with this company. While the user base and top-line has been steadily improving, the company has not been able to traverse to the positive territory concerning free cash flow. The company has been increasingly burning cash over the past few years and expects to continue to do so in the future.

Many analysts feel that Netflix needs to raise its subscription fee to improve its cash flow performance. Stifel analyst Scott Devitt expects the company to raise about $8 billion in debt financing by 2020 to maintain a comfortable cash balance as well as self-funding status.

Netflix is set to encounter stricter competition in the coming days as Viacom (VIAB), and Disney (DIS) launches their own streaming platforms.

On the other hand, Netflix expects to cut down on expenses and expand its margins only by 2021, when it hopes to have a positive cash flow. Till then, it plans to spend significant amounts on content production.

Apart from this, Netflix is set to encounter stricter competition in the coming days as Viacom (VIAB), and Disney (DIS) launches their own streaming platforms. HBO is also strengthening its portfolio to compete with Netflix’s line-up of successful shows including Stranger Things, House of Cards and The Crown.

It may be argued that Netflix is in the right boat, concerning shelling out more amounts to maintain its dominance in the industry. So far, it has been successful in gaining audience. But the coming quarters will truly test the company’s sustainability amidst cash balance woes and higher competition. It’s going to be an amazing show of survival.