Better Buy: Netflix, Inc. vs. Time Warner

By Markets Fool.com


Image source: HBO.

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Shares of Netflix (NASDAQ: NFLX) and HBO parent company Time Warner (NYSE: TWX) have moved in opposite directions this year. But if you asked people on the street to guess which is up and which is down, I'm willing to wager most would get the answer wrong.

The media stalwart Time Warner's shares are up over 15% so far this year, while one of its biggest disrupting forces, Netflix, has seen its share price decline almost 14%. At this point investors might be asking if they should play the hot hand and buy Time Warner or buy the dip in Netflix shares.

Let's compare the two companies head to head to determine which is a better buy right now.

Some key statistics

Metric

Netflix

Time Warner

Market cap

$42.3 billion

$60.8 billion

Sales (TTM)

$7.6 billion

$27.9 billion

Sales growth last quarter

24.7%

(1.2%)

Price-to-sales ratio

5.4

2.2

Price-to-earnings ratio

299.7

15.5

Subscribers

83.2 million

131 million*

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Data sources: Reuters, Netflix Q2 2016 letter to shareholders, and Time Warner 2015 10-K.*HBO and Cinemax. TTM = trailing 12 months.

Looking at some basic metrics on each company, it's clear that Netflix stock is much more expensive than Time Warner, even after their respective changes in price this year.

Time Warner is losing revenue while Netflix continues to see its sales soar after raising prices and expanding globally. Netflix expanded to over 130 new countries at the beginning of the year, and it un-grandfathered longtime subscribers in several countries including the United States last quarter, raising their monthly subscription dues. As a result, Netflix saw revenue growth accelerate last quarter to 28% from 25% in the first quarter and 23% a year ago.

The biggest factor behind Time Warner's revenue decline, however, was its Warner Bros. segment, which is more subject to ups and downs from the movie business. The unit's top line fell 11% through the first six months of the year. By contrast, Time Warner's television divisions -- HBO and Turner -- saw revenue increases of 5% and 7%, respectively, over the same stretch, so the revenue decline in the table above is a bit misleading.

High expectations

For investors, the question about which is a better buy comes down to the expectations for each company. Netflix is expected to see huge earnings growth over the next few years, hence the high earnings multiple.

Analysts expect Netflix to generate $0.87 in earnings per share next year, three times more than the consensus for this year. Over the next five years, analysts expect 54% earnings growth per year, implying an average of 30% earnings growth for the four years following 2017.

Earnings expectations for Time Warner aren't quite as high. Analysts expect 11% earnings growth next year with a five-year average rate of 14% -- 15% earnings growth from 2017 to 2021.

But even with its lofty growth rate, analysts are expecting Netflix to produce just $2.51 per share in five years. For reference, Time Warner is expected to generate $5.42 in earnings per share this year and $10.62 in earnings per share in 2021. So, even after all that growth in Netflix's earnings, Time Warner is still producing more than four times the earnings per share down the road than Netflix. What's more, Time Warner's share price is 25% less than Netflix's.

Good growth at a value price

Time Warner has shown that it's capable of adapting to the competitive pressures caused by services like Netflix. It launched its own over-the-top service in HBO Now, which counts over 1 million subscribers. It continues to add new HBO subscribers through traditional distributors as well. Turner has managed to increase its revenue through affiliate fee increases and better advertising deals. And while Warner Bros is having a down year, it has some franchises in the pipeline that could reinvigorate revenue growth for the next few years.

As such, analysts' expectations for steady revenue growth and expanded profit margins seem fair. With a PE ratio around 15 and earnings growth expectations around 14%, it seems to offer the right amount of growth for its price. It's certainly offering a lot more for the price than Netflix, which makes Time Warner a better buy than Netflix right now.

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Adam Levy has no position in any stocks mentioned. The Motley Fool owns shares of and recommends Netflix and Time Warner. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.