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Content Strategy Key for Netflix

Posted on Thursday, Jul 25th 2013

According to Sandvine’s latest report, real-time entertainment services accounted for 59% of the web download traffic in the U.S. during the first half of the year. Netflix (Nasdaq:NFLX) continues to dominate this usage with 32.3% of the downstream bytes. YouTube is a distant second with 17.1% market share, followed by Hulu and Amazon accounting for 2.4% and 1.31%, respectively.

Netflix’s Financials
But the market is not too pleased with Netflix’s performance. While Netflix managed to surpass financial goals, operational metrics were a slight disappointment. Q2 revenues of $1.069 billion grew 20% over the year, but were marginally shy of market expectations of $1.07 billion. EPS of $0.49 grew 345% over the year and was significantly ahead of the $0.40 expected by the market.

During the quarter, the company added 630,000 domestic streaming subscribers, ending the period with 29.84 million subscribers. Growth of subscribers has slowed down, and analysts had projected an addition of 700,000 subscribers.

By segment, domestic streaming revenues accounted for $671 million compared with $533 million a year ago. As the geographic footprint widened, international revenues grew from $65 million a year ago to $166 million during the quarter. Netflix continues to reduce their focus on the DVD by mail segment and revenues fell from $291 million to $232 million during the quarter.

For the current quarter, Netflix expects streaming revenues of $874 million with a domestic subscriber base of 29.75 million and international subscribers of 7.75 million. They expect to end the quarter with an EPS of $0.43.

Netflix’s DVD Business
Netflix continues to push their digital streaming business and let subscription to the lower margin DVD-by-mail business dwindle. Last year, Netflix had attempted to split the DVD business into a separate company, Qwikster. But lack of consumer support forced them to retain the business in house. While ending the DVD business is in line with the growing trend of digital media, analysts believe that Netflix may be taking a wrong step in letting the DVD business die. Netflix has a larger and, from personal experience, a better selection of shows available on DVDs. But more importantly, Netflix also has competitive advantage over other digital video streaming players. Neither Amazon nor Hulu have a DVD option for their customers. Also, while Netflix claims that margins on streaming business are better, numbers tell otherwise. During the last quarter, contribution from domestic streaming stood at 22.5%, compared with 47% contribution margin earned by their DVD business. Evidently, Netflix should look at retaining their DVD business.

Netflix’s Content Growth
For Netflix, continuing to build on their content will help them increase their subscriber base. Its recent content acquisition moves have stood them in good stead. Between their titles “Arrested Development” and original series, “House of Cards,” they managed to receive 14 Emmy nominations. They are counting on the success of more such series for additional competitive advantage and to ensure control over rising content costs. Earlier this month, they debuted another original series, “Orange is the New Black.” The company did not disclose statistics but says it is pleased with the initial success and claims that its original series are attracting TV-sized audiences.

Netflix’s stock is trading at $241.30 with a market capitalization of $14.22 billion. It touched a 52-week high of $270.31 earlier last week, but it took a tumble due to the lower than anticipated subscriber growth for the quarter.

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