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Netflix Increases Focus on Original Content

Posted on Wednesday, Apr 19th 2017

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According to a recent MarketsandMarkets report, the global video streaming market is estimated to grow from $30.29 billion in 2016 to $70.05 billion in 2021. That translates to an annualized growth rate of 18% over the five-year period. Netflix (Nasdaq: NFLX) is already delivering more than the industry’s growth rate in its revenue growth. But things may not look all that rosy in the future.

Netflix’s Financials

Netflix’s Q1 revenues grew 35% over the year to $2.64 billion, in line with the Street’s forecast for the quarter. EPS of $0.40 was better than the market’s projections of $0.37 for the quarter.

During the quarter, Netflix added 1.42 million domestic subscribers and 3.53 million international subscribers. The growth was lower than the analyst forecast of an addition of 1.56 million domestic and 3.71 million international subscribers. The increase in subscribers was also lower than Netflix’s own forecast of an addition of 1.5 million domestic and 3.7 million international subscribers. It ended the recent quarter with 98.75 million subscribers overall of which 50.85 million were domestic subscribers and 47.89 million were international subscribers.

For the current quarter, Netflix forecast net additions of 3.2 million subscribers with 600,000 of them being added in the domestic market. The growth forecast is much higher than the Street’s forecast of an addition of 2.23 million subscribers in the quarter. With the forecast growth, Netflix will also cross the 100 million subscriber milestone by ending Q2 with 101.95 million total members. Netflix expects stellar performance in Q2 as the fifth season of its original content House of Cards returns to the platform in the quarter. The program was originally slated to be released in Q1, a reason, it says, caused the miss on Q1 subscriber additions.

Netflix expects Q2 revenues of $2.76 billion with an EPS of $0.15. The Street was looking for revenues of $2.76 billion in Q2 with an EPS of $0.24.

Netflix vs Amazon

Earlier this week, Amazon announced its tie-up with NFL that will give it the rights to stream the Thursday night games on its video streaming platform. The deal cost Amazon $50 million in addition to $30 million it will spend on marketing and promotion of the football league. Amazon will not have exclusive rights to the games as TV networks such as CBS and NBC will also continue to show the games. But, it is a big move for Amazon as it builds up its streaming arsenal.

Netflix is not very worried about the tie-up. It believes that its competitors are not the live streaming services such as those offered by YouTube, Twitter, Facebook, and now Amazon. Instead it acts as a complementary service to pay TV packages as it offers its viewers the ability to watch ad-free content, on-demand. In the letter to the shareholder, the company insisted that live streaming is not a smart strategy for it since it believes it can earn more viewing and satisfaction from spending that money on movies and TV shows.

Keeping that in mind, it is not surprising that Netflix’s content costs continue to soar. It is expected to spend $7 billion in content this year, compared with $6 billion last year. It has already released new programs including original shows 13 Reasons Why and A Series of Unfortunate Events in the first quarter. Besides the release of House of Cards, it is also working on the next season of Orange is the New Black in Q2. Analysts are rightly concerned that the rising content cost coupled with a saturating domestic market will spell trouble for Netflix in the long run. To continue to attract subscribers, it will need to increase both marketing and content spend, making free cash flow from the business a distant dream.

The media industry this week has been abuzz with a rumor that Apple may end up buying Disney so as to give Disney stronger distribution for its content and Apple access to Internet-based video service and content. The rumors have circulated on-and-off for a few years now. Some believe that the potential of the merger is as real as The Lion King. But if the merger were to really happen, it would make Apple a trillion dollar company with exclusive access to Disney content and a leader in all things entertainment. Apple has been rumored to be looking to buy a media company for a while now. Apparently, it tried to buy Time Warner last year (very bad idea), but the deal went to AT&T instead. Apple does need a strong content strategy, which is why I suggested that Apple buys Netflix. The acquisition will help Apple get access to a wider range of proprietary content, that can be integrated into the Apple TV and iTunes. The merger will inject energy into both hardware sales and content-driven subscriptions and allow Netflix access to iTunes member base. Disney has a broader original content portfolio, but culturally, it would be much easier to absorb Netflix, a Silicon Valley company.

Netflix’s stock is trading at 52-week high levels of $143.36 with a market capitalization of $63.57 billion. It has recovered from the 52-week low of $84.50 it had fallen to in July last year.

Photo Credit: Lars Plougmann/Flickr.com

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