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Netflix Beats Q4 Earnings Estimates

Touts importance of original series but stresses future investments will be based on performance of this year's slate 1/23/2013 04:37:24 PM Eastern

UPDATED: 8:05 p.m. ET

Despite
predictions by some analysts that Netflix would post a loss in the fourth
quarter of 2012, the streaming media company reported a revenue increase to
$945 million and a net profit of $8 million, with domestic streaming
subscribers growing by about 2 million from the third quarter of 2012 to 27.1
million in the fourth.

Netflix
shares jumped by more than 30% in afterhours trading.

In discussing the company's better-than-expected fourth
quarter 2012 earnings, CEO Reed Hastings and CFO David Wells highlighted the
importance of their upcoming original series as an important differentiator in
the increasingly competitive streaming video landscape.

But
they also stressed that they planned to stay flexible on future investments in
original programming and noted that they would be reassessing their plans for
2014 original programming slates based on the performance of the 2012 slate.

In
a letter to shareholders, the company executives acknowledged increased
competition from the TV Everywhere offerings of multichannel providers and the
growing investments by companies like Amazon, Hulu and Google.

Reed
also told analysts that Netflix has become a profitable window for cable
networks to promote and sell their content and that increased demand for high
bandwidth services like Netflix would be good for cable operators because it
would increase demand for faster, more expensive broadband offerings.

Analysts
did not ask Reed about the 10% stake Carl Ichan had made in the company. In the
shareholder letter, Netflix executives noted "we have no further views on his
intentions but have had constructive conversations with him about building a
more valuable company."

Strong Q4 Revenue and Sub Growth

While
the company reported better than expected profits and strong revenue and
subscribers growth, the fourth quarter earnings continued to be reduced by the
costs of its international expansion and programming expenses.

The
fourth quarter profit declined from $35.2 million in 2011 to $8 million in the
fourth quarter of 2012 even though revenue increased from $875.6 million in the
fourth quarter of 2011 to $945.2 million in 2012.

That
decline reflected increases in the cost of revenue from $575 million in the 4th
quarter of 2011 to $696 million in the fourth quarter of 2012.

International
streaming subs increased by 1.8 million in the quarter to 6.1 million while
domestic DVDs declined by 38,000 to 8.22 million.

For
the full year, Netflix added nearly 10 million global streaming members in
2012, for a total over 33 million.

Rising
costs reduced full year net income from $226.1 million in 2011 to $17.1 million
in 2012.

In
the report, Netflix predicted that domestic streaming subs would grow to
somewhere between 28.5 million and 29.2 million and that it would post a net
profit of between $0 to $14 million in the first quarter of 2013.

Netflix Faces Growing Competition

Despite
strong fourth quarter results, the company continues to face strong
competition. In the letter to shareholders, Reed and Wells admitted that
domestic competition continues to grow and that TV Everywhere offerings
continue to improve, creating increased competition for "viewing time."

While
its streaming media rivals Amazon, Hulu Plus and Redbox continue to improve
their offerings, Reed and Wells argued that their large subscriber base and
strong position in the market continues to allow them to offer a much stronger
programming slate.

Netflix Is Good For Cable

In
response to a question on the impact on cable if Netflix achieved 50 million
subs, Reed argued that Netflix window help promote cable shows. "If you look at
shows like Breaking Bad and Mad Men [making previous season
available on Netflix prior to the launch of a new season] has been a huge win,"
he said. "They get bigger and bigger audiences and if [the show is no longer on
air] then it is pure incremental revenue...We don't see a huge conflict in that
licensing dynamic."

Reed
also argued that "cable broadband is very profitable" and that services like
Netflix "are critical for driving more adoption of higher end [broadband]
packages."

More Originals In the Pipeline

Faced
with the increased competition, Reed and Wells argued that the company's
sizable subscriber base would help them afford significant programming
investments and differentiate themselves from their rivals. "In such a world,
our originals will be a great asset," the shareholder letter noted.

In
the shareholder letter, they also called the Feb. 1 launch of House of Cards "a defining moment in the
development of Internet TV."

Repeating
arguments company executives have made earlier, they argued that Netflix's
programming model of making all episodes available simultaneously and building
up an aggregated audience over time would produce much lower marketing costs
while generating higher viewership.

House of Cards will be followed by
Eli Roth's Hemlock Grove on April
19th; the fourth season of Arrested
Development
in May; Orange is the New
Black,
from Weeds creator Jenji
Kohan; Derek with Ricky Gervais; and
season two of Lilyhammer.

While
that slate will produce some greater upfront costs, the executives argued in
the letter to shareholders that "we have sufficient cash on hand to fund our
current slate of originals and ongoing expenses."

In
the call with analysts, the two executives stressed their flexible approach to
originals and said no firm plans had been made on spending levels for their
2014 slate. "We haven't made decision on what percentage of the budget looks
like [in 2014]," Reed said and said they would be reviewing subscriber acquisition
trends.

The
executives noted they expected little impact on subscriber acquisition from House of Cards in the first quarter of
2013 but reiterated their belief that Arrested
Development
could produce a bump in subs during the second quarter. "Arrested Development is unique" because
of the ready-made audience, Reed said.

International Loses to Decline

Netflix
reported increase international loses for fourth quarter rising to $105 million
from $92 million in the third quarter, in part because of its Nordic launch.
But in shareholder letter, the company noted that they expected those to
decline in 2013. "We are satisfied with the progress we are making," Reed said.

Still on Probation With Subscribers

Reed
acknowledged that the company hadn't completely rebuilt its brand after the
controversy over increased prices. "We are still extremely thoughtful and
careful about what we do," he noted "We are out of jail but still on probation."

 

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