Is Pricing to Blame for Netflix’s Subscriber Miss?


Jul. 27 2019, Updated 8:25 a.m. ET

Netflix (NFLX) posted upbeat second-quarter earnings results after the closing bell on Wednesday. However, its revenue missed analysts’ estimate, which led its stock to plummet almost 12% in extended trading on the day. The online streaming giant also disappointed investors with its US subscriber numbers, which missed expectations.

Netflix stock fell 0.97% and closed at $362.44 on Wednesday. It has a market value of $158.5 billion at that price. The stock is up 35.4% YTD (year-to-date). In comparison, the S&P 500 is up 19.05% YTD.

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Netflix’s second-quarter earnings and revenue

Netflix has topped earnings estimates for the past six quarters. In the second quarter, the company’s EPS of $0.60 beat analysts’ estimate of $0.56 by 7.1%. However, its earnings slipped significantly by 29.4% YoY (year-over-year) in the second quarter. Weak subscriber growth and massive investments in original content are to blame for the YoY drop in its earnings.

The company delivered total revenue of $4.92 billion in the second quarter. Though its revenue marginally missed the estimate of $4.93 billion, it increased about 26.0% YoY in the quarter. Currency headwinds dented its second-quarter revenue by $265 million. The company predicted in April that its YoY revenue growth rate would improve in the second quarter. It had been declining for the past four consecutive quarters.

Netflix’s revenue growth also accelerated sequentially by around 400 basis points in the second quarter. Its revenue has been consistently growing on a sequential basis.

The company’s ARPU (average revenue per user) also increased 3% YoY on a reported basis. Excluding an unfavorable currency impact, its global streaming ARPU grew 9%. Its ARPU growth was 12% in the US and 7% in international markets.

Netflix’s subscribers

The video streaming player posted a steep drop in paid subscriber additions in the second quarter. Its subscriber additions were lower than its previous year’s numbers and its forecast. It had anticipated soft subscriber growth in light of the increased competition in the streaming industry.

Netflix added only 2.7 million paid subscribers globally in the second quarter. These paid subscriber additions were lower than its forecast of 5.0 million as well as the previous year’s 5.5 million. Netflix’s global paid subscriber base reached nearly 151.6 million at the end of the second quarter.

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Lower-than-expected subscriber numbers

Netflix blamed pricing and content for its lower-than-expected global subscriber numbers. The company lost more subscribers than expected in the US, and it posted a big miss on international subscriber additions in the quarter. Its second-quarter subscriber count also looked lower than its robust first-quarter subscriber growth levels. In the first quarter, the company posted its second-largest subscriber growth ever at 9.6 million.

Netflix stated in its letter to shareholders, “Our missed forecast was across all regions, but slightly more so in regions with price increases.” The company mentioned earlier that the increase in its membership prices in the US would affect users in May. In January, Netflix announced price increases of 13%–18% for US users.

The company also believed that “Q2’s content slate drove less growth in paid net adds than [it] anticipated.” It released several highly watched series, including Dead to Me, When They See Us, and Our Planet, in the second quarter. It also released the original films Murder Mystery, The Perfect Date, and Always Be My Maybe, among others.

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Netflix’s US subscribers 

Netflix reported its first loss of US subscribers in the second quarter, which took a toll on its overall subscriber growth. The company lost around 130,000 subscribers in the US, whereas analysts had anticipated a gain of over 350,000. Last year, the company reported US paid subscriber additions of 870,000. In the third quarter, the company expects around 0.8 million paid subscriber additions in the US, lower than 1.0 million in the third quarter of 2018.

Notably, Netflix saw sluggish subscriber additions in the US compared to its international subscriber growth. Stiff competition in the streaming space and the recent price hike for US members were probably the reasons for the weakness.

The company’s domestic streaming paid subscribers totaled about 60.10 million in the second quarter, lower than the expectation of 60.53 million. However, US paid subscribers were 7.4% higher than in the second quarter of 2018. The company expects its US paid subscriber base to reach around 60.90 million in the third quarter, up from 56.96 million a year earlier.

Nevertheless, its domestic streaming revenue was about $2.3 billion in the quarter. Its US streaming revenue was up 21.4% YoY and 10.8% sequentially. Its US streaming contribution margin was 37.1% in the second quarter—higher than 35.5% in the second quarter of 2018 and 34.4% in the first quarter of 2019. Further, Netflix expects its US contribution margin to be 38.5% in the third quarter.

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Netflix’s international subscriber additions

In addition to weaker-than-expected US subscriber numbers, Netflix reported sluggish international subscriber growth in the second quarter. The company’s international paid subscriber additions were 2.83 million, lower than analysts’ expectation of 4.81 million and the company’s expectation of 4.7 million. The figure was also lower than the second quarter of 2018’s 4.58 million and the previous quarter’s 7.86 million.

However, in the third quarter, Netflix expects to add 6.2 million paid subscribers internationally, higher than its paid additions of 5.07 million in the third quarter of 2018.

At the end of the second quarter, Netflix’s international streaming paid members totaled 91.46 million, lower than the company’s expectation of 93.33 million. However, the figure was higher than 68.39 million in the previous year’s quarter and 88.63 million in the first quarter. In the third quarter, Netflix expects its international paid subscriptions to reach 97.66 million.

Netflix posted a contribution margin of 16.3% in the international segment in the quarter, higher than its 9.8% margin in the previous year’s quarter and its 11.6% margin in the previous quarter. In the third quarter, the company expects a contribution margin of 18.1%.

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Netflix’s third-quarter subscriber expectations 

After a steep drop in subscribers in the second quarter, Netflix expects a stronger third quarter boosted by its impressive content slate. Netflix expects 7 million global paid net subscriber additions and revenue of $5.25 billion in the quarter. Analysts expect it to see revenue of $5.24 billion in the period.

Netflix is set to release many more series and films in the third quarter to attract subscribers. The third season of Netflix’s most popular original TV thriller, Stranger Things, is expected to boost its third-quarter subscriber numbers. The series is shaping up to be the company’s most watched original series.

According to Nielsen’s streaming survey in a Vulture report, the first episode of Stranger Things Season 3 was watched by 19.2 million viewers in the US over four days. Moreover, at least 26.3 million Americans watched at least part of the show during the four-day holiday weekend.

Series including the final season of Orange Is the New Black and a new season of The Crown are also expected to add to subscriber growth in the upcoming quarter.

Forty of Netflix’s original series and films are nominated for 117 Emmy Awards this year. However, AT&T’s HBO surpassed Netflix with 137 nominations—mostly for the final season of Game of Thrones.

Competition from streaming rivals 

Despite its strong line-up of new shows, Netflix predicts a stiff competitive landscape in the coming quarters. Intense competition from new and existing rivals as well as the removal of popular content could hurt its subscriber growth.

Netflix already faces tough competition from existing streaming players Amazon, Hulu, HBO Now, YouTube. Upcoming streaming players Apple, the Walt Disney Company, and AT&T’s WarnerMedia will step up the competition. These new players have strong premium content and huge followings and are therefore likely to attract large subscriber bases, denting Netflix’s dominance.

Apple will launch its ad-free streaming service, Apple TV+, in more than 100 countries. Apple TV+ will stream movies and TV shows from third-party studios alongside its own original shows. However, Apple hasn’t disclosed the price of its subscription service.

Disney’s streaming product, Disney+, is coming on November 12 at a subscription price of as low as $6.99 per month. According to Morgan Stanley analyst Benjamin Swinburne, Disney+ could dent Netflix’s presence in the US market by 2024 by attracting more subscribers.

AT&T’s WarnerMedia is also planning to roll out its streaming service, HBO Max, in spring of 2020. HBO Max’s premium content will be available for roughly $16–$17 per month.

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Comcast’s NBCUniversal and Discovery are also in the process of launching their own streaming services in 2020. NBCUniversal has priced its streaming service at ~$10 per month for users who don’t have cable subscriptions. In comparison, Netflix’s basic plan starts at $8.99, and its most popular plan comes in at $12.99 per month.

Netflix will lose popular shows

Netflix is going to lose many of its most watched shows, including HBO Max’s Friends and NBCUniversal’s The Office, in a year or two. New streaming players will be taking their content to their own platforms. Disney will also stop streaming movies on Netflix after it launches Disney+.

Netflix’s valuation and analysts’ recommendations

Soon after Netflix’s release of its soft second-quarter subscriber numbers, a few analysts slashed their price targets on its stock. While Credit Suisse reduced its target to $440 from $450, RBC cut it to $450 from $480. However, Pivotal Research raised its price target to $515 from $500, probably on growth expectations for the coming quarter.

Overall, 45 analysts cover Netflix, and 30 have rated the stock as a “buy.” Ten analysts have given it “hold” ratings, and five analysts have given it “sells.” Analysts have a price target of $390.54 on the stock, which implies a potential upside of 7.8% based on its closing price of $362.44 on Wednesday.

Analysts expect Netflix’s EPS to rise approximately 24.4% and 73.5%, respectively, to $3.33 and $5.78 in 2019 and 2020. Moreover, analysts expect Netflix’s revenues to rise about 28% and 23.5%, respectively, in 2019 and 2020.


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