After reporting earnings yesterday AMC, Netflix (NASDAQ:NFLX) evinced that the platform giant controls its industry. The company ended the quarter with 29.2 million U.S. streaming video subscribers, beating Wall Street's expectations. The platform is now present in almost 25% of homes in America, according to housing statistics from the census bureau.
Disney's (NYSE:DIS) CEO Bob Iger said regarding Netflix, "We were impressed with the platform and user interface. We thought from an environment perspective, it was the perfect place for our product to be distributed." The studio plans to make its films available for streaming on Netflix and not cannibalize its television programming by making it ad free on Netflix. Iger said Netflix is a distinctly different distribution opportunity to the Disney Channel. Content providers like Disney are realizing the potential in providing its content to Netflix, and as Netflix continues to add market share and grow its subscriber base, content costs should get cheaper as Netflix rises to the top of the provider sector.
Revenue grew 18% to $1.02 billion. Operating profit margin in the U.S. streaming business widened to 20.6% from 19.2%. Although the company had negative free cash flow of $42 million in the quarter, this was due to one time content-acquisition costs.
Some analysts had said there was a risk that users could sign up for Netflix's free monthly trial, watch "House of Cards," and then cancel their services. But the company said fewer than 8,000 people engaged in that "free-trial gaming" out of the millions of free trials in the quarter. It wasn't clear precisely how much credit "House of Cards" deserves for the brisk subscriber additions. "What we've seen with House of Cards is a nice impact but a gentle impact," Netflix Chief Executive Reed Hastings said on a conference call Monday evening.
Another original series, supernatural thriller "Hemlock Grove," launched Friday. And a new season of cult comedy hit "Arrested Development" will be released next month.
Competition Falling Behind
Amazon (NASDAQ:AMZN), in particular, has become more aggressive at licensing shows from Hollywood studios and in developing its own original series. CEO Reed Hastings told analysts that aggressive bidding for programming rights by Amazon and Hulu in the past year has driven up the cost of content licensing deals. "That's made content providers happier and the prices higher than they would otherwise be," he said.
But as Netflix puts in the costs, it continues to collect additional market share so that soon competition will go so far that the company can monopolize the industry. See below diagram from Netflix's Letter to shareholders expressing other provider options for Netflix's top 200 most viewed shows and movies.
In its letter to shareholders, Netflix said it is getting more selective in the shows it licenses from studios. It will not renew a licensing deal that expires at the end of May for programming from Viacom Inc.'s networks including Nickelodeon, MTV and BET.
International-streaming unit is a source of future growth but has been a drag on profitability, with $389 million in losses last year and another $77 million in the first quarter. That is an improvement over the $103 million loss in the year-earlier period. The company added one million international streaming users in the quarter, bringing its total to 7.1 million. Netflix said it is improving profits or reducing losses in all international markets. It didn't launch any major new markets in the first quarter and has said it doesn't plan to until at least the second half of the year.
Netflix also raised $500 million in February through a bond offering. About $225 million of the proceeds went to refinance existing debt, with the rest going toward corporate purposes as the company expands.
The company has reached a point of no return. It has over 29 million subscribers paying monthly bills for the service. The company is far ahead of any competitor in its sector, and content providers want to tap into the content distribution provider. Until now content providers were able to bargain with Netflix as the company had clear competition and not a large subscriber base, making content costs high and gross margins low. Further, as the move goes further from cable, with costs skyrocketing, more users will seek refuge with a Netflix subscription.
The company's value exists in its subscriber pool and potential value as it continues to develop its own content and deliver it to its subscribers. Although the company currently trades at an outrageous P/E in the hundreds, the company will soon expand its profit margins from its operation by content costs being lowered as the giant continues to expand and content providers rely more on its platform and subscriber base.
Disclosure: I am long NFLX. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.