Recently, Netflix (NASDAQ:NFLX) released its earnings for the first quarter of fiscal year 2014. The strong quarterly performance helped the company to beat analysts' earnings estimates. For the first quarter, Netflix generated $1.27 billion in revenues compared to $1.02 billion in the same quarter of the previous year, and this implies 24% revenue growth for the quarter which is same as previous quarter's growth rate. Analysts also predicted $1.27 billion in revenues, and Netflix has maintained the growth pace and the trend is going upwards. The revenue growth was driven by the improved subscriber base and Netflix added 4 million subscribers to beat the consensus estimate of 3.85 million subscriber additions.
The total earnings were $53 million for the first quarter and this resulted in earnings per share of $0.86, whereas analysts were expecting earnings per share of $0.83. The strong earnings were primarily due to impressive international results, as the company's international membership grew by 1.75 million, bringing the total number of international subscribers to 12.7 million members with 72% more net additions than the previous year's first quarter. Now, international revenues make up over 25% of the company's total streaming revenues and the company expects international revenues to surpass U.S. revenues in the future.
Strong Outlook Continues
Looking at the past performance and recent results, Netflix's outlook is likely to remain strong. For the second quarter, Netflix expects to add 1.46 million streaming members and the total will hit 49.81 million streaming members by the end of the second quarter. This will be a slight slowdown from the first quarter, but a healthy increase from the 1.23 million members added in the same quarter of the previous year. Despite the concern over the rising costs of content, Netflix's profit margins continue to expand. Its contribution margin of 15.6% in the first quarter was more than twice that of the previous year. The company hopes to generate a positive margin in international markets during 2014 despite the fact that large investments will result in a net loss.
Paid Members Are Adding Rapid Growth
Netflix continues to gain subscribers both in the U.S. as well as international markets. During the first quarter, the company added 2.25 million net U.S. subscribers and 1.75 million international subscribers. Netflix expects to add another 520,000 U.S. subscribers and 940,000 international subscribers in the second quarter.
Source: Earnings Release
The chart above indicates that Netflix now has total a total of 34.38 million paid U.S. subscribers and 11.76 million paid international subscribers, bringing the overall total number of paid subscribers to 46.1 million. Netflix expects that this subscriber base would increase to about 48 million by the end of the second quarter. Netflix is also considering increasing its subscription costs in an effort to offset the rising content costs.
In July, Netflix will increase its subscription fees by $1 to $2 per month for new subscribers. Current subscribers will continue to pay the $8 per month price for the next year or so. Netflix has sufficient room to raise the monthly subscription for new subscribers, and the planned price hike will allow Netflix to increase spending on original content that will help to attract more subscribers globally. It also seems highly likely that Netflix will accelerate its international market expansion beginning in the second half of 2014 and this should expand the total addressable market allowing the company to drive meaningful upside to long-term profit expectations.
Netflix's Dominance and Upcoming Content
Netflix dominates the instant video streaming market with a 57.5% share of the total market. Netflix's share increased from 52.5% to 57.5% in one year and has put the company in an ideal position to take advantage of the market dynamics. On the other hand, YouTube dropped from 28.2% to 16.9% in one year. Netflix should not be concerned with the progress of Amazon's (NASDAQ:AMZN) Prime instant video service, which has gained traction and has now become the third largest player in terms of the volume of video streaming traffic consumed from the site to the U.S. broadband subscribers.
Netflix's management believes that the company is very similar to Amazon and considers its services very complementary to Netflix. The reason behind that could be the fact that Amazon has given tough competition to YouTube, and YouTube's share has dropped which is beneficial for Netflix.
Source: Qwilt Video Analytics
Netflix's original programming initiatives gained momentum in the first quarter. House of Cards, for which Season 2 debuted in February, attracted a huge audience that will contribute towards the company's success. Additionally, in this quarter Netflix brought members additional episodes of Turbo F.A.S.T. Going forward the company will launch season 2 of the Ricky Gervais series, Derek, in most of its territories, and on June 6th Netflix will release the season 2 of Orange is the New Black. The summer line-up includes season 2 of Hemlock Grove and the final six episodes of The Killing. Netflix competes with many linear TV networks and several internet firms, and the rich content offered by the company gives it a competitive advantage.
Netflix is performing well enough to maintain its growth momentum. The international expansion and increased content will help the company to continue its growth track in the future. Up until now, Netflix's usage on the mobile devices has been very low. Smartphone usage has significantly increased in the recent years so it is necessary for Netflix to gain significant improvement in mobile usage. Due to data caps of between 2GB and 5GB, Netflix's mobile usage has not yet picked up the pace. However, with the advancement of 4G LTE and cap-less data usage, Netflix's mobile usage should increase. Additionally, Netflix is to make a deal with Vodafone (NASDAQ:VOD) that will enable Vodafone subscribers to get free Netflix for six or twelve months. Through this initiative, Netflix's mobile usage will be boosted to some extent.
Over the last twelve months, Netflix's total return of 57.82% has outperformed the total return of the S&P 500 and Comcast (NASDAQ:CMCSA); however, its total return is close to Time Warner Cable's (TWC) total return of 52.11%. Netflix's growth will continue, and for the next five years the earnings per share are expected to grow 37.66%. Due to the growth potential, the average target price for this stock is $409.40 with an upside potential of 20% on its current price.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
Business relationship disclosure: The article has been written by a Gemstone Equity Research research analyst. Gemstone Equity Research is not receiving compensation for it (other than from Seeking Alpha). Gemstone Equity Research has no business relationship with any company whose stock is mentioned in this article.