Later today Netflix (NASDAQ:NFLX) will report its Q3 results and if you're trying to get a sense of how over-the-top video is growing, there's no better company to watch. Netflix is the leader in paying subscribers viewing streaming Hollywood-quality video (at least 9 million/mo at the end of Q2), in availability on connected devices (200 and growing) and in offering the deepest catalog of movies/TV programs under subscription. As a result, its performance is as good a gauge as any for consumers' growing appetite for OTT video alternatives.
Q3 was a particularly productive quarter for Netflix in acquiring more content for streaming, arguably its most important priority as it transitions from its traditional DVD-by-mail business. The big content deal of Q3 was with premium cable network EPIX, but this quarter Netflix also inked new or expanded deals with Relativity Media, Warner Bros., NBCU and Nu Image/Milllenium Films. These deals have brought a combination of popular newer and classic movies along with recent-season TV episodes.
While the deals have added a huge amount of new value for streaming viewers, questions swirl about what they mean for Netflix's P&L. It's also worth noting that even as Netflix was adding lots of new content in Q3, Google lured away Netflix's #2 content executive Robert Kyncl, as it prepares to build its premium library to support its Google TV rollouts.
In Q3 Netflix also deepened its commitment to streaming by rolling out its first streaming-only service in Canada, its first international expansion. The Canadian service offers less content (as Netflix works on clearing rights outside the U.S.), but is also priced lower, at CDN$7.99/mo (or about US$7.70/mo) vs. the $9/mo entry tier in the U.S. (though that includes one DVD out at a time).
Though streaming has garnered much of the company's recent headlines, the reality is that Netflix's extensive U.S. DVD distribution operation, which virtually guarantees 1-day turnaround, is a huge differentiator vs. others like Amazon, who are eyeing streaming-only services. As a result, in Canada, where Netflix isn't offering DVDs, the entry barriers are far lower for others. How Netflix performs there will be a key indicator of how aggressively it pursues other international markets.
For now though, international is just a sideshow for Netflix, the main action is here in the U.S. The big numbers analysts will focus on, as always, are:
- Netflix's subscriber growth (the company's own guidance is to end at 16.3-16.7 million, up from 15 million at the end of Q2; anything over 500K adds would make this Netflix's most expansive Q3)
- Subscriber acquisition cost and churn, both of which hit record lows in Q1, but moved up slightly in Q2
- Gross margin, which hit a high in Q2
- Average revenue per subscriber (ARPU) which is trending down as a result of $9/mo subscriptions dominating all new subscribers adds, plus potential tier downgrades by higher-paying subs as they use more streaming
- Financial impact of the recent content deal
- Guidance for Q4, which is becoming an increasingly important quarter to the company. That's because holiday sales of connected devices - whose key benefit is arguably access to Netflix streaming - is becoming a bigger driver of subscriber additions.
Netflix has had a huge run in the last 3 quarter, adding 3.9 million subscribers, which represents 35% growth on its Q3 '09 ending amount. The stock has followed upward, reaching a recent peak of $174 (up from about $50 a year ago) and more recently trading around $150. Lots of people think it's overvalued based on realistic growth and cash flow forecasts, while others still see it as undervalued given its role as the leading OTT pure-play, benefiting from all the bullish factors around online video delivery. For all these reasons, Q3 results and guidance will be closely followed.
Disclosure: No positions