Netflix (NFLX) provides ample opportunities for aggressive traders, and there are valid reasons to be bullish on its long-term outlook. Its last earnings release showed Netflix is on track in bolstering its global portfolio. International expansion alongside the prominence of mobile devices can increase Netflix's available market share despite increasing competition in the US. Netflix is also interested in creating original content to further differentiate the service while lowering revenue costs substantially. Investors more concerned with the near term: speculation about exclusivity, competition and decreased earnings have lowered Netflix price per share significantly. This may continue as Netflix expects poor earnings before 2013 as it reinvests in its international markets while entering a new territory as well. A short position is appealing right now; long term investments or a short squeeze will be more appealing with a strong third quarter or early in 2013.
Netflix's earnings release showed second quarter revenue totaled $889 million, increasing 2% sequentially and 13%, YOY. Cost of revenue and marketing expense totaled $761 million. Operating income totaled $16 million, up from a $1.9 million loss in the first quarter and down 86%, YOY. Net income totaled $6.16 million, increasing from a $4.58 million loss sequentially and down 91%, YOY. Second quarter cash flow totaled $11.1 million, increasing 420% sequentially but down 81%, YOY. Netflix finished the first half with $402 million cash and cash equivalents, an increase from $175 million, YOY.
Total costs of revenue increased 31%, YOY to account for 72% of total revenue. This was mainly due to content acquisition and licensing expenses in the US, UK and Ireland. The marketing expenses decreased 13%, YOY to account for 13% of total revenue. Domestic streaming net additions totaled 528,000 subscribers in the second quarter and 1.73 million in the first quarter. International net additions totaled 559,000 in the second quarter and 1.2 million in first quarter. The domestic DVD segment had a net loss of 849,000 subscribers in the second quarter and 1.07 million in the first quarter.
Netflix is done investing capital in the DVD segment, subscriptions there will continue to decline as Netflix focuses on growing its base overseas. Ending the first half 2012, Netflix had 23.93 million domestic streaming subscribers and 9.24 million domestic DVD subscribers. There were 3.62 million international subscribers, increasing from 967,000, YOY. Second quarter domestic streaming revenue increased 5% sequentially to $532.7 million; $83.1 million was contribution profit. International streaming revenue increased 244%, YOY and 50% sequentially to $64.9 million; contribution loss totaled $89.4 million. DVD revenue decreased 9%, YOY to $291.4 million; contribution profit totaled $133.7 million.
Earnings declined as a result of more marketing and content expenses overseas. Netflix expects modest revenue in future quarters while earnings should decline as it invests more capital into streaming content and marketing for the international markets. Netflix will also use its free cash flow to support many of the international investments. The UK and Ireland were added in January 2012; the Caribbean and Latin America were added in September of 2011, and it has yet to name the new country it will be servicing in 2013. Netflix stock decreased 11.1% since its last earnings release.
Netflix stands to benefit in the long-term as it focuses on mobile devices like providing upgrades to coincide with the recent launch of the Apple (AAPL) iPhone 5 and iPod Touch. Making the interface of the apps more user-friendly and enticing will bode well as Apple currently has over 70% of the tablet market and over 15% of the smartphone market share. As more people move to mobile devices, demand for entertainment on the go is growing. Coinstar (CSTR) and Verizon (VZ) are planning to release a streaming platform later in the year; a mobile app will most likely not be far behind. Many pundits cite Coinstar's Redbox as a competitor for Netflix; this is not necessarily accurate as Netflix is focused on divesting the DVD segment in order to grow its streaming subscriber in new markets outside the US.
Creating its own original content like HBO (TWX) and AMC (AMCX) is another move that will set Netflix apart from its current competitors like Amazon (AMZN) and Hulu. Both HBO and AMC were simply known for the movies they used to show; they received resurgences in popularity and cult following once they started producing unique original drama and comedy series. This model will help compensate for losing exclusivity as the competition increases. In-house content production will help lower costs from content accusations and licenses while differentiating the service from others like Amazon. Netflix has been integral in AMC's newfound popularity by providing subscribers access to previous season of shows like MadMen and The Walking Dead. Netflix has plans to produce new seasons of Arrested Development, starring Jason Bateman and a new series titled House of Cards, starring Kevin Spacey.
Netflix also recently decided to work with Sumo Logic to take advantage of its cloud Log Management and Analytics platform. This service will enable Netflix to lower costs and gain more control over monitoring and analyzing its multi-terabyte Big Data volume. Both of these firms use Amazon's AWS for their cloud infrastructures so it's very easy for Sumo Logic to plug into Netflix's platform; thereby eliminating much of the operational overhead and headwinds firms face when managing and accessing its own Big Data applications. Working with Sumo Logic provides elastic scalability and will help to make Netflix's operations more efficient.
Most of the speculation of Netflix's demise is centered on contract negotiations for shows with networks like the recent standoff with A&E over 800 hours of content. This is part of the reason Sumo Logic is so essential, analytics play a major part in Netflix's decisions regarding which contracts to let pass and which to hold on to. As the competition increases and Netflix loses exclusive contracts, the stock will continue to drop until the analysts see increased earnings, original content or significant revenues and growth overseas.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.