Netflix Isn't Only Fun For Viewers

| About: Netflix, Inc. (NFLX)


Netflix’s last quarter was joyful for investors as the top line and net income rose by double and triple digits, respectively.

The company’s continued investment in original programming should help it to sustain future growth in users.

International expansion will also complement the company’s efforts to gain a bigger share of the market.

Netflix's (NASDAQ:NFLX) share value has gone up 71% in one year. While some analysts may call the stock overvalued, I believe this growth is justified. The company has fought to change the television industry by gaining original content for its video streaming platform while competing against well-known brands such as HBO. Consumers have in turn reacted positively to Netflix-original shows like "House of Cards" and "Orange is the New Black". This is why Netflix's original programming content was nominated for 14 Emmy TV awards last year, eventually winning three.

Netflix recently reported its second quarter results and investors were in for a treat. In this article, we will be analyzing this performance before considering Netflix's future potential.

Second Quarter

Source: Shareholders' Letter

Streaming revenue for Netflix climbed 37% to $1.1 billion as the domestic member base grew by half a million due to high-demand content offering which included the second season of "Orange is the New Black". Contribution margin expanded 460 bps to 27.1% as revenue grew faster than spending on content and marketing. The company is near its goal of achieving a margin of 30% after which it says it will evaluate future targets.

International markets remained a game changer after reporting an 85% increase in year over year revenue for Netflix. The company had 13.8 million international members reflecting an increase of 78% on a year over year basis. The additional revenue growth came from modest price increases which the company implemented in most of its markets. The two screen HD plan is presently the most popular choice for new members. These new members will be paying a higher price in the future. In addition, strong demand has led to minimal impact on membership growth from this price change. We can expect ARPU to rise in the future as new members paying higher prices grow as a percentage of total membership for the company.

The losses continue to shrink as accumulated losses struck $15 million last quarter. This shrinkage is coming from higher penetration of Netflix in the international arena. The company has not stopped expanding abroad and therefore we can expect further costs to arise which may temporarily inflate the loss figure ahead. Netflix has reported that it expects international losses to reach $42 million during the next quarterly period.

The fact that the top line is growing faster than its costs led the company to report an EPS figure of $1.15. This was a whopping 135% increase since the same quarter a year ago. Netflix's success lies in its content superiority and device reach which have been the primary drivers of its growth. These factors are unlikely to change anytime soon as the company continues to invest in original and exclusive content.

The first of Netflix's original series from Marvel, "Daredevil", is currently in development in New York. Additionally, the third seasons of "Orange is the New Black" and "House of Cards" are also currently underway. While there is other programming content underway, these three are likely to provide the biggest boost in sales for the coming period. This is why the company expects to add 1.3 million more users during its third quarter in its domestic market.

The company's marketing efforts to promote these offerings have also been successful given the popularity of its previous content and social media activity. Netflix is now introducing physical gift cards across the US, Canada, Mexico, and Germany later this year. These gift cards will not only extend Netflix's brand presence in physical stores but will also provide an alternative to joining Netflix in markets by developing online payment systems.

While these operations are already in motion, the international expansion phase is still ongoing because the company might incur additional costs in the near term. The company's successes in Finland and Argentina are promising enough to incur these expenditures. This September Netflix will launch its service in Germany, France, Austria, Switzerland, Belgium and Luxembourg. The penetration is expected to bring in an additional 60 million broadband users into the company's range, eventually enhancing its European presence. After this the international market will make up twice the number of users in Netflix's domestic market.

Bottom Line

Netflix's growth relies on the two factors discussed above. Historically, these reasons explain why the top line has stayed at 26% over three years. The capital structure is also a plus with debt to equity of less than one when rivals seem to be highly leveraged at 2.6. Netflix plans to spend over $500M in marketing this year to attract people around the world. The company should bring in additional gain for investors through these plans. Therefore, I recommend buying the stock.

Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.

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