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Shares of Netflix Inc. (NFLX - Analyst Report) surged 19.08% in after hours trading after the streaming service provider reported better-than-expected first quarter 2013 results. Non-GAAP earnings per share (excluding loss on extinguishment of debt) of 31 cents were significantly ahead of the Zacks Consensus Estimate of 18 cents per share. On a year-over-year basis, reported earnings also improved from a loss of 8 cents per share.

Revenues

Total revenue increased 17.7% year over year to $1.02 billion and was marginally ahead of the Zacks Consensus Estimate. Robust subscriber additions in Netflix’s streaming business (both domestic and international) led to the better-than-expected top-line performance.

Notably, Netflix’s paid streaming subscriber base (both domestic and international) increased 40.2% on a year-over-year basis to 34.2 million. Total streaming subscriber base increased 37.2% to 36.3 million. 

At the end of the first quarter, revenues from Netflix’s domestic streaming business increased 26.0% from the year-ago quarter to $639 million (management guidance was $633.0 million-$641.0 million). Revenues from international streaming business were up a staggering 230.2% year over year to $142 million (management guidance was $132.0 million-$144.0 million).

However, Netflix’s domestic DVD business was a disappointment as it continued to slump in the first quarter as well. At the end of the quarter, revenue from the segment was down 23.8% year over year to $243 million. Total subscriber base declined to 7.9 million from 10.1 million in the previous year quarter.

Margins

Operating profit for the quarter was $31.8 million as opposed to an operating loss of $1.9 million in the year-ago quarter, primarily due to a higher revenue base.

Expenses were up 13.8% year over year, primarily due to higher cost of revenue (16.5% year over year), technology expenses (11.1% year over year) and general and administrative expenses (25.8% year over year). Marketing expenses were down 0.6% year over. The company reported certain reclassifications of marketing expenses to general and administrative.

Non-GAAP net income for the quarter was $18.7 million compared to a loss of $4.6 million reported in the year-ago quarter.  On GAAP basis, the company reported a profit of $2.7 million.

Balance Sheet

Exiting first quarter 2013, Netflix had $1.03 billion in cash and cash equivalents (including short-term investments) compared with $748.1 million in the previous quarter. Long-term debt was at $500.0 million at the end of first quarter 2013.

In February, Netflix raised $500 million in 5.375% notes spanning 8 years and utilized $225 million of the fund to repay 2007 8.5% notes. Moreover, the company is expected to convert the 2011 TCV $200 million convertible notes into the 2.3 million shares.

Guidance

For the forthcoming quarter, management forecasts EPS between 23 cents and 48 cents. The Zacks Consensus Estimate for second quarter 2013 is pegged at 27 cents. Net income is expected to be in the range of $14 million to $29 million.

Domestic and International streaming revenue is expected to be in the range of $665.0 million-$673.0 million and $156.0 million-$170.0 million, respectively.

Management expects total subscribers in the domestic streaming market and in the international streaming market to be in the band of 29.4 million to 30.05 million and 7.3 million to 7.9 million, respectively.

The company is also set to start a 4-stream plan, with subscription cost of $11.99 for its U.S. subscribers in the near term.

Recommendation

Netflix reported a better-than-expected quarter on the back of higher subscription additions and provided an encouraging guidance. Moreover, new streaming content additions through licensing deals will help the company to counteract stiff competition from other service providers such as Amazon (AMZN - Analyst Report), HBO, Verizon (VZ - Analyst Report) and Comcast . However, the company’s continuous subscriber loss in its DVD business can be a headwind going forward.

Currently, Netflix has a Zacks Rank #3 (Hold).

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