Netflix’s earnings show the company has plenty of room to grow

By Aarthi Rayapura October 19, 2016

This article first appeared in CNBC.com

By Michelle Castillo

Netflix’s third quarter earnings blew past Wall Street expectations, mostly thanks to its higher-than-expected subscriber numbers, especially in international territories.

Those results put to rest, for now, fears that the company had reached a ceiling in the number of subscribers it could get to sign up for the service.

The company said Monday that it added 370,000 net subscribers in the U.S., ahead of the forecasted 300,000. Internationally, the numbers were even more impressive: 3.2 million, versus the 2 million that had been projected. The company said it is on pace to have the same amount of net adds during the first nine months of this year as it did during the same period in 2015.

These subscriber gains happened in spite of the average subscription price rising 10 percent compared to this time last year. Netflix said it has “ungrandfathered” 75 percent of people on lower subscription plans, and the number of people cancelling their subscriptions has been consistent.
Industry experts had been afraid the churn from people unsubscribing, coupled with the fact that many believed Netflix reached peak subscriber numbers in the U.S., would limit their expansion. They also thought that the company’s shift in strategy to move from licensing content to creating their own and owning exclusives was pricey — and risky. Boston Consulting Group and SNL Kagan estimated Netflix would spend $5 billion on licensing content this year, second only to ESPN’s $7.3 billion.

That doesn’t mean there aren’t challenges ahead, of course. Some analysts fear the company faces an uphill battle in international territories to create original content, because creating and license shows is expensive. In addition, there isn’t as much demand for foreign territory programming elsewhere, meaning Netflix would be unlikely to license the shows back in the U.S.

The content business is tough, and it can be hard to predict a hit, said Gullane Capital Partners managing partner Trip Miller. His firm had been shorting Netflix before today’s earnings announcement.

“Now that Netflix has got more and more into this [content production] and away from being a content distributor — and they were a first mover and had some advantages — it gets more and more difficult,” he said.

The fact that there are people unsubscribing to Netflix because of higher rates means that there is potential for them to come back if a new price point presents itself, said enterprise software company Zuora CEO Tien Tzuo. Zuora sells software for companies with a subscription model.

Tzuo said now there are viable competitors to Netflix including Amazon and HBO, so the company needs to offer more tiers of pricing to attract new customers.

“Every subscription industry, once it matures pricing and packaging becomes the primary battleground,” said Tzuo. “I think it’s something Netflix is underinvested in and something it needs to think about going forward.”

He suggested that lower-priced options with less access to Netflix’s library may be able to re-attract people who quit their subscription — or even attract new users.

“There’s no reason why everyone inside a household can’t have their own Netflix account,” said Tzuo. “I think if Netflix rethinks what they do, they have plenty of room to grow.”

What Netflix has is its data, eMarketer senior analyst Paul Verna said. It can use the information to determine which shows are more likely to be a hit, although he admitted no one has cracked the formula to figure out what audiences want. Miller likened Netflix’s algorithms to knowing American’s like hamburgers versus knowing where to find a good hamburger.

“They’re in the more unpredictable business of making programming that people love,” Verna said. Although there are ways to improve your chances and create more successful content, there’s no formula.”

The streaming video platform reported $2.47 billion in revenue this past quarter, the first time streaming revenues exceeded $2 billion. It also posted earnings of 12 cents per share. It beat the Thompson Reuters’ consensus estimate for this quarter of $2.2 billion and 7 cents earnings per share.

To learn more on succeeding in the Subscription Economy, download Zuora’s Blueprint for a Subscriber-Centric OTT Video Business