Netflix Inc.(NFLX) is scheduled to announce its third quarter 2011 results today after the closing bell. In the run up to the earnings release, we noticed that analyst estimates were swinging both ways. However, considering past performance, we think another earnings beat may be expected.
Prior Quarter Performance
Netflix reported second quarter 2011 diluted earnings of $1.26 per share, surpassing the Zacks Consensus Estimate of $1.11 per share and increasing 57.5% from the prior-year quarter. Earnings also topped management’s guidance range of 93 cents to $1.15.
Total revenue of $788.6 million increased 51.7% from the year-ago quarter, but it failed to beat the Zacks Consensus Estimate of $791.0 million. However, the total revenue was in the middle of management’s guidance range of $778.0 million to $798.0 million.
The year-on-year revenues were primarily boosted by newer additions in the net subscriber base.
For further details please read: Netflix Posts Mixed Second Quarter
Current Quarter Expectations
For the quarter, management expects net income in the range of $39.0 million to $58.0 million, or earnings per share in the range of 72 cents to $1.07. The Zacks Consensus Estimate is pegged at 96 cents per share.
Domestic and International revenue is expected to be in the range of $780.0-$805.0 million and $19.5 million-$23.5 million, respectively. The Zacks Consensus Estimate projects total revenue for the third quarter of $813.0 million.
The company lowered its projection for the total subscriber base by a million. The new estimate pins the company’s DVD-only subscriber count at 2.2 million, down from the previously-projected estimate of 3 million. Netflix also lowered its estimates for its streaming subscriber base to 9.8 million, down from the previously-guided estimate of 10 million.
However, for the third quarter, the company retained its projection of 12 million customers using both the services.
Netflix’s declining subscriber base is likely on account of its new subscriber plan that was formulated in July, which divided its mail-order and streaming services into two separate plans. It also raised prices by 60% to $15.98 a month for subscribers who seek to opt for both the DVD-by-mail and streaming services.
Estimate Revision Trend
For the current quarter, among the 26 analysts covering the stock, four analysts increased their estimates, while five analysts lowered their projections in the last thirty days. However, the Zacks Consensus Estimate for the current quarter remained at 96 cents.
Analysts have a cautious stance on the stock due to its recent price hike and reduction in subscriber-base projections and await clarity on the actual number of subscribers lost in the third quarter.
However, Netflix’s international launch in 43 countries of Latin America and the Caribbean last month, with a 30-day free trial, will likely help to increase the subscriber count. Analysts expect brand building to raise marketing expenses in the new regions. This is expected to weigh on margins.
Recommendation
Netflix has been in dire straits since July, due to the Starz licensing debacle and then the price hike. Moreover, Netflix decided to split its business in two, but later decided to abandon the plan.
These decisions left investors and customers confused and flustered. As a result, share prices dropped by more than 45% since September 15, eroding more than $5 billion of the company’s market cap.
Though Netflix’s management admitted that splitting up the business was a wrong decision, it stood by the decision to increase the subscription price by 60%. In the present scenario where content additions are the prime factor to stay competitive, hiking the price is one of the ways of financing the licensing agreements.
We believe that content additions will enable Netflix to reduce its dependence on cable TV operators and provide it with the necessary competitive edge over its peers in the emerging market of online video streaming. Moreover, strategic partnerships will also be beneficial, helping it to expand its geographical footprint.
However, intensifying competition from large players such as Amazon.com Inc. (AMZN), Apple Inc. (AAPL) and Google Inc. (GOOG) in the online streaming market is a headwind, as it will further push up license fees and also affect subscriber additions.
We maintain our Neutral recommendation on Netflix over the long term (6-12 months). Currently, Netflix has a Zacks #4 Rank, which implies a Sell rating on a short-term basis.
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