Netflix Inc. (NFLX, Financial) reported its second-quarter results on Monday, beating earnings per share estimates while missing revenue expectations.
Revenue grew 40% year over year to $3.91 billion; analysts were looking for revenue of $3.94 billion. The streaming giant reported earnings of 85 cents per share, above the analysts’ consensus of 79 cents.Â
Net subscriber additions were rather disappointing as the company added 5.2 million subscribers globally, falling short of forecasts of 6.2 million. In the U.S., Netflix added a mere 87,000 paid subscribers to its platform during the quarter.
For the third quarter, the company is guiding for 5 million subscribers globally, almost one million short of the consensus.
The market was disappointed by the decline in subscriber growth, sending shares down 12% after the announcement.
The opening line of the Netflix’s second-quarter shareholder letter says it all:
“We had a strong but not stellar Q2, ending with 130 million memberships.”
Source: Q2 2018 Shareholders’ Letter
The streaming company is finding it difficult to sustain subscriber growth. Although the number of subscribers is increasing, the rate of growth is slowing down and is almost flat in the U.S.Ă‚ The streaming giant has 55.96 million domestic subscribers, below the estimate of 56.29 million provided in the first quarter.Ă‚
Growth internationally is still intact, albeit slower. The company missed its guidance of net additions by 33,000 subscribers.
In short, Netflix's subscriber growth is reaching a plateau on both the domestic and international fronts.Ă‚
It’s worth mentioning that Netflix’s current stock price supports an assumption of 300 million subscribers at plateau. Given the slowdown in growth, it’s highly unlikely the company will reach this mark anytime soon.
What about costs and competition?
Netflix spent more than $3 billion on content during the second quarter of 2018, almost flat sequentially. The company plans to spend more than $8 billion on content in 2018. Going forward, the company needs to spend roughly $7 billion on content each year to sustain its offerings as amortization – tracking the expiry of content licensing – amounted to $3.5 billion during the second quarter.
Netflix is also acknowledging the competition it’s set to face from the combination of AT&T (T, Financial) and Time Warner and Disney (DIS, Financial) or Comcast's (CMCSA, Financial) potential acquisition of Twenty-First Century Fox (FOXA, Financial).
“We anticipate more competition from the combined AT&T/Warner Media, from the combined Fox/Disney or Fox/Comcast as well as from international players like Germany’s ProSieben and Salto in France,” management noted in a letter.
Once the competition kicks in, Netflix won’t have much wiggle room in terms of pricing. Right now, it can increase the subscription rate to revitalize revenue growth, but once multiple streaming services with quality content hit the market, the company will find it difficult to increase pricing.
Takeaways
Subscriber growth is slowing down. Netflix has to increase subscriptions, secure more debt or use a hybrid ad-supported model to support its aggressive content spending.
Investors should avoid the content streamer amid slowing growth and increasing competition.
Disclosure: I have no positions in any stocks mentioned and no plans to initiate any positions within the next 72 hours.
