By trouncing quarterly subscriber estimates and issuing decent guidance, Netflix Inc. (NFLX) - Get Report did much to put to rest fears that its stock had gotten ahead of itself following a 31% rise so far in 2017. The streaming giant may have also shown that it has reached a point where its sheer scale provides a competitive edge that makes it hard for even deep-pocketed tech and media rivals to slow it down.
Netflix reported Q2 revenue of $2.79 billion (up 32% annually) and GAAP EPS of $0.15. Revenue was slightly above a $2.76 billion consensus; EPS slightly missed a $0.16 consensus due to heavy spending, but was in-line with guidance.
Importantly, Netflix reported 1.07 million U.S. streaming subscriber net adds and 4.14 million international net adds, respectively blowing away guidance for 600,000 and 2.6 million net adds. With U.S. subs standing at 51.92 million and international subs at 52 million at quarter's end, a majority of Netflix's streaming users reside outside the U.S. for the first time.
Q3 subscriber guidance was also solid, if unspectacular: Netflix expects to add 750,000 U.S. streaming subs and 3.65 million international subs, above consensus analyst estimates of 725,000 and 3.2 million. Revenue guidance of $2.97 billion (30% annual growth) and EPS guidance of $0.32 are above consensus estimates of $2.88 billion and $0.23.
Shares are up 8.9% in after-hours trading to $176.06 as of the time of this article, blowing past a June high of $166.87 along the way. Among U.S. media giants, Netflix's $79 billion market cap is now only surpassed by Walt Disney Co.'s (DIS) - Get Report $165 billion; Time Warner Inc. (TWX) , due to be acquired by AT&T, has a $77 billion market for the moment.
Not too surprisingly, Netflix, which just received 91 Emmy nominations for 27 original shows, chalks up its strong Q2 subscriber adds to the popularity of its original content slate. 14 new seasons were launched for original shows in Q2, including Season 5 of House of Cards and Orange is the New Black. Netflix also launched 9 original movies, including Adam Sandler's Sandy Wexler and Brad Pitt's War Machine, to go with 13 comedy specials and 8 documentaries.
Management expresses confidence this momentum will continue in Q3 - it will see the debut seasons of shows such as Castlevania and Marvel's The Defenders, as well as Season 3 of Narcos. But it cautions it thinks some subscriber adds were "pulled forward" into Q2, and that it wants to guide conservatively due to past forecasting errors.
Earnings call commentary was as upbeat as ever. CEO Reed Hastings noted average viewing time per subscriber continues to rise, and once more downplayed the notion of a direct rivalry with Amazon.com Inc.'s (AMZN) - Get Report Prime Video, insisting there's room for plenty of firms to succeed as what he deems "Internet TV" catches on around the world. He also mentioned Netflix sees TV service bundles as another way to grow its base, noting that some early European efforts in this area have been successful.
Hastings and other execs pointed out that popular foreign content, such as Korean film Okja and Spanish drama Las Chicas del Cable, fared well both in their home markets and elsewhere. Okja is said to have made many Korean consumers aware of Netflix for the first time, while Las Chicas del Cable is said to have "attracted significant viewership in the US and throughout the entire Spanish-speaking world."
Reading between the lines, management's remarks suggest Europe and Latin America remain larger contributors to Netflix's eye-popping international growth than Asia, even though the company's services are now present in every big Asian market save for China. Hastings admitted Netflix has "a lot more to learn" about appealing to Asian audiences, and content chief Ted Sarandos indicated Netflix will invest more on the ground in the region.
In spite of its tremendous revenue growth, Netflix's cash flow remains negative, as a $6 billion 2017 content budget continues to weigh. Free cash flow (FCF) was negative $608 million in Q2, worse than Q1's negative $423 million and Q2 2016's negative $254 million. And the company's streaming content obligations grew by $400 million sequentially to $15.7 billion, after growing by $800 million in Q1. Hastings suggests Netflix could raise more debt to finance its spending, something its modest $2.6 billion net debt balance leaves it well-positioned to do.
CFO David Wells did indicate, however, that Netflix will see operating leverage in other spending areas, as spending on things like marketing and R&D grows in absolute dollars but trails revenue growth rates. Management is sticking by a 2017 operating margin target of 7%, and now forecasts its international segment, which had a smaller-than-expected $13 million Q2 operating loss, will post a full-year operating profit at current exchange rates.
With Netflix now possessing over 100 million streaming subs and adding a few to several million more each quarter, its customer base, financial resources and viewing data have turned into a massive and steadily-growing moat that makes it very hard for any rival to launch a direct assault. Especially since this moat is tied to a streaming service that remains cheap enough to be a spending afterthought in the eyes of many customers, and subjectively a great bargain relative to your average pay-TV package.
Amazon, forecast by JPMorgan earlier this year to spend $4.5 billion on content in 2017, may be the one exception to the rule. The e-commerce giant is clearly willing to spend heavily to make Prime Video a key reason to stay signed up for Amazon Prime, and its standalone Prime Video pricing in many markets undercuts Netflix.
But with Amazon's total retail subscription revenue (Prime or otherwise) amounting to $6.39 billion last year, it remains to be seen just how much more Amazon is willing to up its Prime Video spending. And whereas -- save for the legacy DVD-rental business -- Netflix's streaming business has the undivided attention of Reed Hastings and the rest of the company's senior management, one can't say the same about Jeff Bezos and Prime Video. Moreover, Netflix's low price and the high overlap that exists between Netflix and Prime's U.S. subscriber bases backs up Hastings' argument that Netflix versus Amazon is far from a zero-sum game, and that the company is competing with entertainment options in general.
It's fair game to question Netflix's valuation a little at this point. Shares are now valued at more than $750 per streaming subscriber, a level that demands Netflix adding subs at a healthy pace and gradually raise prices without sparking a major customer backlash. Fortunately for the company, the quarterly numbers it's delivering and the competitive moat it has built up make it tough right now to question its ability to do either of those things.
Shares will open at an all-time high on Tuesday. The stock is indicated up 9.3% to $176.76 pre-market.
TheStreet's Eric Jhonsa and Leon Lazaroff previously covered Netflix's earnings through a live blog.
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