How Netflix Could Reach 350 Million Subscribers

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This is the fourth in my series of articles outlining a detailed bull long-term case for investing in video content provider Netflix (Nasdaq: NFLX  ) . So far, I've covered:

Today, I'll show how using those three aspects will help grow Netflix well beyond its current subscriber base of 23.6 million. Tomorrow, I'll wrap it up with a discussion on the threats Netflix faces and how it's meeting them.

Canada, the first of many
In the third quarter of last year, Netflix launched a streaming-only service in Canada. This was a test bed, giving it a feel for how the service would work in foreign countries, working out details on foreign licensing, measuring subscription sign up rates, etc. -- all the aspects of offering a domestic service abroad to work out the inevitable kinks that arise when transitioning to a different environment. All right, Canada is not that different from the U.S., unlike, say, India or Brazil. However, the controlled move into a single foreign country did let Netflix see how this foreign thing might play out.

As it turned out, it worked much better than expected. Netflix expects to reach 1 million subscribers as early as this quarter and to reach break-even on operations within the first year, much sooner than the two years management originally expected.

There have been problems with much more restrictive bandwidth caps enforced by Canadian ISP providers, but that's one of the kinks Netflix needed to find out and find a solution for. That turned out to be a change in its streaming to a more acceptable bandwidth size at the expense of a bit of quality. Fortunately, that's been fairly well-received, according to the company.

Who's No. 2?
Given the success in Canada, Netflix will be moving into a second international market in the second half of this year. Management hasn't identified which country yet, but it has said that initial testing has gone well. Personally, I suspect it is the United Kingdom. After all, Netflix cannot afford to let (Nasdaq: AMZN  ) build up too much of a lead through its Lovefilm subsidiary.

Management is keeping its expectations conservative -- expecting this second market to be break-even in two years -- but if the move goes smoothly, it'll accelerate the international expansion to two or more countries per year starting next year. Europe and Central and South America seem likely candidates. Parts of Asia, as well.

There are more broadband connections outside the U.S. than here at home. That's a big opportunity Netflix will be addressing over the next several years. As I mentioned yesterday, according to Jim Cramer, people outside the U.S. "want Netflix bad."

Don't forget the U.S.
International expansion doesn't mean it will ignore its home country, either. As of the last quarter, it had 22.8 million subscribers here in the states. That's essentially the same number that Comcast (Nasdaq: CMCSA  ) has. Netflix is growing, however, while Comcast's number of video subscribers is slowly declining.

According to the Census Bureau, there are 117.5 million households in the United States. With 63.5% of households having broadband access as of 2009, according to OECD, that's a potential of roughly 75 million households that could be Netflix customers. Doubling (or more!) the number of households using Netflix in the U.S. is not out of the realm of possibility.

Plus, Netflix has been publicly speculating about switching from a household subscription model to an individual model. Even if that's at a lower price point, the potential gain in revenue is enormous if it can successfully move that way.

Regardless of the actual number possible, I certainly think it's much higher than the 23.6 million Netflix currently has. What's the upper limit? 40 million? 100 million? With a world population approaching 7 billion people, is a 5% penetration level -- 350 million -- too high, if it moves entirely to an individual membership model?

As it collects more and more information about what people watch and brings in more revenue from more subscribers to spend on acquiring content, Netflix will be able to get content that its subscribers will watch, which will bring in more subscribers. The virtuous cycle. Netflix is just beginning to run it for all it's worth.

Come back tomorrow when I wrap up this series by discussing the five major challenges Netflix is facing.

Amazon and Netflix are Motley Fool Stock Advisor selections. Alpha Newsletter Account LLC has bought puts on Netflix. Try any of our Foolish newsletter services free for 30 days.

Fool analyst Jim Mueller owns shares of and has an option position in Netflix along with owning shares of Amazon. He works for the Stock Advisor newsletter service. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool's disclosure policy is never messed up.

Read/Post Comments (4) | Recommend This Article (11)

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Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On April 28, 2011, at 3:36 PM, CMFFrankDip wrote:

    The individual streaming subs will go straight to the bottom line if, as the company has said, they initially offer this as an add on to the current household offering. Costs for an additional stream will be marginal.

    In addition let's keep the plan for Facebook integration coming later this year as a key ingredient for Int'l expansion. Per David Kirkpatrick's book "The Facebook Effect" page 275 states that in 2009 45.7% of the population of the UK had Facebook accounts. Integrating Netflix into the Facebook platform could cause Netflix to go "viral", as the kids like to say, in foreign countries.

    Maybe all of France will want to watch old Jerry Lewis movies on NFLX.


  • Report this Comment On April 28, 2011, at 5:18 PM, MikeVids wrote:

    If they stop account sharing that would increase their American subscriptions but I'm not sure all the foreign markets will be willing to let the streaming giant usurp all of their potential domestic business opportunities. Even if they were it seems like piracy is rampant in many of the markets overseas so you would have to convince people in China or Europe or India to pay 8 dollars monthly for something they already get for free and without 28 day windows either. If you tell me how to stop piracy I would agree with your lofty aspirations for this company but alas since no one seems to be able to solve this I think we will eventually see a slow but steady decline in paid subscriptions.

  • Report this Comment On April 28, 2011, at 10:19 PM, MKArch wrote:

    Even if you allow for some reasonable number of subs walking and then re-signing up at a later date they've already signed up a large part of the addressable U.S. market likely well more than half and they have a serious retention problem. Subs don't stick around for long. Sub additions projected for Q2 are already weak, when they saturate new subs then total goes backwards in a hurry and the virtuous circle turns into a death spiral. Based on Q2 guidance it looks like saturation has begun.

    Canada is a tiny country and might as well be the 51'st state. Everywhere else they have to deal with existing competition with greater recognition, local content, small markets, stricter rules lower profits and competing with free pirated content. International isn't going to pick up the mantle of growth from a saturated U.S. market for a long time it ever and then you have the same retention problem.

    Without local sports, news, current tv shows and newer movies they can't keep subs renewing for long and they will continue to walk away in droves. Their subscription based streaming model is not sustainable and anyone holding this stock when they start hitting the wall on new sub growth in the U.S. is going to get crushed as total sub count rapidly falls and their business implodes.

  • Report this Comment On April 28, 2011, at 10:22 PM, MKArch wrote:

    BTW I doubt they will break 30M subs before sub count starts going backwards and the death spiral takes over.

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