Netflix's Surprise Ending Will Blow You Away

Netflix (NASDAQ: NFLX  ) has faded to black in a plot twist that would make M. Night Shyamalan proud.

The leading video service is soaring in after-hours trading after posting blowout quarterly results tonight. Revenue climbed 8% to $945 million, well ahead of the $934 million that analysts were targeting. However, the real gem came on the bottom line. Wall Street was braced for a deficit given the company's mounting losses overseas, but Netflix came through with a surprising profit of $0.13 a share.

The Village
The world apparently can't get enough of Netflix these days.

Losses did accelerate internationally as Netflix expanded into the Nordic region, but the end result is that it added 1.8 million net subscribers during the quarter to close out 2012 with 6.12 million international streaming users. This is the most successful quarter Netflix has had in terms of international net additions since expanding beyond the U.S. more than two years ago.

Things are going even better closer to home.

Netflix added 2.05 million domestic streaming customers to close out the quarter with 27.15 million accounts. It had only 380,000 defections on the DVD-based end of its business to close out 2012 with 8.22 million mail-checking disc buffs. It's the best showing on either front since Netflix began breaking down its performance this way during the latter half of 2011.

Unbreakable
Yesterday, I asked if Netflix bears should cover their shorts, suggesting that naysayers may want to follow the lead of longtime bear Janney Montgomery Scott analyst Tony Wible in turning bullish on the company last week.

To be fair, no one saw this kind of shorts-chomping blowout coming. Nearly every analyst saw red ink on the bottom line. No one could've fathomed that margins would actually improve on its fading disc-based service or that the contribution profit on the domestic streaming side would be more than enough to offset the loss internationally.

The popularity of Netflix -- now with 33.27 million streaming accounts worldwide and another 8.22 million customers receiving optical discs by mail -- cannot be disputed.

The competition isn't even close.

The company illustrates the difference in the various streaming services by pitting its most popular shows against Amazon.com's (NASDAQ: AMZN  ) Prime Instant, Hulu Plus, and the Redbox Instant by Verizon platform that recently launched in beta through Coinstar (NASDAQ: OUTR  ) and Verizon (NYSE: VZ  ) .

Taking the top 100 movies and top 100 TV shows available through Netflix, this is how many of these 200 selections are available through the much smaller streaming services:

  • Amazon Prime Instant: 73
  • Hulu Plus: 27
  • Redbox Instant by Verizon: 12

It's not even close, but this isn't necessarily a shot at the lesser players. The point that CEO Reed Hastings and CFO David Wells are trying to make in tonight's letter to shareholders is that the lack of overlap is a good thing. This is something that will only grow more pronounced as the services develop original programming and ink exclusive deals, just as Amazon has recently done. Redbox Instant is still in beta, but its army of more than 20,000 kiosks is a differentiator.

"Over time as a group we are likely to compete more like Showtime and HBO do today," Hastings and Wells write.

Just as cable customers often choose both HBO and Showtime, these services may grow to be peers instead of fierce rivals.

Signs
If you think the fourth quarter was special, just wait until the current quarter plays itself out.

If Netflix lives up to its outlook this will be the company's first $1 billion quarter in revenue. It will also be the first quarter in which the contribution profit for Netflix's streaming service surpasses that of its original DVD-based platform.

Netflix's guidance calls for $1.004 billion to $1.031 billion in revenue, laughing hysterically at the $969.4 million that Wall Street was targeting before tonight. Netflix expects to have 35.1 million to 36.5 million streaming customers and 7.6 million to 8.05 million DVD accounts by the end of March.

Netflix's sees profitability landing somewhere between breakeven and net income of $0.23 a share. Yes, analysts were holding out for yet another loss.

It's hard to find flaws in the report.

Nitpickers can point to this being the second straight quarter of negative free cash flow out of Netflix, but they're easy to silence. Netflix was merely investing late last year on the development of the original programming that it will shower subscribers with in the coming months.

That deluge begins with House of Cards next week.

Well played, Netflix.

If Haley Joel Osment whispers, "I see dead people," he's probably talking about those who dared to bet against the video service.

The Happening
The precipitous drop in Netflix shares since the summer of 2011 has caused many shareholders to lose hope. While the company's first-mover status is often viewed as a competitive advantage, the opportunities in streaming media have brought some new, deep-pocketed rivals looking for their piece of a growing pie. Can Netflix fend off this burgeoning competition, and will its international growth aspirations really pay off? These are must-know issues for investors, which is why we've released a brand-new premium report on Netflix. Inside, you'll learn about the key opportunities and risks facing the company, as well as reasons to buy or sell the stock. We're also offering a full year of updates as key news hits, so make sure to click here and claim a copy today.


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