Netflix (NASDAQ:NFLX) crushed its earnings report earlier this week and in the process settled a number of long-standing questions about the company.
For years, Netflix has been one of the biggest battleground stocks in the market, and along the way, it's attracted plenty of naysayers. Time Warner (NYSE:TWX.DL) CEO Jeff Bewkes famously compared the streamer to "the Albanian army" in 2010 when asked if it posed a challenge to HBO. Wall Street analysts have regularly bashed the stock. Some have since admitted they were wrong, while others continue to throw shade at the company even after its blockbuster earnings report last night. Let's take a look at a few of the biggest myths that have circulated about Netflix in recent years and how the company just disproved them.
Myth No. 1. Netflix will never be profitable
Even the bears have given Netflix credit for its steady subscriber growth over the years, but the company is spreading itself too thin, spending money it doesn't have to bring in new subscribers. It's a flawed business model, and one that will never be profitable.
Reality: Indeed, Netflix has generated minimal profits since it split its streaming service from the DVD-by-mail side as the company has focused on growth before profits, Silicon Valley's mantra. But CEO Reed Hastings promised a year ago, after the company completed its international expansion, that it would generate material profits starting this year, and the company's guidance for the first quarter makes it clear that it will. Netflix is eyeing an operating margin of 9.1% in Q1, and sees domestic contribution margin, hitting 41.3%, better than the 40% goal Netflix had previously announced for 2020. It also expects to report a positive contribution margin in the international segment for the first time ever.
For the full year, management expects operating margin to moderate at 7%, but that is still up significantly from the 4% clip where it's been in recent years. Hastings also said the company incrementally increase its operating margin from there as it continues to invest in its business. That means Netflix should generate close to $1 billion in operating income and nearly $500 million in net income. In other words, it's undeniably profitable.
Myth No. 2: The international market is a boondoggle
Netflix has clearly demonstrated it can generate a profit at home, but the international market is different, detractors have argued. Accepting payment is more difficult as many people don't have international credit cards; understanding local tastes presents challenges; and Netflix is facing entrenched local competition each market.
Reality: If anything, Netflix's international growth has been remarkable. In less than seven years, the company has gained nearly 50 million paying subscribers, and added nearly 15 million last year, the first year that its service was available around the globe. Though it's racked up losses abroad, the international division is about to turn profitable as the company projected a slight contribution profit outside the U.S. this year.
Netflix also seems to be quickly mastering the international programming game as well. Its success in Brazil, which has become its second-biggest market, stands out as the company overcame initial skepticism and payment problems to become a force in Latin America's biggest country. Its sci-fi thriller 3%, released in November, was in Portuguese and set in Sao Paolo, proved to be a hit an even garnered millions of viewers in the US.
Other efforts to localize markets are paying off as well, meaning international subscriber growth should continue to be strong.
Myth No. 3: The competition will catch up
For years, the bears have been claiming that Netflix's early advantage will eventually fade as the market become saturated as big media companies and start-ups alike dive in.
Reality: Netflix is still essentially synonymous with video streaming. It will top 100 million subscribers later this year. Netflix & Chill-a euphemism for a hook-up-has become one of the most popular catchphrases among the millennial generation. The streaming service has permeated the culture in a way that none of its rivals have, and it's not for lack of trying.
Disney, Fox, and NBC formed Hulu in 2007 as an outlet to stream their TV shows, but only has about 12 million subscribers today. Tech giant Alphabet's (NASDAQ:GOOG) (NASDAQ:GOOGL) efforts to gain traction for its paid streaming service, YouTubeRed, have fallen flat. HBO, despite the launch of HBO Now, remains dependent on the traditional Pay-TV ecosystem. Only Amazon.com (NASDAQ:AMZN) has followed successfully in Netflix's footsteps with its own slate of award-winning programs, but Amazon has a much different model than Netflix. It's using video as a free giveaway to entice consumers to join its Prime service so they buy more stuff on its website. Amazon Video's viability as a stand-alone service remains questionable. The company recently launched stand-alone video globally, undercutting Netflix on price, but the move has clearly not put a dent in Netflix's own growth rate as last quarter's international subscriber growth set a new record.
Netflix has turned video entertainment into an arms race, and it has the biggest arsenal. Netflix and Amazon were the biggest spenders at the Sundance Film Festival last year, and that should be the case again as both companies have increased their content budgets. Netflix will spend $6 billion on content this year, up from $5 billion last year. Only sports giant ESPN spends more.
In the last few months alone, Netflix has formed a virtual stand-up-comedy Hall of Fame by signing Jerry Seinfeld, Amy Schumer, Chris Rock, and Dave Chappelle. The company's product is only going to get better as its momentum builds, and there's plenty of room for other streaming services as Netflix and Amazon have shown in the U.S.
With its high valuation, the stock may continue to be volatile, but the debate over the company's prospects is over. Netflix won.
It's become a substantially profitable, global media powerhouse with nearly 100 million paying subscribers, and it will continue to dominate the industry for years to come.
Suzanne Frey, an executive at Alphabet, is a member of The Motley Fool's board of directors. Jeremy Bowman owns shares of Netflix. The Motley Fool owns shares of and recommends Alphabet (A shares), Alphabet (C shares), Amazon.com, Netflix, and Walt Disney. The Motley Fool recommends Time Warner. The Motley Fool has a disclosure policy.