Netflix (NFLX -0.60%) will announce its second-quarter earnings results after the market closes on Monday, July 17. Here are a few big trends for investors to know heading into the report.
In their quarterly letter to shareholders, CEO Reed Hastings and his team give projections that amount to their best guess about where subscriber growth and operating profit will land for the next quarter. The latest forecast calls for membership gains to soar to 3.2 million from 1.7 million a year ago as operating margin rises by a full percentage point to 4.4% of sales.
Investors shouldn't spend much time on these exact numbers since they're sensitive to temporary factors. This quarter's subscriber figures will benefit from the fact that the House of Cards premier was shifted to the second quarter of 2017 from the first quarter of the prior year.
Zoom out a bit, and you should see a business that's steadily expanding its sales base while improving profitability. Over the first two quarters of the year, Netflix should add 8.2 million members for a slight decrease from the 8.4 million it gained over the same period in 2016. Netflix went on to add 19 million users in total last year to mark a healthy acceleration over 2016's growth. Operating profit margin is on pace to rise to 7% for the full 2017, compared to 4% last year.
Content hits and misses
Netflix will spend around $6 billion on content this year, and not all of that outflow will go toward successful projects. It's a fact of the TV business; some shows will be blockbusters as others turn out to be duds. The company has had an uptick in the latter variety lately, having canceled several original series this quarter, including the globally marketed sci-fi series, Sense8.
As usual, executives will talk about the wins that drove membership growth this week. But, if anything, investors should expect Netflix's pace of flops to rise. In fact, management is working toward that result. "Our hit ratio is way too high right now," Hastings said in a recent interview with CNBC. "We have to take more risk, you have to try more crazy things," he continued, "because then, what you get is some ... unbelievable winners." Hastings cited the surprise hit series 13 Reasons Why as an example of a risky bet that payed off well.
The key drawback to Netflix's aggressive push into original content is that it requires a much heavier upfront cash commitment than the alternative of licensing shows and movies from other owners. That's the main reason the streamer burned through $1.7 billion last year.
Netflix is projecting an even wider gap in 2017, with free cash flow worsening to a $2 billion outflow. This situation isn't likely to change any time soon, either. Executives told investors in April that they anticipate generating negative cash flow for many years ahead as the company prioritizes revenue growth. "We have a large market opportunity ahead of us," they explained, "and we're optimizing long-term [free cash flow] by growing our content aggressively." As soon as it accumulates a large enough membership base and content portfolio, the company aims to throw off significant cash from the business.
Until then, the company will need to make continued regular trips into the bond market to take on debt as it dramatically expands original content as a percentage of its overall portfolio.