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3 Silver Linings to Netflix's Big Miss

By Rick Munarriz - Jul 18, 2019 at 9:05AM

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The world's leading premium streaming video service blows its subscriber guidance, but there's still a lot to like in its second-quarter performance.

Bad things happen when Netflix ( NFLX 2.10% ) fails to live up to its own expectations, and that's just what happened to the leading premium video service provider this week. Netflix stock moved sharply lower after posting disappointing financial results on Wednesday afternoon.

The $4.923 billion in revenue it rang up for the second quarter fell just short of the $4.928 billion it was forecasting three months ago, but its profit of $0.60 a share was comfortably ahead of the $0.55 a share it was targeting. The top- and bottom-line showings were mixed, but Netflix brutally came undone with its now seemingly ambitious goal of closing out the half-year mark with 5 million more global premium streaming subscribers than it had three months earlier. Netflix is checking in with 151.56 million paying subscribers for its streaming platform at the end of June, a huge audience but just 2.7 million more accounts than it had on its rolls at the end of March.

Netflix fell woefully short of its own historically conservative guidance, but things aren't as bad as this brutal miss may make things seem. Let's go over a few reasons Netflix should bounce back from the initial hit.

Cover art for Orange is the New Black with the cast of inmates looking at a fallen orange suit.

Image source: Netflix.

1. Price increases matter

No service is truly flexible in its pricing, and a big factor in the subscriber slowdown at Netflix is the springtime increase in the U.S. and other regions. Netflix is pointing out that it also fell short in regions where prices remained the same, but it also explains that churn was at its worst in the markets where the entertainment service is now more expensive. 

Netflix boosted its U.S. rates by 13% to 18% recently, with other markets following suit. Netflix knew these increases were already in play when it made its mid-April forecast, so we can't sugarcoat its crummy forecasting skills. Bad on you, Netflix. However, Netflix is doing a good job of offsetting the decelerating subscriber growth with members paying more for the service. How else could revenue fall roughly in line with its forecast despite the subscriber miss? Average revenue per user -- adjusted for currency fluctuations -- has risen 9% over the past year, a metric that was clocking in just 3% higher last time out. 

2. Netflix bounces back 

In its quarterly letter to shareholders, Netflix plots how its subscriber forecasts have played out since 2016. It has fallen short once -- and only once -- each year. The misses have happened during the first half of the year, and the shortfall has come in the second quarter in all but one of the four years. 

This miss is wider than any of the three previous yearly fumbles, but the point here is that Netflix has always bounced back the following quarter with better-than-expected subscriber gains. History is on the side of a recovery in the new quarter. 

3. Guidance is in line with expectations

Netflix's initial read on the third quarter is reasonable. It sees revenue growth accelerating, rising 31% to hit a record $5.25 billion. Net income is expected to rise a more modest 17% to land on $1.04 a share. Netflix is modeling 7 million premium net additions worldwide this quarter. 

The outlook suggests that everything is going according to plan. Netflix's revenue and earnings guidance are exactly where analysts are perched. It's almost as if the second-quarter never happened. As bad as it is to land a little more than half the number of net additions, it seems to be the quarterly fluke that happens once a year here. Netflix is back on track, even if the market is treating it now like a runaway train.  

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis – even one of our own – helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.

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