Short of one problematic metric, Netflix (Nasdaq: NFLX) hit another homer in its latest quarter.
First-quarter revenue climbed by 25% to $493.7 million. It closed out the period with 14 million subscribers, 35% ahead of where it was last year and 1.7 million more couch potatoes stronger than it was three months earlier.
Net margins rocked. Earnings soared by 44% -- up 59% on a per-share basis, given the company's voracious stock buybacks over the past year. Its quarterly profit of $0.59 a share blew past analysts' targets of $0.54 a share.
The favorable tidbits don't end there. Churn and subscriber acquisition costs improved, both sequentially and year over year. Free cash flow also spiked during the quarter.
Netflix's streaming -- a high-margin feature that become even more compelling after cutting a discounted content delivery deal with Akamai (Nasdaq: AKAM) last month -- is also a-rocking. A whopping 55% of Netflix subscribers streamed at least 15 minutes from the company's digital library during the quarter, compared with 36% of its accounts a year earlier. That's an impressive metric of migration, but it gets even better once you consider that Netflix's base is a lot larger today. In other words, 55% of the nearly 14 million users today are more than twice as many wired movie buffs as 36% of 10.3 million subscribers a year ago.
The downfall of giants
Apple (Nasdaq: AAPL), Amazon.com (Nasdaq: AMZN), and Blockbuster (NYSE: BBI) weren't digitally born yesterday. They all had the inside track to Web-delivered flickery.
Since the 2001 birth of the iPod, Apple has grown to dominate the digital-music market. Four years after the first iPod hit the market, video playback functionality led Apple to begin offering digital video through its iTunes platform.
Amazon has been selling DVDs since the media's inception, so it didn't need to be told about the chunkier profits to be had in replacing a physical disc with all of its inventory logistics, handling, and shipping baggage. Amazon Unbox was born in 2006.
Blockbuster had more of its eggs riding in the optical-disk basket, but the company has always been a realist. Copying a DVD is piracy, but copying a model that works is a pirate's life for thee. When Netflix took off, Blockbuster Online cloned it in 2004. When Coinstar's (Nasdaq: CSTR) Redbox began to gain traction in the real world with its $1 overnight rentals through automated kiosks, Blockbuster teamed up with NCR (NYSE: NCR) to launch Blockbuster Express. Naturally, it also followed Apple and Amazon into digital delivery, when it bought Movielink in 2007.
Yet the head-scratcher here is that all three giants have seen Netflix's streaming buffet grow in popularity with every passing quarter since 2007, while all three are only committed to selling or renting individual titles.
It is, ironically enough, Coinstar -- a player with no real skin in the digital game at the moment -- that has been surveying renters on a discounted unlimited streaming service.
How did this happen? How did Netflix sneak up on 14 million subscribers, with most of them now taking advantage of the unlimited streaming that's included with most service plans, without waking up the digital copycats?
The downfall of Netflix?
Streaming has been Netflix's not-so-secret weapon in this fight, but it might also catch the company in friendly fire.
I mentioned that there was one problematic metric in the flick renter's quarter. What does it tell you when the subscriber count is 35% higher, but revenue climbs by just 25%? Yes, Netflix is milking less revenue per subscriber.
There hasn't been a price war since the early Blockbuster Online days. Netflix hasn't had to slash prices over the past year. It's pretty clear what's happening here. Since unlimited streaming is available through both the $8.99 monthly plan that allows for one physical DVD out at a time and the $16.99 plan that provides three discs out at the same time, new members are either gravitating to the lower-priced plan or existing members are trading down. And why not? Streaming means that they'll always have something to watch, so they can save the DVD requests for new releases that aren't on the streaming list.
The selection of new releases is also thinner now that Netflix has agreed with three different studios to hold back new releases for 28 days after they're released through retailers, Blockbuster, and video on demand. In other words, there are fewer reasons to pay for extra discs to rest on top of your DVD or Blu-ray player -- especially if they need a new source for releases that won't be available through Netflix (like today's release of Avatar or Tuesday's Crazy Heart).
Netflix is urging users to stream. The company brags about the push in its quarterly earnings releases. It's even providing a small financial incentive as a migration bonus. Strategically, the move is brilliant, because Netflix is rounding up its users in the one place where no one else can get to them.
However, is it worth the similar migration to lower-priced plans? For now, yes. Earnings are soaring and net margins are widening, even though subscriber growth is outpacing top-line gains.
Folks keep coming, too. Netflix raised its guidance last night. It now sees having as many as 17.3 million subscribers by year's end -- a million more than the high-end estimate just three months ago. The streaming smorgasbord and the lower price points are working.
My only concern is that once Netflix saturates the market -- and one day, it will -- and it can no longer lean on subscriber growth or wean its users off entry-level subscription plans, there will be a price to pay for today's downmarket success.
Will Netflix ever stop growing? Will international expansion save the day? Share your thoughts in the comments box below.
