It has been about a month since the last earnings report for Netflix (NFLX). Shares have lost about 8.5% in that time frame, underperforming the S&P 500.
Will the recent negative trend continue leading up to its next earnings release, or is Netflix due for a breakout? Before we dive into how investors and analysts have reacted as of late, let’s take a quick look at its most recent earnings report in order to get a better handle on the important drivers.
Netflix’s Q2 Earnings Miss, Coronavirus Aids User Growth
Netflix reported second-quarter 2020 earnings of $1.59 per share, missing the Zacks Consensus Estimate by 13.6% and the company’s guidance of $1.81. However, the figure jumped 165% year over year.
Revenues of $6.15 billion increased 24.9% year over year and also beat the consensus mark by 1.2%. Excluding an unfavorable forex impact of $289 million, streaming ARPU grew 5% year over year.
The streaming giant added 10.09 million paid subscribers globally, which surged 273.7% year over year and was better than its guidance of 7.50 million paid subscriber addition.
At the end of the second quarter, Netflix had 192.95 million paid subscribers globally, up 27.3% from the year-ago quarter and ahead of management’s expectation of 190.36 million paid subscribers.
Markedly, Netflix has added 26 million paid subscribers in the first half of 2020, close to 28 million added in 2019. The company now expects slowdown in the second half due to less demand and absence of new seasons of popular shows like Money Heist (La Casa de Papel) and Stranger Things.
Moreover, Netflix acknowledged rising competition from FAANG peers Apple and Amazon along with new streaming service offerings like WarnerMedia’s HBO Max, Disney’s Disney+ and NBCUniversal’s Peacock. Increasing popularity of Bytedance’s TikTok also makes it a major competitor.
Segmental Revenue Details
United States and Canada (UCAN) reported revenues of $2.84 billion, which rose 13.6% year over year and accounted for 46.2% of total revenues. ARPU grew 6% from the year-ago quarter on a foreign-exchange neutral basis.
Paid subscriber base increased 9.6% from the year-ago quarter to 72.90 million. The company added 2.94 million paid subscribers against a loss of 13K subscribers in the year-ago quarter.
Europe, Middle East & Africa (EMEA) reported revenues of $1.89 billion, which surged 43.5% year over year and accounted for 30.8% of total revenues. ARPU grew 4% from the year-ago quarter on a foreign-exchange neutral basis.
Paid subscriber base increased 39% from the year-ago quarter to 61.48 million. The company added 2.75 million paid subscribers, up 62.7% year over year.
Latin America’s (LATAM) revenues of $785 million increased 16% year over year, accounting for 12.8% of total revenues. ARPU grew 13% from the year-ago quarter on a foreign-exchange neutral basis.
Paid subscriber base rose 29.3% from the year-ago quarter to 36.07 million. The company added 1.75 million paid subscribers, up 414.7% year over year.
Asia Pacific’s (APAC) revenues of $569 million soared 63% year over year and accounted for 9.3% of total revenues. ARPU climbed 1% year over year on a foreign-exchange neutral basis.
Paid subscriber base jumped 73.8% from the year-ago quarter to 22.49 million. The company added 2.66 million paid subscribers, up 232.5% year over year.
Content Details
Netflix’s second-quarter content slate included Never Have I Ever, Space Force, Love is Blind, Too Hot to Handle and the fourth season of Money Heist. The company also released original films Da 5 Bloods, Extraction, The Wrong Missy and The Willoughbys.
Content slate for the third quarter of 2020 includes the second season of The Umbrella Academy. Netflix released The Old Guard in early July and will launch The Kissing Booth 2, Project Power and Enola Holmes later in the quarter.
Moreover, Netflix co-produced The Last Dance, a Michael Jordan documentary with Disney’s ESPN, which will be available in the United States from Jul 19.
Netflix’s slate of original shows and films remains largely unchanged for 2020 despite coronavirus-led production delays. The company has resumed production in several countries, including Japan (for the second season of The Naked Director), Germany, France, Spain, Poland, Italy and the United Kingdom.
In the United States, Netflix resumed production of two films in California and two stop-motion animation projects in Oregon, although rising incidences of coronavirus in the country increases production uncertainty. Moreover, Netflix hopes to restart production in India and some of Latin America (regions currently seeing spike in coronavirus cases) later this year.
Nevertheless, total number of originals in 2021 will still be higher than 2020 although Netflix will release more shows in the second half.
Netflix also strengthened its content portfolio with the acquisition of The Trial of the Chicago 7, Spongebob Movie: Sponge on the Run (global excluding the United States and China), Cobra Kai (seasons 1, 2 and a new season 3) and Emily in Paris.
Operating Details
Marketing expenses declined 28% year over year to $434.4 million. As a percentage of revenues, marketing expenses decreased 520 basis points (bps) to 7.1%.
Moreover, consolidated operating income skyrocketed 92.4% year over year to $1.36 billion, driven by higher-than-expected revenue and subscriber growth. Consolidated operating margin expanded 770 bps on a year-over-year basis to 22.1%.
Balance Sheet & Free Cash Flow
Netflix had $7.15 billion of cash and cash equivalents as of Jun 30, 2020, compared with $5.15 billion as of Mar 31, 2020. The company also has an undrawn credit facility worth $750 million, providing it with ample liquidity.
Long-term debt was $15.3 billion as of Jun 30, 2020, up from $14.76 billion as of Mar 31, 2020. In April, Netflix raised $1 billion of debt at a blended rate of roughly 3.3% across both the U.S. dollar and Euro tranches. The company doesn’t expect to tap the debt market in rest of 2020.
Streaming content obligations were $19.1, billion compared with $19.2 billion at the end of the previous quarter and $18.5 billion at the end of the year-ago quarter.
Netflix reported free cash flow of $899 million against free cash outflow $594 million in the previous quarter.
Management Update
Netflix appointed Ted Sarandos as the co-CEO. He will also continue as chief content officer. Moreover, Greg Peters has been appointed COO in addition to his chief product officer role.
Guidance
For the third quarter of 2020, Netflix forecasts earnings of $2.09 per share, indicating year-over-year growth of 42.2%.
Netflix expects to add 2.50 million paid subscribers, much lower than 6.77 million added in the year-ago quarter. The company expects to end the third quarter of 2020 with 195.45 million paid subscribers globally, up 23.4% from the year-ago quarter.
Total revenues are anticipated to be $6.33 billion, up 20.6% year over year.
Operating margin is projected at 19.7%, up 100 bps on a year-over-year basis.
For 2020, the company still expects operating margin of 16%. For 2021, Netflix now targets operating margin of 19%.
Moreover, Netflix now expects 2020 free cash flow to be between break even and positive compared with prior free cash flow expectation of ($1 billion) or better.
However, the company expects free cash outflow for 2021, but much better than the free cash outflow of $3.3 billion reported in 2019.
How Have Estimates Been Moving Since Then?
It turns out, estimates revision have trended upward during the past month. The consensus estimate has shifted 5.51% due to these changes.
VGM Scores
Currently, Netflix has a nice Growth Score of B, though it is lagging a bit on the Momentum Score front with a C. Charting a somewhat similar path, the stock was allocated a grade of D on the value side, putting it in the bottom 40% for this investment strategy.
Overall, the stock has an aggregate VGM Score of C. If you aren’t focused on one strategy, this score is the one you should be interested in.
Outlook
Estimates have been trending upward for the stock, and the magnitude of these revisions looks promising. Notably, Netflix has a Zacks Rank #3 (Hold). We expect an in-line return from the stock in the next few months.
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