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Netflix expects subscriber growth to slow

Morningstar Equity Analysts  |  26 Apr 2019Text size  Decrease  Increase  |  
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On-demand streaming service Netflix (NFLX) started 2019 with stronger-than-expected subscriber growth as the firm continues to benefit from global expansion.

Despite the subscriber numbers beating forecasts, revenue came in line with our projection. The free cash flow loss for the quarter hit US$460 million ($655 million), up sharply from a loss of US$287 million a year ago.

Management raised its 2019 free cash flow loss target to US$3.5 billion, up from the previous target of US$3 billion. We retain our narrow moat rating, which means the company has a slim competitive advantage, and fair value estimate of US$135, against a current price of nearly US$360.

Revenue of US$4.5 billion is in line with our estimate and consensus. Netflix posted stronger-than-expected subscriber growth in the international segment – 7.9 million net adds versus guidance of 7.3 million – and in the US – 1.7 million net adds versus guidance of 1.6 million.

Netflix continues to expand its streaming base, ending the quarter with more than 149 million global paid subscribers, up from 119 million a year ago.

Despite strong growth in quarter, management provided very weak subscriber guidance for the second quarter of 0.3 million net adds in the US and 4.7 million internationally. We note the US guidance implies the firm will post its second-lowest net add quarter since the start of 2012.

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This guidance reinforces our belief that adding the marginal subscriber will become increasingly hard in the US for Netflix due in part to competition, particularly after Disney+ launches in November at US$6.99 per month.

Streaming revenue as expected

Domestic streaming revenue of US$2.1 billion was in line with our estimate and monthly revenue per paid US member came in at US$11.64, up 4 per cent year over year.

For international streaming, revenue of US$2.1 billion matched our estimate as monthly revenue per paid member came in at US$9.10, down 5 per cent year over year without foreign exchange adjustments.

One quarter into 2019, management has already backed off its previous assertion that 2019 free cash flow loss will be roughly in line with the 2018 loss of US$3 billion.

Management blamed the higher guidance of US$3.5 billion to the new higher tax structure and real estate costs. Management continues to point to 2020 as an "inflection point" for the cash burn, but we expect stronger competition in 2020 and beyond for the firm as Disney, WarnerMedia, Apple, and NBCUniversal all plan to launch their respective SVOD services in late 2019 and 2020.

Disney has already fired off a warning shot with its low pricing for Disney+ and its willingness to lose money for at least the first four years.

Disney also committed to making the new service the exclusive home of its future family-orientated films as well as the home for its library once its current deals expire.

These launches imply that Netflix may need to keep its content spend elevated to stave off competition from companies with deep libraries and/or multiple sources of revenue.

Neil Macker is a senior equity analyst with Morningstar US

provide research on nearly 200 Australian and New Zealand stocks.

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