Here’s What Netflix Needs To Succeed In International Markets

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According to a recent report by market research firm IHS Markit, Netflix (NASDAQ:NFLX) will reach 100 million streaming video subscribers by 2018 and, in the subsequent two years, its international subscribers will overtake the number of subscribers in the U.S. The firm estimates that by 2020 Netflix will have 75 million international subscribers. While our estimates for Netflix expect refelct similar growth in international markets, this segment accounts for only 30% of the company’s valuation according to our projections. We expect Netflix’s international segment will be profitable by 2018, but we do not expect these margins to reach the domestic contribution margin levels till the end of our forecast period.  A lack of operating leverage, and huge content and marketing costs, will keep international margins lower for the immediate future. And while this segment holds strong growth potential for the company over the long term,  the domestic market will drive Netflix’s profitability over the next five years, in our view. Once the company is able to establish itself firmly in international markets and address challenges of low bandwidth and lack of quality content, this segment can be highly profitable in the long term.

See our complete analysis for Netflix

Original, Local Content – Costs To Be Offset By Large Subscriber Base

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Netflix is popular in the U.S., primarily due to its original content.  Yet the company is still trying to build its international library. Viewing preferences differ from country to country and even between different regions of the same country. In order to attract subscribers, Netflix needs to have a broad content library catering to the preferences of the diverse audience. Lack of enough local content is being cited as one of the reasons of its slower growth in international markets. Further, several of its existing shows are licensed only for the U.S. and cannot be broadcast in other regions.  This limits its content library until the company renegotiate the terms for these shows. Expanding its existing content to international markets will lead to higher licensing costs, impacting the margins negatively. Creating original, local content for each international market is also an expensive proposition, especially if the costs cannot be justified by a huge subscriber base.  However, as Netflix attracts more subscribers, its international segment should become profitable.  In our forecast, the contribution margin reaches around 30% by the end of the period.

Content Compatible With Lower Internet Bandwidths

One of the key challenges which Netflix faces in international markets such as India is lower internet penetration and existing connections with low bandwidth. This limits its target consumers in these countries to the small section of the population that have access to high speed internet.  Using Netflix on mobile phones is an expensive affair for most countries in Asia, where data download and upload limits exist for mobile phone plans.  However, we believe Netflix can surpass these challenges and grow its international subscriber base at a steady pace over our forecast period.

Making its international segment profitable is a challenging task for Netflix. The company needs to invest heavily in local content and better streaming quality over low bandwidth connections to attract subscribers. However, these costs can be recovered only if the subscriber base expands rapidly. The company faces competition from several local players in international markets and global players such as Amazon and YouTube Red who are looking to capture a higher market share. Furthermore, consumers in Asian countries subscribe to Pay-TV for local content and might not be looking to replace this with Netflix in the immediate future. Subscribing to Netflix along with the existing Pay-TV subscription can prove to be expensive, unless the former is able to provide popular and exclusive local content.  International markets will drive Netflix’s growth in future.  However, the key challenge will be to make this segment profitable and grow margins over the long term.

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