Netflix Earnings Preview: International Subscribers Set To Grow

Netflix (NASDAQ:NFLX) is set to release its second quarter results on July 17. While the competition in the online video streaming industry is intensifying, Netflix is expected to report growth in revenues and subscribers across both its domestic and international markets. The company is developing new local original content to attract subscribers in various markets, and boosting its marketing efforts to drive subscriber acquisition in the international market. We expect that these measures will propel the international subscriber base for the company. However, these measures will also impact its profit margins for the quarter and the year.

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International Subscribers Set To Grow Yet Again

Netflix continues to add international subscribers at a fast pace. In Q1, the company added over 3.5 million subscribers to its paid streaming services, which swelled to 45 million. The total subscribers for the international streaming services also grew to 47.9 million. The subscriber growth has been helped by the company’s aggressive expansion plans, which include a $1 billion marketing budget and the expansion of its original content slate. We believe that Netflix will continue to experience healthy adoption rates in international markets on the strength of its original content, competitive pricing, and new initiatives. We expect that the international streaming subscriber base will overtake domestic streaming numbers in 2017 and expect the company to report over 51 million subscribers for its international streaming business for this quarter.

However, Netflix’s international operations are still not as profitable as its domestic business, as the company continues to invest heavily in its expansion (through marketing and content development).  While its international margins improved to 4% in Q1, the company is expected to report another quarter of negative margins in Q2.

Domestic Market Expanding Less Rapidly, But With Higher Margins

The U.S. Subscription Services division makes up 56% of our price estimate for Netflix’s stock. Netflix’s domestic subscriber base crossed the 50 million mark in Q1 2017 and is still growing at a steady pace. Additionally, Netflix’s domestic streaming margins have continued to improve, growing to 41% in Q1 2017. We expect that the domestic subscriber base grew to over 52 million in Q2, while margins shrunk as the company continues to expand its slate of original programming. Nevertheless, this division will continue to drive the company’s revenues as it has high average revenue per user (ARPU) and Netflix has a firm footing in the video on demand market through its partnership with content developers.

Profitability To Decline In Q2

With so many players in the streaming space, content is likely to be the key differentiator going forward. Netflix is focusing on original programming to develop a competitive edge, and has a long-term goal of ensuring that nearly 50% of the content streamed on its platform is original. The company has a budget close to $6 billion for its programming slate and plans to spend close to $1 billion on marketing to acquire new users. We estimate that Technology & Development Costs will increase in Q2 and 2017 as a percentage of total revenues, as more content goes into production. We also estimate that its marketing costs will be higher for Q2 and the remainder of the year. These factors will likely pressure its profit margins in Q2.

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