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Netflix - profit growth stagnates as subscribers stall

First quarter revenue rose 9.8% to $7.9m, compared to 24.2% growth at the same time last year, and 16% last quarter...

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First quarter revenue rose 9.8% to $7.9bn, compared to 24.2% growth at the same time last year, and 16% last quarter. This is thanks to a 200,000 decline in new subscriptions, increasing competition and rising popularity of less-profitable shared memberships.

Operating income was ahead of expectations at $2.0bn due to lower than forecast content spending.

New subscribers are expected to decline by 2.0m in the current period, leading to 9.7% revenue growth. Operating income is also expected to fall to $1.7m, but the group continues to aim for operating margins of around 20% at the full year.

Management said the pandemic-related surge in usage muddied its view of the business and said it will look for ways to reaccelerate growth and address the membership sharing issue.

Shares were down 25.1% in pre-market trading.

View the latest Netflix share price and how to deal

Our view

Netflix has become a household name in its core markets, so it's become much harder to continue growing revenue. Price increases are helping to offset pain from a decline in new subscriber numbers - but without a more permanent way to cope with rising demand on the public's attention, the outlook is murky.

The group revised its subscriber growth forecast lower earlier this year, citing the timing of content, but we now know it's a much bigger problem. We're concerned management is only just acknowledging the fact that untapped markets are becoming harder to come by.

We've been concerned for some time about Netflix's ability to keep viewers engaged. The group spent upwards of $17bn on content last year, and that's likely to continue rising with no back-catalogue of throwback hits to fall back on. Netflix has to spend big just to keep hold of the customers it already has - let alone the cost of bringing new customers on board.

The group is hoping to draw on untapped potential in Asia Pacific and Latin America with content geared specifically at those regions. We think this puts the group in a unique position offering more than just exported US hits. However, developing new shows will cost, and Netflix's penetration in emerging markets will be dependent on broadband connections and smart-TV adoption - two factors over which it has no control.

Gaming is another potential growth avenue, but it's difficult to quantify this as much more than a pipe dream at present. We're expecting management to outline plans for this new arm of the service sooner than later as the group marches forward with strategic acquisitions in this space. But without a firm plan in place it doesn't add much to the investment case.

Another growth lever comes in the form of all the hundreds of millions of people watching Netflix for free. Account sharing is nothing new, but the group has plans to crack down on this, ultimately hoping to generate revenue from these ghost watchers.

Netflix is sporting a sizable debt pile, making it much harder to maneuver. This is particularly true given the rising rate environment. The $5bn buyback plan could be put on pause, perhaps indefinitely, while the group finds its feet.

There's no question that streaming is the new normal, and Netflix's hand in creating the industry was admirable. No one can knock the group's impressive ability to churn out popular content, and its strong brand gives it some firepower against the competition. There's plenty of work to be done of course, and that's reflected in the steep market reaction to recent results.

Netflix is an industry trailblazer, and as the world turns to streaming more permanently, there is potential opportunity ahead for those prepared to accept some increased risk. For now, we'd like a bit more proof that Netflix has the right idea about how to kickstart growth once more.

Netflix key facts

All ratios are sourced from Refinitiv. Please remember yields are variable and not a reliable indicator of future income. Keep in mind key figures shouldn't be looked at on their own - it's important to understand the big picture.

First Quarter Results (constant currency)

The number of new paying subscribers fell by 0.2m in the first quarter, bringing the total to 221.6m. This is in part thanks to the suspension of services in Russia, which was responsible for a 0.7m decline in new subscribers in the first quarter.

A price increase in the US and Canada meant new subscribers fell 0.6m as expected. Higher subscription fees helped average revenue per membership (ARM) rise from $14.25 to $14.91. This helped revenue for the segment rise 5%, down from 9% in 2021.

Excluding the impact of Russia, Europe, Middle East and Africa gained 0.4m new subscribers. ARM was constant at $11.56 revenue rose 6% to $2.6bn.

Latin America saw a 0.4m decline in new subscribers reflecting the impact of price changes and macroeconomic weakness. However ARM rose nearly a full $1.00 to $8.37 as changes to membership sharing pricing structures were trialled. This led to a 20% rise in divisional revenue to $998.9m.

The Asia Pacific region saw subscriber numbers rise by 1.1m, though ARM declined from $9.71 to $9.21. This meant revenue rose 1% to $916.8m.

Netflix spent $3.6bn on content additions in the period. Free cash flow rose from $692m to $802m, reflecting the increased profits. This includes $125m spent on visual effects and gaming acquisitions. The group also announced plans to acquire Next Games, which is expected to complete in the second half of this year. Net debt was $8.6bn.

This article is original Hargreaves Lansdown content, published by Hargreaves Lansdown. It was correct as at the date of publication, and our views may have changed since then. Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Refinitiv. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Investments rise and fall in value so investors could make a loss.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research disclosure for more information.

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Written by
Laura Hoy
Laura Hoy
ESG Analyst

Laura is part of HL's ESG analysis team, working to offer research and analysis to help with sustainable decision making. She also works with other parts of the business to help integrate ESG.

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Article history
Published: 20th April 2022