Netflix, Inc. — Q2 2020 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2020. Unaudited consolidated results. Netflix operates one segment, its global subscription streaming business, alongside a legacy U.S. DVD-by-mail service.
Key financial and operating metrics
| Metric | Q2 2020 | Q2 2019 | Six months 2020 | Six months 2019 |
|---|---|---|---|---|
| Revenue | $6.15B | $4.92B | $11.92B | $9.44B |
| Operating income | $1.36B | $706M | $2.32B | $1.17B |
| Operating margin | 22.1% | 14.3% | 19.4% | 12.3% |
| Net income | $720M | $271M | $1.43B | $615M |
| Diluted EPS | $1.59 | $0.60 | $3.15 | $1.36 |
| Operating cash flow | $1.04B | $(544)M | $1.30B | $(924)M |
| Free cash flow (non-GAAP) | $899M | $(594)M | $1.06B | $(1.05)B |
Q2 total revenue grew 25% year over year, driven by 25% growth in average paying memberships; average monthly revenue per paying membership was nearly flat at $10.80. Paid net streaming additions were 10.1M versus 2.7M a year earlier, and paid memberships reached 192.9M, up 27%. Q2 streaming revenue was $6.09B; DVD revenue was $62M.
At June 30, cash and cash equivalents were $7.15B (cash, cash equivalents and restricted cash totaled $7.18B). Total debt, net of issuance costs, was $15.79B, including $499M current debt; the $750M revolving credit facility was undrawn. Current assets were $8.56B and current liabilities $7.63B. Content assets, net, were $25.16B.
Material changes versus comparable periods
- Q2 operating income rose 92% and operating margin expanded 7.8 percentage points. Management attributed the margin improvement to revenue growth and lower marketing costs, while other operating costs grew more slowly than revenue.
- Marketing expense fell 28% in Q2, mainly from lower advertising. Cost of revenue rose 21%, including higher content amortization and production-related expenses.
- Q2 operating cash flow and free cash flow turned positive compared with outflows in Q2 2019. Management cited revenue growth and lower cash payments for content; production-payment timing was also affected by COVID-19 disruptions.
- Cash and restricted cash increased $2.14B from year-end 2019. Debt increased about $1.04B, including debt issued in April 2020.
- Membership growth was strong across regions. Q2 paid additions were 2.9M in UCAN, 2.7M in EMEA, 1.8M in LATAM and 2.7M in APAC.
Outlook, risks and unusual items
- Management said pandemic-related restrictions contributed significantly to first-half additions and expected lower membership growth in the second half of 2020 than in the prior-year period. It could not reliably predict the pandemic’s continuing impact.
- COVID-19 disrupted Netflix’s and suppliers’ productions. Some production activity resumed, but resumption remained uncertain in the U.S., India and much of Latin America. Delays may shift production payments into future years and affect content availability.
- Netflix expected to continue materially increasing global content investment, especially original content, which it said could result in future operating cash outflows and negative free cash flow. Management anticipated available funds, operating cash flow and financing access would cover needs for at least the next 12 months.
- Disclosed content obligations totaled $19.13B, including $11.2B not recorded on the balance sheet because recognition criteria had not yet been met. The filing also estimated unknown future-title obligations could be approximately $1B–$4B over the next three years; these were excluded from the obligations table and subject to management judgment.
- Foreign-exchange losses were $139M for the first half, including remeasurement of euro-denominated debt. Foreign currencies represented 54% of first-half revenue, and Netflix did not hedge foreign-currency exposures.
- California’s 2020–2022 cap on use of business incentive credits led Netflix to record a $220M valuation allowance on California R&D credits. Total valuation allowance was $352M at June 30.
- Ordinary-course litigation was disclosed; the company did not consider unlisted matters material individually or in aggregate. It reported compliance with debt covenants. No material changes to previously disclosed risk factors were reported.
Important facts for investors to verify
- Whether first-half pandemic-driven subscriber additions pulled demand forward and how second-half net additions compare with management’s stated expectation.
- Production restart progress, content release timing and the resulting cash-payment and content-amortization profile.
- Cash generation excluding timing effects, particularly content payments, and the sustainability of positive first-half free cash flow.
- Debt maturities and financing needs alongside the $19.13B disclosed content obligations and estimated unknown-title commitments.
- Foreign-exchange effects on revenue, earnings and euro-denominated debt, and developments in tax-credit realizability and tax examinations.