Netflix, Inc. — Q1 2016 Form 10-Q
Business context and reporting period. Unaudited results for the three months ended March 31, 2016, compared with Q1 2015. Netflix operates Domestic Streaming, International Streaming and Domestic DVD segments; amounts below are in U.S. dollars.
Key financial metrics
| Metric | Q1 2016 | Q1 2015 | Change |
|---|---|---|---|
| Revenue | $1.958 billion | $1.573 billion | +24% |
| Operating income | $49.5 million | $97.5 million | -49% |
| Net income | $27.7 million | $23.7 million | +17% |
| Diluted EPS | $0.06 | $0.05 | Up |
| Operating cash flow | -$228.6 million | -$127.4 million | Cash use increased |
| Free cash flow (non-GAAP) | -$260.6 million | -$163.1 million | Cash use increased |
- Operating margin was approximately 2.5%, down from 6.2%; net margin was approximately 1.4%, versus 1.5%.
- Cash, cash equivalents and short-term investments totaled $2.073 billion at March 31, down from $2.311 billion at year-end 2015.
- Long-term debt, net of issuance costs, was $2.372 billion. The company reported compliance with debt covenants.
- Total streaming content assets, net, were $8.519 billion. Total streaming content obligations were $12.318 billion, including $6.6 billion not yet recognized on the balance sheet.
Material changes versus Q1 2015
- Global streaming memberships rose 31% to 81.5 million. International streaming memberships grew 65% to 34.5 million; Domestic Streaming grew 13% to 47.0 million. Domestic DVD memberships fell 15% to 4.7 million.
- International growth drove much of the revenue increase, while international average monthly revenue per paying membership fell 5% to $7.31, primarily due to currency movements. Domestic streaming average monthly revenue per paying member rose 3% to $8.69.
- Domestic Streaming contribution profit increased to $412.8 million, with margin rising to 36% from 32%. International Streaming contribution loss widened to $104.2 million from $65.0 million; its contribution margin was -16% in both periods. Domestic DVD contribution profit decreased to $71.7 million, while margin was 50% versus 49%.
- Operating income declined as content costs, international expansion spending and personnel expenses increased. Technology and development expense rose 42% and general and administrative expense rose 39%.
- Net income increased despite lower operating income, helped by a $24.1 million foreign-exchange gain, compared with a $33.7 million foreign-exchange loss in Q1 2015. Interest expense rose to $35.5 million from $26.7 million.
Outlook, commentary and risks
- Management expected average monthly revenue per paying membership in both streaming segments to rise 10%–20% by Q4 2016 versus Q1, primarily as grandfathered pricing expires. It did not expect a material membership impact, but cautioned that cancellations or plan downgrades could exceed expectations.
- The Domestic Streaming contribution-margin target remained 40% by 2020. Management expects significant increases in global content investment, particularly original programming, and said this may result in negative free cash flow even after material global profitability is achieved.
- Management expected operating cash flow and available funds to meet cash needs for at least 12 months, but said it was likely to raise additional capital to fund content investment; financing may be unavailable or unacceptable, and equity issuance could dilute shareholders.
- Streaming content obligations totaled $12.3 billion, including $5.2 billion due within one year. The filing separately estimated significant unknown future-title commitments of approximately $3–$5 billion over the next three years, largely payable after the next 12 months; these were excluded from the contractual-obligations table.
- Foreign-exchange exposure is material: management estimated Q1 international revenue would have been about $82 million higher at prior-year exchange rates. Netflix said it did not hedge foreign-currency exposures with derivatives.
- Management disclosed shareholder securities and derivative litigation with potential losses considered reasonably possible but not estimable. The filing reported that an appeals court affirmed dismissal of the securities case on April 11, 2016, after quarter-end; plaintiffs could seek rehearing.
- The company stated there were no material changes to previously disclosed risk factors and that disclosure controls were effective.
Important facts for investors to verify
- Whether Q2 and subsequent membership growth, retention and plan choices support the assumed 10%–20% Q4 average-revenue-per-member increase.
- How content spending, recognized liabilities and unrecognized future-title commitments evolve, and whether they sustain negative free cash flow or require new financing.
- Whether International Streaming can improve contribution economics as it scales, given the wider contribution loss and currency sensitivity.
- How foreign-exchange movements, tax examinations and the shareholder litigation affect reported results or liquidity; the filing does not provide a reliable estimate of potential litigation losses.