Netflix (NFLX) is trading sharply higher today (+9%) after it reported Q2 results. EPS came in at $0.15, which was right in-line with prior guidance of approximately $0.15. Revenue rose 32.3% year/year to $2.79 bln, which was slightly better than market expectations. It was really the guidance for Q3 that is driving the stock sharply higher today. NFLX expects Q3 EPS of $0.32 and revenue of $2.97 bln, both of which are well above market expectations.
Net subscriber additions (streaming) in Q2 came in at +5.20 mln (+1.07 mln in US and +4.14 mln international), which was well above prior guidance of +3.20 mln and well above its prior year performance of +1.68 mln. In terms of guidance for net adds (streaming), the company expects Q3 to come in around +4.40 mln (+0.75 in US and +3.65 international). As you can see, most of NFLX's subscriber growth is coming from outside the US.
So why were Q2 net adds so much better than prior guidance? NFLX says it underestimated the popularity of its strong slate of content which led to higher-than-expected acquisition across all major territories. As a result, global net adds totaled a Q2-record 5.2 mln (vs. forecast of 3.2mln) and increased 5% sequentially, bucking historical seasonal patterns.
Its Q3 guidance for net adds assumes much of this momentum will continue but the company says it's cognizant of the lessons of prior quarters when it over-forecasted and there was lumpiness in net adds, likely due to demand being pulled forward (into Q2 in this case). Domestic net additions of 1.07 mln represented the highest level of Q2 net adds since 2Q11.
Of note, its international segment now accounts for 50.1% of its total membership base. NFLX is making good progress with its international expansion as improving profitability in its earlier international markets helps fund significant investment in its newer territories. As a result, NFLX expects positive international contribution profit for the full year 2017, at current F/X exchange rates. This would mark the first ever annual contribution profit from its international segment.
In terms of content, it's worth noting that the Television Academy recently nominated 27 Netflix original programs with 91 Emmy nominations, nearly double last year's tally. With five of the 14 total nominated best series contenders (Stranger Things, The Crown, House of Cards, Master of None and Unbreakable Kimmy Schmidt), Netflix had the most nominated series of any network. Stranger Things and The Crown will have second season premieres in 2017.
NFLX addressed some competitive concerns last night. The main point is that the largely exclusive nature of each service's content means that each on demand service is not a direct substitute for each other, but rather complements. In addition to the many SVOD players around the world, large-cap tech companies, especially Amazon, are investing heavily in original and licensed content.
Creating a TV network is now as easy as creating an app, and investment is pouring into content production around the world. NFLX says these companies are all co-pioneers of internet TV and, together, they are replacing linear TV. The shift from linear TV to on-demand viewing is so big and there is so much leisure time, many internet TV services will be successful.
In sum, this was a nice quarter for NFLX with the highlights being the strong than expected net adds for Q2 and the overall guidance for Q3 was impressive. This was a welcome change from its Q1 report in mid-April when the company guided Q2 EPS well below expectations. All in all, the stock has been making a nice run in recent months. The longer term trend seems to remain in place. NFLX sees a lot of growth ahead of it. Management says the internet may not have been great for the music business due to piracy, but, it is incredible for growing the video entertainment business around the world.