Netflix Q1 2014: Strong growth, valuation a concern
- Netflix reported a strong Q1 2014, driven by significant growth in subscriber base and higher monetization.
- The strong topline growth (22%) and improved leverage in content costs led to margin expansions delivering strong earnings growth.
- Netflix stock continues to remain risky at its current valuations, given the huge growth already priced into the stock.
Netflix (NASDAQ:NFLX), the online video streaming service provider backed up its record Q4 2013 performance with yet another solid quarter to kick off 2014. The company not only delivered a solid quarter beating analyst consensus estimates of earnings, but also guided Q2 2014 revenues and earnings above analyst estimates. The quarterly performance of the company is best summed up by the stock performance following the earnings release (ER). NFLX stock was trading +7.8% in pre-market trade (at the time of writing). Our Netflix Q1 2014 earnings review takes a deeper look into the performance of Netflix and changes in the fundamental drivers of Netflix.
Q1 2014: Strong subscriber growth and better monetization drive performance
Netflix reported a revenue of $1.27 billion in Q1 2014, registering a Y/Y growth of 22.3% over Q1 2013. The revenue growth was driven by a 25% Y/Y growth in domestic streaming revenue and an 88% Y/Y growth in international streaming revenue, even as the DVD segment revenues declined by 16%. The chart below displays the segment revenue in Q1 2014 v/s Q1 2013.
The revenue growth in the streaming business was driven by strong subscriber growth in the domestic as well as international markets. The company also better monetization indicated by the growth in streaming revenue per user. The table below summarizes the Q1 2014 performance of Netflix.
|Q1 2013||Q1 2014||Y/Y growth|
|Domestic subscribers (in millions)||29.17||35.67||22.3%|
|International subscribers (in millions)||7.14||12.68||77.6%|
|Domestic revenue per member ($)||21.9||22.4||2.3%|
|International revenue per member ($)||19.9||21.1||5.9%|
|Revenues (in millions of $)||1,024||1,270||24.0%|
|Operating profit margin||3.13%||7.72%||4.6%|
|Net Income margin||0.29%||4.17%||3.9%|
Netflix saw expansion in profit margins at an operating as well as net level, on account of better leverage in cost of revenues. The cost of revenues accounted for 68% of revenues in Q1 2014 compared to 72% in Q1 2013. The improved leverage of cost of revenues can be attributed to the management’s constant focus on generating unique content in-house produced content, which has partially offset the huge content costs incurred by the company.
The cash position of the company was strong with a quarter end cash and cash equivalents balance of $1.67 billion, a 39% increase over the preceding quarter (Q4 2013). The cash flow from operations, at $36.35 million, was healthy compared to a cash outflow of $12.25 million in Q1 2013.
Let’s now take a look at the performance in comparison to analyst estimates.
Actual performance v/s analyst estimates
Netflix trumped analyst estimates of earnings for yet another quarter. The latest earnings surprise makes it over 15 quarters of earnings surprises reported by the company. The company trumped analyst consensus estimates of 81 cents EPS by a surprise percentage of 6%. The topline was in line with analyst expectations while the company’s Q2 2013 guidance of $1.12 EPS was ahead of analyst expectations of $1. Does the strong quarterly result from Netflix combined with the recent pullback in stock price open up an entry point for the fundamental conscious long term investor?
The revenue growth and margin expansion in Q1 2014 have definitely improved the risk/return profile of Netflix as an investment. Given the strong growth in earnings, there is no doubt the company delivered a very strong performance in the first quarter of 2014. However, given the planned international expansion in the second half of 2014, the earnings growth will be slower as the profit margins will come under pressure. The huge content obligations of the company ($7.1 billion) are another risk associated with Netflix. Given the current risks and the growth priced in at current valuations of LTM P/E (price-to-earnings) multiple of 131 and LTM P/S (price-to-sales) multiple of 4.64, the risk/return profile of Netflix continues to be disproportionately negative. Hence we wouldn’t bet our money on Netflix as it continues to remain a case of a solid business but a pricey stock, which is also reflected in our current rating of the stock.
To see Netflix’s current stock price, please click here: (NASDAQ:NFLX)