Netflix wishes it could rewind to the good old days. The company posted a worse-than-expected third quarter earnings statement on Monday, acknowledging it lost 800,000 U.S. subscribers during the period, “driven both by a higher than expected level of cancellations and a reduction in acquisitions driven by the PR storm that engulfed our brand and its impact on wordâofâmouth.”
And that’s saying something, given that the company had already warned investors to prepare for a bad report in its guidance on September 15.
At that time, Netflix, wary of the impact its 60 percent price hike was having on customers, slashed its prediction for its previously steadily-growing subscriber base by 1 million customers, from 25 million to 24 million, below the 24.6 million it reported in quarter two.
But the third quarter results are dramatically lower than that, with the company reporting some 23.8 million unique U.S. subscribers (21.4 million streaming customers and 13.9 million disc-by-mail customers, with 11.8 million opting for both plans).
Netflix acknowledges in the earnings statement that the reason customers are fleeing is due to the company’s quixotic and heavily unpopular decisions to split disc-by-mail and streaming into two separate services, each costing $7.99 a month (they were previously available as a bundle for $9.99 a month), and then, to further confuse everyone by rebranding the disc-by-mail plan as a wholly separate company, “Qwikster,” a plan that Netflix hastily withdrew after popular outcry (and perhaps, realizing the fact that the “Qwikster” twitter account was controlled by a colorful, curse-friendly, unabashed marijuana user.)
As Netflix explains:
The last few months, however, have been difficult for shareholders, employees, and most unfortunately, many members of Netflix. While we dramatically improved our $7.99 unlimited streaming service by embracing new platforms, simplifying our userâinterface, and more than doubling domestic spending on streaming content over 2010, we greatly upset many domestic Netflix members with our significant DVDârelated pricing changes, and to a lesser degree, with the proposedâandânowâcancelled rebranding of our DVD service. In doing so, we’ve hurt our hardâearned reputation, and stalled our domestic growth. But our longâterm streaming opportunity is as compelling as ever and we are moving forward as quickly as we can to repair our reputation and return to growth.
However, it is worth noting that Netflix did nearly meet its third-quarter guidance on at least one account: The company remained profitable, earning $62 million in net income for the quarter, though that was down from the $68 million it reported from the previous quarter.
That said, the company experienced a 44 percent increase in domestic revenue from 2010, to $799 million this quarter (and up 3.7 percent from $770 million last quarter). Global revenues also rose 49 percent from last year to $822 million in the third quarter (up 4.2 percent from $789 million in the second quarter), nearly meeting its upper-end goal. (The company had anticipated global revenues between $799.5 million and $825.5 million in revenue.)
But in the topsy-turvvy world of online video, this of course is not an indicator of any subscriber growth. In fact, the opposite: Netflix earned that money thanks to the price hike and fewer DVD shipments. As the earnings statement explains: “Domestic operating profit of $120 million, representing 15% operating margin, exceeded our previous margin target of 14% due to fewer DVD shipments than expected, in part due to fewer DVD subscribers as well as lower overall DVD usage.”
But the worst is yet to come: Netflix is already cautioning investors to prepare for a bloody fourth quarter and beyond. In the fourth quarter, Netflix potentially sees a loss of 1.4 million domestic subscribers in streaming plans and loss of 3.6 million subscribers in disc-by-mail plans, with a potential global revenue between between $841 million and $875 million.
“We think DVD subscriptions will decline sharply this quarter, as reflected in our guidance, due to our price changes,” the company notes, blaming industry changes.
Investors polled by Thompson Reuters (via Investors Business Daily) wanted to see $919.6 million in projected fourth-quarter revenue.
Worst of all, though Netflix is already saying it will be unprofitable for “a few quarters starting in Q1,” due to international expansion plans.
As the company spells out:
For a few quarters starting in Q1, we expect the costs of our entry into the UK and Ireland will push us to be unprofitable on a global basis; that is, domestic profits will not be large enough to both cover international investments and pay for global G&A and Technology & Development. After launching the UK and Ireland, we will pause on opening new international markets until we return to global profitability. We plan to do that by increasing our global streaming subscriber base faster than we increase our costs.
As Michael Pachter, an entertainment analyst with Wedbush Securities, told TPM via email: “The big takeaway is that they are saying they will be UNPROFITABLE in the ‘first few quarters’ next year. Consensus thinks they are earning $6.20 [per share], that will drop to $2.50 or so.”
Netflix stock, which has been on a descent all year, closed up 1.54 percent on Monday. But that was before the earnings statement was posted. After it was released, Netflix shares plummeted 32.54 percent in after-hours trading.
Netflix spent the month of October paying big bucks for new streaming content from DreamWorks, AMC and the CW, all in an effort to make up for the loss of Disney and Sony Pictures movies, provided by Starz, which failed to renew its contract with Netflix after negotiations broke down in September. But Pachter doesn’t think it’ll be enough to turn the business around.
As he wrote to Idea Lab earlier: “My guess is that Qwikster prompted 2 – 4 million people to trade down or quit, and that’s going to severely cut into Netflix’s profitability…Most people probably didn’t quit the first day, and my guess is that whatever they show in their quarterly earnings report will only reflect 10% of the actual defections. They have the entire December quarter to market to these people and try to win them back, so it will be a long time till this all sorts out.”
We’ll be watching and updating. Stay tuned.
Correction: This article originally misattributed the percent increases of Netflix domestic revenue and global revenue to the quarterly period, instead of year-over-year. Thanks to the comments of a reader, this was brought to our attention and has since been corrected. We regret the error.
