Netflix Reported Mixed Q1 2023 Metrics, Delayed Paid-Sharing Rollout

Solid Financials

Netflix released its earnings report for the first quarter on Tuesday after US markets closed, announcing results that were largely in-line with its own projections, but far from impressive. The company is "off to a good start in 2023" according to the press release and "on track" to achieve its financial objectives for the year. ^[1]

During the earnings call, Co-CEO Ted Sarandos seemed pleased with the top and bottom line growth, but acknowledged that this is "not as fast as we believe we can, not as fast as we would want to". He appeared more excited about the road ahead though, speaking of "a clear path to reaccelerate growth" on both revenue and profit. ^[2]

The streaming giant posted record Revenues of $8.162 billion and growth of 3.7% y/y, which is improved compared to the prior quarter, but still underwhelming for the firm's standards. The biggest contributor was once again US & Canada (UCAN) with 8% y/y growth, while Europe, Middle East & Africa (EMEA) disappointed with a 2% decline compared to a year ago.

Net Income of $1.305 billion was a bit lower than Q1 2022 ($1.597 million), but marked a vast improved compared the prior quarter, when it had barely broken into profit. Similarly, Operating Margin expanded to 21% on a quarterly basis, but was squeezed compared to a year ago.

Forward guidance for the second quarter was a bit underwhelming, since revenue is projected to rise to $8.242 billion, but net income and operating margins will be marginally worse on a sequential and yearly comparison.

Small Subscriber Growth

The company has stopped providing forward guidance around the number of users joining its platform and had recently downplayed the importance of this metric as "just one component" of growth, as it develops additional revenue streams. ^[3]

A year ago it had had relinquished 200,000 users, the first decline since 2011 and the losses widened in Q2. However, it returned to subscriber growth in the second-half of 2022, adding a robust 7.66 million subscribers in Q4 alone.

Yesterday's results showed that the firm's user base increased by only 1.75 million members in the first quarter of the current year, bringing it to 230.75 million. Rival Disney had dethroned Netflix over the summer and barring any surprise, it has a good chance to maintain its lead, since it had 234.7 million subscribers as of the end of December ^[4]. Disney will report its latest figures on May 10.

Password Sharing Crackdown

The firm has been cracking down on password sharing, which had helped it grow in the early days of streaming, but now weighs on its revenue. Back in January it had estimated a"wide" account sharing, to the tune of 100 million households, which "undercuts its long term ability to invest in and improve" the platform ^[3]. Netflix has tried various approaches to monetize this, with Latin America being the main testing ground. It expanded the paid-sharing program to four countries (Canada, New Zealand, Portugal and Spain) in February ^[5], noting yesterday that it is "pleased with the results".

During the earnings call, Co-CEO Craig Peters commented on how they see an "initial cancel reaction", but then borrowers sign up for their own account and existing members add extra member for an additional cost. He also noted that the new countries offered "strong validation" to the paid-sharing plan and that in Canada they are in "a positive member and positive revenue position relative to pre-rollout". ^[2]

Netflix was initially looking to a broader rollout during Q1, but that was delayed for the second quarter, in order to incorporate their early lessons and achieve a smoother transition. The Q2 rollout will include the United States and "many, many other countries", according to Mr Peters.

Ad-Supported Tier

The shocking loss of subscribers during the first-half of 2022 forced Netflix to explore the addition of a cheaper subscription plan that will include advertisements, something it had resisted for a long time. It was able to move fast and undercut Disney in both time and price. It launched the "Basic with Ads" tier in twelve countries in November and priced it at $6.99 in the US – a month ahead and one dollar lower than Diney+.^[6]

This was the first full quarter of availability and although it is still early, the company continues to be "pleased" with the progress on "all key dimensions". More to it, it has seen "little switching" from the more expensive ad-free plans to the new tier. In fact, the ad-supported plan has a greater total average revenue/membership (AMR) in the US, compared to the standard plan. ^[2]

These are clearly encouraging signs for this plan, which can be pivotal for the firm's future, given the increased competition and the broader high inflation environment, that diminishes disposable income. According to CFO Spence Neumann on the January earning call, Netflix is looking to get estimated "at least" 10% of Revenue could come from this offering over time and "hopefully much more". ^[7]

Increased Competition

Netflix created the streaming market when it first launched this service a quarter of a century ago and became a powerhouse with a strong foothold, from its early entry. Over the recent years however, its leadership has eroded, as legacy entertainment giants and tech juggernauts making strides into the direct-to-consumer (DTC) market.

The Walt Disney Company is now the new leader in terms of subscribers, with strong programs, which span through the Star Wars franchise and the Marvel Cinematic Universe. Warner Bros. Discovery Inc (WBD.us) whose catalogue includes HBO shows, is also pushing hard on the streaming front. Last week it unveiled a new flagship streaming service "Max" ^[8]. Paramount (PARA.us) is another entertainment giant that pushes hard on the streaming front, hot on the heels of the recent success of Top Gun: Maverick.

Tech giants such as Amazon.com and Apple are also now considerable players on the streaming arena, offering not only popular and critically acclaimed movies/TV shows, but also big sports events, something that Netflix lacks.

Netflix has shown quick reflexes after the shocking first half of 2022, making changes to various aspects of its strategy, most notably the ad supported tier and paid-sharing. It also has a very strong lead due its early entry, but it to beat the vast content by established entertainment powerhouses. The battle for supremacy is well underway, as the streaming viewership has been higher than cable and broadcast in the US for a while now, according to Nielsen. ^[9].

Netflix Stock

Markets seemed unimpressed by the results of Netflix on Tuesday, as the stock faced some pressure in extended trading. NFLX.us had wiped out around 50% of its value last year, bottoming out in May with five-year lows. After that it managed to post a rebound with three consecutive profitable quarters.

It has also formed a Golden Cross earlier in the year (EMA50>EMA200) that is often seen as a precursor to sustained strength, but faltered at the critical 38.2% Fibonacci of the 2021 high/2022 low slump.