April 20, 2012 / 8:58 PM / 6 years ago

UPDATE 1-Tricky time for Netflix as loss expected

* Earnings due after market close Monday

* Loss expected as company expands abroad

* Content costs rise, subscriber numbers key

By Lisa Richwine

LOS ANGELES, April 20 (Reuters) - Netflix Inc reports quarterly results on Monday at a precarious time. Its bill for streaming movies and TV shows has soared at a time when customer growth is slowing and the company projects an expansion abroad will push it into the red.

Wall Street expects Netflix to lose about 27 cents a share, but investors will zero in on how many new customers the video rental company added in the past three months.

That growth, which slowed in the fourth quarter compared with a year earlier, is crucial for Netflix to pay commitments it has made with Disney, Warner Bros, CBS and others to stream their movies to TV sets as it continues its shift from mailing DVDs to subscribers.

Its content bill ballooned as the company shelled out for past seasons of “Mad Men” and “The Office” TV shows as well as movies that include Oscar winner “The Artist” and the animated “Kung Fu Panda” franchise.

In 2011 alone, costs of licensing, acquiring and delivering content soared more than 55 percent to $1.8 billion, according to a Netflix regulatory filing. Total content liabilities on the balance sheet, which includes amounts payable to producers like studios, surged about eightfold to nearly $1.7 billion as of the end of 2011.

Netflix never fully recovered its credibility with investors after a price hike and other missteps sparked a wave of cancellations by angry customers last year. Once one of Wall Street’s highest-flying stocks, its shares dropped from $304.79 in July to $62.37 in November. On F riday, shares closed at $106.11 on Nasdaq.

“The business model works if they continue to add subscribers,” said Morningstar analyst Michael Corty, who believes Netflix shares are overvalued and are worth about $80 per share. “If that slows down, profitability becomes an issue.”

At the end of last year, Netflix rebounded from the subscriber backlash to reach 24.4 million U.S. subscribers, just below the peak before it announced the price hike and quickly scrapped a plan to put its DVD business on a separate website called “Qwikster.”

Healthy subscriber growth is key to what CEO Reed Hastings calls “the virtuous cycle.”

“As we get more subscribers, we’re able to get more content, which then helps us get more subscribers,” Hastings told analysts on a January conference call. The company will buy more titles to improve the service “for a very long time,” he said.

In a January letter to shareholders, Netflix said content spending would increase each quarter but not by as much as the year-over-year doubling projected for the first quarter.

Netflix expects to add up to 1.9 million U.S. streaming subscribers in the quarter, while losing as many as 1.8 million DVD customers. Internationally, it projects a gain of up to 1.2 million subscribers.

Barclays Capital analyst Anthony DiClemente downgraded Netflix shares earlier this month to “equal weight” with a $115 price target. In a note to clients, he warned that “content cost inflation could put a strain” on the company, just as rivals such as Amazon.com Inc and Comcast Corp’s Streampix pose bigger threats.

“Content costs are going higher — much higher — as new bidders enter the market and drive up the value of digital content,” DiClemente said in a note to clients.


Netflix’s strategy of spending more on content to lure subscribers will also be put to the test in foreign markets, where the company has aggressively expanded to Canada, Latin American and Great Britain in the last two years.

Faced with piracy and other challenges in Latin America, where it opened in 43 markets including Mexico and Brazil, Hastings conceded last quarter it will likely take longer than his hoped-for two years to turn a profit there.

The company also expanded in January to Great Britain, where it faces tough competition from Amazon’s Love Films and satellite operator BSkyB, which has locked up the streaming rights to many of the most popular films through exclusive contracts with major Hollywood studios. Britain’s Competition Commission is set to rule by July on whether BSkyB is unfairly keeping competition out of the lucrative British markets.

Costs to build the streaming service abroad are expected to drive Netflix to a loss. The company projects a first-quarter loss of up to $27 million and losses for the calendar year.

Industry analysts forecast a loss of around $16 million, or 27 cents per share, according to Thomson Reuters I/B/E/S. Revenue is expected to rise 21 percent from a year earlier to $869.3 million.

The progress in signing up international customers will get a close look from Wall Street for signs of when Netflix might return to the black. International markets present “both an opportunity and a risk factor for (Netflix) shares in the near to medium term,” said Stern Agee analyst Arvind Bhatia, who rates Netflix “neutral.”

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