NetFlix Inc.'s (
NFLX) third-quarter adjusted earnings outperformed the Zacks Consensus Estimate of 45 cents per share. The company announced a 44.9% increase in non-GAAP net income to $32.1 million or 55 cents per share for the quarter, up from $22.1 million or 36 cents per share in the same quarter a year ago.
However, net income fell 6.9% from $34.4 million or 58 cents per share in the last quarter. This was due to sequentially higher operating expenses in the quarter, which were up 13%. Operating expenses, as a percentage of revenues, stood at 23.3% in the quarter versus 21.2% in the previous quarter. Although operating expenses increased 19.1% year over year, they declined as a percentage of revenues from 24.2% in the same quarter a year ago.
Total revenues for the quarter increased 24% year over year and 3.6% sequentially to $423.1 million. As a result, gross margin increased to 34.9% from the prior year margin of 34.2% and previous quarter margin of 34.1%.
Subscriber Base
The increase in profitability is attributable to better subscription services and a larger number of customers signing up for the company's DVD-by-mail program. NetFlix ended the quarter with a subscriber base of approximately 11.1 million, representing a 28% year-over-year growth and 5% sequential growth. Of the total subscribers at quarter-end, 98% were paid subscribers, while the remaining 2% were free subscribers. Gross subscriber additions in the quarter represented a 43% year-over-year growth and a 13% quarter-over-quarter growth. Net subscribers rose by 510,000 in the quarter compared to an increase of 261,000 a year earlier.
Subscriber acquisition cost for the quarter was $26.86 per gross subscriber addition compared to $32.21 in the year-ago period and $23.88 in the second quarter of this year. Churn was 4.4% compared to 4.2% of the prior-year quarter and 4.5% for the second quarter of 2009.
Financial Position
Netflix ended the third quarter with cash and short-term investments of $155.5 million with no debt. Operating cash flow was $78.3 million during the quarter, versus $75.3 million in the previous quarter. Free cash flow was $25.5 million compared to $26.2 million in the second quarter of 2009.
Outlook Raised
Netflix increased its guidance for the fourth quarter and full year. The company expects revenues of $440 – $446 million, up from its previous outlook of $431 – $445 million. GAAP earnings are expected to be in the $21 – $26 million range, unchanged from the previous guidance, reflecting some cost pressure. Earnings per share is expected in the range of 38 cents to 47 cents, which is up from the previous guidance of 36 cents to 44 cents per share.
For the full year, revenues are expected to be in the range of $1.666 – $1.672 billion, up from the previous outlook of $1.65 – $1.67 billion. GAAP earnings are expected to be in the range of $106 million or $1.82 per share to $111 million or $1.90 per share, up from $99 million or $1.65 per share to $109 million or $1.82 per share. The company expects to end the year with a subscriber base of 12 – 12.3 million, up from the previous expectation of 11.6 –12 million.
Netflix also said that it plans international expansion of its online streaming service in the second half of 2010, and expects to announce a partnership with a consumer-electronics firm in late 2009. With strong customer and earnings growth, we recommend the shares of NetFlix as Neutral.
