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Netflix Stock Tumbles as Wall Street Questions Sub Growth

24 Apr, 2012 By: Erik Gruenwedel

Netflix shares April 24 opened down double digits the day after analysts and investors questioned the rental service’s 2012 subscriber growth projections, among other concerns.

Netflix April 23 posted its first quarterly loss ($5 million) since 2005.

Shares of the subscription video-on-demand pioneer hovered around $88 per share (after closing at $101.84) in heavy midmorning trading. Indeed, trading volume approached 10 million shares at 11:46 a.m. (EST), up 54% from Netflix’s average daily trading volume of more than 6.5 million shares.

Specifically, much of the concern revolves around Netflix’s projected net add of 7 million domestic streaming subscribers in 2012. The Los Gatos, Calif.-based SVOD service added 1.74 million domestic subs in Q1 and is expected to add about 790,000 domestic subs in Q2 (which ends June 30), which means Netflix's majority sub growth (4.5 million) will occur in the second half of the year.

In fact, Netflix CEO Reed Hastings and CFO David Wells — in an investor letter and conference call accompanying the company’s April 23 fiscal results — went to great (and confusing) lengths to explain how seasonality (and other factors) played into the sub growth projection.

Without domestic sub growth, Netflix’s ambitious international expansion — including a possible Q4 launch into Spain — will stall, making a return to sustained profitability unlikely, according to Michael Pachter, analyst with Wedbush Securities in Los Angeles.

Characterizing management’s rationale for attaining 7 million new subs in the United States as “confusing” and “disingenuous,” Pachter said Netflix’s historical sub growth projects about 3.75 million combined new members in Q3 and Q4 — almost 17% less than company estimates. Instead, the analyst believes Netflix might generate 6 million new domestic subs — a tally he says could be difficult to reach, given the recent expiration of the license deal with Starz Entertainment, increasing competition from Amazon, Comcast and Hulu, and the potential for competition from Verizon and Redbox.

“Netflix remains a mess,” Pachter wrote in an April 24 note. “The company’s management appears to genuinely believe that its subscribers don’t care about content quality, and that they are willing to replace recent movie content with television content. We think that management lost touch with its core consumer last summer with the Qwikster debacle, and think that management remains out of touch.”

Analysts from Stifel, Morgan Stanley, Needham and Citi all questioned Netflix's subscriber growth projections. Ralph Schackart with William Blair & Co. in Chicago remained neutral on the stock, citing increased content costs and competition from Apple, Google and TV Everywhere platforms such as HBO Go and Showtime’s TV Anytime.

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