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Netflix Ups Profit, Rev, Subs in Q4

23 Jan, 2008 By: Erik Gruenwedel

By Erik Gruenwedel Netflix Inc. reported positive results across all metrics for the fourth quarter (ended Dec. 31).

Netflix CEO Reed Hastings said in a call with investors that the service was pulling away from rival Blockbuster Inc. while at the same time intimating the existence of a truce that would result in a significant decline in ad spending going forward.

“We are widening the gap between us [and Blockbuster] and further attack is less likely to be as painful as their 2005 or 2007 thrusts,” Hastings said. “While they appear to have shifted to valuing profit over growth they can change their mind at any time.”

Michael Pachter, media analyst with Wedbush Morgan Securities in Los Angeles, said the apparent cooling off between Blockbuster and Netflix would be mutually beneficial.

“When Blockbuster decided to make nice and advertise less in real dollars, Netflix decided to put a lot less marketing in this space,” Pachter said. “As a result, Blockbuster won't feel as wounded and might become profitable.”

Alden Mahabir, senior equity analyst with Utendahl Capital Partners, concurred, saying that should Blockbuster improve the in-store experience as CEO Jim Keyes has promised, there could be a slowing consumer defection to by-mail services.

“[Blockbuster] can change its stance at anytime,” he said.

Mahabir said Netflix's long-term potential hinged on the continued proliferation of technologies such as video-on-demand, digital video recorders, kiosks and online services.

Hastings said the studios continue to generate more than 40% of revenue through DVD, which he said was 20 times the combined electronic sellthrough and streaming revenue in 2007.

“DVD continues to have many advantages over cable VOD and Internet VOD: ubiquitous content and players and earlier release dates,” he said.

Hastings said the growth of rental kiosks, which represent 4% to 5% of the market, would hit Blockbuster and Movie Gallery harder than Netflix unless they successfully reinvent themselves to consumers.

CFO Barry McCarthy said consumption of Web-based video would remain limited as long as the consumer viewing experience was limited to the computer. The executive said transition of Web-based video to the TV would open the market but sales of CE devices needed to reach critical mass are more than five years away.

“We can remain the market leader as the transition occurs,” McCarthy said.

Hastings said Netflix was working to offer streamed content to Mac computers, which has thus far been delayed due to digital rights management issues involving Apple computers.

Pachter said Netflix spent about $30 million on its streaming service in 2007, an amount he believes would increase to $45 million this year.

He doubted streaming was having much impact on Blockbuster since most of the Netflix's content was dated and limited to individual viewing on a PC compared to DVD.

“If anything, it is a better value proposition to younger consumers,” Pachter said.

Hastings said despite the defection of Warner Bros. exclusively to Blu-ray, widespread consumer adoption to Blu-ray would only occur when player prices fall below $200 and Universal Studios and Paramount Pictures abandon HD DVD.

“This would be a positive for the studios and a positive for Netflix, and it would fuel another decade of robust disc-based entertainment,” he said.

The Los Gatos, Calif.-based service posted net income of $15.8 million on revenue of $302.4 million, compared to income of $14.9 million and revenue of $277.2 million during the same period the previous year.

Overall revenue was $1.2 billion for fiscal 2007, up 21% from $996.7 million in 2006.

Netflix ended the fourth quarter with nearly 7.5 million subscribers, up 18% from 6.3 million members last year. The company saw a net increase of 451,000 subs in the quarter, compared to 654,000 subs during the same quarter the previous year.

“All our [online rental] growth comes from video stores,” Hastings said.

He said the service projects ending 2008 with 8.4 million to 8.9 million subscribers, including 7.85 million to 8.05 million subs by the end of the first quarter.

Annual revenue is expected to top $1.3 billion.

The company reported the lowest subscriber acquisition costs ($34.60) in six quarters, down from $44.31 the previous year, due in part to Blockbuster's scaling back of marketing its Total Access service.

Company officials said market momentum through word of mouth and changes in competitive pricing versus Blockbuster would likely result in lower subscriber acquisition costs (SAC) going forward.

The churn rate, which includes free and paid subscribers who choose not to renew their monthly membership during the quarter, was 4.1%, compared to 3.9% last year.

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