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Netflix Vows High-Def Support; Subscribers Up

24 Jan, 2006 By: Holly J. Wagner

Netflix will spend as much as it can afford to on subscriber acquisition in a drive to put physical video stores out of business and grow its market share, chairman and CEO Reed Hastings said Jan. 24.

“The more we invest in marketing, we are pushing the market. What we're willing to do is push it hard as long as we meet our earnings target,” Hastings said. “The prize that's out there is making video stores uneconomic, triggering the tipping point, or mass closures of video stores. We're getting close to that in the Bay area,” where he said Netflix market penetration is approaching 20 percent.

“The prize of collapsing the store infrastructure is very powerful because that going to push us to very large penetration in the total market,” he said.

The online rentailer ended 2005 with 60 percent more subscribers than it had at the end of 2004, record low churn and $195 million in revenue, but paid the price in much higher subscriber acquisition costs (SAC).

SAC for the fourth quarter of 2005 was $40.65 per new subscriber, compared to $34.64 for the same period of 2004, and $35.69 for the third quarter of 2005. Heavier TV advertising likely added to the cost of signing up new members, as the company increased its marketing spend from $32 million in the third quarter to $47 million in the fourth. That's a price Netflix is willing to pay as long as the subscriber base keeps growing, Hastings said.

Net subscriber additions in the quarter were 587,000, compared to 381,000 for the same period of 2004, and 396,000 for the third quarter of 2005. Of the 4,179,000 total subscribers at quarter-end, 96 percent, or 4,026,000, were paid subscribers, up slightly from the 95 percent of total subscribers at the end of the fourth quarter of 2004 and the third quarter of 2005. The other 4 percent, or 153,000, were free subscribers.

Meanwhile usage has decreased as more subscribers are drawn to the $9.99 two-out plan, Netflix is doing “tightly controlled tests” of suggesting that lower-usage customers downgrade as well as pricing tests.

“With the popularity of the new plans, average usage is on the decline and has been through the year. Revenue per disc is on the rise,” Hastings said. “It's an interesting idea, if you rightsize someone early do you keep them longer?”

Before the fourth quarter financial call, the company announced it would support HD DVD and Blu-ray Disc formats at their launch. During a call with analysts Hastings said he expects high-definition formats to carry a heftier price tag, but Netflix's content acquisition costs will remain stable.

“In the short term cost on HD DVD, we don't see any. It'll be the same content costs as we were planning to spend so there is no impact in this year and probably for several years out. We'll see where pricing goes,” he said.

Churn for the fourth quarter of 2005 was 4 percent, compared to 4.4 percent for the fourth quarter of 2004 and 4.3 percent for the third quarter of 2005. Churn includes free subscribers as well as paying subscribers who elect not to renew their monthly subscription service during the quarter.

The company expects top end the first quarter of 2006 with 4.6 million to 4.85 million subscribers, $219 million to $224 million in revenue and earnings that may range between negative $1.5 million to plus $2.5 million. For the year, the company expects ending subscribers of at least 5.9 million, revenue of at least $960 million and net income of $29.5 million to $35.4 million.

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