Top Investor Questions

Streaming Service

What are your long-term margin targets for domestic streaming?
Are you reaching saturation in the US market?
Why not add additional tiers of content (i.e. premium content for more $ per month)?

International

Could margins in the international segment eventually reach domestic levels?
What's your FX exposure for International?
How do you handle FX in your guidance?
How much will you invest in international expansion?
Will you have to invest more in local content to be successful internationally?

Content

Why are you moving towards more exclusive content arrangements which must cost more?
How do you evaluate new content deals or renewals?

Streaming Content Accounting

What is the accounting guidance you apply for streaming content?
How do you account for streaming content licensing?
How should investors think about your streaming obligations, which are significant?
Do you have any significant amounts that are not included in the Contractual Obligations table even though the contracts are signed?
Where is streaming content amortization recorded in the P&L?
How are content costs assigned to the US and international segments?

Originals

What new original series are coming to the service?
How do you measure success of originals?
Why are you making non-English language originals?
What percent of your content spend and percent of viewing does originals make up?
Since you've been successful with originals and are increasing your investment in this area, will this increase your overall content spend or does it replace spend on other content deals?

Free Cash Flow

Why is there a gap between net income and free cash flow?
How can I derive your cash payments for content?
How long will Netflix be free cash flow negative?

Capital Structure

How do you plan on financing your content investments?
Why do you prefer using debt instead of equity?

DVD

What will happen to DVD contribution margins?
How long will DVD last?

Miscellaneous

Who do you see as your main competitors?
In terms of competition, would people maintain multiple relationships with subscription video providers or just chose one provider?
You've often talked about HBO being a competitor, as they go direct to consumers in the US will this impact your growth or view of your ultimate market size?

What are your long-term margin targets for domestic streaming?

The domestic margin structure we have chosen is to grow content spending plus marketing slightly more slowly than we grow revenue and our target is to reach 40% US contribution margin in 2020.  We’ll re-evaluate the margin progression model again in early 2020 when we hopefully hit that target.  This increase in our domestic contribution margin gives us room to increase content spending as we grow, as well as to provide substantial domestic profitability.

Back to top

Are you reaching saturation in the US market?

The US remains our largest and most highly penetrated market. Therefore, there may be quarters where net adds are down year over year, which is the natural result of greater penetration.  We have built in flexibility to our business model in terms of how quickly we grow content and marketing spend, so we intend to keep US contribution margins growing even with lower membership growth. 
 
There is no change to our view on the long term attractiveness and US market size of Internet television, and no change to our view of the ultimate size of our US membership, which we believe can ultimately reach 60-90 million homes.

Back to top

Why not add additional tiers of content (i.e. premium content for more $ per month)?

We have tiers of simultaneous streams (1 stream, 2 streams and 4 streams) but we don't think tiers of content would be wise at this time.

Back to top

Could margins in the international segment eventually reach domestic levels?

Each market will have different levels of competition, both for consumer time and for access to content.  In some markets we may eventually reach or surpass domestic contribution margin levels.

Back to top

What's your FX exposure for International?

Our FX exposure is growing as we expand internationally. We do not use hedging derivatives. Rather, when favorable, we engage in natural hedging, in which our spending for international markets are paid in local currency to match the revenue collected from our members. However, our FX exposure, which is disclosed in our 10-Q and 10-K filings, will rise as we move increasingly towards global licensing, where content costs are more likely to be dollar denominated.

Back to top

How do you handle FX in your guidance?

In setting financial guidance, we use the prevailing FX rates at that time. For example, in April, when we provide guidance for Q2, we use the FX rates at that time in April.

Back to top

How much will you invest in international expansion?

Our plan is to run around break-even globally on a net income basis through 2016 and to then deliver material global profits in 2017 and beyond.

Back to top

Will you have to invest more in local content to be successful internationally?

Hollywood content travels very well abroad with local content a minority of member viewing in our markets. Our aim is not to replicate the programming of the local broadcaster or TV network in a given market but to complement our service with local content where appropriate. 
 

Back to top

Why are you moving towards more exclusive content arrangements which must cost more?

We want to offer a differentiated service.

We are focused on becoming an expert programmer that provides a high-quality, curated offering and therefore have increasingly licensed content on an exclusive basis.

Back to top

How do you evaluate new content deals or renewals?

We utilize detailed statistical models to determine expected hours of viewing for each piece of content over its license period.

We compare cost per hour viewed against other "like" content deals (i.e. exclusive versus non-exclusive, TV versus movies, etc.)

We look for high engagement and cost efficiency.

For renewals, we look to renew content that performs well (based on hours generated relative to the cost) and do not renew content where the price doesn't make sense relative to the value generated.

We feel we have good breadth of content so that no specific title or set of titles is must-renew.

Back to top

What is the accounting guidance you apply for streaming content?

We follow the guidance of ASC 920, Entertainment - Broadcasters, which provides the accounting framework  for licensees of films and TV shows as applicable to our business.

We follow the guidance in ASC 926, Entertainment - Films for the costs associated with the production of original content.

Back to top

How do you account for streaming content licensing?

We generally license content for a fixed fee and a defined time period with payment terms varying by agreement.

The signing of a license agreement to obtain future titles creates a streaming content obligation which we include in our Contractual Obligations footnote disclosure in our 10Q's and 10K's. If the minimum obligations are quantifiable, the amounts are included in the tabular disclosure. For deals with unknown future output, the obligation is added in the table when the title and its cost become known.

Once a title is made available for us to use on our service, a Content Liability (current for the portion due within one year and non-current for the portion beyond one year) and a Content Library asset are recorded (current for the portion to be amortized within one year and non-current for the portion beyond one year) on the Balance Sheet.

We also produce some content. For productions, we capitalize the costs, including development cost and direct costs. These amounts are included in "Non-current content library, net" in our balance sheet.

For certain content where we expect more upfront viewing, due to the additional merchandising and marketing efforts, the amortization is on an accelerated basis.

Back to top

How should investors think about your streaming obligations, which are significant?

Our streaming contractual obligations represent content that we have committed to licensing in the future that will eventually be recognized in our income statement as content costs. This provides us with access to an ample amount of content over the next several years. Other TV networks that enter into multi-year programming commitments (such as for sports rights) have similar obligations.

Back to top

Do you have any significant amounts that are not included in the Contractual Obligations table even though the contracts are signed?

Yes. We have entered into certain license agreements that include an unspecified or a maximum number of titles that we may or may not receive in the future and/or that include pricing contingent upon certain variables, such as theatrical box office performance.

As of each reporting date, it may be unknown whether we will receive access to these titles or what the ultimate price per title will be. Accordingly such amounts are not reflected in the Contractual Obligations table but they are expected to be significant and the expected timing of payments could range from less than one year to more than five years. Traditional film output deals like the U.S. output deal with Disney are an example of this type of license agreement. Once we know the title that we will receive and the license fees, we include the amount in the Contractual Obligations table.

Back to top

Where is streaming content amortization recorded in the P&L?

Streaming content amortization is included in and comprises the vast majority of our Cost of Revenues.

Back to top

How are content costs assigned to the US and international segments?

Content costs are assigned to each segment based on the geography the content is licensed for. The majority of our content agreements specify the licensing cost for each territory. Therefore, we assign the cost to the US or international segment based on the terms of the agreement.
 
In cases where we license on a global or multi-territory basis and the cost for individual territories is not specified in the agreement or for our self-produced content, we allocate the cost of the right based on the estimated media market value of each territory relative to the global media market value.
 
The allocation of global or multi-territory rights does not have a material impact on the contribution margin of our US and international segments. 

Back to top

What new original series are coming to the service?

For an overall view of our original content slate and upcoming premiere dates, please click here.

Back to top

How do you measure success of originals?

We evaluate the performance of our originals several ways. We measure the impact of our originals on our ability to acquire new members and engagement, which is correlated with retention of existing members. We also seek reasonable economics relative to other exclusive content on a cost per hour viewed.  

We also take into account critical acclaim and awards for our originals and the impact original series may have on enhancing our brand and attractiveness of our service which helps with member growth.

Back to top

Why are you making non-English language originals?

We believe great stories transcend borders. There are amazing creators of content from all parts of the world and our global footprint allows us to showcase these storytellers to members across the globe. 

Back to top

What percent of your content spend and percent of viewing does originals make up?

Given the success we've had with our original series, we are increasing our investment in this area and we expect the % of our content spend on original series to increase over time. This increased investment generally replaces spend on other content deals, although our overall content spend is expected to increase in absolute dollar terms.

Back to top

Since you've been successful with originals and are increasing your investment in this area, will this increase your overall content spend or does it replace spend on other content deals?

Replaces other content spend. However since we are growing content spend, there is room to grow both prior-season and original content.

Back to top

Why is there a gap between net income and free cash flow?

Cash payments for originals are weighted more upfront (relative to P&L) so the percentage of overall global content cash payments spent on originals will be higher than the percentage of P&L expense attributable to originals. In the case of content that we produce, we fund the production cost during the content creation process prior to the completion and release of the title and when amortization begins. These timing differences result in free cash flow being lower than net income currently. Over the long run, we believe self-producing is less expensive (including cost of capital) than licensing a series or film, as we work directly with the creative community and eliminate additional overhead and fees. In addition, we own the underlying intellectual property, providing us with global rights and more business and creative control. 
 

Back to top

How can I derive your cash payments for content?

Our cash payments for content can be derived from our cash flow statement. The difference between Additions to Streaming Content Assets and the Change in Streaming Content Liabilities equates to our cash spending on streaming content. 

Back to top

How long will Netflix be free cash flow negative?

We currently expect to generate free cash flow of approximately -$1.5 billion in 2016. In 2017 and beyond, with continued success, we will invest more in originals, which would continue to weigh on FCF, even after we achieve material global profitability.

Back to top

How do you plan on financing your content investments?

We fund our investments through operating profits and currently plan on raising additional debt.

Back to top

Why do you prefer using debt instead of equity?

In optimizing our balance sheet, we strive for the capital structure that results in the lowest weighted average cost of capital. Given low interest rates, the tax deductibility of debt and our low debt to enterprise value, financing growth through the debt market is currently more efficient than issuing equity.

Back to top

What will happen to DVD contribution margins?

The largest costs (postage and content) for the DVD business segment vary with the level of shipments which is determined by the number of subscribers.

So as the segment declines, DVD contribution margins tends to scale with the level of subscribers, outside of the effect of annual increases in postal rates.

Back to top

How long will DVD last?

The overall market for DVDs is declining, but there will likely be some persistent level of demand for DVD's, particularly in rural areas where broadband is not easily available or affordable

Additionally, there will be some level of demand from members interested in the tremendous library available on DVD.

Our goal is to continue to provide great service levels for our DVD members.

Back to top

Who do you see as your main competitors?

As discussed in our Long-Term View, we compete with all the activities that consumers have at their disposal in their leisure time. This includes watching content on other streaming services, linear TV, DVD or TVOD but also reading a book, surfing YouTube, playing video games, socializing on Facebook, going out to dinner with friends or enjoying a glass of wine with their partner, just to name a few. We earn a tiny fraction of consumers’ time and money, and have lots of opportunity to win more share of leisure time, if we can keep improving.

Back to top

In terms of competition, would people maintain multiple relationships with subscription video providers or just chose one provider?

Given our increased focus on exclusive content, our service will continue to become even more differentiated.  With different content libraries, SVOD services are not perfect substitutes for each other. As a result, many people will subscribe to multiple networks, such as HBO and Netflix.

Back to top

You've often talked about HBO being a competitor, as they go direct to consumers in the US will this impact your growth or view of your ultimate market size?

Starting back in 2011 we started saying that HBO would be our primary long-term competitor, particularly for content. The competition will drive us both to be better.  It was inevitable and sensible that they would eventually offer their service as a standalone application.  Many people will subscribe to both Netflix and HBO since we have different shows, so we think it is likely we both prosper as consumers move to Internet TV.   

Back to top

Free Cash Flow

We define free cash flow as cash provided by (used in) operating and investing activities excluding the non-operational cash flows from purchases, maturities and sales of short-term investments. We believe free cash flow is an important liquidity metric because it measures, during a given period, the amount of cash generated that is available to repay debt obligations, make investments in content and for certain other activities or the amount of cash used in operations, including investments in global streaming content. Free cash flow is considered a non-GAAP financial measure and should not be considered in isolation of, or as a substitute for, net income, operating income, cash flow (used in) provided by operating activities, or any other measure of financial performance or liquidity presented in accordance with GAAP.

In assessing liquidity in relation to our results of operations, we compare free cash flow to net income, noting that the three major recurring differences are excess content payments over expense, non-cash stock-based compensation expense and other working capital differences. The excess content payments over expense is variable based on the payment terms of our content agreements and is expected to increase as we enter into more agreements with upfront cash payments, such as licensing and production of original content.

Forward-Looking Statements

This communication contains forward-looking statements within the meaning of the federal securities laws. These forward-looking statements include, but are not limited to statements regarding: our contribution margins, including anticipated growth in U.S. contribution margins; membership penetration in the U.S.; foreign exchange exposure; net income and profitability; content investment, including in local content and exclusive content; access to content; content offerings; relative cost of original content; free cash flow; raising debt; DVD demand and service levels for DVD members; the evolution of our service offering; and competition. These forward-looking statements are subject to risks and uncertainties that could cause actual results and events to differ materially from those included in forward-looking statements. Factors that might cause or contribute to such differences include, but are not limited to, those discussed in our Annual Report on Form 10-K for the year ended December 31, 2015 filed with the Securities and Exchange Commission (“SEC”) on January 28, 2016, in particular the risk factors discussed under the heading “Risk Factors” in Part I, Item IA.

We assume no obligation to revise or publicly release any revision to any forward-looking statements contained in this communication, unless required by law.

Use of the Netflix service and this Web site constitutes acceptance of our Terms of Use and Privacy Policy.
About Cookies and Internet Advertising All rights reserved. U.S. Patent No. 7,024,381 and U.S. Patent No. 6,584,450. {i-be1859dc}