Man with remote watches streaming VOD service Netflix on big screen TV

Netflix Revenue Increases in Q3 Despite Slowing of Membership Growth

Membership additions are down year-over-year but revenue growth is up 22.7%.

Netflix added 2.2 million net new members in the third quarter of 2020, compared to 6.8 million net new members in Q3 2019. This is slightly lower than the company’s estimate of 2.5 million net new members for the quarter. Total net new membership additions year-to-date are 28.1 million, exceeding the 27.8 net new members the streaming subscription service added in all of 2019. Total membership worldwide is now 195.15 million members. In its third quarter earnings letter to shareholders, Netflix reports total revenue of $6.4 billion, a 22.7% increase over third quarter revenue of $5.2 billion in 2019.

“As we expected, growth has slowed with 2.2m paid net adds in Q3 vs. 6.8m in Q3’19. We think this is primarily due to our record first half results and the pull-forward effect we described in our April and July letters,” Netflix wrote in their October 20 shareholder’s letter. “In the first nine months of 2020, we added 28.1m paid memberships, which exceeds the 27.8m that we added for all of 2019. In these challenging times, we’re dedicated to serving our members.”

Third quarter financial highlights

Netflix provided the following highlights for the third quarter:

  • Total membership of 195.15 million represents a 23.3% increase over Q3 2019 membership of 158.33 million.
  • Average streaming paid membership increased 25%, despite a 1% decrease in streaming ARPU.
  • Streaming content obligations are $19.1 billion annually.
  • The company reported operating income of $1.3 billion, a 20.4% increase year-over-year.
  • Operating margin for the quarter was 20.4%, compared to 18.7% in Q3 2019.
  • Netflix had net income of $790 million, or $1.74 earnings per share, compared to $665 million, or $1.47 earnings per share in Q3 2019.
The streaming subscription service said production on Netflix originals has resumed for some content. Image: Netflix

Fourth quarter guidance

Netflix offered the following guidance for the fourth quarter of 2020:

  • The streaming subscription service forecasts 6.0 million paid net additions, compared to 8.8 million in Q4 2019.
  • If the company hits its paid net additions target, the company will have a record 34 million paid net new additions for the year, higher than the company’s record annual high of 28.6 million achieved in 2018.
  • Operating margin is estimated to be 13.5% compared to 8.4% in Q4 2019, with a full year operating margin of 18%. The company previously estimated full year operating margin to be 16%.

“The state of the pandemic and its impact continues to make projections very uncertain, but as the world hopefully recovers in 2021, we would expect that our growth will revert back to levels similar to pre-COVID. In turn, we expect paid net adds are likely to be down year over year in the first half of 2021 as compared to the big spike in paid net adds we experienced in the first half of 2020,” the streaming subscription service said. “We continue to view quarter-to-quarter fluctuations in paid net adds as not that meaningful in the context of the long run adoption of internal entertainment, which we believe is still early and should provide us with many years of strong future growth as we continue to improve our service.”

Operational highlights

Netflix said the company is slowly returning to production where possible. For example, the company is working on season 4 of Stranger Things, Red Notice with Dwayne Johnson, and season 2 of The Witcher. In the third quarter of 2020, the streaming subscription service debuted new seasons of The Umbrella Academy and Lucifer, Ratched, American Murder: The Family Next Door and The Social Dilemma, all of which reached double-digit viewership in the millions in their first 28 days. The company continues to invest in local language content with a global appeal and to release original films like The Kissing Booth 2, Project Power and Enola Holmes.

“Our content successes highlight our ability to tap into our global audience of nearly 200m members and underscore the notion that content is discovered on Netflix. This applies not only to Netflix originals, but also to second run programming, like Schitt’s Creek and earlier seasons of Lucifer, both of which are very popular with our members,” Netflix said.

Growing competition

In its shareholder letter, the streaming subscription service addressed the growing competition among entertainment providers, including video games, user generated content, and other streaming subscription services like Peacock, HBO Max and Disney+.

“Disney’s recent management reorganization signals that it is embracing the shift to streaming entertainment,” said the SVOD company. “We’re thrilled to be competing with Disney and a growing number of other players to entertain people; both consumers and content creators will benefit from our mutual desire to bring the best stories to audiences all over the world. We’ll continue to focus on pleasing our members and improving our service as quickly as possible so that we can be everyone’s first choice for online entertainment.”

Netflix stock drops

Despite this positive report, Netflix stock took a hit after its October 20 report. On October 20, Netflix was valued at $525.45 per share. As of 11:32 am EDT yesterday, it had dropped to $492.72 per share.

Source: Google

Insider Take

Netflix’s shareholder letter was fairly typical. The information was direct and transparent, and the tone was upbeat and forward-looking. One thing that was noticeably absent, however, was a mention that the streaming subscription service has discontinued its free trial offering in the United States. This move is particularly curious when the company’s revenue and revenue growth remain strong. While membership additions are down slightly, that was anticipated, so why is this move necessary? With a healthy operating margin, and one that is higher than originally projected for the year, why did Netflix choose to make this move now? Removing the free trial is likely not a dealbreaker for many prospective subscribers, but the timing of this strategic move is puzzling.

We are also surprised by the fickleness of Wall Street with a $32.70 drop per share in stock value since the earnings report came out. The company predicted that membership growth could not continue at its previous pace, and membership additions have exceeded all of last year’s. Netflix missed its guidance by 0.3 million new members. Also, revenue saw a significant increase year-over-year, and earings per share also went up. We are not investment experts, but the expectation that Netflix could have done any better in our current, pandemic-fearing economic climate is unrealistic.

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