Netflix Earnings Preview: A Deep Analysis of Key Drivers

The following is an excerpt from a report compiled by Michael Pachter of Wedbush Securities.

Netflix (NASDAQ:NFLX) will report Q4:12 (December) results after  the market close on Wednesday, January 23, and host a conference call at 3:00pm PT (Dial-in: 760-666-3613, webcast: http://ir.netflix.com).

We expect Q4:12 results at the high end of guidance. Our current estimates are for revenue of $926 million and EPS of $(0.10), compared to guidance for $919 – 943 million and $(0.23) – 0.04, and consensus for $934 million and $(0.12). We saw little marketing spending until the end of the quarter, suggesting the company was tracking close to the high end of its domestic streaming subs guidance of 26.4 – 27.1 million (net adds of 1.3 – 2.0 million).  We believe Netflix rationalized technology spending to boost profitability, and expect shares to rally on the beat.

We expect Q1:13 net domestic streaming subscriber growth guidance of at least 1.75 million at the high end. We expect Q4 adds of around 1.7 million, and expect management to guide to continuing domestic growth. We expect Q1:13 EPS guidance around flat, and do not think the company will provide full-year guidance for EPS or subscriber additions. Again, we think shares will briefly rally…

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Netflix continues to drop more content than it adds, limiting the company’s long-term growth and profitability potential. The recent Disney (NYSE:DIS) exclusive was likely expensive, replacing its cheaper nonexclusive deal with Starz that provided roughly double the content for less money.  More important, the best content will be unavailable for years. Other new deals provide cartoons, cable TV series, and serialized dramas, all unlikely to meaningfully boost subs. In the meantime, Netflix has dropped A&E/History Channel, and we expect more content to be dropped this year, especially as the recent expensive deal with Warner Bros. takes effect. Higher costs diminish profitability, while lower content quality impacts subscriber growth.

Recent silence from Carl Icahn suggests he may have unwound his stake. Mr. Icahn had no comment when Netflix received a Wells Notice, and shares have approached the reasonable takeout target he proposed when he first went public.

Maintaining our UNDERPERFORM rating and 12-month $45 price target. We value domestic streaming at $15, domestic DVD at $20, and assign a speculative $10 option value to international streaming.  Should domestic streaming growth slow or domestic DVD segment losses accelerate, our target may be too high.

Michael Pachter is an analyst at Wedbush Securities.

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