What are the advantages of Netflix over competitors?
Netflix’s (NFLX) streaming service has demonstrated solid quarterly results thanks to the success of the series “The Squid Game.” Netflix’s revenue grew by 16.3% year on year, to $7.48 billion, which coincided with the consensus forecast. In addition, the operating margin reached 23.5%, exceeding average market expectations.
GAAP EPS increased from $1.74 to $3.19 with an average forecast of $2.57. The audience of the streaming service increased to 213.56 million in the third quarter of 2021. The increase compared to the previous quarter was 4.38 million, which exceeded investors’ expectations.
The consensus forecast assumed that the service audience would expand by 3.8 million, and management initially set this figure at 3.5 million. However, the number of subscribers accelerated in September after rather sluggish dynamics during the first half of 2021. In addition, in September, the company presented the continuation of several popular TV series, including “Paper House,” Sex Education,” and others.
The South Korean TV series “The Squid Game” became an international hit at the end of September. According to management, this series turned out to be the most popular in the company’s history. According to the Netflix document, which recently placed at the disposal of Bloomberg, the company estimates the Impact Value of the series “The Squid Game” at $890 million.
In the classical sense of these terms, this indicator has nothing to do with revenue or profit because the streaming service earns exclusively through subscriptions. The so-called impact value is only an indicative metric, which on a complex methodology for analyzing viewing data developed by the company to assess the effectiveness and make decisions.
We believe that other parameters of the Netflix business, which Bloomberg also disclosed, are much more critical for investors. For example, it is impressive that 66% of viewers who started watching the series “The Squid Game” finished watching it in the first 23 days from the moment of release.
This share is equivalent to 87 million subscribers (more than 40% of their global number). But, perhaps most importantly, other disclosed data indirectly indicate a relatively large proportion of those viewers of the series who have only recently become subscribers or rarely access Netflix services.
The Korean TV series scored 353 points on the adjusted share of views (AVS), reflecting the number of viewers who watched the series and how valuable these viewers are. At the same time, Bloomberg clarifies that the AVS index of more than 9-10 is already considered high.
The company spent only $21 million to create the series. However, it is essential in a broader aspect: analysts and investors see that due to a large-scale international presence, which none of the streaming service’s competitors have yet, Netflix can demonstrate higher operating margins at relatively low costs.
Thus, the “Squid Game” had a very significant impact on the dynamics of the subscriber base. Therefore, it is not surprising that it registered its most active growth in Asia-Pacific (APAC). Here, the number of users increased by 2.18 million, exceeding expectations by more than 600 thousand.
At the same time, in the USA and Canada, the number of new subscribers of the service was only 70 thousand, with a consensus of 330 thousand.
According to the service’s forecast, its audience for the fourth quarter should increase by 8.5 million, which entirely coincides with average market expectations. Moreover, over the previous three quarters, the number of users increased by 9.9 million; that is, the forecasts of the market and the management of the service look very optimistic.
And management has every reason to be optimistic. Firstly, the success of the “Squid Game” will continue to influence the attraction and retention of subscribers. It will be especially noticeable in Asian countries, where Netflix’s Market Penetration Rate is significantly lower than in the USA or Europe, so it is easier to ensure a sharp increase in the number of subscribers here. Secondly, by the end of the year, the final episodes of the series “Paper House” will be shown, new seasons of such hits as “The Witcher,” “Cobra Kai” and others will be released.
Management notes that Netflix has not had such a tight schedule of premieres so far. As for the different dynamics of the company’s financial results, the administration expects to receive a positive cash flow in 2022. This forecast is associated with an even more intense schedule of releases of Netflix original content than in 2021.
The company’s management notes that the premieres will be evenly distributed throughout the year if the pandemic factor does not interfere with the filming plans and can avoid new lockdowns.
A stable schedule of premieres is favorable for the company’s financial performance because it will allow maintaining a consistently high audience engagement, which Netflix failed to do in 2021. In addition, the company continues to develop the mobile games segment. The service acquired the developer Night School Studio.
There are no plans to monetize this segment of the business in the foreseeable future. That is, the games will be available to subscribers of the streaming service at no additional cost. However, the company’s offer of fun will justify a sharper increase in the price of subscriptions in the future. In our opinion, Netflix will continue to make small M&A deals to create a team of experienced, qualified game developers.
Our target price for NFLX shares on the horizon of the year is $690. Therefore, we leave the long-term outlook for the positive.
Short-term horizon, the securities will go sideways or adjust downwards, since a significant part of the optimistic expectations regarding the prospects of the service in the fourth quarter, in our opinion, has already been taken into account in the quotes.
