Netflix stock rises on plans to revive subscriber growth

Netflix Q2 earnings: Loses fewer subscribers than forecast

Netflix revealed it lost 970,000 subscribers during the second quarter, which was welcomed by investors considering the streaming giant had warned it expected to lose around 2 million. That follows on from the 200,000 subscribers it lost in the first quarter, which marked the first decline in user numbers in over a decade.

The company lost subscribers in both North America and the EMEA region, countered by tepid growth in Latin America. That left the Asia Pacific region to pick up the slack, where Netflix added almost 1.1 million new customers during the latest quarter.

Revenue rose 8.6% from last year to $7.97 billion in the second quarter and fell just short of the $8.0 billion pencilled-in by analysts. Notably, the strength of the dollar was a major headwind in the period considering the company earns 60% of its revenue outside of the US. EPS edged-up to $3.20 from $2.97 the year before to beat the $2.93 forecast by Wall Street.

Netflix aims to add 1 million subscribers in Q3

Netflix said it aims to add around 1 million subscribers on a net basis during the third quarter. Although investors will welcome a return to growth, this was disappointing compared to the 1.8 million to 2.2 million net additions forecast by Wall Street.

It said revenue should grow around 5% year-on-year in the third quarter, although this will be 12% at constant-currency, demonstrating the impact of the stronger dollar. This will have an even greater impact on operating profit, which Netflix said will fall 29% on a reported basis but just 3% at constant currency.

‘As we have written in the past, over the medium term, we intend to continue to adjust our business as appropriate given the relative strength of the USD to protect our operating margin and try to avoid immediate actions that we believe could be detrimental to the business,’ Netflix said.

How will Netflix revive growth?

The primary reason that Netflix started to lose subscribers earlier this year was the exit from Russia. However, more headwinds have weighed on growth since then. Pandemic-induced demand is unwinding, increased competition is starting to take its toll, and price hikes are contributing to the loss of subscribers – all of which could be exacerbated as the cost-of-living crisis starts to stretch people’s budgets. 

That has prompted Netflix to revive growth, which it largely plans to do by introducing new tiers of service and improving monetisation. The company provided some details on its strategy, but it appears investors will have to wait until next year to discover whether its plans will pay off.

Netflix has 100 million households to target

Netflix believes that people sharing their account details has held back growth. It claims over 100 million households have access to Netflix but don’t pay for it. The goal here is to convert as many of these households into paying subscribers and the company is now testing two different approaches across Latin America to help provide some insight on the best route to take when it launches a wider rollout in 2023. The first approach is being tested in Chile, Costa Rica and Peru, where subscribers are being offered the ability to ‘add an extra member’, while the second offers ‘add a home’ in Argentina, the Dominican Republic, El Salvador, Guatemala and Honduras.

‘We’re encouraged by our early learnings and ability to convert consumers to paid sharing in Latin America,’ Netflix said.

Netflix to launch ad-supported tier with Microsoft

Netflix has also made the decision to launch a cheaper, ad-supported tier to appeal to a wider pool of people. It has already secured a formidable partner to help rapidly launch the service in early 2023 in the form of Microsoft.

‘[Microsoft] are investing heavily to expand their multi-billion advertising business into premium television video, and we are thrilled to be working with such a strong global partner. We’re excited by the opportunity given the combination of our very engaged audience and high quality content, which we think will attract premium CPMs from brand advertisers,’ Netflix said.

Its existing service will remain ad-free and the new lower-priced tier will initially be launched in a ‘handful of markets’ where advertising spend is the greatest. Although investors want rapid action, Netflix said it will ‘take some time’ for it to become a significant part of the business.

‘Like most of our new initiatives, our intention is to roll it out, listen and learn, and iterate quickly to improve the offering. So, our advertising business in a few years will likely look quite different than what it looks like on day one. Over time, our hope is to create a better-than-linear-TV advertisement model that’s more seamless and relevant for consumers, and more effective for our advertising partners,’ said the company.

What will this mean for Netflix?

The biggest fear for investors is that Netflix has reached peak growth. The company argues its pricing model and limited number of tiers has caused far too many people to avoid paying for its service. That means it already has a pool of 100 million households that it knows enjoys its service but not the price tag. That’s a significant number considering Netflix has over 220 million global subscribers right now. However, it will be a test to see how many of these households are willing to cough up, especially amid the cost-of-living crisis.

As for the advertising business, Netflix is hoping it can offer a new alternative to traditional television. This means Netflix is not only trying to take viewers away from linear TV, but also the advertisers. However, that will also force it to adopt a different way of operating. TV episodes will need to be broken up to slice ads in, and may have to be released more gradually rather than Netflix’s traditional method of dumping entire series for subscribers to binge watch.

The challenge offered by both plans is balancing the need to revive user growth with the need to protect profitability. The idea is that offering lower-priced tiers, whether that be through add-on features or its ad-supported service, will lead to an acceleration in user growth. While lower prices will undoubtedly hit profitability, Netflix hopes this will be more than offset by the high margins offered by advertising and that this can lead to improved profit growth.

Where next for NLFX stock?

Netflix shares are up 8% in extended hours trade at $216 after its results received a warm reception from markets. The stock has not only broken past the 50-day moving average that has proven to be a firm ceiling for the stock over the last eight months, but also the $204 level of resistance that has hung over the share price during the last three months. Having been in consolidation mode before the results, it appears the stock has broken out higher following the update.

The next upside targets are now $245 and then the 100-day moving average at $255. Notably, the 47 brokers that cover the stock see slightly more upside potential with an average target price of $278. A move above $255 could lead to a swift upward movement toward $333 to close the gap that was created in April. The RSI is now trending higher into bullish territory and is reinforced by a surge in trading volumes. The 5-day average volume at time is 46% higher than the 10-day average and 65% higher than the 20-day average to suggest the stock could gain momentum.

For now, $170 should be treated as the initial floor for the stock but the low of $163 should hold as the ultimate floor going forward.

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