Below is the transcript of the Netflix, Inc. (NASDAQ:NFLX)’s fourth quarter 2014 earnings interview, held on January 20th, 2015 at 5:00 p.m. EST. Philippe Laffont, billionaire Carl Icahn, and billionaire Andreas Halvorsen had the largest positions in Netflix, Inc. (NASDAQ:NFLX) among the funds tracked by Insider Monkey.
Netflix, Inc. (NASDAQ:NFLX) is the world’s leading Internet television network with over 57 million members in nearly 50 countries enjoying more than two billion hours of TV shows and movies per month, including original series, documentaries and feature films. Members can watch as much as they want, anytime, anywhere, on nearly any Internet-connected screen. Members can play, pause and resume watching, all without commercials or commitments.
Corporate Participants:
David Wells – Chief Financial Officer, Netflix, Inc. (NASDAQ:NFLX)
Reed Hastings – Chief Executive Officer, Netflix, Inc. (NASDAQ:NFLX)
Ted Sarandos – Chief Content Officer, Netflix, Inc. (NASDAQ:NFLX)
Analysts:
Mark Mahaney – RBC
Richard Greenfield – BTIG
David Wells, CFO, Netflix, Inc. (NASDAQ:NFLX)
Hi! This is David Wells, I’m the CFO of Netflix and I’m welcoming you to the 2014 Q4 Earnings Interview. Joining me today is Reed Hastings, our CEO and Ted Sarandos, our Chief Content Officer is joining us from Miami at the National Association of Television Executives Meeting. Also at that meeting is Michael Nathanson and with too many conflicts so replacing his role interviewer today is Rich Greenfield, analyst from BTIG and joining him is Mark Mahaney from RBC. We will be making forward-looking statements today. Actual results may vary. I’m gonna turn you over to Mark who has our first question.
Mark Mahaney, RBC
Thanks David. Question to start off for Reed. You’ve talked about an S-curve and your ability to get to 60 to 90 millions subs in the US. You beat the sub numbers for the quarter but there’s a year-review reduction in net sub adds, so, walk us through what your latest thinking is on the ability of Netflix to reach 60 to 90 million US subs.
Reed Hastings, CEO, Netflix, Inc. (NASDAQ:NFLX)
Well, it’s looking very good. We’re at 39 million in the US adding 5 plus million a year, so the trajectory is great. If you step back and you say is internet video going to be in every home in America in 10 years, that’s a pretty clear yes. So, tons of potential there and we’re very excited about just continuing to improve our service.
Richard Greenfield, BTIG
This is a question for Reed. When you think about the international growth profile, the comments that you made in terms of the cadence of market launches, basically saying that every single market would be launched over the course of the next two years. It was a pretty big move from what I think we were expecting and what I think the investors where expecting, was there something that happened when you looked at the success you were having overseas, whether it be France, Germany, Latin America? Did something happen to change how fast you plan on rolling-out the rest of the world to get you over the next two years?
Reed Hastings, CEO, Netflix, Inc.
Yeah, Rich, there’s two real drivers. One is the success that we’ve seen from Argentina to Finland. To have all of our first wave of markets from Canada, Latin America, Nordics, Netherlands, UK and Ireland — be profitable together as a group. It’s just a tremendous accomplishment. And with the growth rates that they’re seeing, it is going to be very significantly profitable going forward. So that’s been a big driver for us.
And then I think Ted really had the vision to figure out how to start to get global rights for some of the content by moving up the food chain. And we’ve been pushing on that dimension to be able to get the global rights where we don’t have to go country by country, across 200 countries, but instead provide the producer upfront money — guaranteed money — and get great access. So Ted, do you want to add to that?
Ted Sarandos, Chief Content Officer, Netflix, Inc. (NASDAQ:NFLX)
I think our success this year with Better Call Saul and Gotham where we had moved up the process license for all of our operating territories and our future operating territories, directly with the producers of those shows. So, Better Call Saul directly with Sony and Gotham directly with Warner Television, instead of having to go country by country and piling up those deals and lining up windows, this enables us to make the service, the selection far more global for viewers around the world who increasingly know exactly when these shows began and are hungry to see them as soon as they can.
Mark Mahaney, RBC
Question for Reed or David on the international sub numbers. They came in materially higher in the December quarter and you’re guiding from materially higher than expected numbers for the March quarter. Can you give us any color on which market, which countries did better than expected or is this just the case of the European launch being a little more delayed than expected and you’re seeing the full impact of that? Where was the upside from?
David Wells, CFO, Netflix, Inc. (NASDAQ:NFLX)
Mark, this is David. It’s across several markets and as you know, we don’t talk specifically about individual markets for competitive reasons. But I would say it wasn’t driven by any one individual market, it was driven by several markets. So we are really pleased with the growth that we saw in the fourth quarter and carrying into the first quarter.
Richard Greenfield, BTIG
If I can just follow-up David on that question on Latin America though. You did give out a 5-million subscriber — that you would reach to 5 million subscribers — during the quarter in Latin America. Could you give us any other feel — are there any other milestones to think about as you think about other markets that you’ve already launched that we should be thinking about? And why are you disclosing something like 5 million in Latin America without more detail overseas?
David Wells, CFO, Netflix, Inc.
Well, it’s a nice round number and we’ll be giving out milestones as we hit them, I think, in other markets. But it is incrementally better for us to talk about that with consumers in Latin America because it validates the quality, the breadth, and the size of the service so it’s helpful from a consumer standpoint in the markets. So we weigh, between the investment community and the consumer community, what’s helpful in terms of internal information.
Richard Greenfield, BTIG
What changed that actually accelerated it? Because there was an area that you talked about as a problem historically on these calls. Why is Latin America now accelerating to the point where you are now really getting excited about the growth potential?
David Wells, CFO, Netflix, Inc. (NASDAQ:NFLX)
Well, nothing changed. We knew we would hit 5 million in the quarter and we did. What changed maybe that we gave you incremental information. I think what we’ve said all along in terms of Latin America — it was a challenging market. We’ve had payments issues and e-commerce trust issues that we’d wrestled with and improved over the last three-and-a-half years, but it’s been growing all along.
I think folks may not have taken our word for that but we are very pleased with it. It’s been steady growth, we continue to see great growth and great potential in the market. It’s a market with about 65 million broadband households so if you take than 5 million number that we talked about, and 65 million in terms of addressable. we I think we’ve got a lot of room for growth in the market.
Mark Mahaney, RBC Analyst
David, I want to follow-up on the global expansion move. Two things: you bolded in this press release was this line about “completing global expansion over the next two years.” I noticed the bolded stuff. So I guess the question is, I know you talked about this a little bit before, it sounds like you may be buying international content or getting content for international markets more efficiently by the learnings from some of the international markets, the launches that you’ve had to date, that have allowed you to be more efficient in rolling-out new markets going forward, so it’s a pretty big statement to make and pretty big change just over the last 90 days.
David Wells, CFO, Netflix, Inc. (NASDAQ:NFLX)
Sure Mark. I think one thing that I would add to what Reed and Ted talked about in terms of our incremental confidence in international is that our Originals programming continues to be highly engaged across markets outside the US. We thought it might be based on the type of content that those markets were enjoying but we just didn’t know, and now we’ve had another year of experience in Originals. We see that the Originals are in the top list of content watched in all those markets. So, it gives us more confidence that when we make something we produce, we incur those production costs, but it will be an asset that can be enjoyed across markets and across a bigger and bigger set of international markets.
I would say the incremental lessons for us had been — the payments lessons we’ve learned and we continue to grow and address each individual market separately because they all seem to have different challenges. The types of programming in each market I think Ted’s team is getting smarter and smarter and we’ve become incrementally better in terms of knowing what to license upfront, what to add in terms of licensing over 12-24 months to make the contents better and better.
Mark Mahaney, RBC Analyst
Can I add a brief follow-up and just bring the question back to Reed then? So Reed, is the point the Netflix is really selling two universal goods: one, is streaming and the second is streaming of this content that has universal appeal, a lot of which is US content but not all of it, but the most popular shows in one market pretty mark largely transfer to be contents in other markets as well. Is that a kind of a secret sauce?
Reed Hastings, CEO, Netflix, Inc. (NASDAQ:NFLX)
Well certainly true on that first part of what you said which is the magic of streaming is on demand, the control — being able to binge on episodes, watch a movie in the middle of the night — and that is a very universal truth, which is even stronger in developing markets where television is not as advanced as it might be, say, in the US or France. And so the more that we expand out of that footprint, the more we are deferentially great with the interactive side.
Then in terms of the content, it’d be easy to over-generalize from our experience in Western Europe and Latin America. There’s some content like House of Cards that really does carry around world. It’s not on our service in China but it’s been tremendously popular in China. But not every piece of content will carry equally well. But we’ve certainly been impressed on how there’s a segment of the market in every country that follows Western, Hollywood, British content and then we’re augmenting that with all kinds of local programming.
So it is not quite as simple as we do our Originals, that’s the whole things, it’s everywhere. But that is at least a two-thirds impact. Ted, maybe you can add some color on how we look at the markets beyond Western Europe.
Ted Sarandos, Chief Content Officer, Netflix, Inc. (NASDAQ:NFLX)
Yeah, it’s been so encouraging how truly global these brands have been. So when we started setting — when we set out our Original programming from the beginning, obviously our market’s were pretty limited and we were thinking about then is mostly US shows and that they would travel like other US shows have. We have been really enthused to see, particularly in our Western European launches, show like Orange is the New Black and House of Cards, even in later seasons, performing tremendous for us because people hadn’t gotten around to seeing them yet and we could get the brand out there and push it out there.
And then Marco Polo was kind of a global phenomena as well. So for us, it is very encouraging that what the world really wants is high-quality, big production values, great storytelling and that can be truly universal. It might be that there are some cultural barriers to US content as we get into more exotic markets but my guess is that we are going to continue to see our Original programming travel and carry the Netflix brand around the world.
Richard Greenfield, BTIG
This is a question for Ted because you bring up Marco Polo. I think the impact on the fourth quarter is really important to hone in on. We got a lot of questions mailed into us basically with sentiment of how much of a drag was Marco Polo and the negative reaction on Q4 subscriber metrics. The negative press impact negatively close editions, and the tied to that, as you’ve mentioned also, you got House of Cards Season 3 coming, how much of your guidance for Q1 benefits from Season 3 of House of Cards globally? I think last year, you made a comment that Season 2 had a much bigger impact on 12:02 editions than the prior year. Does that follow through, you think, again for Season 3?
Ted Sarandos, Chief Content Officer, Netflix, Inc. (NASDAQ:NFLX)
I think it is tough to get a big subscriber reaction to a new series that people haven’t heard before, even if they get excited about it, they are more curious before they’ve seen the first view. Marco Polo had some negative reactions in the press, viewers have loved it and the volume of viewing has been phenomenal, the rating to which people are completing the show is comparable to other big ten full original shows, so we’re thrilled that we made a show that viewers have loved around the world.
And because it is Season 1, we have not baked in or had big anticipation for a subscriber impact. House of Cards Season 2, Orange is the New Black Season 2, and the rest in development had been the ones — the shows we’ve been able to track real measurable subscriber growth with their launches. And I think as we go forward with Season 3 of House of Cards and Season 3 of Orange is the New Black, Daredevil has a built-in fan base from Marvel, our feature films Crouching Tiger, Hidden Dragon 2 has a built-in fan base from the original film, so I think we will see those kind of impacts that we saw from season to season in the past.
Richard Greenfield, Analyst, BTIG
Because part of the fear is that the marketing benefit that came along with Originals, it had good reviews, had a big impact on just building the Netflix brand, and obviously, Marco Polo, maybe it’s getting critical — maybe it is getting good consumer reviews but the critical press or the media, the general entertainment media, doesn’t seem to be excited about it the way they had been about your prior Originals.
Ted Sarandos, Chief Content Officer, Netflix, Inc. (NASDAQ:NFLX)
I find it hard to believe that you can sustainably on things that get well-reviewed and not watched. So I am thrilled that this is get watched and loved and I think that is sustainable.
Reed Hastings, CEO, Netflix, Inc. (NASDAQ:NFLX)
And Rich, we are really focused on the consumer and the social media that comes out of that, so if we look at the commentary from people to their friends about Marco Polo is extremely positive. The spectacle, the costumes, storyline, the exotic but approachable, so it’s a great one. The investor audience tends to be highly educated and that really skews towards House of Cards — well, you’re exception. You’re going to tell me that marketing-to-me kind of thing, well, House of Cards for the investor audience is a tighter match than Marco Polo. But really Marco Polo has been a great success and we renewed it for Season 2.
David Wells, CFO, Netflix, Inc. (NASDAQ:NFLX)
And Rich, one final comment regarding guidance, it is worth reminding folks that the investment community is hyper-focused on whether we’re within 100 or 200 thousands hundred thousand or of our guiding number, but when we are talking our guide for Q1 at 1.8 million domestic members, in terms of growth, the addition of even House of Cards Season 3 is a hundred thousand, a hundred and fifty thousand so we’re talking about on the margin it’s helpful but it’s not the thing — it’s not the big thing that is going to drive the growth in Q1.
Mark Mahaney, RBC Analyst
Let me go back to Ted with two question on original content. Does the success then of Marco Polo lead you to look into more of this kind of relatively blockbuster type of productions? Secondly, in terms of the viewing of the seasons, just to be clear, are you seeing greater viewing of each of the original content — House of Cards, Orange is the New Black — are they increasing every year as you’ve seen really successful series do in the past? Are the audiences building up for each of those?
Ted Sarandos, Chief Content Officer, Netflix, Inc. (NASDAQ:NFLX)
The audience is definitely building season and season for each of those shows. I think if you see in our line up of upcoming shows that we have some pretty epic and pretty spectacular shows upcoming, like Daredevil, like Sensei that are done in a very big scale. Remember, we are releasing 320 hours of new original programming this year alone and in it there’s a mix of big epic spectaculars, some smaller productions, but probably equally loved like comedy from Tina Fey and Robert Carlock, the Unbreakable Kimmy Schmidt, and other shows as well, like Grace and Frankie with Jane Fonda and Lily Tomlin. So we’re not going after one kind of audience or one type of show. Tastes are super diverse, we have a big subscriber base and we’re trying to serve all of them.
Richard Greenfield, BTIG
When you look at subscriber growth, David, obviously you’re looking for slower growth or slower net adds as you look on a year-over-year basis, should investors just assume that a kind of 20% annual decline or the content that Ted’s talking about, is there a potential to reaccelerate that when you can have more adds domestically in 2016 and 2015, and then tied to that, you gave out your first ever margin guidance for 2020 of 40%, was that tied to a specific subscriber number in your head, or is there a pricing flexibility when you think pricing is noticeably higher? How do we think about how you get to that 40% contribution margin?
David Wells, CFO, Netflix, Inc. (NASDAQ:NFLX)
So I’ll take the first part. It certainly could end up higher right now. We’ve learned our lessons on giving four-year guidance on member numbers so we tend not to do that. But what we are saying is, the current trends that we saw in Q3 and Q4, extrapolated forward, are down year-on-year in terms of net addition growth. We have a lot of content as Ted just talked about coming out in Q1 and then in the rest of 2015. So, we certainly could see it jump up, it’s really hard to know but I think the prudent thing for us right now is just to continue to extrapolate the current trend that we are seeing and that was down year-on-year and that’s what you’ll see reflected in our Q1 guide.
In terms of the margin guidance for 40%, it isn’t the first time we actually got to 30% right in terms of setting a margin target out there. What we wanted to give investors some guidance in terms of long-term margin growth and what it’s about for us is the steady march upward of about 200 — averaging about 200 basis points a year, we’re going to have some lumpiness with the content coming in terms of heavy quitters at content introduction, we had accelerated amortization on that original content which tends to pressure the P&O and those quarter where we launched a lot of content.
But I think for the 40% it’s the continued steady growth of the business and we think we have the flexibility and the model that doesn’t require an 80 million subscriber or 90 million subscriber business to get there. We can get there with the growth that we see later today.
Mark Mahaney, RBC Analyst
Alright David, can I ask about the pricing elasticity you talked about that a fair amount in the press release. Two quarters ago, it seemed like there was a lot of conviction in the pricing power last quarter, some questions now, it seems like there’s greater conviction. Do you think you really have enough data points — I know you mentioned Mexico, sounds like you did some additional research on some of the newer subs coming in, do you have other markets that you’ve looked at and you’ve results from there that give you the confidence that you actually — there is this pricing elasticity or pricing power? Do you think we could going forward seeing a dollar price increase every other other year, every two years and maybe with the year grandfather?
David Wells, CFO, Netflix, Inc. (NASDAQ:NFLX)
I don’t think we’re talking about a dollar to the consumer price increase every year. What we’re talking about is using our tiers to provide value and choice for the consumers to steadily grow our average subscription prices over time. That doesn’t necessarily require the frequency of any annual price increase. I think what you should expect from us is steady growth of our AsP and will disconnect pricing. I don’t think there’s any reason for us to have a global single event. We look at pricing in each market and we’ll grow it accordingly to what we think makes sense in each market.
In terms of evidence, sure, we have seen growth persists through pricing introduction, or raises to those markets, so I think besides Mexico we’ve got some other examples. Ultimately, it will rest upon when those grandfathering expire so we still have that to come but we think we have enough evidence today to look at it and say, the growth that we saw that slowed down in Q2 and Q3 wasn’t related to the pricing. We still scratch our heads a little bit in terms of explaining fully and as I’ve said before, it takes several quarters for you to get really comfortable or to answer it, to look at every piece of information. Right now, I think we got enough information to say, based on Mexico and other markets, that there is still plenty of pricing power for Netflix and not a reaction to the elasticity.
Richard Greenfield, BTIG
Just expanding on that, Reed, when you think about the way you price — you basically foreclosed on advertising as an incremental way to drive revenue. Are there forms of tiering that could actually be interesting to generate for more revenue for Netflix on a per subscriber basis?
Reed Hastings, CEO, Netflix, Inc. (NASDAQ:NFLX)
Sure. The biggest one is our $12 month plan is our plan for UltraHD. Now, today, there are very few televisions that are UltraHD and we only have a few titles. We have more than anybody else but we only have a few titles. But if you look ahead, two years, four years from now, many of the TVs sold at BestBuy will be ULtraHD and lots of our content will be UltraHD, and it’s a natural match. So I think what we will be able to do is, as the high end of the markets spends $2,000 to get ULtraHD televisions, it seems fair and natural to them that just like you pay for a difference between standard HD, that there’s a difference between HD and UltraHD. So that’s the way that we get incremental revenue without making any changes ourselves, by just letting the tide come to us.
Ted Sarandos, Chief Content Officer, Netflix, Inc. (NASDAQ:NFLX)
And Reed, if I could add to that, I think what’s exciting about this move is, unlike other format changes, this one is led by a thin layer of content but the front-end of the content. So we are shooting all of our originals series with very few exceptions in UltraHD — Breaking Bad, licences are all in UltraHD, Blacklist — all the very front line shows and then complimenting it with more and more of the catalogue, but it’s not a show off of weird, quirky things that look good, it’s actually the program and people are watching.
Mark Mahaney, RBC
Another question for Ted. You talked about your overall content — that you are gaining efficiencies in terms of your procurement of content. Can you tell if whether the competitive landscape is changing at all? Amazon may be getting critical acclaim, it’s hard to tell whether they are getting customer claim for their shows. Are you seeing anything in the market that suggests that your ability to acquire content, get content, is getting easier or harder?
Ted Sarandos, Chief Content Officer, Netflix, Inc.
On the original side, it’s a very competitive market and we are fortunately have positioned ourselves as a kind of a premier destination for the biggest and best projects. We don’t say yes to all of them and we see them show up in other places, but we do think that we are the first or second go-to for most of the projects that we are looking for.
On the licensing side is it kind of the same thing — which is, we increase our footprint, our ability to compete in that space really helps being able to get the most high profile shows. By doing that, by being more and more confident at earlier and earlier stages. So, being able to license that content with much greater confidence sometimes, pre-pilot gives us the ability to find those efficiencies.
Richard Greenfield, BTIG
But Ted, just to follow on that, stacking rights has become a real issue for US studios and they are now looking at your requirements for limiting stacking and also the global buying, meaning, you don’t want to buy things that don’t have that global license attached to it. Is that making it harder for you to buy content from some of the big TV produces as you look at over the course of the next 12 months, whether it be the Foxes, the Warners, the CBSs, or is that a non-issue?
Ted Sarandos, Chief Content Officer, Netflix, Inc. (NASDAQ:NFLX)
I think really the truth of it is that it doesn’t make it harder because it actually makes it more attractive as the studios kind of streamline their operations, I think they are looking for more streamline ways to selling their programming efficiently. On the stacking rights, we’re not standing in the way of the network withholding those rights. We are just saying we’re not paying full freight if it is not fully exclusive. So if they want to withhold the right for stacking, they are welcome to do that, it’s just there is a price tag to it, and some portion of the $3 billion we’re spending this year.
Richard Greenfield, BTIG
But you are essentially limiting their downside but you are also limiting the studio’s upside, if they agree to sell the content to you. Is that fair?
Ted Sarandos, Chief Content Officer, Netflix, Inc. (NASDAQ:NFLX)
In what way?
Richard Greenfield, BTIG
Well, they don’t have the ability to sell it to — based on the success here, they are selling to you, let’s just say, pre-release. They can’t go out and sell it in other markets overtime if they basically limit the stacking, they obviously can’t leverage all of their other platforms with those full and season stacking.
Ted Sarandos, Chief Content Officer, Netflix, Inc.
They can do it, Rich. They just can’t do it for free.
Richard Greenfield, BTIG
Right.
Ted Sarandos, Chief Content Officer, Netflix, Inc.
Yeah.
Mark Mahaney, RBC
Question for Reed. Reed, a couple of months ago, I think HBO talked about plans to launch a stand-alone streaming service in sometime in 2015. Any thoughts you have on what kind of impact that can have on your business, since specifically, do you think there is a probability that there would be a broad-streaming solution that will come out that at price point lower than Netflix?
Reed Hastings, CEO, Netflix, Inc. (NASDAQ:NFLX)
It’s really hard to speculate on what they’re going to do on pricing to the degree that they go really aggressive and match Netflix’s price for HBO, then it is extremely disruptive to their current ecosystem since the prices are higher than that. They generally give in the signal that they are going in softly in terms of not going too disruptive using existing partnerships. That would tend to imply a litle bit higher price point. In the Nordics, they did choose — which is the first place they competed over the top — to be directly on top of us, about 79 Krona for pricing.
So we’ll just wait and see. I think even at they would have matched us in pricing, it’s just going to be a lot of people subscribing to both. I think over the last five years, with HBO and Showtime, when Showtime has a great run with Homeland and The Affair, it increased Showtime’s subscriptions. It doesn’t decrease HBO. And I think we’d see the same with us and HBO which is they do great work, people will additionally subscribe to them because their cost is pretty small per month, ours is small per month, relative to all the other entertainment options. So it is definitely not a zero-sum situation.
Richard Greenfield, BTIG
I guess both Reed and David on the next question as it relates to Dish and Sling TV. MVPD integration in this country has been really a challenge for Netflix. I think you’ve had a lot more success signing deals outside of the United States. What does the Dish deal mean initially in terms of the willingness in the US? Will be ever see you on the X1 integrated into the platform? And then to the extent that DISH is actually creating subscribers, this is the part for David, curious how you are compensating Dish if they are able to actually grow your editions?
Reed Hastings, CEO, Netflix, Inc. (NASDAQ:NFLX)
I can answer both but certainly not going to talk about the financial details with Dish. Dish has always been a maverick doing something’s first, to the degree that they enjoy great success like Virgin in the UK with the platform and it helps the Hopper get more popular because it is also an internet platform. I don’t think it is likely that Dish’s competitors would want to call off that benefit and integrate with us. But right now, everyone is in a watch-and-see, let’s see how Dish succeeds with the Hopper hardware which is what has Netflix and that is independent of Sling TV so those are two different things.
Richard Greenfield, BTIG
What do you think of Sling TV? I mean a lot of people have downplayed it, what do you think of the offering and it’s impact on your business specifically?
Reed Hastings , CEO, Netflix, Inc. (NASDAQ:NFLX)
I don’t think we’ll see impact in our business. It’s a great start. Charlie Ergen’s a great entrepreneur and I think he sees the future that it is internet-centric and it may not be the perfect offering today but it’s got $20 a month, very attractive pricing. He’s been an incredible entrepreneur in terms with starting with something small, like with the early Dish and building it in to be the internet MVPD, so it’s great for him. It adds some competition in that market but I don’t think it materially changes the desire to have Netflix with our unique and exclusive shows.
Mark Mahaney, RBC Analyst
Reed, on the MVPD integrations in Europe, were any of those material enough to have caused some of the upside we saw in this tier guidance? It the December quarter or in the guidance for the March quarter?
Reed Hastings , CEO, Netflix, Inc. (NASDAQ:NFLX)
They are deals that we worked on for a long time so they were all built-in to the Q4 guidance.
Richard Greenfield, BTIG
Reed, you have not updated us on streaming metrics in a long time. I think Neil Hunt gave the last statistic almost a year ago in terms of where you are now on a monthly or quarterly global basis. Some color there and then just tied it up — we got a lot of questions emailed in in terms of just split where it stands today in terms of devices given the role of better wireless networks. How big is none in-home usage — on tablets and smartphones? Is there any color you could provide on movies versus TV in terms of absolute amount of absolute volume of streaming?
Reed Hastings , CEO, Netflix, Inc.
There’s been no remarkable changes so TV shows watching is bigger than movies, that’s been consistent. We said personal devices: PC, tablet, phone, that varies by markets, some 30, 40% of viewing, and TV-based viewing being a large screen shared being the majority of it. No particular change in those matrix.
In terms of mobile networks, consumers still in those countries are quite conservative because because of the data caps typically 2 gigabytes or 5 gigabytes in terms of watching video on. So we see a lot of tablet and smartphone usage but almost always on wifi networks and then they are careful about how they use the cellular networks because of the caps and the fear of overages.
Richard Greenfield, BTIG
And in total hours?
Reed Hastings , CEO, Netflix, Inc.
Total hours continue to grow. We haven’t hit any super sexy milestone that we’ve chosen to make an event about which is when we tend to do those things. But total hours, of course, that’s going up. But more importantly, median hours has continued to climb in every market as we make the programming better and better. So that’s the main thing we track internally and it’s just very exciting to see as the devices gets simpler to use, as the UI gets more personalized, as the content gets better — we see it directly reflected in the number of median hours and that net is the closest correlator with retention and word of mouth. Because if you are using Netflix a lot, you are much more likely to stay with us and to recommend it to your friends.
Richard Greenfield, BTIG
But that must mean neither closing in on kind of two hours per subscriber per day if you’ve been growing consistently on the median basis.
Reed Hastings, CEO, Netflix, Inc. (NASDAQ:NFLX)
Well I will leave that speculation to you and when we get to a great milestones — there’s a fair amount of seasonality so we might hit numbers like that in peak times like holiday periods but not necessarily sustain that over the whole year.
Ted Sarandos, Chief Content Officer, Netflix, Inc. (NASDAQ:NFLX)
I guess Rich will have a big take on it, whatever that is. Interesting anyway.
Mark Mahaney, RBC
David let me bring you back in the conversation. You talked about generating material global profits than expected but you also talked about a billion dollar debt raise, so kind of square those comments a little bit and in the timing of the debt raise, when you would expect then and why you would choose that versus equity?
David Wells, CFO, Netflix, Inc.
Sure, Mark. I think in terms of profits earlier than expected, it’s more than we have clear line of sight, in terms of rolling out the rest of our international expansion. So, we mentioned that in a couple of years of heavy investment, I think that is going to drive capital needs which then leads into the conversation around the capital. And we think right now is still a good time to secure long-term, low-cost capital in the debt market and that is why we’ve chosen debt. It’s what we’ve done in the prior three years actually, we’ve done a raise every year.
Mark Mahaney, RBC
And I think your points have been that the purpose for the capital raise is largely to fund international expansion, just one check, if that’s through it, and then secondly, there is a little commentary in here about expanding into China modestly. I am not sure what a modest expansion in China is. Sounds like it could be expensive. Are there particular limits you’re going to put on that?
David Wells, CFO, Netflix, Inc.
It will be quite modest. I can let others speak to that as well. Basically, the incremental cost to launch in the rest of the globe is smaller relative to the individual customized launches that we’ve done to-date in these other territories. So you’ll see the level of investment for the countries that we’ve talked about and the countries we will talk about in ’15 be a little bit higher than the level of investment going forward for basically the countries that we haven’t yet launched in.
And back to your cash comment, it’s really tough to separate the cash — when you have capital in a business and use $1 in content and $1 to find international expansion. It is really tough to sort of separate those things. Both of those things right now are requiring cash for Netflix. The international mainly because it reduces a dollar of profit that we would otherwise have and the content because we’ve chosen to produce more and more of our own content, and that means we have to fund the production which has slightly more upfront characteristics than a licensing model where we pay a little bit more out over the life of the deal.
You’re not in markets like Japan — when you look at India, when you look at South Korea — those would seem like very expensive markets to enter from just a content build-up. What’s the disconnect there?
Reed Hastings, CEO, Netflix, Inc. (NASDAQ:NFLX)
Let’s go back to China and then we’ll sit that. So, Mark, on China, what we said in the letter is that we’re exploring options. So, we need to get a license, that’s not a 100% clear that we will be able to do that. So, we’re figuring that out. What we said is, if we go, it will be a modest investment because we won’t have that much content, we are going to be very conscious, and fewer away along into that process if we ever get that license.
And the to Rich’s question, yes, there’s many other high GDP markets — GDP per capita — like South Korea and Japan. Those are big invest–
Richard Greenfield, BTIG
Somewhere in the Midwest last month. I am just curious, are there any kind of key takeaways that we should be thinking about that you learned or that were discussed that would be meaningful to investors?
Reed Hastings, CEO, Netflix, Inc. (NASDAQ:NFLX)
Yeah, I think the key thing is that everyone sees that internet TV is really becoming substantial, so we saw this with CBS All Access, 15 years of shows, any episode. I really lean forward move. You see this with ESPN, both heavily investing in WatchESPN. And if you think about in from an ESPN perspective, as long as people are subscribing, whether a third of the time they are on WatchESPN and two-thirds of the time on a linear channel, or the reverse. It’s all the same to them. So they’re being forward leaning and investing in WatchESPN and by being in a Dish 36:11 , making sure that they stay accessible by every home in America.
So, just across the board, you see this phenomena that we described a years ago — channels becoming apps, people using them on their smartphone and Smart TV just as easily. So the fundamental pieces is getting validated, that’s great. And for us, it’s both more on competition and it is more consumers coming in the market, speeding up because internet TV is becoming so mainstream.
Mark Mahaney, RBC
Question for David on the streaming content obligations, those rose to $9.5 billion in the quarter. What levels are you comfortable with ? Should these continue to rise, this is a sub-base rise. Is there a natural level that would show what the appropriate range is for those?
David Wells, CFO, Netflix, Inc. (NASDAQ:NFLX)
Well there is no absolute number but when I look at the streaming obligations in the table and even the ones that are not estimable but you can put a range on those as well, a little bit wider. i would say that the ratio has been fairly consistent in terms of it is scaling with our business. So you should expect them to continue to grow especially as we launch additional international territories. In a produced contents side, the more we license content, the more we that will grow in an obligation.
The interesting about it is that in the production world, when you produce content and you own it, because you have the discretion to cancel it at any time, it doesn’t show up as a content obligation. So if you look at some of our peers and some of our suppliers in Hollywood, you don’t have the same sort of accounting when it come to an obligation, even though you may say that there’s a high probability of finishing or producing a full budget on a particular project.
I would say, I think in terms of our revenue and our revenue per obligation, I think it has been trading in a tight band. It’s been on a tight band along with our scale growth.
Richard Greenfield, BTIG
Sticking on financials, can we talk about internet connection a little bit. You signed deals with four of the large companies over the last several months. Curious how those internet connection fees add up. Is this a number where it is now adding up to north of 10 million plus a quarter? Related to that, maybe a question for Reed in terms of do you expect the FCC policy on internet regulations to actually make the deals that you signed with ISPs actually invalid meaning you won’t have to pay for interconnection going forward.?
Reed Hastings, CEO, Netflix, Inc. (NASDAQ:NFLX)
That would be upside Rich that we would not expect. That they would trump existing contracts. But what’s been great for Netflix is the general idea of the internet as utility, open to all, not for discriminatory use has really taken hold. Of course the shift we’ve seen over the last year around perceptions on entitled to is amazing to see him just well once. There appear to be on the edge of an acting title to and generally codifying the idea that at least in the US, the internet is a utility for broad social good and wide open access and that overtime, if it happens, will significantly insulate us from any accelerating tax for interconnection. So, I imagine we would likely move out the current deals and that’s what’s in our plan.
David Wells, CFO, Netflix, Inc. (NASDAQ:NFLX)
Maybe I can add just on the financials Rich, we don’t talk about the specifics of a deal but we continue to be very happy with the shift to managing our own CDN. The percentage of our expense on streaming delivery continues to be quite modest relative to content.
Reed Hastings, CEO, Netflix, Inc. (NASDAQ:NFLX)
Mark and Rich, why don’t we hit one more question each then we’ll wrap-up.
Mark Mahaney, RBC
Let me field one to Ted then. Ted, just give us an update on the Disney content. I know some Disney content will be streaming into that key Canadian market this year, but going forward, I think there is a very large library of Disney content that will coming on. Just some color about how big that opportunity is, or how much content that is and what kind of impact you think that can have in terms of filling up the fillet 40:35 of whatever of offerings to families on Netflix.
Ted Sarandos, Chief Content Officer, Netflix, Inc.
You need to — any other studio, we’re excited about the 40:42 Pay One opportunity with Disney because those movies are not just movies, they are amazing family content that gets watched over and over again, forms great loyalty with our subscribers, and it is a real trust brand for parents as well.
So, we really have been expanding our relationship with Disney, even with the Pay One win, though, which I have been fairly dismissive of with other studios, including coming on in Canada this year and then it to the US next. I think that is going to be a very long term relationship, as global as you get, in terms of [inaudible] of Frozen this year all over the planet so it is very consistent with our desire to be more and more global with our programming.
Richard Greenfield, BTIG
Last question from us, although it will be a two-part question. The first piece coming on the DVD front. Obviously, DVDs still supplies a lot of profit, David, to your financials. Just curious, given the comments of at our wall had today their DVD business seems to be flowing pretty precipitously as they look into ’15, how do you think about the DVD business and the sustainability of those profits, and then, just a final wrap question for Reed, you’ve been so vocal on the ComCast – Time Warner merger and the dangers it poses, are you increasingly confident that this deal gets blocked?
David Wells, CFO, Netflix, Inc. (NASDAQ:NFLX)
Rich, let me take your question first. On the DVD, I continue to think it is going to have a long tail. In 2013, we lost 1.2 million of our DVD subscribers. In 2014, we lost 1.1 million, so slightly less. The margin has held steady for two years if you look at the contribution margin for the DVD business. So, it is going to continue to decline. We don’t have any illusions on that. But we think that there is a lot of people — for a lot of people, in rural areas and other cinephiles where the DVD makes sense for them and at $8 a month, it’s a pretty inexpensive add-on. So we’ll just continue to provide great service for these folks that really want it.
Reed Hastings, CEO, Netflix, Inc.
And Rich, the key difference about the roll is how to roll a red box is very new at least centric, so it is vulnerable to the pay per view substitution, whereas a broad selection renter like yourself on a stable business is much less sensitive to that.
The last question on Comcast – Time Warner, we’ve been vocal on the issues that would be presented to the US Society. If there is one ISP that initially would be 40% of broadband households and as DSL fades, pretty quickly would be over 50% of US households, we think that is a tremendous amount of power in one company so we think it would be a wise policy for the US to block that merger, so we’ve been consistent on that. Whether it happens or not, we don’t really have any direct sense. All we can do is advocate for what we think is great policy and see what happens.
Richard Greenfield, BTIG
Do you agree with the FCC move in what is broadband definition of the 25 meg? Does that makes sense to you?
Reed Hastings, CEO, Netflix, Inc. (NASDAQ:NFLX)
Yeah absolutely. Once you got an UltraHD video stream, that’s 15mb just a single stream, and you’re going to want video conferencing, you’re going to want online learning, you’re going to want all kinds of different applications, monitoring of your home, these kinds of things on video. So, 25mb is a kind of baseline for the next five years as opposed to past five years.
So with that, let me thank everyone for joining us on this call and thanks to Rich and Mark for conducting the interview. Thank you all.
