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Two fun facts to start this one:

1) Netflix is planning to spend $15 billion on content in 2019.

2) In 2018, the company added 4x the number of international subscribers than in the US.

  • International additions: 22.94 million
  • US additions: 5.68 million

We'll start with competition. Obviously, streaming is heating up.  Netflix believes there is still a lot of room for growth but attention is a scarce resource.

Netflix does have a BIG content lead though.

A lot of investor attention is on Disney+ right now, but I’m skeptical that Netflix will face a ton of pressure. Sure, there may be a little bit of increased churn, but the endgame (no Avenger pun intended) for Disney is different than Netflix.

Disney+ is another direct-connection hub for Disney fans. At $7-ish/month, clearly Disney is not maximizing revenue. But imagine all the data it will be able to collect. It will have deep insight into how fans interact with its content. Oh, your daughter watched Frozen 3 times in the past three months, here’s a conveniently placed ad for our new Frozen-themed Alaskan cruise. That sort of thing.

In this light, Disney+ is a way for Disney to expand its ARPDF (average revenue per Disney fan). Fundamentally, this is different than Netflix’s ideal to be the leader in streaming.

Ok, we needed to cover that. Onto the business model!

Netflix has three revenue segments:

1. Domestic streaming (US)

2. International streaming

3. Domestic DVD

As you can see below, US streaming makes up about 75% of the contribution profit even though it has 22 million fewer subscribers.

Moving onto subscriber growth, in the last 6 years, Netflix added 33 million US subscribers and 76 million international subscribers.

2018 Total Subscribers

US: 58.49 million

Int'l: 80.77 million

Just look at the immense growth of international subscribers. In 2012, US subscribers outnumbered international by a factor of 5, but now, international is much bigger.

In the US, memberships have become much more saturated than international. You can see that in the US, Netflix has added between 4-6 million subs vs. the accelerating net additions from international.

In the US, contribution margins are much more mature, which is why 75% of overall contribution profit comes from the US, even with the smaller absolute number of subscribers.

As a note: Contribution margin = revenue - cost of revenue - associated marketing costs.

This is a key chart. It's the US contribution profit as a percentage of overall operating income.

Netflix still makes 165% of its EBIT from the US, even though the international memberships outnumber the US by 22 million.

Note that EBIT and contribution profit are different in that EBIT includes all of the operating expenses (R&D + SG&A) instead of just the associated marketing costs.

One main reason for this is the average revenue per user.  The US ARPU is 24% higher than international.

Netflix has raised prices a few times. The current standard plan stands at $12.99/month right now.

As you can see below, Netflix’s overall ARPU's has decreased with the move to streaming and an increase in international subscribers. But now it is coming back due to the price increases.

Further, here's a look at the company's EBIT margins. Bonus points for guessing when they starting investing heavily in streaming. 😉

For 2019, guidance is for 13% operating margins.

The improvement in international contribution margins is a huge piece of this.

I'll end with this chart.

Netflix's "moat" is having a low cost per subscriber. It has 151.6 million subscribers so it can maintain a lower cost structure on a per sub basis. This is why it will be difficult for any streaming service to knock the company off its perch as the leader. It has the biggest subscriber base so it can more easily spread its content costs. This results in a lower content spend per subscriber, which means it can spend more to acquire subscribers and the virtuous flywheel continues.

That’s the moat.

Plus, it is now actively monetizing the content through partnerships and licensing.

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