Netflix Q2 shines through downturn

Consumers are turning to rent-by-mail videos in ever-higher numbers -- perhaps to keep themselves entertained as they while away their long stints of unemployment (there's never anything good on during the day!) -- and Netflix is benefiting. The company reported second quarter earnings this afternoon, beating analyst expectations; though investors saw a tale of woe thanks to competition from standalone DVD rental kiosks and free online movies and TV. In Q2 2009, Netflix (NFLX) earned 54 cents per share, or $32.4 million, up 22% from 42 cents per share, $26.6 million, a year earlier; and compared to analyst consensus of 50 cents per share. But in after hours trading, investors said "meh," sending the stock down 26 cents from its close of $46.46, which had been a gain of $1.18, or 2.61%.

Subscriber acquisition cost was down significantly ($23.88 per gross subscriber acquisition, compared to $28.89 for second quarter 2008 and $25.79 in the first quarter 2009), although the churn rate was up slightly, to 4.5% from 4.2% in both Q2 2008 and Q1 2009. Also, revenues were a bit under expectations, $408.5 million compared to consensus of $409.7 million. And all evidence points to the obvious story: consumers are staying home, avoiding pricey trips to the theater and eating out, watching movies on Netflix and, as CEO Reed Hastings said in the analyst call, engendering "strong growth" in the streaming subscriptions.

Here's the story as I see it: a rising unemployment rate is great for companies like Netflix, as consumers spend more time than before at home, and may have to cut back on more expensive premium cable packages. Comcast's OnDemand service, for one, seems to have both reduced its free options and increased its prices for instant movie rental -- and begun charging for many TV series episodes -- making Netflix's fixed cost service more attractive.

However, perhaps this is what's keeping investors from cheering profits: in the analyst call, Hastings said that more consumers are starting to sign up for the company's cheapest rental plans just so they can stream movies over the Internet, contributing to a nearly 4% decline in average monthly revenue per user to $13.29.

Where Netflix has risk is in a greatly prolonged recession, in which consumers must choose between the variety of entertainment options that most are paying for concurrently, today. It's not unusual for one family to have a Netflix subscription, a cable package, and also to occasionally rent from a standalone DVD kiosk or video store (instant gratification), watch movies and TV series on Hulu or on the network sites, and go to theatres for new releases. In a prolonged recession, especially for those consumers who are forced to live on unemployment and whose savings and credit cards have been bled dry, the fixed costs will begin to be eliminated. Netflix could be the easiest to cancel, now that the digital conversion has been completed and Americans are more dependent than ever on cable companies to provide them with TV access.

However, Netflix is one of the cheapest options available, so true misers or consumers whose budget was severely limited might stick with the company. In a prolonged recession, Netflix loses; in a the worst of all possible downturns, perhaps, it would win.

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