Buy or Sell? Get the Netflix Facts Straight!

There's a lot of talk out there on the interweb about all of the stumbles and problems Netflix (NAS: NFLX) has had lately. Though I'm not one to defend their recent mistakes, I think there are a couple of things that need to be cleared up before the company is written off completely.

Misleading from the get-go
In explaining Netflix's enormous drop on Tuesday, I came across an article that stated, "It's all because of an earnings report after the bell Monday that showed customers left in droves and revenue missed forecasts by a mile."

Yes, customers did leave in droves -- to the tune of 800,000. But revenue missed forecasts by a mile? That's funny -- every source I can find said that the company got $10 million more than analysts were expecting.

It's even more odd that buried at the bottom of the page, the author reverses himself, stating, "Revenue surged to nearly $822 million, $9 million above forecasts." So was it a miss, or a beat? It's not quite clear what stance is being taken, but if the casual reader only made it through the first paragraph, he or she certainly wouldn't have stumbled on this news.

What's causing the drop?
And while the sentiment seems to be quite popular among many publications, I don't quite think we're getting our cause and effect correct.

While many would like to blame Tuesday's huge drop on price increases and the Qwikster debacle, all of those things were already baked into the stock. One article stated that, "Netflix ended September with 23.8 million U.S. subscribers, down about 800,000 from June -- significantly worse than expected."

Really now? While those numbers are certainly correct, the "significantly worse than expected" is curious. In reality, the company announced in September that those numbers could be more like 1 million lost customers.

So, is it more than expected, or 200,000 less than expected?

The real reason: expansion
I have a different theory. While the pricing and Qwikster missteps were certainly not helpful for the company, what's really driving down prices this week is expansion -- expansion of geographic locations (43 Latin American countries, plus the U.K. and Ireland), and expansion of the streaming library.


U.S. Contributing Profit

International Contributing Profit

Total Profit

Q3 2011




Q4 2011*




Source: Netflix investor relations. *Denotes estimates. All numbers in millions.

If you look at the chart above, you see that U.S. profits (and remember, only U.S. customers were affected by the pricing and Qwikster debacle) could actually bring in more money in the fourth quarter than the third. It's the drag of international expansion that's going to really start weighing on earnings.

And if that looks bad, it gets even worse next year, as Hastings warns, "For a few quarters starting in Q1, we expect the costs of our entry into the UK and Ireland will push us to be unprofitable on a global basis."

What's the takeaway?
Of course, if domestic business wouldn't have suffered recently, it would greatly help offset the international costs; but as I've said before, those domestic losses were already baked into the price. And to be fair, the article that I've referred to did mention the international expansion -- but as more of an afterthought.

In the end, the bears could be right about Netflix, it could be destined for the dustbin. That's certainly not a foregone conclusion, though. As many Fools have to ponder whether buying at these attractive prices is worth the risk, it's important to understand where that risk comes from.

Yes, this summer's series of unfortunate events hurt, but they're now past. And they've already taken their toll on the company -- I don't think that's where the focus should be.

With Amazon's (NAS: AMZN) streaming offerings, Apple's (NAS: AAPL) rumored TV in the works, Coinstar's (NAS: CSTR) Red Box surging in popularity, and with content providers like Starz (NAS: LSTZA) and Disney (NYS: DIS) likely to demand more for their content, this -- along with costs and benefits associated with international expansion -- is where your focus should really be.

It's a complex situation, and I highly recommend you add Netflix to your watchlist so you can help stay on top of all the latest news.

At the time thisarticle was published Fool contributorBrian Stoffelowns shares of Netflix, Apple and Amazon. You can follow him on Twitter at @TMFStoffel.The Motley Fool owns shares of Apple and Microsoft.Motley Fool newsletter serviceshave recommended buying shares of Microsoft, Netflix, Apple,, Coinstar, and Walt Disney; creating a bull call spread position in Apple; and creating a bull call spread position in Microsoft. Try any of our Foolish newsletter servicesfree for 30 days. We Fools may not all hold the same opinions, but we all believe thatconsidering a diverse range of insightsmakes us better investors. The Motley Fool has adisclosure policy.

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