Should Netflix Investors Worry About Profit Drop

Netflix Inc. (NASDAQ: NFLX) is on its way towards reaching its ultimate goal of dominating the global market as the company continues to expand and record strong user growth.

However, the stock of Netflix has witnessed a significant decline of up to 19 percent so far this 2016. The massive sell-off is due to worries of an imminent decline in domestic subscriber growth and the dropping profitability that Netflix would experience in the present year. Since investors focus too much on growth in subscriptions, NFLX stock has taken a beating this 2016.

Despite this, the online streaming giant reported strong domestic subscriber figures last quarter, which has worked to turn the focus away from subscriber growth and towards declining profitability.

Income from operations during the first quarter of the current fiscal year posted at $49.5 million, representing a 17 percent decline from the previous quarter when Netflix recorded $59.8 million. Yet, this number reflects a 49.2 percent decline on an annual basis, as the company reported $97.5 million during the first quarter of fiscal year 2015.

It is now reasonable why investors have suddenly turned their attention towards profits. The net income of the company for the first quarter of fiscal year 2016 has slumped to $27.65 million, down by 36 percent from the $43.2 million attained during the fourth quarter of fiscal year 2015.

Additionally, operating margins for the previous quarter also dipped by 75 basis points. From the fourth quarter of fiscal year 2015’s 3.28 percent, the figures dropped 2.53 percent for the first quarter of the current fiscal year. Similarly, the net income margins of Netflix have also taken a downturn, as it has tightened by 96 basis points.

Aside from profitability, market players are also worried regarding the saturation in domestic subscriber growth. In the month of April, Netflix has announced that Reed Hastings anticipates to see an addition of just 0.5 million new subscribers in the second quarter of fiscal year 2016. This figure reflects a strident decline from 0.9 million during the previous year.

Yet, Netflix Inc. added up to 2.2 million streaming subscribers from the domestic market during the first quarter. This is nearly parallel with the performance of the corporation from the prior year, which rebuts the idea that domestic growth is getting stagnant. In addition, the streaming corporation is also going to employ its much anticipated price increase of $2 to $9.99, for grandfathered subscribers, which add up to approximately 17 million.

Yet, given the strong pricing power and the demand for the services of Netflix, the price increase wouldn’t hamper new user growth, nor lead to any significant churn. Since the price hike would not trigger substantial service cancellations, this move will only improve the incremental revenue of Netflix, which might extend to hundreds of millions of dollars in the upcoming quarters. Furthermore, this would boost profits and revenue from the domestic segment, which would later on provide an increase in the average revenue per subscriber.

As of the time of writing, the stock of Netflix is changing hands at $93.80, down by 0.69 percent or 0.65.

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