Can Scandinavia Save Netflix
Muhammad is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
Netflix (NASDAQ: NFLX), the largest provider of video entertainment services via the Internet and postal mail in the United States, announced last week that it would be expanding into Scandinavia before the end of this year. The announcement ends over four months of speculation by market analysts that began when the company stated in April that it would be further expanding operations in the international arena. However, many observers of NFLX are skeptical this expansion will be successful, given several challenges the company faces both at home and abroad.
In the United States, NFLX provides two primary services to its customers: (1) movies, television shows, and other videos delivered directly to customers over the Internet for viewing on their computers or TV sets through the uses of devices like Roku or Xbox, and (2) DVDs that are mailed to customers for viewing. The company currently charges $7.99 per month for its Internet-delivery service with an additional $7.99 per month to add the DVD servicer. A Blu-Ray disc service is also available for an additional US$2.99 per month. The company changed its pricing in mid-2011, going from a "one price of $9.99 for everything" model to the current structure. The change caused a public relations nightmare for the company’s U.S. operations and caused NFLX to lose a significant number of customers. The company has refused to lower its pricing despite continuing calls for a return to the old fee structure from American viewers.
This controversy has caused Netflix to increase its focus on revenue from abroad. NFLX began offering its services in Canada and over a dozen Latin American countries in late 2010, and added the U.K. and Ireland in early 2011. (The DVD and Blu-Ray options are not available to consumers outside the United States.) While its Canadian business has been modestly profitable, NFLX's operations in Latin America, U.K., and Ireland have been a financial drain on the company, almost entirely eliminating the profits that NFLX has otherwise earned. The company had a net profit of $128 million at the end of the first quarter of 2011, but this fell by almost 99% to a profit of only $1.6 million for the first quarter of 2012. This jaw-dropping loss of net profit is entirely attributable to NFLX's business outside of the U.S. and Canada: the company lost over $192 million for the first half of 2012 from its business in the U.K., Ireland, and Latin America. As evidenced in the graph below, this loss has had a profound effect on NFLX stock, with a loss in value of almost 50% in a little over five months.
The company announced late last week that it was going to continue its international expansion efforts by beginning service to Denmark, Finland, Norway and Sweden by the end of this year. NFLX stated that it had chosen the Scandinavian market for further expansion because it believed it could become profitable relatively quickly, due to that market's high level of education and Internet usage. However, NFLX representatives have stated that they expect the company to continue to lose money in the third and fourth quarters of 2012, and they do not expect the company to return to profitability, even with the addition of the Scandinavian market, until early 2013. If that is the case, 2012 will be the first year for Netflix to not turn a profit in a decade.
In addition, NFLX will face a revitalized challenger in the U.S. domestic video business. At the end of last week, Blockbuster, the largest video rental chain in the United States, announced the opening in Colorado of its new international headquarters as it struggles to regain a greater share in the U.S. market. Although the chain went through well-publicized massive layoffs, store closings, and bankruptcy proceedings in 2011; it is still a major player in the U.S. retail market with more retail consumer locations than Costco and Apple combined. After emerging from bankruptcy proceedings, Blockbuster was bought in its entirety by the U.S. satellite TV giant Dish Network (NASDAQ: DISH), which plans to intensify its competition against NFLX by further expanding the brand's use of unmanned video rental kiosks at convenience stores throughout the U.S. and aggressively marketing its video service by mail. Blockbuster's "Total Access" provides unlimited DVD, Blu-Ray and game rentals by mail for as low as $9.99 per month. In addition to operating hundreds of retail locations throughout the United States—unlike NFLX—Blockbuster also promises that the library of movies and TV shows it has available are also more current than that of NFLX, because of numerous private agreements the company has entered into with movie studios and television networks for early and first access to such programming.
NFLX also faces stiff competition from Redbox, a video rental service operated by Coinstar (NASDAQ: CSTR), that currently provides rentals only through unmanned automated kiosks at thousands of U.S. retail locations. Redbox sales have increased by over 22% so far in 2012, with the company attributing most of this increase to sales that it has poached from NFLX. CSTR announced in June that it will begin later this year a "Redbox Instant" DVD rental subscription service to intensify its competition with NFLX.
Given NFLX's poor track record in international markets and its increased competition from Redbox and the revived Blockbuster, I really don't see how Netflix can—at least in the short-term through early 2013—get back to where it was before the price increase debacle of 2011. NFLX's stock value has dropped by approximately half this year alone and I simply don't see how adding the Scandinavian market to its mix can make up for all of the negativity the company has suffered recently. It must be noted that the Canadian market for just about everything—including video services—is probably closer to that of the U.S. than any other country, yet NFLX has only been "modestly" successful in Canada. And the competitors are on NFLX’S heels. NFLX is simply going to have to show more than just a mere expansion into an international market that has generally been a disaster for the company. Otherwise, I simply cannot recommend this stock.
muhammadbazil has no positions in the stocks mentioned above. The Motley Fool owns shares of Netflix. Motley Fool newsletter services recommend Netflix. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.