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Netflix (NFLX) MII Presentation September 10, 2002

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  • Netflix (NFLX)

    MII Presentation

    September 10, 2002

  • Service

    Maintain a list, 8 recommended

    CinaMatch: Netflix will send the highest on your list when received

    Average user has rated 145 titles

    Maintains 25 title list

    2-4 day first class delivery from 10 distribution centers

    All DVDs come with a return envelope

    One month free trial

    $19.95 per month for 3 DVDs

    Not late fees

  • Customers

    Carol Duncan, a 57-year-old postal carrier who lives in rural Dillwyn, Va., 70 miles west of Richmond, said she has little use for the recommendations. She finds Netflixs long lists of "ancient movies" -- to her, anything that's not a new release -- especially annoying.

    Duncan and her husband also wish Netflix would deliver movies faster. While the service can be speedy in urban areas (Netflix opened 10 regional distribution centers this movies faster. While the service can be speedy in urban areas (Netflix opened 10 regional distribution centers this year), Duncan says delivery to Dillwyn hasn't improved since the Gaithersburg facility opened. While she's entitled to three titles at once, often she has none or only one.

    "I want to get my money's worth if I'm paying $20 a month," she said. "Otherwise my husband and I will just watch pay-per-view movies on our DirecTV system."

  • Customers

    Martin Kane, a trade show manager in Bowie, said he and his wife generally get their replacements within two or three days of returning one. Occasionally they have to wait for their top choice. "We have been wait for their top choice. "We have been waiting for a while for 'All the President's Men,' " he said. "That apparently is a hot rental for older movies."

  • DVD Market

    35M players sold to date penetrating 1/3 of US households

    Rapid year-over-year growth

    Prices from $200-500 have fallen to $100 level

    Netflix still must change the way people rent movies. Rather than go to the video store on Friday night, they must build a library ahead of time and hope they have the right DVD on movie night.

  • Management

    Reed Hastings

    His epiphany came in 1997. He had just sold his software company, Pure Atria, to Rational Software, and after returning a late copy of "Apollo 13," he garnered a $40 fee. There had to be a better way. be a better way.

    "We weren't particularly attracted by the dot-com phenomena but "We're certainly attracted by people that we trust-- like Reed." - Mike Schuh, General Partner with Foundation Capital.

    President of California state board of education

  • Equity

    Market Cap:

    $285.4MLock-up Period:11/18/2002Short Interest:

    46.7% Float: Float:

    5.5MInstitutional:

    10.27MOutstanding:

    22MOptions:

    11M

  • Competition

    Retail

    Mail

    Online

  • Indirect Competition

    Cable providers like AOL and Comcast

    Direct broadcast satellite providers like DirectTV and EchoStar

    HBO, Showtime, and other premium networksnetworks

  • VOD

    5-15 years away from mass commercial use

    There will be a little bit of "buffering" and then the movie begins playing.

    Movies currently offered at 700k bit rate

    Harry Potter $3.99

    To download a feature length film, it will take anywhere from 1-4 hours with even the fastest Internet connection from 1-4 hours with even the fastest Internet connection 550MB

    "From Microsoft's perspective, digital entertainment and digital media are important catalysts for driving the next big cycle of PC upgrades, and The challenge for Microsoft is to convince content creators their intellectual property won't be pirated - Directions on Microsoft analyst Matt Rosoff

  • Blockbuster

    Cash: $230M

    Market cap: $4.26B

    Q2 Revenue: $1.27B

    48-52M active accounts

    8,000 stores

    64% of US within 10 minutes of store

    Co-branded DIRECTV pay-per-view

  • Rental Market

    10% of Blockbusters revenues come from late fees

    Peak time is 30-90 days after a release

    Netflix still must change the way people rent movies. Rather than go to the rent movies. Rather than go to the video store on Friday night, they must build a library ahead of time and hope they have the right DVD on movie night.

  • Blockbusters Reply

    "One of the things we are actually going to be testing in our stores in the not-too-distant future is a prepaid mailer," "We don't know whether there is going to be a huge demand for that product." - Blockbuster CEO John Antioco, July 2424

    Blockbuster last week lengthened its standard rental window for all rentals except new releases by two days, to seven

    DVD Freedom Pass

    10 week rental card and free DVD for $24.99

  • Q2 Financials

    Revenues: $35.6M

    Gross profit: $18.3M

    Operating loss: $(2.5)M

    Stock-based compensation not included: $(2.7)M$(2.7)M

    Net loss: $(5.2)M

    Cash & short-term: $91.7M

    Current assets current liabilities: $64.9

  • Financial Trends

    High fixed-cost structure will increase DVDs, Infrastructure, up front fees for DVD licensing

    Gross margins expected to fall 3%

    Subscriber acquisition: $34 up from $25 Subscriber acquisition: $34 up from $25

    10 new 3,000 square feet distribution centers will impact income

    Q3 Revenue Guidance: $37-40

    Q4 Revenue Guidance:$41-44

  • Concerns Churn: 6.7% declining

    Churn calculation is misleading

    Operating cash flow Does not include amortization of DVDs

    Growing 12,000 DVD database Capitalized, cant sell, rental window is 30-90 days

    DVD market is growing Increased availability will make it easier for consumers to rent/buy at retail locations

    Longs agree that the current business model is not sustainable in the long-run

    Q: What happens if a movie gets lost in the mail?A: There is no cost to you. Just report it as "lost" in the "Shipping Problems" section of the Your Account page.

    If Netflix thinks having a Wal-Mart or Blockbuster in the industry will help them, they are nuts President of DVD rental company

  • Interviews with ReedCNBC: May 23, 2002

    MACCALLUM: When do you expect to be profitable, Mr. Hastings?

    HASTINGS: We don't have any projections on that.

    MACCALLUM: All right. I'm sorry. Can you tell me that again? I didn't hear your answer.

    HASTINGS: We don't have any projections on profitability.

    MACCALLUM: All right, no projections. MACCALLUM: All right, no projections.

    Thank you very much and good of you to spend sometime with us. Appreciate it.

    HASTINGS: Thank you very much.

    Biz Buzz: January 25, 2001

    PILGRIM: All this seed money, how many subscriptions do you need to break even? You're not breaking even quite yet, are you?

    HASTINGS: No, it's true. Like many Internet businesses, we're not yet profitable, but we have acquired over 300,000 subscribers that are active subscribers today. And we break even at 500,000. So, you know, we're not there yet but we're over halfway there.

  • Churn

    The key thing with the service is, as you said, you get to try it. It sounds great, but it also sounds kind of strange, I mean, to rent the movies by mail. And, what we encourage people to do is try NetFlixfor free. Anyone can go to the web site and try it for free. Get a bunch of movies on us. And, what we've found, nine out of ten people stay a paying subscriber. Reed Hastings Money & markets June 24, 2002

    (603,000 +236,000 670,000)/(603,000 + 236,000)/3 = 6.7% per month Q2 Financialsmonth Q2 Financials OR 20.1% per quarter, 24% assuming 9/10 stay Q2 Trial subscribers down 24%

    The business is dependant on having more than a quarter of the current subscriber base as trial members in order to replace lost ones on a continual basis

    90-95% of customers who leave will not come back again

  • Negative Trends

    Targeted areas away from retail locations are less likely to have Internet and DVD and will have to wait longer for delivery Growing customers increases number of hit titles necessary to maintain customer service Saturation: Most likely consumers were targeted in initial marketing wavestargeted in initial marketing waves NetFlixs success speeds up their competitors interest in their model Net distribution centers will generate more fulfillment expenses, geographic issues, high expectations, and more rentals per month DVD sales provide cheap used DVDs currently around $9.99 including shipping

  • Conclusion

    Business model is not sustainable

    Competitive threats

    Pressure on VOD technology developers

    Increased costs to sustaining growth will impact this years financialsimpact this years financials

    DVD presence is increasing at retail locations

    A large amount of shares will hit the market after the lockup period from employees and investors

  • Risks

    Best Buy is helping acquire subscribers

    Revenue and subscribers are growing

    Potential acquisition candidate

    Forecasting profitability before stock based compensation expense in 2003based compensation expense in 2003

    Service works

    Some advertising is linked to performance

    High capital need to grow verses competitors

    Penetration of 3.2% in local area

  • Questions?

    End of Show