Industry Analysis
Netflix is a dominant player in the Video Streaming Industry. We can analyze the industry where it is operating with the help of the Five Forces Analysis.
Competitive Rivalry- Strong
The competitive rivalry among the industry players is a strong force that are bringing down the prices and thus squeezing margins. The biggest threat comes from the ever-increasing competition from YouTube, Amazon, Direct TV, Hulu, HBO and many other local players in each market. The company needs to build a sustainable differentiation into its business model and product. It also needs to increase the scale of its services in order to get the economy of scale into play and beat the competition. Another option is to collaborate with the competition and increase the market size instead of fighting for the same market share.
The threat of New Entrants- Strong
The threat of new entrants is a strong force due to not having much stronger barriers to entry. Moreover, new players often come with superior or unique technology along with doing things differently and putting pressure on the prices. Netflix needs to significantly differentiate its product from others and raise barriers to entry.
Bargaining power of suppliers- Low to Medium force
Netflix is the largest company and procures resources from numerous suppliers. Therefore, its bargaining power is quite high. However, at the same time, there are some suppliers which hold the key ingredient or parts and thus the bargaining power of the suppliers is low to medium.
Bargaining power of customers- Low to Medium
The bargaining power of Netflix customer is medium to the strong force. This is because there are a huge number of customers and everyone have its own choice so they are very demanding and then there are almost zero switching costs due to which customers can easily switch to another streaming service. Netflix can further control the bargaining power of customers by increasing its customer base.
The threat of substitute products – Strong Force
The threat of substitute products is strong because people can watch movies and drama on cable television as well. They can even watch on-demand movies and can pause and play them on demand. In order to control the threat from substitute products, Netflix needs to increase its supplier power by increasing the switching cost. Moreover, it needs to consider the core requirement of the customer in developing its plans.
Analysis of The Firm’s Competitive And Corporate Strategies
Netflix is the leading video streaming service that is operating in over 190 countries in the world and having over 150 million subscribers. The company is mainly operating in three distinct business segments which are DVD rentals, international streaming,and domestic streaming. One of the major strengths of Netflix is its great brand image. Another strength which Netflix has added off late is its own content. The company allows its subscribers to watch as much content they want and at any time. For that matter, the subscribers can play or pause as per their convenience while the company does not show any commercial breaks as well. Netflix streaming can be viewed on television, computers as well as on mobile devices. It is producing clutter break content in order to stay ahead of the competition. The company has developed and released 126 films in 2016 alone. Whereas, in 2017, Netflix invested $2.5 billion in order to buy the rights for the original shows. Thisproduction of huge original content along with efforts to retain and attract new subscribers in times of increasing competition has resulted in huge debt for the company which is a weakness for the company. Moreover, much new original content didn’t go well with the customers.
Another weakness is that Netflix does not own the rights of all its shows and thus when the rights expire, the shows get disappear. However, the situation is not that gloomy in the wake of increasing competition which poses a major threat to its business model. There are some geographic regions like the big market of China where it can expand into. Moreover, it can also offer a superior product as compared to the competitor with the help of superior technology.
If we talk about threats, then as explained above, the biggest threat comes from the ever-increasing competition from YouTube, Amazon, Direct TV, Hulu, HBO and many other local players in each market. Then, Netflix uses Amazon’s web services for the provision of a certain aspect of its services and Amazon itself is a strong competitor of Netflix. However, Netflix is in a superior position than the competitors due to its huge library of content, market position,and brand image. However, still, there are several challenges that Netflix is facing as explained above. (“Analyzing Netflix’s Degree of Rivalry Among Competitors | Investopedia”, 2019)
Accounting Analysis
Accounting analysis is also called as the financial statement analysis, It is an assessment of the stability, viability, and profitability of a business, sub-business, or project. The accounting Analysis of Netflix is as follows,
Liquidity
The current ratio of Netflix is quite healthy at 1.49 in 2018 which remained quite constant in the last 5 years, albeit fluctuated slightly. This shows that the company has enough resources to meet its short term obligations. It deteriorated significantly in 2015 and reached at 1.25. The time interest earned ratio also fluctuated significantly. Which is mainly due to high-interest cost. The ratio is quite consistent I
Sol The debt to assets ratio of the company is also pretty much constant in the last five years at 0.8. This shows that the company is financing its new assets with the same amount of debt and equity. the debt to equity ratio remained to fluctuate in the last 5 years. However, since 2015 it has generally increased except in 2018 when it decreased. This shows investors confidence in the company.
Profitability
The gross profit margin of the company is gradually increased in the last 5 years. The operating Profit margin is also increasing in the last 5 year. As a matter of fact, from 2015 onward it gradually increased. Net margin of the company has also kept on improving and is now highest in the last five years at 7.76%.
The return on total assets is also improving in the last 3 years. Which shows the company is improving its profitability? The return on equity of the company is very significant at 23.12%. It kept on improving in the last five years and improved from as low as 5.53% only. Asset turnover of the company has slightly decreased but it remained pretty much constant at 70.22%. Capital employed in this case is defined as total assets minus liabilities.
Stability
The debt to assets ratio of the company is also pretty much constant in the last five years at 0.8. This shows that the company is financing its new assets with the same amount of debt and equity. the debt to equity ratio remained to fluctuate in the last 5 years. However, since 2015 it has generally increased except in 2018 when it decreased. This shows investors’ confidence in the company.
The complete accounting analysis is available in Appendix one.
Supplemental Information
The company’s quality of earning seems very high. The increase in international revenue is mainly due to a 43% increase in theaverage number of paid membership. This is because all the increase in income or earnings is attributable to the shareholders. The company has increased its net margin from 5% in 2017 to 8% in 2018 and all this revenue goes to the shareholders after paying the interest expense which is increased significantly because the company has raised new long-term debt along with more common equity. However, the effect of this new finance is positive with the company able to reduce its costs of revenue significantly, i.e 3% and that translated to increased net earnings of 3%.
The company is not involved in off-balance sheet financing and the management has specifically mentioned it on page 29 in their analysis. the management has mentioned in their analysis the breakup of the lease obligation. The company recognizes revenue in line with the US GAAP which is pretty much the same as IFRS-15. The company seems to realize revenue when the amount of revenue and associated costs can be measured reliably, it is probable that the economic benefits of the transaction will flow to it, it has transferred the risks and rewards of the transaction and the stage of completion can be measured reliably. The auditors’ report also did not specify any issue in the Annual report.
Common Size Analysis
All figures are in millions USD and the year-endin December.
Common Size Balance Sheet analysis
| NETFLIX INC (NFLX) BALANCE SHEET | ||||
| 2017-12 | 2018-12 | |||
| Assets | ||||
| Current assets | ||||
| Cash | ||||
| Cash and cash equivalents | 2823 | 15% | 3794 | 15% |
| Short-term investments | 0% | 0% | ||
| Total cash | 2823 | 15% | 3794 | 15% |
| Other current assets | 4847 | 25% | 5900 | 23% |
| Total current assets | 7670 | 40% | 9694 | 37% |
| Non-current assets | ||||
| Property, plant,and equipment | ||||
| Gross property, plant and equipment | 641 | 3% | 787 | 3% |
| Accumulated Depreciation | -322 | -2% | -369 | -1% |
| Net property, plant and equipment | 319 | 2% | 418 | 2% |
| Other long-term assets | 11023 | 58% | 15862 | 61% |
| Total non-current assets | 11343 | 60% | 16280 | 63% |
| Total assets | 19013 | 100% | 25974 | 100% |
| Liabilities and stockholders’ equity | ||||
| Liabilities | ||||
| Current liabilities | ||||
| Accounts payable | 360 | 2% | 563 | 2% |
| Accrued liabilities | 315 | 2% | 477 | 2% |
| Deferred revenues | 619 | 3% | 761 | 3% |
| Other current liabilities | 4173 | 22% | 4686 | 18% |
| Total current liabilities | 5466 | 29% | 6487 | 25% |
| Non-current liabilities | ||||
| Long-term debt | 6499 | 34% | 10360 | 40% |
| Other long-term liabilities | 3465 | 18% | 3888 | 15% |
| Total non-current liabilities | 9964 | 52% | 14248 | 55% |
| Total liabilities | 15431 | 81% | 20736 | 80% |
| Stockholders’ equity | ||||
| Common stock | 1871 | 10% | 2316 | 9% |
| Additional paid-in capital | ||||
| Retained earnings | 1731 | 9% | 2942 | 11% |
| Accumulated other comprehensive income | -21 | 0% | -20 | 0% |
| Total stockholders’ equity | 3582 | 19% | 5239 | 20% |
| Total liabilities and stockholders’ equity | 19013 | 100% | 25974 | 100% |
From the common size percentages, we can see that the cash and cash equivalents are 15% of the total assets in both years under review. Overall current assets reduced to 37% of the total assets in 2018 as compared to 40% in preceding years mainly due to reduction in other current assets from 25% of total assets to 23% of total assets and partly because Fixed assets are increased significantly from 60% of total assets to 63% of total assets. In this increase, other long term assets are the main reason which increased from 58% of total assets to 61% of total assets.
Current liabilities decreased overall from 29% of the total assets to 25% of the total assets. The main decrease came from other current liabilities which decreased from 22% to 18%. Non-current liabilities increased significantly as a percentage of total assets from 52% to 55%. as a result, overall liabilities decreased by 1% from 80% of total assets in 2017 to 80% of total assets in 2018.
The main increase in long-term liabilities came from long term debt which increased from 34% of total assets to 40% of total assets.
Common Size Income Statement Analysis
| NETFLIX INC (NFLX) INCOME STATEMENT | ||||
| 2017-12 | 2018-12 | |||
| Revenue | 11693 | 100% | 15794 | 100% |
| Cost of revenue | 7660 | 66% | 9968 | 63% |
| Gross profit | 4033 | 34% | 5827 | 37% |
| Operating expenses | 0% | 0% | ||
| Research and development | 1053 | 9% | 1222 | 8% |
| Sales, General and administrative | 2142 | 18% | 3000 | 19% |
| Total operating expenses | 3194 | 27% | 4222 | 27% |
| Operating income | 839 | 7% | 1605 | 10% |
| Interest Expense | 238 | 2% | 420 | 3% |
| Other income (expense) | -115 | -1% | 42 | 0% |
| Income before taxes | 485 | 4% | 1226 | 8% |
| Provision for income taxes | -74 | -1% | 15 | 0% |
| Net income from continuing operations | 559 | 5% | 1211 | 8% |
| Net income | 559 | 5% | 1211 | 8% |
| Net income available to common shareholders | 559 | 5% | 1211 | 8% |
Netflix has done well in 2018 in controlling its cost of revenue that is decreased from being 66% of revenue in 2017 to 63% of the revenue in 2018. As a result, gross profit is increased to 37%.
The operating costs overall remained pretty much the same as the percentage of revenue. However, research and development costs decreased to 8% from 9% in the preceding year and the sales, general and administrative expense increased by 1% in 2018 to become 19%. as a result, operating income overall increased by 3% and remained 10% in 2018. The interest expense is increased from 2% of the revenue to 3% of the revenue because the company has raised new long term debt. The company did not report other income or loss in 2018 whereas in 2017 it reported a 1% loss in this category. the overall result is the net income of 8% I 2018 as compared to 5% in 2017 which can be directly attributed to the lower cost of revenue.
Reference
Netflix, Inc. Porter Five Forces Analysis (2019).Retrieved from: http://fernfortuniversity.com/term-papers/porter5/analysis/3012-netflix–inc-.php
Analyzing Netflix’s Degree of Rivalry Among Competitors | Investopedia. (2019). Retrieved from https://www.investopedia.com/university/netflix-porters-5-forces-analysis/analyzing-netflixs-degree-rivalry-among-competitors.as
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