Tuesday, July 24, 2007

Why Do They Ask These Questions?

I listened to the Netflix earnings call last night. Or was it the Blockbuster earnings call?

Forgive me—I got confused, because Netflix’s management actually spent more time talking about Blockbuster than about Netflix, or at least it seemed that way.

It seemed that way because Netflix management said “Blockbuster” 17 times during their remarks, but only referred to their own company 11 times.

Now, the Netflix team has a right to be overtly obsessed with Blockbuster, if the fact that Netflix’s subscriber base actually declined during the quarter, despite the company spending $47 million in the quarter to attract new subscribers, is any indication.

In years past, Netflix’s management used to wow Wall Street’s Finest with, and I quote CEO Reed Hastings here,

“…the promise of generating consistent, 50% earnings growth year-after-year over the next several years”

Which is probably why—despite Blockbuster’s recent moves, not to mention the video iPod, YouTube and all the other alternatives to ordering DVDs through the U.S. Post Office—the CFO’s comment that he doesn’t “see it [2008 EPS] being any higher than the current year” was such a shock in certain quarters.

And that shock is the only reason I can think of for the following exchange, between one of Wall Street’s Finest, and Netflix CFO Barry McCarthy, about the recent 2c postal rate increase, courtesy of the indispensable Street Events:

Brian Pitz - Bank of America
…Can you talk about going forward, how we should think about the increased costs of mail on a full quarter basis? Thanks.

Barry McCarthy
On a per-disc-shipped basis, it's about $0.04, $0.02 each way….

How should we think about analysts asking what 2 + 2 equals? I have my own opinion, but this is a family publication...

Jeff Matthews
I Am Not Making This Up

© 2007 NotMakingThisUp, LLC

The content contained in this blog represents the opinions of Mr. Matthews. Mr. Matthews also acts as an advisor and clients advised by Mr. Matthews may hold either long or short positions in securities of various companies discussed in the blog based upon Mr. Matthews' recommendations. This commentary in no way constitutes a solicitation of business or investment advice. It is intended solely for the entertainment of the reader, and the author.


tobias said...

It was amazing to hear them talk about Blockbuster more than themselves.

Although the exchange sounds stupid, there was a good reason for the question. Netflix is a subscription service, so usage trends impact margins. Since Netflix doesn't disclose the number of discs shipped within the quarter or any other usage metrics, Pitz was using the mail price increase to try to get some insight into these metrics. If management quantified the mail cost or its impact on gross margin, it would allow analysts to back into the number of shipments.

istar said...

Quote: "Since Netflix doesn't disclose the number of discs shipped within the quarter or any other usage metrics, Pitz was using the mail price increase to try to get some insight into these metrics. If management quantified the mail cost or its impact on gross margin, it would allow analysts to back into the number of shipments."

Hmmmm. What do you have to say to that Jeff?

Jeff Matthews said...

Well, it's as good an excuse as any.

But that's not what the analyst asked about. He asked about "going forward" numbers, not the recent quarter.

"And can you talk about, going forward, how we should think about the increased cost of mail on a full quarter basis?" is hardly the way to back into last quarter's numbers.

No, I think he what he was really asking was the normal silly analyst question, "Will you help me fill out my model?"

tobias said...

He had a couple more low quality questions on the Amazon call yesterday, so I am through defending him.

buckeye1 said...

The penetration of DVD via mail is amazingly high as well. If Netflix can't grow now because Blockbuster is taking share, good luck over the next few years as DVD via mail penetration reaches even higher levels and other technologies you discussed begin becoming more of a reality. I'm sorry, but 30% of households in the U.S. are not going to sign up for a mail rental DVD service.

John said...

Anyone who uses the phrase "going forward" lacks credibility.

Dr O said...

The 2 + 2 = 4 is actually good news - it could have been really bad. Shortly after the rate increase I took a disc in the my local post office and they told me I'd need to pay the new 17c surcharge for "rigid" letters.

From USPS.COM "Letters are subject to a $0.17 surcharge if they are square, rigid or have certain nonmachinable characteristics."

Evidently, Netflix did a better job negotiating with the USPS than I did.

Zach said...

I think NFLX's biggest challenge going forward (does that disqualify me John?) is the fact it doesn't have bricks and mortar stores to compete with BBI. The new system BBI implemented where mail customers can return the DVD to the store and receive a free rental will drive loyalty and add value to their service versus NFLX.

Neither one of the stocks excite me but fundamentally I think NFLX is doomed.


y2kurtus said...

What drove me to post for the first time was the comment that NFLX needs bricks and mortar to compete with BBI.

After following the dying rental industry for years I knew it was the kiss of death for MOVI when they bought HLWY (for the bidding war inflated price of a billion dollars)... all funded with debt of course.

HLWY accepted MOVI's offer even though BBI had offered a few hundred million dollars MORE THAN MOVI... but BBI's offer was stock (then double digits) and MOVI was offering to hand over J.P. Morgan's cold hard cash.

... and that's the trouble with mega levered deals... things go south just a little and a billion dollar market cap company Movie Gallery was, then trading at $30/share is reduced to 50 cents/share and in eminent danger of bankrupcy.

But back to NFLX needing bricks and mortar... NFLX actually makes money (BBI and MOVI have done nothing but burn cash for the last few years.) NFLX has about 1000 employees and a few dozen physical locations, processing centers from which to mail out DVD's.

BBI loses money by paying tens of thousands of people to stand around in empty video stores that they owe rent on every month. In a pathetic attempt to drive traffic into the stores they have with their new promotion "total access" killed their one profitable business line... the high volume movie renter.

You see it use to cost $4 to rent a movie for 5 nights. A few people, the bread and butter of the admittadly dying industry, would rent 10 or more movies a month. For that service they were willing to pay $40.

Now those people pay 19.99... so the revenue stream has been haved... and expences have skyrocketed due to promotional costs and the actual costs of sending all those dvd's through the mail.

Short version... expences up... rev down... suicide... end of story.

Case study on how not to run a business!

Short BBI, Short NFLX... perhaps time to long MOVI since it's below a buck a share.

Good luck