Jeffries analyst Youssef Squali thinks that Netflix (NFLX) will have a strong Q2 as a result of robust subscriber additions and flat subscriber acquisition costs. Squali, however, recommends staying on the sidelines given stronger competitive headwinds and disruption from streaming video.
First, the good news. In Q2, Squali thinks subs will come in ahead of consensus:
We’re estimating subscriber count to increase by 270K for a total of 8.51M paying subs (vs. guidance of 8.3-8.5M). Churn should show a modest sequential increase to 4.0% due to seasonality, while acquisition cost (SAC) should remain flattish at about $29.
Alas, ARPU (average revenue per use) will continue to decrease:
We expect ARPU to continue to decline, reflecting the price cut and mix shift towards lower priced plans, at $13.67 vs. $14.09 in 1Q08 and $15.24 in 2Q07. In 2Q, Netflix continued to aggressively promote its service, particularly the $4.99 plan for up to 2DVDs/month.
Squali thinks that with Blockbuster (BBI) no longer distracted by its Circuit City takeover attempts, BBI will redouble its efforts to hit NFLX by delivering content online:
With Blockbuster (BBI, $2.42, NC) formally withdrawing its bid for Circuit City (CC, $2.12, Hold), we believe that BBI is turning its attention back on aggressively growing its online offering and launching Internet video delivery by year-end. We’ve seen anecdotal evidence of a pickup in BBI’s ad spending over the past few months and comScore’s AdMetrix data for April points a 117% m/m jump in display adviews for Blockbuster.com.
Finally, Squali forsees challenges on the horizon for NFLX given the threat that kiosk-based vendors pose to its business model, as well as the high costs of building a Blue-ray library and video streaming:
There are risks to Netflix long-term as well, including success of the Kiosk-based model like RedBox, higher “capex” cost for building out a Blue-ray DVD library and higher content costs associated with unlimited video streaming. On the positive side, though, NFLX has made significant progress towards bringing streaming video to TV, following the recent partnership announcements with Roku and Xbox. Netflix is likely to announce more tie-ups with box makers in 2H08 and flesh-out its digital strategy further by year-end.
Jeffries maintains its Hold rating and $31 price target.