Netflix: A Lesson in Strategy

Netflix announced their fourth quarter results earlier this month, and continued to surprise the market with user growth above expectations. During the fourth quarter of 2016, the company added 7.05 million users, which was twice the amount of users they added in the in the third quarter. Of these new users, 73% came from international markets - the focus of the company’s user growth strategy.

Shown below is the company’s revenue growth as an illustration of their ability to add users. Revenue has doubled since 2011. This is thanks to expansion into new countries and further penetration in the countries they already offered their streaming service in.

Netflix has always prioritized user growth and this has been the basis of what the company’s stock has been trading on for many years. The management of the company has realized this and has always had a focus on generating user growth. However, in the past, they have tried to recreate their successful US model for streaming in other countries. This has lead to various levels of success.

Netflix’s entrance into the UK was much easier than its entrance into some Latin American countries - Brazil in particular. What the company failed to realize was that the more a country differs from the US, the less they would be willing to consume American style television and movies. Consumers in the UK already watch many American television programs and were much more willing to become Netflix users. In countries like Brazil, many users don’t watch American television, and many more don’t even speak English.

Despite these failures, users continued to grow. But to take the company to new heights and dominate the streaming market around the world, they needed a new strategy. Shown below, in a graphic from the Wall Street Journal, is the leap in international expansion the company has taken in 2016.

Netflix took the lessons they learned and focused on creating original tailored content for each of the market’s they were planning on entering and in which they already operated. The company is planning on launching 1000 hours of original streaming content in 2017. Each market in which they operate, Canada to Vietnam, will offer content developed with these markets in mind, with hopes of continuing to generate user growth. Only 93 million people worldwide have an account - meaning there is still plenty of room to grow.

The growth has not been cheap - in 2016 the company burned through almost $840 million in cash to fund their original content and market launches. But when your stock trades on earnings growth, this is what it takes to generate returns for your shareholders. Investors seem clearly willing to continue to fund the company if the user base continues to grow.

Netflix took the lessons it learned in its early expansion into new markets and transformed its international expansion strategy to take into account the preferences of users in each market it entered. While this strategy has significantly increased costs, it has translated into user growth.

The company trades at 334x its earnings per share, and is the best performing stock on the NASDAQ since 2010. The market clearly cares more about user growth than profits. Expect user growth to continue given the company’s significant investment in original content.