Netflix Announces Q2 2005 Financial Results

Netflix Announces Q2 2005 Financial Results

GAAP Net Income of $5.7 million, Revenue of $164.5 million and Raises 2005 Net Income Guidance

LOS GATOS, Calif., July 25 /PRNewswire-FirstCall/ -- Netflix (NASDAQ:NFLX) today reported results for the second quarter ended June 30, 2005.

For the second quarter:

-- Revenue was $164.5 million -- Subscribers increased 53 percent year-over-year to 3.196 million -- Churn declined to near-record low of 4.7%

"Our business performed impressively across all key operating measures in the second quarter, reflecting the broadening consumer appeal of our service and the rising competitive strength of our organization," said Reed Hastings, Netflix co-founder and chief executive officer. "Looking at the second half of 2005, we're confident of hitting four million subscribers by year's end and expect to reach that milestone profitably and as the clear-cut market leader."

Second-Quarter 2005 Financial Highlights

Revenue for the second quarter of 2005 was a record $164.5 million, representing 37 percent year-over-year growth from $120.3 million for the second quarter of 2004, and 7 percent quarter-over-quarter growth from $154.1 million for the first quarter of 2005.

GAAP net income for the second quarter of 2005 was $5.7 million, or $0.09 per diluted share, compared to GAAP net income of $2.9 million, or $0.04 per diluted share, for the second quarter of 2004 and a GAAP net loss of $8.8 million, or $0.17 per share, for the first quarter of 2005. Management had guided to a GAAP net loss for the second quarter of $2.2 million to $7.2 million. The outperformance is due to a number of factors including: lower-than-expected marketing, better-than-expected cost management as well as lower-than-expected stock-based compensation expense.

Non-GAAP net income was $9.1 million, or $0.14 per diluted share, for the second quarter of 2005, compared to non-GAAP net income of $7.0 million, or $0.11 per diluted share for the second quarter of 2004 and non-GAAP net loss of $4.5 million, or $0.09 per share, for the first quarter of 2005. Non-GAAP net income (loss) equals net income (loss) on a GAAP basis before stock-based compensation expense.

Gross margin for the second quarter of 2005 was 39.0 percent compared to 42.0 percent for the second quarter of 2004 and 38.4 percent for the first quarter of 2005.

Free cash flow(1) for the second quarter of 2005 was positive $1.8 million, compared to positive $6.3 million in the second quarter of 2004 and negative $8.9 million for the first quarter of 2005.

Cash provided by operating activities for the second quarter of 2005 was $36.5 million, compared to $32.0 million for the second quarter of 2004 and $29.4 million for the first quarter of 2005.

Subscriber acquisition cost(2) for the second quarter of 2005 was $37.25 per gross subscriber addition, compared to $35.12 for the same period of 2004 and $37.89 for the first quarter of 2005.

Churn(3) for the second quarter of 2005 was 4.7 percent, compared to 5.6 percent for the second quarter of 2004 and 5.0 percent for the first quarter of 2005. Churn includes free subscribers as well as paying subscribers who elect not to renew their monthly subscription service during the quarter.

Subscribers. Netflix ended the second quarter of 2005 with approximately 3,196,000 total subscribers, representing 53 percent year-over-year growth from 2,093,000 total subscribers at the end of the second quarter of 2004 and 6 percent sequential growth from 3,018,000 subscribers at the end of the first quarter of 2005.

During the quarter Netflix acquired 707,000 gross subscriber additions, representing 21 percent year-over-year growth from 583,000 gross subscriber additions acquired in the second quarter of 2004 and 25 percent quarter-over- quarter decline from 945,000 gross subscriber additions acquired in the first quarter of 2005.

Of the 3,196,000 total subscribers at quarter end, 97 percent, or 3,109,000, were paid subscribers. The other 3 percent, or 87,000, were free subscribers. Paid subscribers represented 97 percent of total subscribers at the end of the second quarter of 2004 and 96 percent of total subscribers at the end of the first quarter of 2005.

Business Outlook

The Company's performance expectations for the third and fourth quarters of 2005 and the full year of 2005 are as follows:

Third Quarter 2005

-- Ending subscribers of 3.35 million to 3.50 million -- Revenue of $172.5 million to $176.5 million -- GAAP net income of $4.5 million to $8.0 million

Fourth Quarter 2005

-- Ending subscribers of 3.85 million to 4.05 million -- Revenue of $187 million to $193 million -- GAAP net income of $1.0 million to $6.0 million

Full Year 2005

-- Ending subscribers of 3.85 million to 4.05 million, from previous guidance of 3.85 million to 4.15 million -- Revenue of $678.1 million to $688.1 million, from previous guidance of $660 million to $685 million -- GAAP net income of $2.4 million to $11.9 million, from previous guidance of a loss of $5 million to $15 million

Float and Trading Plans

The Company estimates the public float at approximately 46,279,628 shares as of June 30, 2005, up 1 percent from 45,813,910 shares as of March 31, 2005, based on registered shares held in street name with the Depository Trust and Clearing Corporation. No outstanding shares are subject to a lock-up agreement of any kind. From time to time executive officers of Netflix may elect to buy or sell stock in Netflix. All open market sales are made pursuant to the terms of 10b5-1 Trading Plans approved by the Company and generally adopted no less than three months prior to the first date of sale under such plan.

Earnings Call

The Netflix earnings call will be webcast today at 5:00 p.m. Eastern Time / 2:00 p.m. Pacific Time, and may be accessed at http://ir.netflix.com/ . Following the conclusion of the webcast, a replay of the call will be available via Netflix's website at http://ir.netflix.com/ . For those without access to the Internet, a replay of the call will be available from approximately 5:00 p.m. Pacific Time on July 25, 2005 through July 31, 2005. To listen to a replay, call 719-457-0820, access code 1394102.

Use of Non-GAAP Measures

Management believes that non-GAAP net income is a useful measure of operating performance because it excludes the non-cash impact of stock option accounting. In addition, management believes that free cash flow is a useful measure of liquidity because it excludes the non-operational cash flows from purchases and sales of short-term investments and cash flows from financing activities. However, these non-GAAP measures should be considered in addition to, not as a substitute for, or superior to net income and net cash provided by operating activities, or other financial measures prepared in accordance with GAAP. A reconciliation to the GAAP equivalents of these non-GAAP measures is contained in tabular form on the attached unaudited financial statements.

About Netflix

Netflix is the world's largest online movie rental service, providing more than three million subscribers access to over 50,000 DVD titles. Under the company's most popular program, for $17.99 a month, Netflix subscribers rent as many DVDs as they want and keep them as long as they want, with three movies out at a time. There are no due dates, no late fees and no shipping fees. DVDs are delivered for free by the USPS from regional shipping centers located throughout the United States. Netflix can reach nearly 90 percent of its subscribers with generally one business-day delivery. Netflix offers personalized movie recommendations to its members and has more than 500 million movie ratings. Netflix also allows members to share and recommend movies to one another through its Friends(TM) feature. For more information, visit www.netflix.com.

Forward-Looking Statements

This press release contains certain forward-looking statements within the meaning of the federal securities laws, including statements regarding our subscriber growth, revenue and GAAP net income for the third and fourth quarters and full year of 2005. The forward-looking statements in this release are subject to risks and uncertainties that could cause actual results and events to differ, including, without limitation: impacts arising out of competition, our ability to manage our growth, in particular managing our subscriber acquisition cost as well as the mix between revenue sharing titles and titles not subject to revenue sharing that are delivered to our subscribers; our ability to attract new subscribers and retain existing subscribers; changes in pricing and availability for advertising space; fluctuations in consumer usage of our service, customer spending on DVD players, DVDs and related products; disruption in service on our website or with our computer systems; deterioration of the U.S. economy or conditions specific to online commerce or the filmed entertainment industry; conditions that effect our delivery through the U.S. Postal Service, including increases in first class postage; increases in the costs of acquiring DVDs; and, widespread consumer adoption of different modes of viewing in-home filmed entertainment. A detailed discussion of these and other risks and uncertainties that could cause actual results and events to differ materially from such forward-looking statements is included in our filings with the Securities and Exchange Commission, including our Annual Report on Form 10-K filed with the Securities and Exchange Commission on March 15, 2005. We undertake no obligation to update forward-looking statements to reflect events or circumstances occurring after the date of this press release.

(1) Free cash flow is defined as cash provided by operating activities less cash used in investing activities excluding purchases and sales of short-term investments. (2) Subscriber acquisition cost is defined as the total marketing expense on the Company's Statement of Operations divided by total gross subscriber additions during the quarter. (3) Churn is defined as customer cancellations in the quarter divided by the sum of beginning subscribers and gross subscriber additions, divided by three months.

Netflix, Inc. Consolidated Statements of Operations (unaudited) (in thousands, except per share data)

Three Months Ended Six Months Ended June 30, March 31, June 30, June 30, June 30, 2004 2005 2005 2004 2005 Revenues: Subscription $119,710 $152,446 $164,027 $219,533 $316,473 Sales 611 1,694 470 1,158 2,164 Total revenues 120,321 154,140 164,497 220,691 318,637 Cost of revenues: Subscription 69,604 93,986 99,957 126,048 193,943 Sales 184 999 354 367 1,353 Total cost of revenues 69,788 94,985 100,311 126,415 195,296 Gross profit 50,533 59,155 64,186 94,276 123,341 Operating expenses: Fulfillment 14,373 16,694 17,560 25,163 34,254 Technology and development 5,652 7,155 7,513 10,691 14,668 Marketing 20,477 35,803 26,338 47,170 62,141 General and administrative 3,280 5,007 4,898 6,416 9,905 Stock-based compensation 4,134 4,279 3,423 8,569 7,702 Total operating expenses 47,916 68,938 59,732 98,009 128,670 Operating income (loss) 2,617 (9,783) 4,454 (3,733) (5,329) Other income (expense): Interest and other income 304 1,051 1,246 895 2,297 Interest and other expense (30) (38) (3) (61) (41) Income (loss) before income taxes 2,891 (8,770) 5,697 (2,899) (3,073) Provision for income taxes -- 44 13 -- 57 Net income (loss) $2,891 $(8,814) $5,684 $(2,899) $(3,130) Net income (loss) per share: Basic $.06 $(.17) $.11 $(.06) $(.06) Diluted $.04 $(.17) $.09 $(.06) $(.06) Weighted average common shares outstanding: Basic 51,898 52,816 53,190 51,590 53,005 Diluted 64,975 52,816 64,592 51,590 53,005

Reconciliation of Non-GAAP Financial Measures (Unaudited) Non-GAAP net income reconciliation: Net income (loss) $2,891 $(8,814) $5,684 $(2,899) $(3,130) Add back: Stock-based compensation 4,134 4,279 3,423 8,569 7,702 Non-GAAP net income (loss) $7,025 $(4,535) $9,107 $5,670 $4,572 Non-GAAP net income (loss) per share: Basic $.14 $(.09) $.17 $.11 $.09 Diluted $.11 $(.09) $.14 $.09 $.07 Weighted average common shares outstanding: Basic 51,898 52,816 53,190 51,590 53,005 Diluted 64,975 52,816 64,592 64,907 64,122

Netflix, Inc. Consolidated Balance Sheets (unaudited) (in thousands, except share and par value data)

As of December 31, June 30, 2004 2005 Assets Current assets: Cash and cash equivalents $174,461 $170,972 Prepaid expenses 2,741 4,349 Prepaid revenue sharing expenses 4,695 4,567 Other current assets 5,449 2,517 Total current assets 187,346 182,405 DVD library, net 42,158 56,031 Intangible assets, net 961 127 Property and equipment, net 18,728 27,410 Deposits 1,600 1,552 Other assets 1,000 1,203 Total assets $251,793 $268,728 Liabilities and Stockholders' Equity Current liabilities: Accounts payable $49,775 $56,211 Accrued expenses 13,131 13,702 Deferred revenue 31,936 33,497 Current portion of capital lease obligations 68 -- Total current liabilities 94,910 103,410 Deferred rent 600 785 Total liabilities 95,510 104,195 Stockholders' equity: Common stock, $0.001 par value; 160,000,000 shares authorized at December 31, 2004 and June 30, 2005; 52,732,025 and 53,426,304 issued and outstanding at December 31, 2004 and June 30, 2005, respectively 53 53 Additional paid-in capital 292,843 301,669 Deferred stock-based compensation (4,693) (2,139) Accumulated other comprehensive loss (222) (222) Accumulated deficit (131,698) (134,828) Total stockholders' equity 156,283 164,533 Total liabilities and stockholders' equity $251,793 $268,728

Netflix, Inc. Consolidated Statements of Cash Flows (unaudited) (in thousands) Three Months Ended Six Months Ended June 30, March 31, June 30, June 30, June 30, 2004 2005 2005 2004 2005 Cash flows from operating activities: Net income (loss) $2,891 $(8,814) $5,684 $(2,899) $(3,130) Adjustments to reconcile net income (loss) to net cash provided by operating activities: Depreciation of property and equipment 1,323 1,938 2,156 2,575 4,094 Amortization of DVD library 21,141 22,006 25,552 39,268 47,558 Amortization of intangible assets 454 454 380 1,080 834 Stock-based compensation expens 4,134 4,279 3,423 8,569 7,702 Loss on disposal of short-term investments 274 -- -- 274 -- Gain on disposal of DVDs (427) (1,129) (208) (791) (1,337) Non-cash interest expense 11 11 -- 22 11 Changes in operating assets and liabilities: Prepaid expenses and other current assets (2,521) 4,671 (3,219) (1,522) 1,452 Accounts payable (631) 2,857 3,579 9,898 6,436 Accrued expenses 1,391 2,550 (1,979) 2,227 571 Deferred revenue 3,755 527 1,034 6,927 1,561 Deferred rent 171 93 92 138 185 Net cash provided by operating activities 31,966 29,443 36,494 65,766 65,937 Cash flows from investing activities: Purchases of short-term investments (222) -- -- (586) -- Proceeds from sale of short-term investments 45,013 -- -- 45,013 -- Purchases of property and equipment (2,048) (6,845) (5,931) (3,856) (12,776) Acquisitions of DVD library (24,083) (33,040) (29,218) (47,653) (62,258) Proceeds from sale of DVDs 611 1,694 470 1,158 2,164 Deposits and other assets (168) (177) 22 (187) (155) Net cash provided by (used in) investing activities 19,103 (38,368) (34,657) (6,111) (73,025) Cash flows from financing activities: Proceeds from issuance of common stock 2,305 365 3,313 4,124 3,678 Principal payments on notes payable and capital lease obligations (118) (79) -- (229) (79) Net cash provided by financing activities 2,187 286 3,313 3,895 3,599 Net increase (decrease) in cash and cash equivalents 53,256 (8,639) 5,150 63,550 (3,489) Cash and cash equivalents, beginning of period 100,188 174,461 165,822 89,894 174,461 Cash and cash equivalents, end of period $153,444 $165,822 $170,972 $153,444 $170,972

Non-GAAP free cash flow reconciliation: Net cash provided by operating activities $31,966 $29,443 $36,494 $65,766 $65,937 Purchases of property and equipment (2,048) (6,845) (5,931) (3,856) (12,776) Acquisitions of DVD library (24,083) (33,040) (29,218) (47,653) (62,258) Proceeds from sale of DVDs 611 1,694 470 1,158 2,164 Deposits and other assets (168) (177) 22 (187) (155) Non-GAAP free cash flow $6,278 $(8,925) $1,837 $15,228 $(7,088)

Netflix, Inc. Consolidated Other data (unaudited) (in thousands, except percentages and subscriber acquisition cost)

As of/ As of/ Three Months Ended Six Months Ended June 30, March 31, June 30, June 30, June 30, 2004 2005 2005 2004 2005

Subscriber information: Subscribers: beginning of period 1,932 2,610 3,018 1,487 2,610 Gross subscribers additions: during period 583 945 707 1,343 1,652 Gross subscriber additions year-to-year change 78.3% 24.3% 21.3% 80.5% 23.0% Gross subscriber additions quarter-to-quarter sequential change (23.3%) 20.7% (25.2%) -- -- Less subscriber cancellations: during period (422) (537) (529) (737) (1,066) Subscribers: end of period 2,093 3,018 3,196 2,093 3,196 Subscribers year-to-year change 82.5% 56.2% 52.7% 82.5% 52.7% Subscribers quarter-to- quarter sequential change 8.3% 15.6% 5.9% -- -- Free subscribers: end of period 69 131 87 69 87 Free subscribers as percentage of ending subscribers 3.3% 4.3% 2.7% 3.3% 2.7% Paid subscribers: end of period 2,024 2,887 3,109 2,024 3,109 Paid subscribers year- to-year change 83.8% 56.7% 53.6% 83.8% 53.6% Paid subscribers quarter- to-quarter sequential change 9.9% 16.1% 7.7% -- -- Churn 5.6% 5.0% 4.7% -- -- Subscriber acquisition cost - Consolidated $35.12 $37.89 $37.25 $35.12 $37.62 Margins: Gross margin 42.0% 38.4% 39.0% 42.7% 38.7% Operating margin 2.2% (6.3%) 2.7% (1.7%) (1.7%) Net margin 2.4% (5.7%) 3.5% (1.3%) (1.0%) Expenses as percentage of revenues: Fulfillment 11.9% 10.8% 10.7% 11.4% 10.8% Technology and development 4.7% 4.6% 4.6% 4.8% 4.6% Marketing 17.0% 23.2% 16.0% 21.4% 19.5% General and administrative 2.7% 3.2% 3.0% 2.9% 3.1% Operating expenses before stock-based compensation 36.3% 41.8% 34.3% 40.5% 38.0% Stock-based compensation 3.5% 2.9% 2.0% 3.9% 2.4% Total operating expenses 39.8% 44.7% 36.3% 44.4% 40.4% Year-to-year change: Total revenues 90.4% 53.6% 36.7% 85.7% 44.4% Fulfillment 99.0% 54.7% 22.2% 85.0% 36.1% Technology and development 37.1% 42.0% 32.9% 28.7% 37.2% Marketing 105.7% 34.1% 28.6% 103.6% 31.7% General and administrative 56.7% 59.7% 49.3% 47.8% 54.4% Operating expenses before stock-based compensation 87.2% 41.6% 28.6% 81.0% 35.3% Stock-based compensation 142.6% (3.5%) (17.2%) 108.5% (10.1%) Total operating expenses 90.9% 37.6% 24.7% 83.1% 31.3%

Source: Netflix, Inc.

CONTACT: IR: Deborah Crawford, Director of Investor Relations, +1-408-317-3712, or PR: Ken Ross, VP, Corporate Communications, +1-408-317-3931, both of Netflix

Web site: http://www.netflix.com/

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