UPDATE 5-Netflix profit rises, but outlook disappoints

Mon Apr 25, 2011 7:26pm EDT

* First-quarter EPS $1.11 vs $0.59 year ago

* Subscriber total rises to 23.6 million

* Revenue $719 mln vs Wall St expectations of $703.6 mln

* Second-quarter EPS outlook below expectations

* Shares drop 5 percent (Adds executive comment)

By Paul Thomasch

NEW YORK, April 25 (Reuters) - Netflix Inc (NFLX.O), the top movie rental service, issued an earnings outlook that fell short of expectations and provided fresh ammunition to critics of its sky-high stock price.

Shares of Netflix fell 5 percent after its report, a sign that anything less than perfect performance will not suffice for a company whose stock has nearly tripled over the past year and become a target of short-sellers.

Netflix reported first-quarter earnings and revenue that surpassed expectations -- and it built up its subscriber base to more than 23 million customers -- but it was the company's earnings outlook that caught the attention of investors. [nN25211548]

"Netflix is very much a momentum stock," said Brett Harriss, an analyst with Gabelli & Co. "We didn't get a blockbuster quarter and guidance was a little light."

Specifically, Netflix said it would likely earn between 93 cents and $1.15 a share in the second quarter, compared with analyst expectations of $1.19 a share.

One concern analysts pointed to was Netflix's international business, considered critical to its growth over the next several years. So far, it has entered Canada, where it now has just over 800,000 subscribers after seven months of business.

But expansion in Canada -- and plans to move into other markets -- comes at a cost. The company expects to post a $50 to $70 million operating loss in its international business during the second half of the year, steeper than the $50 million it previously forecast.

Atul Bagga, an analyst with ThinkEquity, said concerns about Netflix's outlook and the money it is investing in its international business were overblown. "In my view, that opportunity is just getting going," he said.

Netflix has raised expectations by producing out-sized subscriber additions quarter after quarter. Netflix ended the first quarter with 23.6 million subscribers, more than Comcast Corp(CMCSA.O), the largest U.S. cable company.

In the first quarter of 2011 it added 3.3 million domestic subscribers, nearly double the number added during the period a year ago, highlighting its success in its transition from a mail-order business to one that increasingly delivers its movies and TV shows over the Web.

To attract more customers, Netflix has built its streaming offerings through a rush of content agreements. Recent ones include a Lionsgate deal for "Mad Men," a Fox deal for "Glee," and a pact with CBS that adds shows such as "Cheers and "Frasier."

Netflix made an aggressive move into securing its own content, purchasing the rights for the original series "House of Cards," starring Kevin Spacey. The company said that it planned two to three more "similar but smaller deals."

The cost of buying content to stream online is perhaps the biggest worry around Netflix; it could quickly erode margins. The company said U.S. operating margins would be about 14 percent in the second quarter -- its stated target number -- but predicted that spending on streaming content would "increase substantially."

Chief Executive Reed Hastings acknowledged that competition to secure content for online distribution is heating up. "There is a substantial level of competition, as you would expect, not only among online players but against cable networks."

He also said that negotiations for content were civilized, despite barbs thrown at Netflix by the high-profile media executives such as Time Warner Inc's (TWX.N) Jeffrey Bewkes [nN01172027].

"There isn't any animosity -- it's only a question of is our check big enough?" Hastings said during a call following earnings.

Netflix posted earnings of $60.2 million, or $1.11 a share -- up from $32.3 million, or 59 cents per share, in the period a year ago. The earnings were 3 cents better than analysts' average forecast of $1.08 a share.

Revenue rose 46 percent to $719 million, which again surpassed analysts expectations of $703.6 million, according to Thomson Reuters I/B/E/S.

Netflix shares fell to $238.20 following the earnings report, after closing at $251.67, down 55 cents, during the regular Nasdaq session. (Additional reporting by Liana Baker; Editing by Gary Hill and Steve Orlofsky)

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