A surprise drop in Netflix subscribers in recent months and a U-turn on introducing advertising have raised deeper questions about the streaming giant’s future, with the firm facing intense scrutiny over its upcoming second-quarter earnings report.

All of Us Are Dead is among Netflix’s many non-English-language hits

Netflix shares plunged in April following revelations the streamer’s subscriber numbers had dropped for the first time in a decade, while the scale of password sharing meant it was missing out on revenue from 100 million households. A further tumble came in May on news of 150 job cuts, then again in June with the announcement of 300 more.

The dramatic fall in the value of the company wiped out all the gains made during the past five years, including the conversely stellar upswing in business experienced during the pandemic, which has taken it to 222 million paying customers, and all eyes will be on the business’s second-quarter earnings report, due out on July 19.

In its Q1 results letter to shareholders, Netflix blamed “the big Covid boost to viewing” for “obscuring the picture” across its business until recently. The company identified four factors leading to “revenue growth headwinds,” namely limited consumer uptake of connected TVs; the password-sharing issue; competition from the new breed of US studio streamers; and the dire macro-economic outlook amid spiralling inflation and Russia’s invasion of Ukraine.

While the conflict immediately cost Netflix 700,000 customers and a host of original productions when it took the decision to suspend its Russian business in February, critics have been quick to point out management should have been more astute about the other forces at play. Rather than calm investor concern, founder and co-CEO Reed Hasting’s subsequent about-face on the introduction of advertising only served to further dent confidence in the business.

Pershing Square Capital Management, the hedge fund management company founded by billionaire Bill Ackman, immediately bailed, selling off the 3.1 million Netflix shares it acquired in January at a US$400m loss. Meanwhile, another shareholder initiated a class-action lawsuit in California against the streamer, alleging the company “failed to disclose material adverse facts,” causing investors “significant losses and damages.”

Netflix acknowledged in its Q1 shareholder letter that it has been facing “robust” competition from YouTube, Amazon and Hulu for the past 15 years, not to mention linear TV. It went on to note that over the last three, however, this competition has increased as “traditional entertainment companies realised streaming is the future.” That this development should be presented by the company in early 2022 – emerging from its Covid fug – as among the forces acting against it has raised alarm in some sectors.

For a long time the studios were accused of being supertankers that took too long to turn, but now that they have they hold advantages in their legacy businesses, which Netflix has yet to develop. As it increasingly loses rights to previously licensed content, the streamer must rely on its own library and has been racing to establish this.

Non-US originals like Heartstopper are still winning praise for Netflix

Netflix has, in many ways, kept ahead of the curve. It points out, for example, that “US entertainment companies have viewed ‘international’ as an export market for US content,” whereas it flipped this idea on its head, with non-English-language titles Squid Game, La Casa de Papel and All of Us Are Dead among its most popular shows of all time. But despite non-US originals, such as Heartstopper, continuing to draw praise, has the inflection point come too soon?

While the company gained in terms of subscriptions during the pandemic, so did Disney+, HBO Max, Peacock and others, with the former in May beating analysts’ expectations for its second quarter to reach 138 million paying customers. What Netflix perhaps lost, however, was the pace and to some degree quality of production, as it tried to navigate its way through the ‘Covid cloud’ along with everyone else. It is understandable in such circumstances if the clarity of vision that propelled the business to completely rewrite the Hollywood script may have become somewhat compromised.

Chief content officer Ted Sarandos was handed co-CEO responsibilities in the summer of 2020 as coronavirus gripped, while Hastings celebrated his 60th birthday a few months later. Former Hulu and WarnerMedia CEO Jason Kilar (51) is now a free agent having left the latter ahead of its US$43bn merger with Discovery, just a few weeks before the shock Netflix numbers, and speculation is inevitably swirling about the one-time Amazon exec’s next move. Hastings may well be taking a long, hard look in the mirror.

The bigger concern is surely the extent to which Netflix has lost its status as a standard bearer for the rest. The root-and-branch reinvention it necessitated and exponentially rising costs of talent and production it precipitated have required enormous investment, with talk of ‘peak TV’ never too far away.

If the industry has lost its peg, particularly amid wider concerns over stock market stability, then a House of Cards may yet reveal itself. But in every crisis opportunities emerge, and who knows, perhaps that series’ distributor will emerge a potential buyer. That’s wild speculation, of course, but with no streamer of its own of any note, and doing well licensing to and producing for others, Sony would arguably make an ideal suitor, especially given its considerable connected TV and gaming interests.

From ‘selling shovels in the goldrush,’ a shift in strategy is not inconceivable and the company could be among those keen to acquire a category-defining nugget at a knock-down price.

Reed Hastings, co-CEO, Netflix
Those who have followed Netflix know that I have been against the complexity of advertising and a big fan of the simplicity of subscription. But as much as I am a fan of that, I am a bigger fan of consumer choice. And allowing consumers who would like to have a lower price, and are advertising-tolerant, get what they want, makes a lot of sense.

Bill Ackman, founder, Pershing Square Capital Management
While Netflix’s business is fundamentally simple to understand, in light of recent events, we have lost confidence in our ability to predict the company’s future prospects with a sufficient degree of certainty. Based on management’s track record, we would not be surprised to see Netflix continue to be a highly successful company and an excellent investment from its current market value. That said, we believe the dispersion of outcomes has widened to a sufficiently large extent that it is challenging for the company to meet our requirements for a core holding.

Michael Nathanson, founding partner, MoffettNathanson
This is a hard business. Content is not won because you spend more. Content has to be good. Netflix had a huge lead over everyone else but eventually the media industry realised they needed to compete and they have advantages like brands, sitcom libraries and ad sales. So when you look at the Netflix forward model, our confidence is so low. You’re in growth purgatory. Until you see a turn in revenue growth, which is probably 12 to 24 months away, this is dead money, in my view. To me, this is just a giant canary in the coal mine that confirms our view we want to stay away, for now, from this sector.

Tammy Parker, principal technology analyst, GlobalData
Netflix has shied away from acknowledging the changing competitive landscape and avoided looking in the mirror to see where it needs to improve. Netflix’s Q1 earnings letter to shareholders cited external factors that it says are creating growth headwinds, but most of these are far from being new issues and only highlight the company’s internal weaknesses.

Jeff Wlodarczak, principal, Pivotal Research Group
After what can only be called a shocking Q1 subscriber miss and weak subscriber and financial guidance, we reduced our subscriber forecasts and pushed back our profitability forecasts substantially. The Netflix flywheel has slowed substantially, and it will take time to get it going again, which is likely to create  uncertainty around the name for at least the balance of ’22.

Paolo Pescatore, TMT analyst, PP Foresight
This is not the end of Netflix. It feels like a reality check for a company that is trying to strike a fine balance of retaining subs while increasing revenue. The market is now awash with too many streaming media services chasing too few subscribers. Netflix still remains the benchmark. The company needs to ensure it stays as an indispensable service in people’s homes. Ultimately this can be achieved with blockbuster programming.

Patrick Morrell, director of strategic publishing and TV development, The Trade Desk
Netflix’s quarterly results are increasingly focused on subscriber numbers. After the boom in new joiners during the pandemic lockdowns, the numbers have fizzled. These results have been particularly impacted by the interruption of its business in Russia and booming inflation across the globe, which is leading many consumers to reassess their monthly outgoings as streaming subscriptions are considered a luxury ‘extra.’ Netflix continues to create and buy a variety of popular content, but the cost of doing so is high and growing, with Netflix feeling the same inflationary squeeze as its subscribers.

Dominic Sunnebo, global insight director, Kantar, Worldpanel Division
Netflix sought to reassure investors by suggesting it will, for the first time, open the door to an advertising-supported model. If Netflix does go down this route, it’s game-changing, not just for Netflix and its ability to generate a very significant new revenue stream, but also for the world of advertising. Netflix has reach close to that of traditional TV in a number of major markets around the world. Its power to enact large-scale change here should not be underestimated