Global SVOD giant Netflix saw its share price soar 18% in the US on July 16 as the company beat expectations on subscriber growth in its June 2015 quarter, across international markets as well as in the US.

Earnings growth and free cash generation will remain depressed over the next two years, on the back of aggressive investment in pursuit of scale.

Nonetheless, Netflix’s successful expansion is putting the heat on global competitors such as HBO, as well as in-country pay-TV operators and emerging OTT platforms.

Netflix ended June 2015 with 21.7 million paying customers outside the US, lifted by launch earlier this year in Australia, which has started to contribute strongly to net new additions.

While Netflix does not break out subscriber adoption by market, industry analysts Media Partners Asia (MPA) estimate the platform has soared to new heights in Australia and New Zealand, with exceptional consumption and usage as well as pay activations.

AUSTRALIA DRIVES NEW MOMENTUM

According to MPA’s quarterly research digest, The Route, Netflix should close the calendar year with more than 1.5 million paying customers in Australia and New Zealand combined.

Active members in both markets, including non-paying customers still on free plans, reached more than 1.8 million at end-June, according to MPA analysts.

While a small proportion of customers are still signed onto the US site, and some to both domestic and US services, most subs are signing onto the local version.

Growth in Australia is attributable to Netflix’s content line-up, marketing and UI/UX as well as critically, its telco partnerships.

Major partners to-date include Optus, iiNet and Fetch TV.

The first two have unmetered data plans and are aggressively integrated with Netflix. Fetch TV has also realized significant take-up for Netflix on its next-gen set-top box.

Netflix accounted for more than 35% of internet traffic over the past quarter in Australia, according to MPA estimates.

Meanwhile, the seeds of a more aggressive partnership with Telstra, expected in the long term, are already starting to be sown.

ASIAN EXPANSION

Netflix’s next launch is in Japan, which will come on board over the September quarter.

Management realize the challenges of the market and are not looking to compete head-on with a strong free TV sector.

Instead, the focus will likely be on wrestling further advantage away from pay-TV, which has failed to gain critical mass, thanks to ineffective marketing of Hollywood content as well as insufficient scale on local content, which Netflix aims to have at launch.

Competition in Japan’s SVOD market is also strong with local incumbents such as Hulu Japan and Avex.

"Hulu had a couple of missteps in that market,” said Netflix CEO Reed Hastings on a July 16 earnings call.

"But now, today, four years later under new ownership [Nippon TV], they are actually growing and seeing some real success in Japan,” Hastings added.

“But there were initial missteps. Pricing was too high; it was about US$20 monthly at that time. It had no local content. So, some pretty substantial missteps."

Hastings continued: “In contrast, our pricing will be more aggressive than theirs was. We will have local content. We may have some local originals.”

Consumer electronics companies Sony, Panasonic and Toshiba are also each integrating Netflix into their devices at launch.

"Japan will probably be our lowest slowest markets to get to certain penetration thresholds,” Hastings pointed out.

“But it may be one of our best markets in the long term, because when the Japanese society embraces a brand, it is a very deep connection, very long-term,” he added.

“So we're willing to make that investment, knowing that it’s not the quick route to success that it might be in other countries.”

Netflix also plans to launch in Spain and Italy in Q4.

Within Asia, China, India and Indonesia are longer-term aspirations, although Netflix has no shortage of partnership and integration offers from key players in these markets.

"We hope to open the entire rest of the world in 2016,” Hastings said.

"So China, again, we still have some things to figure out but it’s possible. And then we will have to see how successful we are in new markets like Poland and Indonesia.”

Hastings concluded: "If you look at people who are going to be on the internet, are interested in video entertainment, watch some TV and have enough money to pay for service – that’s a very large potential market.

“How much of that we will get, how relevant we will be in Turkey or India or Indonesia, is very open to question, and it depends on how well we execute,” he continued.

“The next couple of years, we will be able to have a clearer picture of how we will do in markets that are quite different from the US.”

HIGH-wire ECONOMICS

Netflix’s earnings are likely to be depleted through 2015-2016, although earnings momentum could resume by Q4 2016 and become material over 2017.

Critical drivers include the pace and quality of international expansion, as well as US subscriber growth. Both will have to continue to shine to offset burgeoning content costs.

“Earnings are going to get worse as we invest in more and more content,” said CFO David Wells, speaking on the earnings call.

“Expect that to continue as we invest heavily in our original content, which is more front-end loaded from a cash-basis perspective.”

Netflix’s ratio of content P&L expense to content cash has been drifting up, from about 1.2x or 20% higher, in terms of cash over the P&L, to 1.3x and 1.4x, Wells noted.

“As we invest in original movies and things that are particularly front-end loaded, you might see that peak at 1.4, but we think that ratio is still a pretty good guide for investors,” he said.

Meanwhile, Netflix is also creating content for a broader demographic, as the company targets 5-6 million new subs per annum in the USA itself.

"We're launching content to multiple demographics and all genres,” said chief content officer Ted Sarandos.

"We're doing shows that are very mainstream comedy, we're doing very elevated shows for some, we're also doing cartoons for kids,” Sarandos added.

“But we're also doing things that are very edgy, very tough; cinematic shows like Narcos that's premiering next month or the revival of Wet Hot American Summer with an all-star cast with Paul Rudd and Bradley Cooper and Amy Poehler.”

Sarandos added: “When I said we wanted to get to be HBO before they got to be like Netflix, I meant that we'd have to get very good at original programming before they get really great at the technology and the direct-to-consumer relationships that they're only starting to invest in now."