Netflix Inc (NFLX) 2007 Q4 法說會逐字稿

Good day, everyone, and welcome to the Netflix fourth quarter 2007 earnings conference call.

Today's call is being recorded.

At this time, for opening remarks and introductions, I would like to turn the conference over to Deborah Crawford, Vice President of Investor Relations.

Please go ahead, Madam.

Thank you, and good afternoon.

Welcome to Netflix's fourth quarter 2007 earnings call.

Before turning the call over to Reed Hastings, the company's co-founder and CEO, I will dispense with the customary cautionary language and comment about the webcast for this earnings call.

We released earnings for the third quarter at approximately 1:05 p.m.

Pacific Time.

The earnings release, which includes a reconciliation of all non-GAAP financial measures to GAAP and this conference call are available at the company's investor relations website at www.netflix.com.

A rebroadcast of this call will be available at the Netflix website after 3:30 p.m.

Pacific Time today.

We will make forward-looking statements during this call regarding the company's future performance.

Actual results may differ materially from these statements due to risks and uncertainties related to the business.

A detailed discussion of such risks and uncertainties is contained in our filings with the Securities and Exchange Commission, including our annual report on Form 10-K filed with the Commission on February 28, 2007.

Now, I would like to turn the call over to Reed.

Thank you, Deborah, and welcome, everyone.

Our goals in Netflix are simple.

Build the world's best internet movie service by combining DVD rental with internet streaming and deliver growing EPS and subscribers every year.

In 2007, we may progress on all of these goals despite of aggressive competition in our confidence and extending this momentum is reflected in our guidance for 2008.

Our EPS growth was strong in 2007 at $0.97 up 37% from the prior year and our midpoint guidance for 2008 is for $1.18 EPS, a 22% increase over 2007.

We continued to add subscribers in 2007, though our growth of $1.2 million net additions was down from 2006 where we grow by 2.1 million subscribers.

The increase competition from Blockbuster in which they incurred large losses was the primary reason for the fewer net additions in 2007.

For 2008, we expect to have more net ads in 2007 with a positive factor being less aggressive competition from Blockbuster Online and a negative factor that were investing less in marketing going forward both on an absolute basis and as a percentage of revenue.

This past year, we paid meaningful in industry-leading improvement to our movie service by offering unlimited streaming of more than 6,000 movie and TV shows as part of the Netflix subscription, by improving our customer support with a representative answering by delivery, and by improving our website's ability to merchandise more content consumers will enjoy.

In independently surveys of internet consumer satisfaction by Nielsen Online and 4C results, Netflix was once rated number one in American e-commerce, etching out such giants as Apple and Amazon.

We see great service and low prices as a strategy for strong financial performance of our business, and you see the results of that strong word of mouth in our rapidly dropping subscriber acquisition cost.

Turning to the competitive landscape, Blockbuster Online is still active and still has several million subscribers.

While they appear to have shifted to valuing profit overgrowth, they can change their mind again at any time.

We are widening the gap between us, however, and any further attack is unlikely to be as painful as their 2005 or 2007 thrust.

This small but rapidly growing new DVD kiosk competitor, Redbox, is a double-edged sword for us.

On the negative side, the dollar per day rentals are a great value for the top new releases.

On the positive side, Redbox hits video stores much harder than it hits Netflix due to our customers' valuing broad selection.

And if Redbox causes more video store closures, they may prove net beneficial to Netflix.

Unless video stores are reinvented, it may be that in five years, there are tens of thousands of kiosks, millions of online DVD renters, and very few video stores.

Despite the increasing speculation about the threat to the entire DVD industry from cable and internet video-on-demand, we do not regard these services as material short-term threats for several reasons.

Cable VOD has been around in volume for the past five years and cable companies are using it to differentiate their services from satellite.

Internet VOD from Movielink and CinemaNow have been offered for the past five years and now Apple has also joined them in internet VOD.

Cable and internet VOD have similar pricing and content availability at approximately $4 per movie with content available 30-45 days after DVD.

You only have 24 hours in which to complete watching the movie.

So, if you watch over two nights, you pay twice.

The only difference between internet VOD and cable VOD is that internet VOD has laptop portability and cable VOD has broad and free TV connectivity, but they are, otherwise, very similar in their consumer model.

DVD continues to have many advantages over cable and internet VOD.

DVD rentals advantages over VOD are ubiquity of content, ubiquity of DVD players in earlier Window for new releases and lower prices.

VOD advantages over DVD are convenience and immediacy.

And despite the growth of VOD over the last five years, DVD rental has been stable with online rental and kiosk rental making up for store losses.

And in the U.S, DVD spending including purchase is still approximately 20 times larger than cable and internet VOD combined according to Adams Media Research.

DVD is simple, cheap, and ubiquitous, all of which make it very appealing to customers.

Looking forward, it appears that Blu-ray has the advantage in format war and consumer adoption of Blu-ray will likely accelerate if Blu-ray can maintain the advantage.

The milestones to watch for are Blu-ray player prices falling below $200, and Universal and Paramount also announcing their support for Blu-ray.

If these two milestones are reached, the consumer adoption of Blu-ray will take off.

This would be a positive for the studios and a positive for Netflix as it would fuel another decade of robust, robust disc space entertainment.

Nevertheless, despite our confidence in DVD spending, growing over the next few years, we know there will be a transition at some points to internet delivery of content.

Netflix is investing somewhat ahead of the internet delivery opportunity to ensure that we enjoy a similar leadership position in that delivery load as we have in online DVD rental.

Despite that incremental investment in a nascent market, we've grown earnings over the past three years and expect to do so in 2008 and beyond, while positioning ourselves to fully capitalize on internet delivery as it gains critical mass.

We expanded one year ago from a DVD rental service to a service that builds streams content and mails DVD for one low price.

Over the last year, we've tripled the amount of content we stream from 2,000 to more than 6,000 movies and TV shows.

And last week, we simplified and enhanced the Netflix streaming feature by offering unlimited streaming.

Netflix now offers for one low price unlimited DVD rentals and unlimited movie streaming.

We pioneered the subscription model for online DVD rental and our growth clearly demonstrates that consumers love the unlimited subscription model.

Over the years, we have developed particular competence in making unlimited subscription work economically.

For Netflix, the cost of online content is just another service cost like standard DVDs or High-Definition DVDs.

And our service costs need to be balanced against other aspects of our model such as SAC retention, usage, and price.

Today, Netflix is streamed to Windows PCs only.

We've been very happy with the viewing of our content by our subscribers, particularly our younger subscribers.

Web-based video viewing is becoming mainstream as a wide range of content companies make their content easily accessible on the web.

We hope in 2008 to be able to support web-based viewing on the Macintosh also.

The hold back has been the lack of a DRM solution on the Mac.

In addition, during 2008 and beyond, we will work to expand our streaming to High-Def DVD players, to game consoles, and to dedicated internet set-top boxes.

Our relationship with LG Electronics is the first of several and we hope to expand the partnership pool by making LG very successful.

As we announced several weeks ago, we think working with partners is a smarter strategy for us than a more proprietary approach.

Our biggest advantage in online streaming is not our technology or content contracts, but our ability to bundle streaming with DVD by mail for a large and growing subscriber base.

If a consumer spends time on the internet and enjoys movies, they're likely to become a Netflix DVD rental subscriber.

As we grow a larger and larger DVD rental subscriber base, our ability to offer both online streaming and DVD rental at one low cost means that we have a great advantage over any standalone internet delivery service at least for the next 10 years while DVD is so significant.

In addition, the DVD rental website that the we have developed and continued to improve includes billions of movie ratings, millions of customer reviews, and an engaged community.

It is the perfect website for streaming movies.

Let me wrap up where I began.

Our goals are to be the world's best internet movie service and to grow subscribers and EPS every year.

Our 2007 results demonstrate progress towards those goals and our 2008 guidance reflects our belief that our progress will continue.

And now, over to Barry.

Thank you, Reed, and good afternoon, everyone.

On last quarters earnings call, I said we were encouraged by our results quarter to date and we revised upward our Q4 guidance.

Today, we announced results at or above the high end of this upwardly revised guidance.

This is the second consecutive quarter of better-than-expected performance.

My remarks today will cover our Q4 performance and the guidance we issued in today's earnings release.

But first, I want to comment on recent announcements involving internet delivery, including our own announcement of unlimited streaming of video content to Netflix subscribers.

Two years ago in January 2006 and again in January 2007, CES was a buzz with developments in internet video delivery.

Investors were concerned about the size of the online DVD rental business and the platform risk posed by online delivery.

And again this year, for the third year in a row, CES was buzzing with news of internet video delivery and questions about platform risk and market size remained.

I would like to point out that in the intervening years from December 2005 to December 2007, our subscriber base has grown by 79% to 7.5 million subscribers.

Revenue has grown by 77% to $1.2 billion.

We have nearly doubled our free cash flow to $46 million and we've deployed our instant streaming video feature which is more popular today than any of the other internet movie delivery sites.

On top of all of this as Reed mentioned, Netflix has continued to be the number one rated e-commerce site for customer satisfaction.

Those of you who were familiar with our strategic view of the market know that we believe that digital landscape will take form slowly but steadily over time.

Our market view is informed by two assumptions.

First, the consumer demand for internet video will remain small as long as the consumer viewing experience is limited to the computer.

Over time, new devices will enable consumers to watch internet-delivered content on their TV sets.

That transition will open the mass market to internet-delivered video content.

But it will take years for these devices to reach a critical mass of consumer adoption.

By way of example, DVD players, the fastest growing consumer product launched in history, took five years to reach 50% household penetration and these devices will take longer.

Our second assumption is that consumer demand for internet video will remain limited as long as the quantity and quality of licensable content remains limited.

Content availability is limited for two reasons.

First, for license content to grow, it needs to be additive to studio revenue and not cannibalistic.

The studios will protect the current revenue streams.

41% of studio revenue comes from selling DVDs.

That's what they're protecting.

Second, in a subscription model, the distribution rights to many new release movies have been licensed exclusively to the pay networks such as HBO, Stars and Showtime.

The studios sold those rights and for a great deal of money without the ability to resell them again during the pay window.

So, before and during the pay window, that content is effectively off the market.

The longer the market transition to internet-delivered video takes, the more established our brand will become and the more sustained our competitive advantage will be versus freestanding internet delivery services.

Because we offer subscribers a compelling bundled service of DVDs delivered quickly through the mail and instantly over the internet, we think we can remain the market leader as the market transition occurs.

Now, I would like to comment on our Q4 results and our '08 guidance.

Financial results for Q4 were strong with ending subscribers and revenue at the high end of guidance and net income significantly above the high end of guidance.

Gross margin of 33.8% was sequentially flat with a small increase in revenue per disc shipment offset at 2% decline in ARPU and a modest increase in overall content cost per shipment.

Free cash flow for the quarter of $21 million was down sequentially on increased content spending.

On a year-over-year basis, free cash flow was nearly unchanged as content spending remained flat.

Faster subscriber growth in Q4 was accompanied by a 22% year-over-year decline in marketing spending and SAC, which fell to less than $35.

And that's the lowest subscriber acquisition cost we've seen in four years.

From our perspective, this past quarters combination of better-than-expected subgrowth, near record, low SAC, sequentially lower churn, and raised guidance for accelerating subscriber growth are proof points of an expanding market.

In a shrinking or saturated market, all these metrics would trend in the opposite direction as leading indicators of a mature business, but that was not the trend in Q3 or 4Q, and that is not our expectation for Q1 in 2008.

Our guidance for 2008 assumes the market continues to grow.

This guidance also projects that we will end the year with 8.4 to 8.9 million subscribers.

As in the past years, much of that subscriber growth will be front end and back end loaded in Q1 and Q4 respectively, reflecting historical patterns of growth.

We expect to end Q1 with 7.85 million to 8.05 million subscribers.

In addition to solid subscriber growth, we expect strong earnings growth as well.

The mid point of today's guidance for '08 projects growth in net income of 18% and EPS growth of 22% for the full year 2008, and net income growth of 17% and EPS growth of 21% in Q1.

While delivering solid subscriber and earnings growth, our 2008 guidance includes a substantial increase in our investment and our online video delivery initiative.

For competitive reasons, we will not be discussing the size or components of the spending, except to say that the majority of it will be included in cost of revenue in 2008.

Finally, our guidance also anticipates another postal rate increase of $.01 beginning in June of this year, which translates to $.02 per roundtrip shipment.

And despite these cost increases, today we raised our full year guidance for net income.

In closing, I would like to summarize my remarks this way: Q4 results were strong and momentum has continued to build quarter to date, our second consecutive quarter of strong momentum and this momentum is reflected in our guidance.

Like last year at this time, I would say the business is scaling nicely, particularly as it relates to the trade off we made this past year between reduced marketing spending and increased investment in the overall value of the service.

Both in terms of lower pricing and service features like unlimited viewing of internet-delivered video content and significantly improved customer service.

Because we are managing our fixed and variable cost structure well, including our investment in expanding our internet delivered video feature, profit margins grew 70 basis points last year and are expected to expand again in 2008.

I'd like to thank our shareholders for their continued support.

The market continues to evolve more or less as we predicted two years ago with continued growth in DVD subscription rental market and the slow and steady evolution of the internet-delivered video segment.

Over the last three years, we have more than tripled net income with compound earnings growth of 46%.

Along the way, we had to overcome some costly competitive challenges, which slowed our growth and pressured our margins.

But stepping back from the competitive fray, I think we can say with confidence that the business is as well-positioned today as we could have reasonably hoped and we're optimistic about the future.

That concludes my prepared remarks, and now we'll open the phones to questions.

Thank you, Mr.

McCarthy.

(OPERATOR INSTRUCTIONS) We will take our first question from Lloyd Walmsley with Thomas Weisel Partners.

Good afternoon.

Thanks for taking my question.

I was wondering your guidance seems to imply an acceleration in either gross sub adds or an improvement in churn.

Can you talk about maybe how subgrowth progressed through the quarter, and what are you seeing now to give you that confidence, and then specifically if you could talk a little bit about how the submix is changing on the various plans, and how the profit dollar contributions might be different or similar on this plan?

Sure, Lloyd.

It is Reed here.

The growth over the prior years is mostly in gross add improvement.

We may -- those two between gross add and churn, there is some interesting dynamics between them that you have to be conscious of.

As an example, we have made it easier to put yourself on a vacation hold, which for financial reasons, we consider that a cancel even though it is a person's on hold for, you know, and has agreed to be restarted, and that inflates the gross add number larger than it would otherwise be and makes churn larger than it would otherwise be.

So, on a margin, you just have to be conscious that, you know, there is some trade offs between SAC and churn.

But most of the growth this year will be an increased gross add.

And your second question was on profitability at the different plans and mix, and we haven't historically nor will we today provide you any specifics on that difference in mix between plans other than the total ARPU which we give out.

Okay.

Great, thank you.

I would add, Lloyd.

There's no particular change in the mix in Q4 versus Q3 or in the profit attributes of those plans.

Okay.

So steady sailing.

The big change we saw during the quarter between the fourth quarter and very late in the fourth quarter in the last couple of days, of course, was the competitive shift in pricing and the change in the momentum that resulted from that.

Thank you.

We'll take our next question from Doug Anmuth with Lehman Brothers.

Hi, this is actually [Ron Jersey] calling for Doug, and just a real quick question.

Where do you think net adds are coming from?

Is it from Blockbuster, from BBI, or Netflix subs or just overall expansion of the market and could you quantify that mix, please?

Thank you.

Ron, if you look at the domestic rental revenue for the public companies over the last five years and kind of do a stacked bar chart, you can see that online.

The totals are steady and that online is basically taking from stores.

So, that's what you get is essentially all of our growth comes out of video stores.

Great.

Thank you very much.

We'll take our next question from Youssef Squali with Jefferies & Company.

Thanks, this is [Hagit] for Youssef.

Two quick questions.

Guidance assumes or implies that the midpoint about a 6% net margin for '08, and I understand you don't want to talk about the cost of digital delivery, but is it pretty much safe to assume that the difference between the 7% you did in Q4 and the 6% you're guiding to is all in those costs?

Well, I actually think operating margins increase on a year-over-year basis so I'm not sure what you're referring to actually.

I was referring to net income margins.

Yes, and I think net income margins will rise on a year-over-year basis as well.

Okay, I'll check the numbers again then.

And I guess, can you just talk a little bit about --

Happy to jump offline and try to resolve that with you.

Thank you.

Yes.

Just another quick question.

Since the subscriber acquisition cost did come as low as it did, why did you not decide to spend a little more and grow faster?

You remembered two quarters ago when we lowered the price of the service.

We said there were several ways to invest in value proposition.

One is increased marketing, one is lower marketing spending, and it coupled with price decrease.

And we said at the time that if the business continued to outperform that would help us pay for the cost of the price decrease over time.

So, that strategic path we embarked now, and you should expect us to continue on that path for the foreseeable future.

Thank you.

We'll take our next question from Heath Terry with Credit Suisse.

I was wondering if you could just give us an idea of, you know, as you start to learn more about your Watch Instantly customer base, if you're seeing any kind of changes in either their usage levels or their churn rate, specifically within those, they are finding Watch Instantly useful and then using it?

Heath, it's Reed here.

Yes, amongst the -- those that are active users for streaming, they skew young and young people have different churn and usage profiles than other people.

So you know, you don't have a good control group there to be able to -- for us to be certain.

It does appear that and makes sense that the more someone uses streaming, there's especially with the unlimited streaming, they're going to consume less DVDs though we can't tell you constantly the degree of that partially because, you know, it's relatively small numbers and there's not a clean control group if they didn't get streaming.

Great.

And I know you cannot touch on this a little bit.

But can you give us an idea since the Blockbuster price increase went into effect at the end of December?

Have you seen any changes in the rate of new customer acquisitions, churns, subscriber acquisition costs, relative to what you were seeing prior to the price increase?

Yes.

We see a modest improvement in acquisition but not yet.

I mean real change in the -- you know, we ask when the customer leaves us, you know, what are you going to do for movies and no material change in the number of people that say they're going to Blockbuster Online, which is why we want to point out to investors that it would be too soon to conclude Blockbuster Online gone away or something black and white like that.

They're still pretty active in the market.

They've got a good value proposition.

They've got a big brand so they're still active in the market.

Great.

Thank you.

We'll take our next question from Barton Crockett from J.P.

Morgan.

Great.

Thanks for taking the question.

I wanted to drill down a little bit more a kind of the subscriber growth issue here.

I mean your guidance assumes more net adds in '08 versus '07.

And you know, but if you look at what happened in the fourth quarter of '07, you actually had less net adds in the fourth quarter of '07 than you had in the fourth quarter of '06.

And you know, all the kind of dynamics that we see in the fourth quarter of '07 presumably will be there in 2008.

So, what changes it incrementally for the fourth quarter of '07 into 2008 that, you know, gives you the confidence that basically your gross add growth will do better than it was in this quarter which was flat, you know?

What changes that?

It's Reed here.

It's mostly a [comp] quarter question.

So, Q4 that we just completed was [comped] against Q4 a year ago before total access was broadly advertised.

Whereas Q1 of 2008, it [comped] against the quarter in 2007 in which Blockbuster was very aggressively advertising Super Bowl, Academy Award, their total [access] program.

Okay, alright.

That helps there.

And then, in terms of the online content costs for the Watch Now feature, can you give us any sense?

I mean, is that anymore or less expensive per minute of, you know, content to view it online versus for a customer to view it on DVD.

In other words, does it cost you more, you know, for a couple of minute online or to give it to people on DVD?

I'm not the sure that looking at it per minute is really that helpful.

People tend to watch different kinds of content, you know, a little more TV shows online with the online streaming and they -- and different value perception in what they're willing to pay for between online streaming and DVDs.

What we can say is, you know, when you think of our content spending, there's three buckets.

There's really the High-Definition DVDs.

There's a standard DVDs and there's the online content.

And we look at it that way as, you know, three different content buckets that we tried to invest wisely in, relative to their value perceptions by consumers and by value perceptions, I mean, retention value to balance out our total acquisition or subscription equation.

Okay.

Well, are you seeing an evidence that the online usage is reducing the DVD usage?

Well, you know, that was Heath's question.

And there's no clean way to do that because we don't have a control group that doesn't have streaming.

Okay.

And so, you know, the difference is it gets [on by being] others differences that are seasonal differences also.

Okay.

And so, without a control group, it's a -- you know, you can guess at it and we do.

We like what we're seeing, you know, there's no -- nothing we feel comfortable saying, "Okay, we crack the formula.

Here is the trade offs, et cetera."

This is my final question.

The writers strike, to what extent do you think that is helping you now and do you think it might be, you know, it seems to be a help when this thing is finally settled?

In terms of, you know, TVs and reruns probably less appealing and moe people wanting to watch a DVD?

No, I'm not sure.

It's certainly no material help if it's a help, it may be a slight help, or slight hurt.

You know, it's like a recession in consumer spending.

I mean, you know, you could argue it hurts because we have credit card customers and you could argue it helps because rental is such a good value.

But these are both very background kind of factors, they don't affect our business in any dramatic way.

Okay, great.

Thanks for the time.

Barton, it's Barry.

We think about it the same way we think about new released movies.

So, in the bricks and [border world], they talk about the new released calendar and they're talking about macroeconomic events.

And generally, you don't hear us quarter to quarter talk about it, either.

Okay, great.

Thanks a lot.

We'll go next to Jim Friedland with Cowen & Company

Thanks, a couple questions.

First, on the churn pattern.

Now, that Blockbuster eased off, should we expect to see the Q1 ticks up a little from Q4 and then Q2 ticks up a little bit more than drops in Q3, drops in Q4 again, a sort of the annual pattern there?

And the second question is on gross margins.

I'm thinking about gross margins this year, Barry.

Are you willing to give us any kind of more insight into how much online maybe either weighing on that and outside the postal increase if there are any other impacts we should be thinking about?

Let me jump on gross margin and I'll kick the churn over to Reed.

The increased spending in the ED content is going to weigh on gross margin.

We have forecast all of the cost and none of the benefits which seems the right course of action since we can't yet identify any benefits, specifically attributable to retention or SAC or substitution between DVD usage and online usage.

So yes, there will be some erosion in margin as the calendar year progresses.

And on the churn trends?

On the churn, I think implying that it's the 2006 seasonal pattern the more relevant one likely than 2007, and I think the answer is yes on that.

Okay.

And then, a quick followup, Reed.

Thinking about unlimited usage given that there's such a small segment of the user base today.

If we look out, I don't know what the year is '09 or 2010, is there a point where you will not be able to offer unlimited usage and/or is that something you just think it's so far from the future, it's not worth thinking about at this point?

No, we think very much about it trying to line up our consumer proposition along the lines of things that will be great economic propositions now and most probably going forward.

So, all of our testing, and you know, the usage of our online streaming while confined to PCs is still pretty broad and we've been very happy with it.

So, I don't see anything that would disturb that unlimited viewing ability.

Okay, great.

Thank you.

We'll take our next question from Mike Olson, Piper Jaffray.

Thanks.

A quick question on the LG relationship.

Obviously, that's an important step a kind of getting integrated into CE devices.

But I'm sure your goal as you talked about is to make Netflix ubiquitous among a lot of different devices.

And when can we expect, i guess, more devices beyond LG?

Is it '08 or is it more likely in '09?

And then, secondly, what gives you confidence that CE manufacturers are going to want to partner with Netflix?

I think the thing that will make us popular in the CE community is if we do a great job with LG and they sell a lot of their devices because of the Netflix service and they make a lot of money off of that.

Then, other people are going to want, you know, a part of that success.

So, our core focus is not to see how broad can we license today but it's instead how successful can we make LG in terms of growing their share of the various segments that they participate in.

And we may see a few more agreements this year but you know, a very small number.

Given that, we think that the best strategy is to, you know, really do a good job on the total CE integration where it's a great job for the consumer, the customer works well, the total experience works well and then expand that much more broadly in 2009.

Okay.

And then just as far as the streaming service, any on Watch Instantly, any metrics you can give as far as number of streams or any changes, any uptick or anything such the change to unlimited usage?

No.

We proved out to our satisfaction by doing testing beforehand that the unlimited watching made economic sense for us, that its increased attractiveness to the consumer was greater than its increased cost.

But we haven't given any metrics on number of streams or users or those kinds of things.

Okay, just one last [housekeeping] one here.

Did you say that absolute marketing dollars will be down in '08 versus '07?

That's correct if that's our intention.

Okay.

Congratulations.

We'll go next to Tony Wible with Citigroup.

Good evening.

I understand that you can't provide detail exactly on the streaming content cost but can you let us know if it's a little bit more front loaded as you buildout that platform?

In other words, do you anticipate as you go through different distribution partners, expenses kind of rising with the revenues or do you see the revenues coming later and the expenses more upfront?

I got no comment.

Okay.

Subscriber acquisition cost, do you anticipate I guess being more aggressive just in the first quarter in light of Blockbuster pulling back on their advertising?

I understand you said year-over-year you anticipate marketing to be down, but do you see any opportunity in the near terms to benefit from Blockbuster's lack of advertising?

On a per subscriber basis, Tony, that we don't guide the SAC.

The short answer is no.

There is increased momentum in the marketplace.

Some of that in the form of word of mouth, organic growth.

And so to the extent, we're riding a wave of momentum going to the the change in competitive pricing rather than seeing SAC go up.

You might see it go lower.

Okay.

And last question here is any thoughts on pricing now that Blockbuster has changed pricing do you see any reason to either increase or lower pricing?

Well, we try to.

It's Reed here.

We try to do careful testing on those.

So this year, you may see us testing additional price cuts.

You may see us testing price increases, trying to figure out the elasticity, its elasticity changed in a new competitive climate but these are all things that are kind of very much on the margin.

Remember that when you cut price as with we did last summer you get benefits and lower SAC like we're seeing today.

And if we increase price, there will be cost in increased subscriber acquisition cost.

So, you know, there's a complicated trade off metrics there and you know we'll continue to test and refine, but you know still no big shifts in the competitive climate.

Great, thank you.

We'll go next to Daniel Ernst with Hudson Square Research.

Yes, good evening.

Thanks for taking the call.

Two questions if I might.

First, just a overall simpler question, I believe.

Can you give any metrics on overall usage of High-Definition Disks, either Blu-ray or HD DVD?

And what your subscribers mix between those two are?

And then secondly, returning to the question of marketing spend in 2008, it seems that at the moment you've got tail winds again as Blockbuster has pulled back a bit.

But maybe in a year from now, you're going to experience some additional headwinds and especially Apple has a more robust offering.

I think about with how many films they can actually offer.

And so, yo know, at some time in the future, you'll have more headwinds and you got tail winds.

Why not accelerate a little bit here to lock in some more before the battle heats up?

Thanks.

Well, Daniel.

It's Reed here.

To the degree that one thought the climate would get tougher I suppose you might consider that and you referred to Apple service in particular.

But remember this year, there's about 1.3 billion in video-on-demand spending already that we compete against and have been competing against.

And you know, Apple announced they did about 6 million movies to date.

So, I don't know, they say it goes up by a factor of five or six or 10 or something.

And it's still pretty much in the background noise in terms of the video-on-demand market.

So, we actively compete with the On Demand from Comcast and others and have for the last five years.

So, I don't see any material shift in the climate in the near term possible from that.

So, we don't look at it and say, "Boy, the climate is going to get harder in the future."

Okay, good answer.

On the Blu-ray side?

Blu-ray, you know, sharp growth in the last couple weeks in CES since the announcement of Warner flipping over.

But we have been in that camp before and then the HD DVD [Camp] pulls out a surprise as they did with Paramount a couple of years -- eight months ago.

So, we're definitely the winds are shifting to Blu-ray but nothing is done yet.

And then HD or High-Definition DVD overall as a percentage of your subs, is it a meaningful percent of your subs that are using one or the other?

Not yet.

Well, meaningful percent of the subs, yes, but meaningful percentage of shipments, not particularly, because there's not that much content released on it yet.

Sure.

But in terms of subs, it's definitely growing.

I would say that we have a big crew of internet-connected early adopter, savvy subscribers.

So, it's going to be all relatively early.

Great.

Thanks a lot.

We'll go next to Bill Lennan with Broadpoint.

Hi, a couple questions.

The short version of this one is can you give us an idea of what you're expecting ARPU to be in Q1?

I'm going backwards from the ending subs, ending some trials.

And I'm coming up with ARPU picking up sequentially.

It doesn't seem right to me and the second question is what's your best guess for how many subs Blockbuster ended '07 with?

Bill, it's Barry.

We don't guide ARPU but I will give you some color and remind you that there tends to be in the fourth quarter new subscriber growth is back end loaded and they become paying subscribers early in Q1 and generate revenue throughout the quarter, and the new subscriber growth in Q1 tends to be front end loaded and they become revenue paying subscribers early.

And so, that tends to move the revenue per sub number in a way that's different than you see in the rest of the quarters of the year.

Every year we face the same question where ARPU moves in a way more positively that puzzles investors.

So, we continue to expect over the long term ARPU to move down until the mix of by price point of new subs and the installed base normalizes.

But you may see some seasonal fluctuations due to the number of revenue months per sub.

And then you asked about Blockbuster.

They probably went down modestly.

But I don't know, we don't have any specific information about it.

So, we'll wait and see what they talk about in their call.

Would you guess it's like a net loss of 100 versus 500 if you had to pick one or the other?

You know, that's a really good question to pose to them.

I think we want to stick to reporting on our metrics.

Okay.

They were very aggressive at converting store-based customers to store-based subscription rental with an online component.

And when they change pricing last quarter, they lost some of those subscribers and reasonable to expect that trend will continue for awhile I suppose.

Okay.

Thanks, guys.

We'll take our next question from Andy Hargreaves with Pacific Crest.

Hi, just back to the LG partnership, I'm wondering as you guys look at the CE space, can you talk about at all what you weighed in terms of whether or not to partner, whether or not to build hardware yourself and what was the the determining factor ultimately?

Andy, it's Reed.

We never thought about not partnering, so it was only would we also have our own thing in addition to all of the the partners, and what we came to realize is that it was enough partner interest and enough consumer interest that we researched that we really didn't need to do our own thing also.

And then, can you give us any hints as to how to real estate on that device will be split up or how do you guys will show up?

Yes.

In the press reports LG released, essentially the homepage screen and you see Netflix has one of five icons there, the other being music and another being playing a DVD, forget the other two but you can get a sense there for the prominence of Netflix from that.

Okay, and then just back to the Blu-ray.

Can you just give us a sense for how you think the pace of adoption now that the format war is more or less decided?

How that it affects your acquisition cost?

Does it have a material effect if Blu-ray players start selling a lot faster?

You know, so you're assuming that Blu-ray is going to win there and I made the mistake.

I don't know a year or two ago before the HD DVD camp flipped Paramount.

I'm thinking the same, so remember that we're all judging it by studios and they manage to flip another studio to their camp then we're back to stalemate again.

But if one format presumably Blu-ray takes off, that will have an effect that Blu-ray gets cost a little more, so that will have an effect upon us in terms of content costs.

But also the perceptions of consumer around HD are that every other HD option cost them more.

So for example, video-on-demand HD usually costs $5 or $6 instead of $4, or video or HD channels from Comcast and others cost an additional supplement.

So, it may be that we have room to be able to do HD specific pricing as we get to volume on this because the competition for the consumers attention in HD is all around that also.

So, it's something we'll know more, maybe by the end of the year as we look at the success of the HD formats.

Okay, thanks.

We'll go next to Brian Fitzgerald with Banc of America Securities.

Great, thank you.

This is (indistinct) for Brian Fitzgerald.

You mentioned the studios had sold exclusive rights to digital content to cable channels like HBO and Showtime.

I was wondering what kind of time frame you expect for this content to become unlocked?

Well, there is some contracts that are up for re negotiation and some that have been renegotiated, and we'll see how that shakes out over the next couple of years, so I think we'll have a clear view of that landscape certainly by 2010, excuse me, by 2010, and there are some negotiations that are happening now in anticipation of some expiration dates.

And then another question if I may, I was wondering about the rationale for switching to an unlimited streaming plan.

Is it because a lot of your subscribers were hitting against their time on this?

No.

The primary rationale is to simplify the proposition.

It's now much easier to communicate unlimited DVD rentals plus unlimited streaming for one low price as low as $8.99 a month, and you don't have to explain one cap per hour and what happens if you run out of hours in the middle of a show and what happens if four other cases.

We found the power of unlimited is very strong with consumer s which means it's a much easier and simpler proposition to market so that's the driving rationale.

Back in October of '99, we had a cap on the DVD subscription program, until we figured out how to manage the economics to a happy outcome for Netflix and a good user experience for subscribers.

It was Reed's insight that that promise of unlimited unlocked broad-based consumer appeal of the service.

And we're headed down the same path that unlimited usage for the internet-delivered video as well.

Great, thank you.

We'll take our next question from Barton Crockett, J.P.

Morgan.

Great, just a follow-up question for the model.

You guys will give us in disclosures or the conference year-to-year change in mailings and year-to-year change in postage and packaging expense.

Can you give to us now?

No.

Comes out in the K.

Are you saying you're waiting for the K on that?

That's right.

All right, that's it.

Thanks.

That concludes today's question-and-answer session.

This time, I'll turn the call back over to you Mr.

Reed Hastings for any closing remarks.

Thank you, everyone for your support and we look forward to speaking with you again over the quarter and at the next call.

That does conclude today's conference.

Thank you for your participation.

You may disconnect at this time.