Spencer Wang:

Welcome to the Netflix Q2 2024 Earnings Interview. I'm Spencer Wang, VP of Finance, IR and Corporate Development. Joining me today are Co-CEOs, Ted Sarandos and Greg Peters; and CFO, Spence Neumann. As a reminder, we'll be making forward-looking statements and actual results may vary. We'll now take questions from the sell-side community that have been submitted and we'll begin with a set of questions on our Q2 results and our forecast.

Spencer Neumann:

Yes, sure. Thanks, Doug, and thanks, Spencer. We're pleased with our performance in Q2. There was strong performance across-the-board, good momentum across the business, strong revenue growth, member growth and profit growth. In terms of that member growth and churn, I'd say that the kind of outsized paid net-adds in the quarter was primarily driven by stronger acquisition, a little stronger than we expected, but also very healthy, continued healthy retention in the quarter and that's across all regions. In terms of growth generally, there's probably kind of three key factors that drove member growth. First, strong performance of our content slate, a wide variety of titles that delivered across genres and regions and I'm sure we'll talk more about that. There was some positive impact from paid sharing that continues. As we've said on recent calls, it's tougher and tougher to tease that out. We're clearly seeing healthy organic growth in the business, but we're also continuing to get better and better at translating improvements in our service into business value, including getting better and better at converting unpaid accounts. And at least on the paid member front, we're also probably benefiting from that attractive entry point in terms of price point and feature set for our ads plan. So you put all that together and it was a nice quarter for subscriber growth, but even more importantly, a nice quarter in terms of driving healthy revenue growth and healthy profit growth. So 17% reported revenue growth and margins that were up 5 percentage points year-over-year.

Spencer Neumann:

Ted, do you want to take it or?

Spencer Wang:

Thank you, Ted. Our next question on the results relate to operating margin and the question comes from Jessica Reif Ehrlich of Bank of America. For Spence, how should we think about the pace of margin expansion going-forward and the drivers of the margin outperformance this year?

Spencer Wang:

Thank you, Spence. Our next question comes from Steven Cahall on -- from Wells Fargo and it's regarding free-cash flow. So the question is, Netflix has raised their full-year revenue and margin outlook, but did not change their free-cash flow forecast of approximately $6 billion. Is this just a pull-forward in cash content spend or is there anything else that is impacting your free-cash flow guidance?

Spencer Wang:

Thank you, Spence. We have our quarterly question on paid sharing next from John Hodulik of UBS, which I'll direct to Greg. The question is, do you still have upside from the paid sharing initiative? And have you moved forward on mobile paid sharing? And if so, how big of an opportunity is this?

Spencer Wang:

Thank you, Greg. I'll now move us along to a series of questions about advertising. And we'll start first with Barton Crockett of Rosenblatt and I'll point this question to Spence. You say that advertising is not a "primary" driver of revenue growth yet. Can you provide a little more clarity on what that means for both '24 and '25?

Spencer Wang:

Thank you, Spence. A follow-up question on advertising comes from Ben Swinburne of Morgan Stanley and I will direct this to Greg. Looking into your advertising revenue ramp into 2025, what are the key areas that need to improve to bring in significantly more revenue? Can you talk about the opportunities and challenges scaling up your direct sales efforts and leveraging third-party sources of demand, primarily programmatically?

Spencer Wang:

Thank you, Greg. From Steven Cahall, his question is, given what we think are pressures on AVOD CPMs and the 10 hours per account per month viewing time you disclosed at the upfront for ad-supported members, what's the likelihood that ad support ARM drops below ad-free member arm in the second-half? Would you consider raising the price of ad-supported tiers as an offset?

Spencer Wang:

Thank you, Greg. John Hodulik from UBS asks, can you provide an update on the CTV ad environment and update us on initial feedback from advertisers on your ad tech initiative. What features do you expect to add with the ad tech build? And anything you can tell us about the costs associated with it?

Spencer Wang:

Thank you, Greg. And our next question is for Ted, coming from Rich Greenfield of LightShed Partners...

Spencer Wang:

Yes.

Greg Peters:

Thanks, Spence [Multiple Speakers]

Ted Sarandos:

Thank you, Rich. It's a great question. And let me back up a minute. We're in live because our members love it and it drives a ton of engagement and it drives a ton of excitement. And those two things are very valuable. So the good thing is that advertisers like that too and they like it for the exact same reason, the excitement and the engagement. So everyone's interests here are perfectly aligned in that way. What we signaled to the world when we went live with the Chris Rock

Ted Sarandos:

Well, hopefully exactly the way we're doing it by making these Netflix events, not necessarily taking on a lot of tonnage from any one league, but actually making these games -- events like having two NFL football games on Christmas Day and two great games, the Chiefs and the Steelers and the Ravens and the Texans, they're both going to be great games and it really creates a lot of real excitement with the service and it's one day of football. So when I look at that and I think along those lines, you'd see how we solved for that in our WWE deal, which was economics that we like and live with and can grow into and contemplate with that expansion of cost and viewing would be over the -- over in that case as long as 20 years if we wanted to be. So I think it's really not a matter of -- there's an automatic disconnect between you can't do sports and net profit. It's very difficult to have big league sports and profit until -- when you offer them entire seasons. But when you offer them in this event model that we're building on, we're really excited about our opportunity to do that without the risk that you're talking about right now. So -- and then beyond that, we are in love with the kind of very profitable storytelling version of sports. So if you can't wait for those football games on Christmas Day, you can watch Receiver right now. It just started on July 10th on Netflix, which is part of that storytelling version of sports.

Ted Sarandos:

Yes. Look, I think I talked about this a bit on the last call as well, but competition for entertainment is super intense and we compete for every second of view time we get. So beyond that, kind of the competitive intensity that's always been out there, we also anticipated some headwinds in our engagement because of paid sharing. Remember, we're taking folks who were watching Netflix and not paying-off the service. So we thought our engagement would go down. We took a deep-dive into how that was impacting and how we could isolate that impact and look at it as owner households, so those folks who were not impacted by paid sharing at all. And what we saw was in last quarter is that engagement was holding steady, so that much of the engagement headwind was coming from that. And I look then -- but now we look-forward a quarter. Now I'm not going to get in the habit of releasing this as a new metric every quarter, but looking at that same segment again, that segment's engagement is actually not just steady, but up year-on-year. So we're very excited about that. I think it's a very healthy sign of engagement growth. And even with all of that, so beating down the headwinds of that and beating down competition, we're still about 10% of TV time in every country we operate in. So still lots of room to grow, but very pleased with our engagement, but not fully satisfied.

Ted Sarandos:

Yes, sure. Looking at the Nielsen data that just released for June, what you see there is Netflix and YouTube are the clear leaders in direct-to-consumer entertainment. So our two service -- us and YouTube represent about 50% of all streaming to the TV in the US and we use the US only because that's where we have the data. So really what we're focused on here is focusing ourselves on that other 80% of total TV time that isn't going to either us or YouTube. So that's a ton -- even that's both streaming continuing to expand, which it did in June, so that share of TV time grew against linear. And as linear continues to give, I think there's a lot of opportunity for us to grow as long as we keep executing well. Now we clearly do compete with YouTube in certain segments of their business and we certainly compete with them for time and attention, but our services also feed each other really well. So remember, our shows are the most-watched and talked about and award nominated. We just came out of 107 Emmy nominations for our slate this year yesterday. And so our teasers and trailers and behind-the-scenes clips and all those kind of things are incredibly popular on YouTube. So in that way, we kind of feed each other pretty nicely. Greg, I don't know if you want to add anything?

Spencer Wang:

Thank you, Ted and Greg. Our next question comes from Maria Ripps of Canaccord. Netflix's CTO, Elizabeth Stone, recently appeared on a podcast where she said that Netflix is exploring how to integrate generative AI into the platform to improve the member experience. Do you think that technology could have more of a potential impact on the content creation or discovery side? How do you think about the relative impact on engagement from improving discovery versus content? Greg, over to you for this one.

Ted Sarandos:

Yes, it begs the question about the impact on creative with AI going-forward, which is hard to predict obviously. But I would say this, I think that AI is a great -- is going to generate a great set of creator tools, a great way for creators to tell better stories. And one thing that's sure, if you look-back over 100 years of entertainment, you can see how great technology and great entertainment work hand-in-hand to make -- to build great big businesses. You can look no further than animation. When animation didn't get cheaper, it got better in the move from hand-drawn to CG animation and more people work in animation today than ever in history. So I'm pretty sure that there's a better business and a bigger business in making content 10% better than it is making it 50% cheaper. So remember, I think that shows and movies, they win with the audience when they connect. And it's when the -- it's in the beauty of the writing, it's in the chemistry of the actors, it's in the plot, the surprise and the plot twist, all those things. And I'm not saying that audiences don't notice all these other things, but I think they largely care mostly about connecting with the storytelling. And I'd say they probably don't care much about budgets and arguably maybe not even about the technology to deliver it. So my point is they're looking to connect. So we have to focus on how to tell on the quality of the storytelling. There's a lot of filmmakers and a lot of producers experimenting with AI today. They're super excited about how useful a tool it can be. And we got to see how that develops before we can make any meaningful predictions of what it means for anybody. But our goal remains unchanged, which is telling great stories.

Greg Peters:

Yes, it's hard to know exactly at this moment how much benefit that new homepage will derive. I think it's worth noting that it's less about the improvements that we're going to deliver initially, but it's more about creating a structure that allows us to evolve and advance more freely than the current structure does. And in terms of what are the pain points, what are we trying to solve, a lot of this is getting to the increase in diversity of entertainment that we are now offering. So we've been amazing at film and series for a long period of time, but now increasingly, we're adding live events into it -- live events like the Brady roast, which was incredible, but it's a sort of one-off event that we have to create demand for. It's live events like WWE, which are consistent and repeating that we want to make sure that fans of that experience have an easy way to access those things. We're increasingly promoting games as well into our service. So what we found is we need to create structures that allow us to flexibly go from one-type of content and entertainment to another in terms of how we're promoting and connecting those. So there's things like that. There's also things like we want to increasingly recognize that we're doing -- even in the same content type, we're doing different jobs for our users in different moments. And that could be Sunday afternoon family movie time, that'd be a great experience if we want to provide exactly the right discovery and choosing experience for versus maybe late on Thursday night when you're coming home and you just want to get into the next episode of the series that you're currently cruising through. So it's that kind of flexibility we want to provide. This is -- our expectation is that this new structure will allow us to deliver as the old structure did for a decade, multiple repetitive material benefits to users in terms of engagement, which lead into retention and then revenue. But again, that will be a long iterative journey and mostly we're trying to take that first step and set us up for that.

Greg Peters:

There we go. We like beauty as well…

Spencer Wang:

Thank you. Next question is from Jason Helfstein of Oppenheimer. What have been the early results from phasing out the basic tier in a handful of your markets? And how does that tie-back to success in selling ads? Greg, would you want to take that one?

Spencer Wang:

Thank you, Greg. Next question comes from Eric Sheridan from Goldman Sachs. The question is regarding gaming. Can you provide any update on your gaming initiative and user engagement and your ability to scale your gaming efforts?

Ted Sarandos:

Yes. I just want to chime in for a second, Greg, if you don't mind. This is why I'm really excited about the opportunity in games, which is the way that it's pretty rare for the content -- new content vertical like this to actually complement or draft off of each other. So every once in a while, we get something like Squid Game

Ted Sarandos:

Well, thanks for the question. I would like to just back up a little bit and say that creating TV and films for a big global audience is a creative process. So -- and we're programming for more than 600 million people around the world who are watching us for a couple of hours a day every day. So we're -- we've got our work cut out for us. And that $17 billion, all those exciting things we talked about earlier are all tucked into that $17 billion and that $17 billion will grow as our revenue grows. It won't grow as fast as our revenue grows, but it will grow to accommodate that. And I think what's really important and where I think we have a real interesting advantage here is that we have these distributed creative teams all over the world. So what's great about that is they are very tightly wound into the creative ecosystem in all these different countries, the star systems, the producer systems and more importantly, the culture, what fans in those countries really love. So we've got all these folks working at the same time so that in this creative process, which does have hot streaks and cold streaks, they can be operating pretty simultaneously to create a very steady cadence of big exciting hits. We certainly compete with Hollywood to make the best and most popular programming in the world. But we're also doing that in India, in Spain, in France, in Italy, in Germany, in Korea and Japan, all over Southeast Asia and Mexico and Colombia, Spain, Argentina and the U.K. And the program that create -- the programming that we create in those countries, all -- again, all part of that 17 bill are all designed to thrill the local audience. And when they really, really thrill the local audience, there is a possibility and sometimes a probability that they could find a gigantic audience all over the world, including in North-America. So the team in EMEA, particularly in the UK, is doing a remarkable job of this right now. So they have been able to deliver big global hits, but they've been sensational in country. So Baby Reindeer and The Gentleman, both landed with Emmy nominations yesterday and have been sensations in the US, but they are a phenomenon in the UK. So more than 50% of all of our members in the UK have watched or watching Baby Reindeer and The Gentleman. Similarly with One Day, our original film Scoop. So those things that are thrilling the world are super serving the British audience. The same thing just came out of Paris or out of France with under Paris, which was 90 million views, 157 million view hours around the world, more than half of every French member loves this movie. Same thing with The Asunta Case in Spain. More than 50% watching in Spain and big watching all over the world. Queen of Tears in Korea is another example that's happening in APAC right now. So this kind of like super serving local audiences, creating global content around the world, gives us an efficiency that I think is getting better and better and a muscle that's getting stronger and stronger that I'm really excited about. And how does that play-out, our slate coming up is unbelievable. So in -- as we've currently forecast, what we're going to deliver for the rest of this year and what we're going to deliver into the net -- in through '25 just for -- just before the end of this year, we've got Squid Game return, we've got Emily in Paris return. You've got a new season of Selling Sunset, Lincoln Lawyer, The Diplomat, Virgin River, Love is Blind. Ryan Murphy has an incredible new season of Monsters that tells the Erik and Lyle Menendez story. That's all just coming up before the end-of-the year. And then looking-forward over the next -- through '25, you've got new seasons of Wednesday and Stranger Things and Night Agent. We're in production on One Piece. So there's a ton of excitement there just in our series. This week, we kicked-off the finale of Cobra Kai, which is going to blow your mind. August 8th, we've got the finale of Umbrella Academy kicking off and a brand-new series that we're also thrilled about. Susan Beer's Perfect Couple with -- this has got Nicole Kidman and just a really fun, fun thriller. Nobody Wants This from Kristen Bell and Brody, Black Doves, a beautiful show out-of-the UK. Beauty in Black from Tyler Perry, No Good Deed which is bringing Ray Romano and Lisa Kudrow back to TV, A Classic Spy with Ted Danson. From Brazil, we have Senna. From Colombia, we've got Hundred Years of Solitude. And then, of course, all those live events I talked to you about. And our movie slate is fantastic with Rebel Ridge, Will & Harper, The 688, The Piano Lesson, Carry-On. These are -- we have got a lot packed into that. Our goal and our mission here is we have to spend the next billion dollars of programming better than anyone else in the world and there's no one better at doing it than Netflix. So we're excited.

Ted Sarandos:

It's all in. It's all in there.

Spencer Wang:

All right. Well, I'm going to leave it at that since it sounds like we're going to have a lot to watch. So we all need a little bit more time. So we'll end the Q2 call here. So thank you, Ted, Greg and Spence for joining us today. Thank you, investors and analysts for dialing into our call and we look forward to chatting with you next quarter. Thank you very much.

Spencer Wang:

Good afternoon, and welcome to the Netflix Q1 2024 Earnings Interview. I'm Spencer Wang, VP of Finance, IR and Corporate Development. Joining me today are Co-CEOs, Ted Sarandos and Greg Peters; and CFO, Spence Neumann. As a reminder, we will be making forward-looking statements and actual results may vary.

Greg Peters:

Yes. As we noted in the letter, we've evolved and we're going to continue to evolve developing our revenue model and adding things like advertising and our extra member feature, things that aren't directly connected to a number of members. We've also evolved our pricing and plans with multiple tiers, different price points across different countries. I think those price points are going to become increasingly different. So each incremental member has a different business impact. And all of that means that historical simple math that we all did, number of members times the monthly price is increasingly less accurate in capturing the state of the business. So this change is really motivated by wanting to focus on what we see are the key metrics that we think matter most to the business. So we're going to report and guide on revenue, on OI, OI margin, net income, EPS, free cash flow. We'll add a new annual guidance on our revenue range to give you a little bit more of a long-term view. We'll also - we're not going to be silent on members as well. We'll periodically update when we grow and we hit certain major milestones, we'll announce those. It's just not going to be part of our regular reporting. And we want to do all of this thoughtfully and give everyone time to adjust this transition. So we're going to continue to report subscribers until Q1 of next year, which links into our next annual revenue guidance for 2025. So we think that provides some long-range continuity. And we expect that will provide an effective bridge and transition. But ultimately, we think this is a better approach that reflects the evolution of the business and it more matches and is consistent with how we manage internally to engagement, revenue and profit.

Spencer Wang:

Great. Thank you, Ted and Greg. I'll move us along to the next question from Ben Swinburne of Morgan Stanley who asked two years ago, Netflix stopped adding members. What changes inside Netflix and/or the broader industry explain the significant improvement in member growth we're seeing today, excluding the paid-sharing initiative? In other words, what are you doing better today as a company than in the first half of 2022?

Greg Peters:

Yes, I think that's right. The fundamental is all those amazing series, film, games, live events, but a key component of our success and something that we're seeking to get constantly better at is that ability to find audiences for all those great titles. Part of making that happen is just the number of people who look to us for entertainment. We mentioned over 0.5 billion people in this letter, but part of that is that, that product we do to effectively connect those folks with titles that they will love, which then enables us to find the largest audiences for those titles that we think that they could get anywhere. And I think as you mentioned, Ted, this applies globally to titles from all over the world, which is super-exciting. So - and then of course, we seek to maximize the fandom and the impact on the conversation and the cultural zeitgeist that all those titles have. And when we do that well, that just feeds positively into that cycle as we launch new titles. So in terms of what are we doing better, what do we do better, we seek to get better at all of those things. And if we can make that whole flywheel spin a little bit faster, then that's great for our members, it's great for our titles and it's great for our creators.

Spence Neumann:

All right. Sure. Well, thanks for the question. So first, regarding revenue growth overall, full year outlook, I feel really good about where we are in our growth outlook. So I just want to be clear about that. We've done a lot of hard work over the past 18 months or so to reaccelerate the business and reaccelerate revenue through combination of improving our core service, which Greg and Ted just talked about and rolling out paid sharing, launching our ads business and that reacceleration really started in the back half of '23 and it built through the year. So our growth in the back half of '24 is really kind of comping off of those harder comps. And at the high end of our revenue forecast, our growth in the second half is consistent with our growth in the first half, even with those tougher comps. And it's still early in the year. We still got a lot to execute against. We also, as you see in our letter, there's been some FX that with the strengthening dollar, that's a bit of a headwind. So we'll see where that goes throughout the year. But we're guiding a healthy double-digit revenue growth for the full year, which is what we set out to deliver and that's what's reflected in the range. And I guess maybe it's in the question, I guess, seeded and this is a little bit of like what's really kind of the outlook for our growth of the business, not just the back half of this year, but into '25. And it's too early to provide real - specific guidance, but we're going to work hard to sustain healthy double-digit revenue growth for our business. And we really like the kind of the opportunity ahead of us. We're so small in every aspect. We're only 6% roughly of our revenue opportunity. We're lesser than 10% of TV share in every country in which we operate. There's still hundreds of millions of homes that are not Netflix members and we're just getting started on advertising. So the key is to, as you just heard from Greg and Ted, continually improve our service, drive more engagement, more member value. As we do that, we'll have more members. We'll be able to occasionally price in that value and also have a big highly engaged audience for advertisers. So more to come on '25 guidance, but that's - we feel good about the outlook. And then, I guess the second part of the question, I'm trying to remember Spencer. I'm sorry.

Spence Neumann:

Thanks, Spencer.

Spence Neumann:

Yes. You want to take this one as well?

Spence Neumann:

Okay. I'll jump in. Others can chime in as well. But when you think about the outlook for the year, it's in terms of the mix of revenue growth. It's kind of pretty similar to - we expect it will be pretty similar to what you see in Q1 where it's primarily driven by member growth because of the kind of the full year impact of paid sharing rolling through the year and continued strong acquisition and retention trends. But you are - we are seeing some ARM growth as well. We saw it in Q1, about 1% on a reported basis, 4% FX-neutral. And what's - I just want to be clear, what's happening is that with ARM is price changes are going well. And that's why we're seeing those strong acquisition retention trends because it's testament to the strength of our slate, the overall improvement in the value of our service. But we've only really changed prices in a few big markets and that was U.S., U.K., France late last year. And only on some of the planned tiers in those markets, not even all the planned tiers. And since then, it's been mostly pretty small countries other than Argentina. And Argentina, as you can see, we're sort of pricing into the local currency devaluation and you see that in the difference between FX-neutral and reported growth in Q1. So mostly, what you're seeing in our growth profile this year is the fact that we haven't taken pricing in most countries for the past two years really. And we also have some ARM kind of headwinds in the near-term that you see in Q1. You'll probably see throughout most of this year, which is that one, we have some this planned mix shift as we roll-out paid sharing. So while it's highly revenue accretive, as you can see in our numbers and our reported growth - strong reported growth in Q1 and outlook for the year, that growth - as we spin-off into new paid memberships, they tend to spin-off into a mix of planned tiers that's a little bit of a lower-price view than what we see in our tenured members. And we're also growing our ads tier at a nice clip as you've seen. I'm sure we'll talk about it and monetization is lagging growth there. I'm sure we'll talk about that a bit as well. We also have some country mix shifts. So that whole combination of factors results in pretty modest ARM growth, still some ARM growth, but pretty modest in Q1 and probably throughout the year. But again, the key there is that this is all we're kind of managing this business transition in a way that's really healthy for overall revenue growth as you see with 15% reported revenue growth in the quarter, strong outlook for the year and we're building into a much more kind of durable and healthy foundation for revenue growth going forward across a larger base of paid members and a really kind of strong and scaled highly engaged audience to build into our advertising over time and a strong paid sharing solution and also to kind of penetrate into those households. So we'll increasingly kind of see that mix in our revenue growth and we start to see some of it this year.

Spence Neumann:

Well, thanks, Kannan. Our focus is on sustaining healthy revenue growth and growing margins each year. That's what we talk about a lot of we also talked about in the letter. And we feel good about what we've been delivering, 21% margins last year, that's up from 18% in the year before. And now, we're targeting 25% this year, which is up a tick from the start of year when we were guiding to 24%. So I'd say, just like we have in the past, we'll take a disciplined approach to balancing margin improvement with investing into our growth. We've managed that balance historically pretty well, growing content investment, growing profit, growing profit margin and growing cash flow. You should expect we'll continue to do that, but the amount of annual margin expansion in any given year could bounce around a bit with FX and other investment opportunities. But again, we're committed to grow margin each year. And we see a lot of runway to continue to grow profit and profit margin over the long term.

Greg Peters:

Yes. As we mentioned last quarter, we're at the point where we've operationalized the pay sharing work. So this is just now part of that standard mechanism that we've been building and iterating on over time to translate more entertainment value and great film, series, games, live events into revenue. And like we do with all of the significant parts of our product experience, we're iterating on that, testing it, improving it continually. So rather than thinking beyond sort of specific cohorts or specific numbers, we really think about this more as developing more mechanisms, more effective ways to convert folks who are interacting with us, whether they be borrowers or folks that were members before that are coming back, we call them rejoiners or folks that have never been a Netflix member. So we want to find the right call to action, the right offer, the right nudge at the right time to get them to convert. And just to be clear, we still see opportunities to improve this process. We've got line of sight on several improvements to this value translation mechanism that we expect will deliver and contribute to business growth for the next several quarters to come. But I also very much believe that just like for the last 15 years, we're going to - we've always found something to improve in this process. And even beyond those, for years and decades to come, we'll be working on this and making it better and better and better. So all of those improvements could allow us to effectively get more of that 500 million plus smart TV households to sign up and become members. Spence mentioned hundreds of millions yet to come. This is a way to effectively get at more of those folks and make them part of our membership base. And as we mentioned earlier on the call too, I think worth noting that while we're fully anticipating continue to grow subs, the overall business growth now has extra levers and extra drivers like plan optimization, including things like extra members, ads revenue, pricing into more value, which is important. So those levers are also an increasingly important part of our growth model as well.

Greg Peters:

Yes, all the things mentioned in the question matter. And I would say we're generally taking our entire playbook, everything that we've learned about how do you grow members and we're applying it to our ads tier now. So clearly, that means partner channels, it means device integrations, bundles, integrated payments. Those are all important tools for growth just as they are and will continue to be in our non-ads offering, increasing awareness of the quality of our ads experience, especially relative to the linear TV ads experience, which in many countries is really quite poor. That's an important and iterative tool when we talk about sort of marketing and awareness building that's, that's going to be part of our growth mechanism. Low price, that's important to consumers. 699 is an example in the United States for multiple streams, full HD downloads. We think that's a great entertainment value, especially at the industry-leading low ad load that we've got. So that's critical as well. So I think you can see the results of leveraging all of these mechanisms and more and how our ads tier has been scaling over the last couple of quarters. So we're 65% up quarter-to-quarter this last quarter. That's after two quarters of about 70% quarter-over-quarter growth. For me, it's exciting to see that growth rate stay high even as we've grown the base so much because obviously, the numbers indicate. That means that there's more absolute additions each quarter. So we're making good progress there. But look, we've got much, much more to do in terms of scaling. We've got more to do in terms of effective go-to-market, more technical features, more ads products. There's plenty of work ahead for us on ads.

Greg Peters:

Yes. I'll take the first one and then maybe hand the ARPU/ARM points to Spence. We don't have a fixed operator position on sort of the optimal pricing spread. And much like we've done with price changes in general, we really use signals from our customers, things like plan take rate, conversion rates churn to guide us along an iterative path to get to that right pricing. And I think it's also probably worth noting that sort of right pricing is not really a static position. As we continue to evolve and improve our offering, that's going to change as well. But I think a good general guideline for us in the long term is that it would be healthy for us to land overall monetization between our ads and non-ads offerings in roughly an equivalent position. So it really comes down to what works best for any given member. And it's really a member choice about which plan they think serves them the best. And then I'll hand it over to Spence on ARM questions.

Spencer Wang:

Great. Last question on advertising comes from Jon Hollick at UBS. How are you approaching this year's upfronts? And do you believe the base of ad-supported users is now of the scale that upfront commitments can drive a meaningful change in advertising revenue and be a contributor to ARM growth in 2025? So perhaps Ted, maybe you could start and then Greg follow after that.

Greg Peters:

Yes. I think this is an opportunity to reengage with advertisers and look at the fundamentals of what our offering is. I mean, first and foremost, that's an incredible list of titles that brands want to be connected with. It's just super exciting to hear that roster. We've got great engagement from our members on our ads tier. We've got an opportunity to grow that even further. We think that's connected again to the power of those titles. We're rapidly growing scale, as we mentioned. That's the number one request we've had from advertisers. So that's exciting. We're making progress on technical features like measurement, on ads products. So we're excited to get that out there. And really, this is just an opportunity to bring all of that progress in a package to advertisers and then of course, to get input from them because we know that they're going to have comments and they're going to have things that they're going to want us to continue to work on. And then really then just to continue that journey, because we know there's plenty more to go do to realize the potential we have in this space. And so, I would say, we're continuing to grow here. We're growing off of a relatively small base in terms of the impact against already big and substantial business. So even though it's growing quite quickly, it takes a while to grow that into the point where it's material. So we look forward to that increasing in '25 and then increasing further '26 and beyond.

Ted Sarandos:

Yes. Look, independent of the availability of licensed content, you should look at it, I think we're - we've always been very disciplined about the way we invest in the business and how we grow it. And we can get a lot of bang for our buck by spending our money well and producing our shows really well and also by acquiring the right content. And the floodgates have opened a little more on licensing for sure. But again, we're very focused on the ones that we think will drive the business. So I think we're at our current level of spending at our current level - rate of growth and we're pretty comfortable spending just behind that anticipated rate of growth.

Ted Sarandos:

Well, the budget is the budget. So it's all part of how we spend against the content and the free cash flow economics. We've gotten pretty close in our cash flow against P&L on our content spend generally. So I don't think it would have much - very much impact on that. Let's want to add some color to that, Spence.

Spencer Wang:

Yes. Great. Next question is from Michael Morris of Guggenheim. Specific about the Jake Paul, Mike Tyson fight for Ted, what are the characteristics of the upcoming Jake Paul, Mike Tyson fight that make this the type of sports programming you're interested in investing in? How does that content benefit your member base and advertising growth goals?

Greg Peters:

I think worth noting that just as what's relevant to members in terms of these large cultural events that Ted talks about, that's what has relevance to advertisers as well. So it's an opportunity for us to expand our advertising offering and give those brands access to these kind of culture-defining moments.

Ted Sarandos:

We've said this many times, but not anti-sports, but pro profitable growth. And I think that's the core of everything we do in all kinds of programming, including sports. So our North Star is to grow engagement, revenue and profit. And if we find opportunities we can drive all three of those, we will do that across an increasingly wide variety of quality entertainment. So when and if those opportunities arrive that we can come in and do that, which we feel like we did in our deal with WWE. If we can repeat those dynamics and other things, including sports, we'll look at them, for sure. So I think it's - we have the benefit of building an enormous business without a loss leader. And we continue to believe that we can grow on that path just as you've seen. So I think the core of it is, is that we're going to look at those opportunities with the same discipline that we do when we talk to movie producers and television networks about putting our content on the air.

Ted Sarandos:

Well, thanks for that question, Rich. I would send you back to that New York Times article because that was not a quote from Dan. And I would say that and nor did we participate in that article. I would say, just to be clear, there is no appetite to make fewer films. But there is an unlimited appetite to make better films always, even though we have made and we are making great films. We want to make them better, of course. We're super excited to have Dan join the company. He just joined a couple of weeks ago and he's joined us running 100 miles an hour. Bella has said this publicly that our strategy remains variety and quality. And she's doing an amazing job of bringing new fresh-thinking to our content and our content organization, bringing Dan on board is a great example of that. We want to have a lot of movies. We want them to thrill our audiences and they all have different tastes and we want them all to be great. And so, we take a very audience-centric view of what quality is. And Dan knows that from having produced for us as the CEO, Ride Back, he produced the Oscar-nominated film, the Two Popes. For us, he did Avatar, The Last Airbender for us recently. So he understands Netflix and the audience really, really well and his success in live action and animation is very hard to define in the business. So we're thrilled he's doing it here.

Ted Sarandos:

Well, it's important to note that we compete for every hour of viewing all the time, every day, everywhere we operate. And we think that engagement report is very important and that metric is important because again, it's the best indicator of customer satisfaction. I know I just said this 10 minutes ago, but I'm going to repeat it. Eight of the first 11 weeks of this year, we've had the number one movie and nine of the last 11 weeks of this year, we've had the number one series. And that's according to the Nielsen streaming data. And for us, that is what we're personally focused on. And we've actually seen in that Nielsen data, our share tick up a little bit even in this incredibly competitive space, where you've got a lot of folks competing for attention, for time and for money.

Ted Sarandos:

I'm going to close with that two.

Spencer Wang:

Thank you, Ted and Greg. I'm going to move us along now to a series of questions around plans and pricing and pricing strategy. So from Steve Cahall from Wells Fargo. Greg, as you continue to expand, do you think there is a ceiling for pricing? If so, how close are we to that ceiling in mature markets? And do you envision Netflix having content here, so that you can continue to expand your content genres and further segment your customer base?

Spencer Wang:

Great. Next question on pricing comes from [Mark Shmulik] of Bernstein. Can you please share progress on how the retirement of the basic plan is going in the U.K. and Canada? And is there any color you can share on if when we could expect a similar rollout in the U.S.? Greg, why don't you take that one?

Spencer Wang:

Great. Thank you, Greg. A couple of questions on overall capital allocation. So these would be for Spence, primarily from John Blackledge of TD Cowen. Excuse me, you mentioned evolving capital allocation strategy in your investor letter with the - with your new investment-grade status. Can you please talk about changes in how investors will see that change?

Spencer Wang:

Great. Thank you, Spence. Last question on capital allocation for you. This comes from Vikram of Baird. What are your latest thoughts on the appropriate level of content spend for the business beyond 2024. Specifically, in the past, you have referenced a 1.1 cash content spend to amortization ratio. Is that still the case? And what would you need to see in an opportunity to meaningfully exceed that framework?

Spencer Wang:

Thanks, Spence. We have a few more minutes left. So we'll wrap-up with a few higher-level questions. The next one comes from Eric Sheridan of Goldman Sachs. And I think both Ted and Greg can tackle this one. The question is, what are your thoughts on the competitive impact from short form video consumption?

Spencer Wang:

Great. And I think for our final question, we'll take that from Dan Salmon of New Street Research. What is the opportunity for Netflix to leverage generative AI technology in the near and long-term. What do you think great storytellers should be focused on as this technology continues to emerge quickly. I'll turn that over to Greg, please.

Spencer Wang:

Great. Thank you very much, Greg. And we are now out of time. So I want to thank you all for taking the time to listen into our earnings call. And we look forward to speaking with you all next quarter. Thank you

Spencer Wang:

Hello, and welcome to the Netflix Q4 2023 Earnings Interview. I'm Spencer Wang, VP of Finance, IR and Corporate Development. Joining me today are Co-CEOs, Ted Sarandos and Greg Peters; and CFO, Spence Neumann. We do have a few changes to our interview format this quarter. First, we are live streaming this over YouTube. So hopefully it's working. I guess we'll find out shortly enough. Second, we've collected questions from the analyst community, and I'll be reading those questions and moderating the interview. As a reminder, we'll be making forward-looking statements, and actual results may vary.

Ted Sarandos:

Thanks, Dan. If I could raise a single eyebrow one at a time, I would lean into the camera with the single eyebrow and do my best wink. But I'm going to say instead that we are thrilled to bring this WWE Live programming to our members around the world. WWE Raw is sports entertainment, which is right in the sweet spot of our sports business, which is the drama of sport. Think of this as 52 weeks of live programming every week, every year. It feeds our desire to expand our live event programming. But most importantly, fans love it. For decades, the WWE has grown this multigenerational fan base that we believe we could serve and we can grow. We believe that WWE has been historically under distributed outside of North America. And this is a global deal. So we can help them and they can help us build that fandom around the world. And not to - I should add that this should also add some fuel to our new and growing ad business. We're very excited about this deal.

Ted Sarandos:

No, we don't comment on the economics of any of our deals. I would just say this is a long-term deal that we're really happy to be in with the WWE.

Ted Sarandos:

Well, expanding into live event programming is something we've talked about for quite a while, and this has been in the works, so we used to look at this as fits inside of our $17 billion programming spend now. So - and in terms of building on it, you should think about Formula One as - like this is almost the inverse of Formula One, which is a very big and passionate U.S. fan base and a lot of room to grow outside of the U.S. And we could build that as we have with Formula One, and other sports like through our shoulder programming, like Drive to Survive, like Full Swing, like Breakpoint, like Quarterbacks, like Tour de France. And now with this great storytelling the events itself are the storytelling of the WWE. So this is a proven formula for us that we're excited to jump into. This is sports entertainment, very close to our core. The deal is long term. We're super excited about it.

Ted Sarandos:

So unique to those other opportunities, WWE is sports entertainment. So it's really as close to our core as you can get of that sports storytelling. So - and in terms of the deal itself, it has options and the protections that we seek in our general licensing deals and with economics that we're super happy with globally. So I would not look at this as a signal of any other change or any change to our sports strategy.

Spencer Neumann:

Sure, sure. Thanks, Mark. So well, first, stepping back, 2023, as a reminder, was a pretty unusual year for us. It was essentially all member-driven growth because our pricing and plans focus in '23 was on rolling out paid sharing. We had almost no price increases until late in the year in '23. And even then, it was just a partial quarter impact. As we look to '24, as we noted in the letter for 2024, we expect healthy double-digit FX-neutral revenue growth, including growth in FX-neutral ARM. So we expect continued member growth powered by a grade slate, including the full year impact of our 2023 net adds carrying into 24 and no change to our pricing philosophy. You saw some of that pricing action already in the past quarter. And we should get some help from extra members and starting to scale our ads business. But as we said, ads won't be a primary driver in '24. So when you look beyond in general, over kind of multiple years, '24 and beyond, we're focused on continually improving our service. If we do that well, we'll have more members or more value that we can occasionally price into and lots of engagement to build a big and profitable ads business. So healthy revenue growth with a mixture of volume and ARM, that's really the output. And I'll probably disappoint because I'm not going to provide a specific guide on ARM because we managed overall revenue growth, but we want ARM to be a component of that growth. Just that it could move up or down based on things in any given year like FX, like the place at which we're scaling our ads reach and some lag that could happen in terms of monetizing that reach and just generally, our pricing and planned strategy more broadly in a given year.

Greg Peters:

Well, we're excited to be at the point where we've operationalized that paid sharing product work. So it's integrated in everything we do. And we're iterating and improving on it just like we would any other significant part of our product experience. So we think of this essentially as having built a more effective engine for translating the entertainment value that we're creating for our members into revenue. But I think it's critical to understand that, that engine works on top of, and we see it working on top of, very healthy organic growth. You can see it in things like better than forecasted churn, we see better-than-expected impact from the recent price changes we did. And that's the model, essentially, right? If we continue to improve our core offering, that means more diversity and more quality from our members' perspective in our films and series, now adding the live events programming to add even more value, continue to grow games and the entertainment value that we're delivering through those, then our paid sharing work and our ads work creates a more effective engine to translate all that value into revenue growth. And will support increased conversion of our addressable market in many years to come.

Spencer Neumann:

Yes, thanks. Well, actually, EMEA is sort of a perfect example of a little bit of what Greg was just talking about. So first, it starts with great slate performance, a great content performance. We had a really strong slate across EMEA from The Crown finale in the U.K., to - in France, we had Blood Coast and Lupin and Class Act. We had Berlin, Elite and Nowhere in Spain and Poland, 1670 and much more, frankly. So it starts with that strong slate. And then by channel, Greg's last answer that kind of better value translation engine, if you will, which drives even more growth through our paid sharing solutions and our monetization engine. So that helped as well. So it really all came together in EMEA this past quarter. And I'll say, very importantly, it's not just net ads. It's again, our primary focus is on revenue growth. We had very strong revenue growth as a result of that in EMEA this past quarter. 13% FX neutral growth in Q4.

Greg Peters:

Yes. As I mentioned, we've gotten to the point where paid sharing, the paid sharing product experience is just something we do at this point. But also, I think it's important to say that like many other things that we do, we also see a real opportunity to continue to materially improve that value translation engine. So we definitely delivered interventions to new cohorts in the last quarter. We're going to continue to deliver to new cohorts in 2024. But increasingly, I sort of don't think about it as like going after these certain pools, but more about just finding the most effective way to convert folks who are using the service, the right call to action, the right nudge at the right time. And those might have been historical borrowers or folks that are new to the service as well. And we're going to continue to improve that engine. That will continue to improve our growth for years ahead, not just 2024.

Greg Peters:

Yes. Our top ads priority, you've heard us say before, I think you'll hear us say it again, is scale. We saw a 70% quarter-on-quarter growth last quarter. That's after 70% quarter-over-quarter for the quarter before and then 100% the quarter before that. So that's a good trajectory to be on. We're now at 23 million MAUs, and we see that continuing to grow in the quarters ahead. As to your point about what's the target, every market is different. There's not a magic MAU number, but I think it's fair to say that we've still got plenty of room to grow in all the markets that we operate in. And we're focused on the additional work that we can do in that space. That means making the ads plan more attractive. We've added streams, higher resolution, downloads. It means engaging partner channels. You see us do more of that. Shifting our plans and pricing structure in other places where we think it's appropriate. So all that works ahead of us. We know we can do tremendous amounts in that space, and we're going to go do it over the next quarters. Second priority, you mentioned this, which is really growing the technical advertising features and growing our go-to-market capabilities. And these are features like targeting, improved ad relevance. That's good for members. It's good for brands. We've got tons to do on improved measurement. We want to launch more ads products. We've got binge ad sponsorships now. And we have to build increasingly the capability to be better partners with advertisers and serve their needs. So this is better sales teams, ad operations and just more capability to meet brands where they need us and how they need us. So we're focused on the long-term revenue potential here. We're very optimistic about it. It's a huge opportunity, $180 billion of ad spend ex-China and Russia, $25 billion alone on Connected TV. We know ad dollars follow engagement. We've got the most engaged audience. So we believe we're well positioned to capture some of that ad spend that shifts from linear to streaming.

Greg Peters:

Thanks for reminding me on that one. I would say we got a ton of work ahead of us on just getting to the level of maturity and impact to the business from the countries that we're operating in today. I would say, never say never on expanding beyond that, but it's worth noting that the countries that we are currently operating in represent about 80% of global ad spend. So we're already working in the spaces where there's the majority of opportunity. We'll see in the fullness of time, but I'd say we've got years of work ahead of us to take the ads business to the point where it's a material impact to our general business.

Greg Peters:

Yes. And just to clarify, we are already in partnership with Microsoft developing part of the technology that supports our ads experience. So they've got a large team working on some of those features that I just mentioned, but we've got a smaller, but growing team, working on the areas where we can differentially contribute to. And then similarly on the ad sales and the go-to-market side of things, we're building out our own teams that cover a portion of the sales and operations activities. So I think you asked in terms of what's the size of investment, we have plans to continue to grow those teams. So those are both growing at a pretty strong clip and growing that investment. But we've modeled out where what we think we need. And even with those investment levels and the growth that we expect that we see, we expect the margins on the ad business to remain very high.

Greg Peters:

Yes. I won't get into the specifics of a particular deal or provide a forecast for a particular deal, but I'll just say that just as we've done for many, many years, leveraging partner channels is an important part of our subscriber growth strategy. We're applying the same techniques and approaches to scaling our ads membership. And we love having this additional tool. It's very effective, very useful for us because that lower consumer-facing price means that we got room now to bundle the ads plan into a set of lower-priced partner offerings where it was hard to make the economics work for everyone previously. So it opens up a whole new range of opportunities. It's great for new members as well who are leveraging those bundles. They get a better plan than basic, more streams, higher resolution with downloads. And of course, the real benefit is they get access to all these amazing stories at a lower effective price through the bundle. So we really think of this as a win-win-win and we're going to continue to leverage these bundles going forward. And I think Rich asked how we think about - how could we fill the supply. I mean when you're building - growing as fast as we're growing right now, it creates a lot of challenges you might expect to then fill behind that. But I'd much rather be in that position where we're growing that inventory and then racing behind to fill it and improve our monetization than the reverse. So I'm happy to have that challenge.

Ted Sarandos:

So we've always had a healthy appetite for licensing content from others for our members. I don't see any meaningful change in that mix. And the current margin outlook contemplates a healthy mix between originals and licensed titles. It might be that we can deliver more on our programming spend with some licensed titles, but we also believe that we deliver an incredible amount of value, excitement and differentiation with our original series. Remember, our original series made up the number - we're the number 1 most watched original 48 of 52 weeks last year. So we really don't have any plans to move away from those investments.

Ted Sarandos:

Yes. No, look, our original movies are attracting some of the biggest audiences in the world. Look at Leave the World Behind in Q4. Look at all those crazy names about the creepy deers they were all over the place when the movie came out or look at Society of the Snow from Spain right now this morning was nominated for two Oscars or even look back last year, Jennifer Lopez's great movie, The Mother. By some accounts, it was the most watched movie in the world last year. So I think about it that fans really don't care much about budgets and windows. They just want a movie that they love. They want a movie to make a cry or make them laugh or giving something great to talk about over dinner. As you point out, our original films do outperform those license films, and they do uniquely distinguish us from the competition. Just this morning, our original films got 18 Oscar nominations across 10 different films. So we do not plan to change our strategy or the mix. It's always going to be that kind of blend of first window, second window and deep catalog. We think that formula works best to entertain the world.

Ted Sarandos:

Yes. I mean I guess I'd call you back to that history again and just say we've got a rich history of helping break some of the TV's biggest hits like Breaking Bad and Walking Dead or even more recently with Schitt's Creek. Because of our recommendation and our reach, we can resurrect a show like Suits and turn it into a big pop culture moment but also generate billions of hours of joy for our members. So I think you got to remember the studios have always been in the business of selling their content to others, including direct competitors for years. I believe because, again, of our distribution heft and our recommendation system that sometimes we can uniquely add more value to Studios' IP than they can. Not all the time, but sometimes it does, and we're the best buyer for it. So I am thrilled that the studios are more open to licensing again, and I'm thrilled to tell them that we are open for business.

Ted Sarandos:

I think Leo has resonated for the same reason that CB's did last year. It's great. People really love it. It brings a lot of joy to families. And yes, they do watch them over and over again, which drives a lot of engagement, but also drives a lot of attachment. I think that Leo and CB's are proof points that we have the flywheel to create original IP in that animated space, and there is so much appetite for animated feature. Seven of the top 10 most watched movies since Nielsen has been tracking streaming are animated features. So I'm super thrilled with Leo. We're kicking around the Leo 2 right now and a film that works on so many levels. The animation - the art of the animation is beautiful. The comedy is funny and families just really love it. So we look forward to a lot more. We have Spellbound coming up next year. We're just really thrilled with our - that the animation team is now firing on all cylinders.

Ted Sarandos:

Yes. So we're really thrilled with our engagement trends domestically and globally. This is really a story about viewing moving from linear television to streaming. The story has been constant and it continues. It's also a story about Netflix kind of leading the way with professional film and television and now games. Our engagement is a bit impacted by our paid sharing. Think about it like fewer households using the same account. So as those folks spin off and get their own accounts and we win them over with our programming, that will normalize and continue to grow. We're really pleased with our engagement. We have shown you in graphic detail what that engagement looks like on a title-by-title basis in this engagement report we just released. And I think you see in that report about two hours of daily engagement with our members, which is great. And you've seen that some of our hits and even our near hits are attracting enormous audiences. So we have to keep pleasing them, and we have to do that in multiple languages in multiple countries and all over the world. And that's we're excited about, and it's showing up in that engagement.

Greg Peters:

Yes. Well, we're stoked by the performance of GTA. We had high hopes, but it exceeded even those high hopes. So that's a - it's a great place to be. So the biggest download and engagement numbers that we've seen so far. We were in the top mobile game downloads for several weeks, which shows it was not only big for us, but big numbers for mobile gaming in general. And beyond any specific title, we've tripled game engagement over the last year. So that's a solid growth trajectory for us. Games, it's a huge opportunity, $140 billion in consumer spend, ex-China and Russia. And we believe we can build games as strong components, and other content category to deliver entertainment value to our subscribers. But to your question on size of investment, we thought about this as we've got to allocate enough to the initiative to ensure that we're playing to win, that we have enough activity in the space that we're learning and growing, but also recognizing that we had a tremendous amount to learn and a tremendous set of institutional capabilities to develop. And we wanted to make sure that we weren't growing that investment significantly before proving to ourselves that we can actually effectively translate that investment into member value. So things are going well. We continue to see this level of engagement growth and we continue to see what we've been seeing so far, which is evidence, as we would expect, that, that engagement leads to business benefits like increased retention, then we'll be able to scale that investment appropriately. Having said all of that, it's still, I'll use the early days, words that we love to use. And it's worth noting that our games investment is a very small fraction of our overall content budget right now.

Greg Peters:

Yes. Licensing games, existing games with often with some form of exclusivity, that's been a key part of our strategy, and it's going to continue to be so. We've clearly seen, one of the things that we've learned is that recognizable games, that's either existing popular game titles or game franchises or games that are based on well-known IP, and in many cases, that's IP from our own films and series, those are the ones that are working the best for us right now. So we're going to continue to find the right opportunities to bring those kind of titles to our members. We're going to look for more great licensing and some exclusive licensing, so we can do things more like what you've seen us do last quarter with GTA, but also other titles like Football Manager 2024, which performed very well for us. Money Heist or La Casa de Papel, which was great. You'll see it this quarter with titles like Virgin River, so that's definitely the strategy that we're on, and you'll see us do more of that work.

Greg Peters:

Yes. As we had talked about previously, we largely put price increases on hold while we were rolling out the paid sharing work because we saw that as a form of substitute price increase. Now that we're through that, we're able to resume our sort of standard approach towards price increases. You've seen us do that in the U.S., U.K. and France. Those changes went well, better than we forecasted. And we'll continue to then monitor other countries and try and assess when we've delivered enough additional entertainment value, we look at engagement retention acquisition as a signal is there. so that we can go back to members and ask them to pay a bit more to keep that positive flywheel going. And we can invest in more great film series and games for those members. So the summary statement might be back to business as usual. And Spence, I don't know if you wanted to add anything there?

Spencer Wang:

Great. I'll move us along now to a couple of questions on competition and the competitive landscape. The first question comes from Maria Ripps of Canaccord Genuity. With ads coming to Prime Video at the end of this month, and given Amazon is making it the default option for its prime members, could you talk about how you are positioning Netflix relative to the competition when you're speaking with advertisers? Could you also comment on if Netflix considered making the ad tier the default option similar to Amazon? And what were some of the puts and takes about that decision? So I'll turn that one over to you, Greg.

Spencer Wang:

Super. Another question on competition. This one probably best for Ted and Spence to take. It comes from Eric Sheridan from Goldman Sachs. How does the current competitive landscape or content impact the trajectory of Netflix's own content spending in 2024 and beyond? Is it possible that the company could widen its competitive moat on the same or lower absolute amount of content spend?

Spencer Neumann:

Yes. I would just say - just to reinforce that, I mean, we've seen the benefits over time of continuous improvement, great execution and focus and kind of gradually building our business and doing it really well and thrilling our members. And so you see it like we are increasing our content spend and coming out of the strikes in '23. We're trying to get back up to as much as $17 billion of cash content spend this year. And as we've also said over the last few years as we kind of reaccelerate our revenue growth, which we're seeing in the business, we hope to sustain that healthy revenue growth, grow profit and profit margins over time and then reinvest a good portion of that back in the business, which means increasing our content spend. So we do plan to do that, but we want to do it in a smart, judicious, responsible way. And obviously, today's even announcement with WWE is a case in point. We believe we have room to do that while still staying very disciplined in terms of our overall content spend in our business performance.

Spencer Neumann:

Yes. And we've got lots of room to grow, obviously. And so we just want to do it in a disciplined way. No question, yes.

Ted Sarandos:

I would kind of call back to something that Greg alluded to earlier. In the areas of business that are in our core, movies, television and now games, the - that business, we're getting - we're capturing about 5% of consumer spending. In our most mature markets, we're getting about 10% of TV time. So in our very core business, we still have an enormous room to grow. So when I look at that, it doesn't make me think about searching for more inorganic growth in different kinds of programming. There's so much room to grow in this bit of programming that we're kind of hopefully getting better and better at it for our members every day. So there's a lot of adjacent businesses that are not necessarily competitive and are certainly complementary in some ways. Some of those platforms that you're talking about maybe in the user-generated space have turned out to be great marketing tools for our professional content. So I think we're rightfully focused, I think, on the core of professional storytelling.

Spencer Neumann:

Well, thanks, Brian. We're not going to speculate on kind of potential M&A activity. But as you know, our historical bias is to build and not buy. We try to be very responsible in terms of our capital allocation philosophy. We hold a modest amount of debt. We're currently holding $10 billion to $15 billion of gross debt. We fully fund our business and new initiatives. You see that in terms of our investment into ads, into live, into games, while still growing the business. And we'll look at selective accelerators to that organic growth. We have done that. But we're not interested in some of the big linear assets that may or may not be available. We also noticed that - noted that in the letter. And so I think that's how you should kind of think about our out there to go after.

Spencer Neumann:

Yes, sure. So I'm glad you asked because I missed the last piece of our capital allocation philosophy, which is to hold about two months of revenue in the form of cash on the balance sheet and then to return the excess cash to shareholders over time. We've done that in the form of buyback. And so with a little over kind of $7 billion of cash on the balance sheet at the end of the year. And with, as you say, the kind of the - our expectation for strong cash flow build in the year, roughly $6 billion is what we're projecting at current FX rates for 2024. You can expect that we'll continue to return excess cash to shareholders through the buyback. We don't try to time the kind of stock price. So we really are caught in more in a, call it, more of a price averaging sort of approach and that we buy back over time as we have excess cash. And then in terms of optimal leverage ratio, look, we are fortunate to you have continued to strengthen our balance sheet. We had a recent upgrade from Moody's in Q4. We continue to grow into that investment-grade balance sheet. But we we're pretty intentionally underleveraged, frankly. We think the optimal - without getting overly specific, we think - essentially, as I said, our capital allocation strategy has served us well and that philosophy served us well over the past handful of years. And we think that flexibility in the balance sheet also serves us well to adapt to a quite dynamic industry.

Greg Peters:

Sure. I think you've heard us express this multiple times this call. But we just - we see so much potential and so much opportunity ahead of us in our core business. We got hundreds of millions of qualified households out there that are still yet to sign up for Netflix. I can't believe it, but they're there, and we've got to win them over. There's many hours, like billions of hours of TV time that we are not currently winning. Growing along those two dimensions, more households and more moments of truth. We call them more entertainment value delivered is the key priority for us. We want to improve our entertainment offering to do that. That means delivering more stories that our members love. Films, series, games, now live events. That's the key to that success. And then on top of that, we're focusing on improving how we translate all that additional entertainment value into revenue and improved operating margin. It means growing our ads business. It means growing general plans and pricing optimization. That's the major area of work there. So that's where we're going to be focused on for 2024, and we're super excited to do it. So with that, I'm - I'll tag team to my partner, co-CEO.

Spencer Wang:

Awesome. Thank you so much, Ted. Thank you, Greg. Thank you, Spence, for entering the questions from analysts. I also want to thank our audience for tuning into our first ever live streamed video format. We look forward to your feedback and in the spirit of continuous improvement and Netflix on everything, we look forward to getting better at this over time. So thank you all again, and we'll see you next quarter.

Operator:

Good afternoon, and welcome to the Netflix Q3 2023 Earnings Interview. I'm Spencer Wang, VP of Finance, IR and Corporate Development. Joining me today are Co-CEOs, Ted Sarandos; and Greg Peters; and CFO, Spence Neumann. Our interviewer this quarter is Jessica Reif Ehrlich from Bank of America. As a reminder, we will be making forward-looking statements and actual results may vary. Jessica, let me turn it over to you now for your first question.

Theodore Sarandos:

Thanks, Jessica. Let me first say, we want nothing more than to resolve this and get everyone back to work. That's true for Netflix. That's true for every member of the [NPTP]. It's why our member CEOs have prioritized these negotiations above everything else we are doing. We spent hours and hours with SAG-AFTRA over the last few weeks, and we were actually very optimistic that we are making progress. But then at the very end of our last session together, the Guild presented this new demand that kind of on top of everything for a per subscriber levy unrelated to viewing or success, and this really broke our momentum, unfortunately. But you should know, we are incredibly and totally committed to ending this strike. The industry, our communities and the economy are all hurting. So we need to get a deal done that respects all sides as soon as we possibly can. In terms of the impact, these are the times that I'm glad we have such a rich and deep and broad programming selection. Programming costs themselves rise nearly every year, primarily driven by competition. Competition for talent, competition for shows and films. And you can see we've managed successfully through that year on year on year. And the same is true for – during COVID when we were able to manage the slate through a prolonged and pretty unpredictable production interruptions. But I really think we are not really that focused right there on it and how this impacts much, except for our biggest opportunity, which is to continue improving the quality of the slate. We focused on that day-in, day-out, year-in, year-out. And I'm incredibly pleased with Bela and the team and the progress that they are making. So if you'll indulge me for just a second, I just would draw your attention to the Q4 slate as an example of that, headlined by the return of The Crown for its final season. This is one of the most ambitious television shows in the history of television. We have a new season of Big Mouth, history – a new season of [Elite], the launch of Berlin, which is a spin-off from our La Casa de Papel, our Money Heist franchise, and new limited series like All the Light We Cannot See from Shawn Levy. That's Incredible and Bodies from the UK. And that's just on the TV side. And on the film side, one of our strongest quarters ever. We have this enormous Sci-Fi Spectacular from Zack Snyder, Rebel Moon, a new film from David Fincher, The Killer and these films that just lit up the fall film festivals recently, like May, December from Todd Haynes and Bradley Cooper's Maestro, The Dock Feature, American Symphony. That's all coming in Q4. And for family viewing too, we've got a new animated feature from Adam Sandler, [indiscernible] Leo, that's hysterical, Chicken Run 2, which is a sequel to the most successful stop-motion animation film ever, and a new series from the CoComelon World called CoComelon Lane, Family Switch from Director McG, sorry, it's Jennifer Garner and Ed Helms. So it's an incredible slate, something new and exciting for all taste, all moods, all ages, and we're just super proud of the team that they've been able to manage through this and still deliver so much joy for our members.

Theodore Sarandos:

Yes. Look, what I talked about there was heading towards a world that we're streaming data will be much more readily available. Remember, streaming itself is not that exotic anymore. We've been doing it for 15 years. So we – at the beginning, we thought there was a hard kind of apples and oranges comparison to ratings and streaming. And I think we've gotten to a place where it's mostly about engagement and that does capture the value of watching and that things will become much more transparent the way TV has always had ratings and music has always had billboard and the theatrical has always had box office. So it will be much more common for the data to be fully transparent. What I didn't mention though is that part of that – of our reason for not publishing early was part of our promise with creators. At the time we started creating original program, our creators felt like they were pretty trapped in this kind of overnight ratings world and weekend box office world defining their success and failures. And as we all know, show might have enormous success down the road and it wasn't captured in that opening box office. So part of this was the relationship with talent, not just the business aspects of it. And I do think that over time, people are much more interested in this. We're on the continuum today of how much data do we publish. I think we've been leading the charge, starting everyone down the path of a top 10, publishing our top 10 list and our annual wrap-up list and everything that give a lot of transparency to the viewing. And I just expect it will be more and more transparent.

Gregory Peters:

Sure. I'll take that one. And I'll start by saying we're just incredibly pleased with how it's been going. And you can see the progress from our membership growth in Q2. Now in Q3, you can see it embedded in the revenue outlook for Q4. I think paid sharing represents the kind of difficult challenge where we needed to balance both important relevant consumer considerations with the importance of ensuring that our business got reasonably paid when we deliver entertainment. And it's an example where we leveraged core executional capabilities that we've been building for over a decade, sort of how you develop good product experiences, how do you solve hard problems through them? How do you have an iterative model where you listen to consumers to tell us what's working and what's not? So we've been excited about that. But because it's such a challenging problem, we're shifting essentially consumers' expectations and what they expect from us. We've always thought that making this change should be done in a steady, considered way. And so our plan has been to stage out this rollout. We've been delivering our product experience to different borrower cohorts according to that plan. And as a result, I think as you're alluding to, there are a number of borrower cohorts, which has, as of today, have not received part of that experience. And just to explain that a bit. I mean, part of the motivation to stage it out is based on technical considerations. So this is our ability to build features and improve model accuracy over time in a way that allows us to ensure that we're accurately developing and applying our interventions and as effective and as positive a way for consumers as possible. Part of that has been just to stage things out based on borrower behavior. So we want to show up with the right product experience at the right moment. That's more likely to convert a borrower over rather than have them spin-off. So we want to think about that from maximizing long-term revenue. So we're going to continue the rollout for the next couple of quarters. I think folks are trying to figure out how much juice is left there. And I would say we anticipate that we will have incremental acquisition, incremental adds for the next several quarters. We've seen that in the last couple of quarters. I think also worth noting that, that was on top of also very healthy organic, meaning not driven by paid sharing growth. So we anticipate seeing that for the next several quarters to come. And then just stepping back, there's a set of borrowers that we're not going to convert. We haven't converted yet. We're not going to convert over the next couple of quarters. But that really represents how we think about paid sharing going forward, which is it's now become part of just our standard way of operating. And we have many hundreds of millions of qualified households out there. There are Smart TV households that we want to win over the next several years. And those borrowers we're not going to convert in the next couple of quarters represent that same group. So we got to go after them the same way we're going after people who have never signed up for Netflix, which is having an incredible content offering and incredible value and get them so excited that they just have to sign up.

Gregory Peters:

Yes. First, I'd say Jeremy has done a great job getting us essentially from zero to where we are today. She laid the foundation for the ads business. She's hired and built a burgeoning team of leaders who in turn now are hiring the teams and people who are going to take the business forward. But it's an important time and I think a great time for Amy to come in and extend that great work to build on that foundation and drive our ads business to the next level. And why am I so specifically excited about Amy in the role. First of all, she's a high Netflix tenure employee. She's been with the company for over seven years. She's demonstrated really positive impact and great results in several different roles, but most recently as part of the studio and leading a big global team that is scaling very, very, very quickly, which sounds familiar when you think about where we want to take our ads business. Second, she's got broad entertainment experience, ranging from content licensing, distribution. She's got business development, finance strategy at Netflix and in prior roles. So I think when you think about that assemblage of skills, and you think about the existing ads leadership team that we have that has got a rich, rich history in ads in general and connected TV, especially if you think about somebody like Peter Naylor, who started selling connected TV at Hulu. That's a strong team to take our ads business to the next level. And maybe I'll just – I want to maybe just restate what we think the promise and the opportunity and sort of where we're at on ads business is. And so first of all, just starting off with – this is a $180 billion opportunity when you think about linear TV, you think about connected TV, not including YouTube, not including China and Russia. And we think we're in a great position to win some of those dollars. We've got great content. The brands want to be next to. We're a safe place for brands to exist. We got great engagement from our members. That's a really strong foundation to work with. But we got a lot of work, and we know we have a lot of work to fulfill that potential. Among that work, we've said it many times, I'll say it probably many times going forward. But scale is the number one priority. We're making good progress there. This quarter, we grew our ad plan membership 70% sequentially, quarter-to-quarter. That's on top of the last quarter where we grew at 100% quarter-to-quarter. We now have 30% of our new sign-ups choosing our ads planned in our ads countries. And we've done it by making the ads offering more competitive. We've gotten to over 95% content period with our non-ads plans. We've improved features like a number of streams, the video resolution. We're going to keep doing that. We're adding downloads now. So we'll keep that good trajectory going and keep focusing on it. Second big priority for us is delivering features and products that advertisers want. We've heard again and again, I've heard it this week, a week from advertisers. Top of that list is measurement. We've launched our measurement partnership with Nielsen in the United States this month in October. So we're excited about that. We've got a long list of other partners across other countries that we've got to deliver that same capability in. So we're excited about getting that out. We're also excited about new products. So we've rolled out our top 10 media buy. We're going to roll out our Binge ad product later this year. We're launching more ways to buy programmatically through Microsoft that gives more buyers, more ways to access our inventory. So we've got a lot of work to do here on all of those fronts, but we've always said this is a multi-year build to multi-year progress. We've got a lot that we've got going on, and we're excited about the future to come.

Spencer Neumann:

You guys want me to take that one?

Spencer Neumann:

All right, you wind it up for me. Thanks, Jessica. So I would say just generally, when we think about 2024 and beyond, think about it as our revenue growth profile in general. And we talked about this recently. We expect a more balanced mix of membership and ARM growth in 2024 and beyond 2024. So just looking at 2024 specifically, as Ted talked about, we expect to have a great slate to drive the business forward. And we expect to continue to do things like add extra members, grow our advertising revenue, as Greg discussed. And in addition to have some pricing adjustments, you saw that in our letter, all those things will drive ARM. So 2023 was a pretty unusual year where essentially all of our growth came from member growth. And going forward, more broadly, not just 2024 and beyond, we'll grow our business by continuing to kind of improve our service, increasing engagement, increasingly satisfying current and future members. And now that, as Greg discussed, I know we've got an account sharing solution, we have a more clear path to more deeply penetrate that big addressable market of a half a billion connected TV households and growing. And with our continued plan evolution, pricing sophistication and all that hard work on our ads business, we'll keep getting better at monetizing that big and growing reach and engagement. So we believe – we've got a long runway for growth in both kind of more membership and higher ARM over time in a more balanced way than what you saw this year, which was again a pretty unusual year.

Gregory Peters:

Yes. I think it's important to note that scale isn't – it's not a binary condition, right? So it's not like you suddenly add one more member and you become a must buy situation. So we become increasingly competitive with increasing reach. It's also, I think, worth noting that it's different in different countries. And it's largely based on what's the competitive channels and what's that competitive dynamic. So having said that, though, we carry several relevancy targets on a per country basis, think about this as essentially a percentage of market penetration that helps us focus and drive the rate of growth that we desire. And we've got more work to do to get those. So I mean like we're not satisfied with the scale that we're at in any country that we're in. We want to be bigger, and we know we can be bigger. I think there's a variety of techniques that we can employ to do that pricing and thinking about how do we factor in what's optimal pricing for ads, no ads. That's part of what we're doing and thinking about plan evolution. Part of it is what I mentioned before, which is feature set, right? These are the things that consumers want to sign up for. Part of it, too, is actually just educating consumers. I think what we are seeing is in some of our countries, consumers think about an ads experience mostly anchored in linear and what their expectation around ad load, frequency rates are. And to some degree, actually, some of our streaming competitors haven't done maybe as great a job in building an ad experience, which informs that expectation as well. The part of it is just educating consumers about what the actual Netflix ads experience is so that they can think about what's the right choice for them. Do they want to lower price with ads and what we think is a great ads experience for consumers really, or do they want to pay more and skip ads. So it's all those things coming together that ultimately drive us to the several multiples of scale that we're at today that we'll be satisfied with.

Gregory Peters:

Yes. So we're working with Microsoft right now on targeting, so you'll see that roll out in the near future. And that, I think, is the first step of how we think about increasing targeting relevance through both a combination of product sets. So what are the types of ad products that brands can buy that yield increasing relevance as well as improving our sort of sophistication on what we might call targeting from a digital perspective, which is basically matching consumers who are most interested in that particular brand's message.

Spencer Neumann:

Sure. So let me step back a bit with some quick context. So first, Jessica, we set margin targets. They're our best judgment of how kind of best to grow the long-term value of Netflix, and we're trying to balance investment for future growth with near-term profits. So for instance, after investing heavily to launch Global in 2016, global Netflix, we wanted to take a disciplined approach to building profitability as we grew revenue because we felt, one, it was a good way to build that profit muscle across the company. And two, we understood that investors were – they've been pretty patient with us, so we wanted to demonstrate the scalability and the health of the business model. And so that took us from – it was like 4% OI margin to operating income margin business in 2016 to our current roughly 20% margin. So we think a pretty good indicator that ad scale streaming can be a quite good business. Now stepping back, there's no change in our financial objectives and also no change in our long-term margin expectations, including the fact that we see a – and we don't think we're anywhere near a margin ceiling. We've got a long runway of margin growth. So again, no change in our objectives, no change in our long-term margin expectations. But our current profitability and scale, we think it's prudent to balance that historical pace of margin improvement with growth investments. So you asked about growth investments. We think we've got a lot of places where we can continue to invest, plenty of room to invest further in our existing content categories, we're a small share of viewing in every country in which we operate. Plus building out those ads capabilities that Greg talked about our live offering and new content categories like games. So there's plenty to do. But all that said, we'll continue to drive healthy margin expansion. We expect roughly 22% to 23% operating margin in 2024, assuming no material swings in FX. So that's up from our current expectation of 20% this year, which is at the high end of the range that we targeted in the beginning of the year. So again, Jessica, just like we did in the past, going forward, we'll take a disciplined approach to balancing margin improvement with investing into our growth. We actually put a chart at the end of the letter that shows how we managed that balance historically, growing content investment, profit margins and cash flow. And you should expect that we'll carry that same discipline going forward as we invest and grow into that big opportunity ahead.

Theodore Sarandos:

Yes. Yes. Licensing third-party content has always been part of our strategy, and we've – something we've been really great at being able to do is match that audience. I think Suits is a great example of the impact of the Netflix effect that we can have because of our distribution footprint and our recommendation system, we were able to take Suits, which had played on cable and had played out in other streaming services and pop it right into the center of the culture in a huge way, not just in the U.S. but all over the world. According to the Nielsen charts then, Suits was the number one watch streaming series for 13 straight weeks. That's like – that is a record for Nielsen. So this continues to be important for us to add a lot of breadth of storytelling to our consumers of a wide range of tests. And we can't make everything, but we can help you find just about anything. That's really the strength. And I do think that looking – you mentioned Band of Brothers, but in that HBO deal, we had Insecure, we had Ballers, that came out and they were very successful in Netflix, and they popped into the top 10 on their originating network for the first time. So that was just on their streaming service, which is really powerful. And I think we have more to come with Six Feet Under and True Blood coming and not just on the TV side, but we're also proud to be able to bring movies like Super Mario Bros and Spider-Man

Spencer Neumann:

Jessica, I'll probably disappoint you as I have in the past on this. We're not going to put a long-term number out there. As I said, we don't see any ceiling – any near-term ceiling to our long-term margin potential. We've talked in the past about how we're going to feel our way through to those kind of long-term steady-state margins, but we think we have a lot of things working in our favor. We have a very scalable business model. You see that you see that play out over the last handful of years and continue to do so as we produce content all over the world for big local impact, but also with the ability for those stories to through great subs, dubs, discovery to reach more and more people and to be enjoyed around the world. So it's a very scalable content model. It's a global network at scale that has, in many ways, has not been seen with legacy entertainment networks. So we think we've got a long way to go. As I just talked about, we want to balance those increasing profits in the near term with investing into that long-term opportunity. So still a lot of runway that's a set of benchmarks you can look at it. There's others as well. But suffice to say, we think we've got a long and healthy runway in terms of growing margins.

Jessica Reif Ehrlich:

Right. Of course. You announced some price changes today in premium and basic in several countries and more to come. Can you provide a current view of price increase or timeframe for the standards here?

Jessica Reif Ehrlich:

One more question on the pricing, though. Would you – given the price increase for just premium and basic not standard, do you expect any – or advertising tier? Do you expect any movement between the tiers as a result of these price increases?

Jessica Reif Ehrlich:

So your letter today says that you stated that you will spend $17 billion in 2024 on content spend, up from $13 billion in 2023. Obviously, that was somewhat strike impacted. That is how should we – how can you help us think through how content spend will grow beyond 2024? What is normalized growth?

Spencer Neumann:

Maybe – sorry, Jessica. I was just going to build it a little bit on Ted's point on the kind of trajectory of content spend. So – and we talked about this a little bit in the past. So first, in the letter, we talk about the 2024, we hope to get cash content spend back up to at or near that $17 billion level. The biggest swing factor is going to be when the SAG-AFTRA strike resolves. And so that will get us to a cash to P&L ratio kind of closer to 1:1.1x. And so we're not putting a specific number out there for free cash flow in 2024. What that gets us to, when you think about the combination of our revenue growth outlook, our margin guidance and target cash content spend, we'll deliver substantial free cash flow in 2024. And then going beyond that, we do expect to tick up our content investment over time as we also prove at sustained healthy revenue growth. So assuming – we talked about, I think, in the last call, assuming no big expansions, we'd expect our cash to P&L ratio of content spend cash to content amort in the P&L to be roughly 1.1x. So that's kind of one way folks are thinking about how to model our growth in content spend. If we – as we grow our revenue, as we improve our profitability, we should see both increasing content spend but also free cash flow growing nicely over time.

Theodore Sarandos:

Yes. We always have a lot of plate spinning because our members have got such different tastes and different desires. And we're trying to please them all – and like I say, trying to find that person who really fell in love with us for prestige TV and then discovered Love is blind. That's a pretty common household to be honest with you. So we've got to be able to be good at so many different things. And our partnerships, I'm assuming you're talking about Skydance in this case, really helps us find and keep up that scale as we grow. So we're really thrilled with our success in animated features. It's a very long cycle of development and production. Sometimes it could take a decade to deliver a really great animated feature film. And as you know, we move pretty fast, and we've been moving pretty fast. And those single companies that were really successfully launched more than two animated features in a single year. So we wanted – that deal helps us to complement the work that we're doing, like you saw this year with Leo and Chicken Run coming out and Nimona that already came out. So we've got a very – there's a ton of appetite – if you look at the top 10 animated features of since Nielsen has been tracking movie watching and seven of them are animated features. So there's a lot of appetite for animated features, and we're committed to that part of the business. And we do that through a combination of licensing partnerships and original production and original creation and not just in the U.S. but all over the world. So we have to find that right balance of invest finding the right product market fit, which helps us grow those territories and most importantly, helps create a value proposition for consumers, and they could say, "Hey, that what I pay for Netflix I can pay a little bit more because I get so much value there, and I'm spending so much of my time there. So if you think about the – for the last 37 of the last 38 weeks of this year, Netflix has had the number one streaming series on and all of streaming. And for 31 of those 38 weeks, we've had the number one movie too. And in any given week, we might have had the number one, two and three. So we really – we've got a lot going on and we've got to stay focused on continuing to improve the value proposition to consumers, which drive the numbers that we've been talking about on this call.

Spencer Neumann:

I wouldn't kind of read through to that, Jessica. We had kind of slowed down as we – as the business slowed down, and we wanted to – we talked about the fact that we had less, less than typical forward visibility into our forecast over the past year or so as we were looking to reaccelerate the business and also roll out paid sharing. And now much of that is behind us, as we've said, and we've got a better view going forward. And so we ramped up our repurchase because we had built up some cash on the balance sheet as well. Our target minimum cash is roughly two months of revenue. So plus or minus $6 billion of cash that we look to hold on our balance sheet, and we've gotten ahead of that, we're still a little ahead of that. So – but that's really what we're managing to is to

Gregory Peters:

Well, let's start with the big prize. I think that's the better way to look at it, which is games is a huge entertainment opportunity. So we're talking about $140 billion worth of consumer spend on games outside of China and outside of Russia. And from a strategic perspective, we believe that we can build games into a strong content category, leveraging our current core film and series by connecting members, especially members that are fans of specific IPs with games that they will love. I think it's worth noting that if we can make those connections and as we make those connections as we're seeing, we're essentially sidestepping the biggest issue that the mobile games market has today, which is how do you cost effectively acquire new players. So that's the real proposition. And we think if we deliver that, we give members great games, entertainment experiences that they love at sufficient scale. Then we leverage back into the core business. We increased engagement. We increased retention. We increased value delivered. Those all drive our core business metrics. And I think it's actually just a very natural extension of what you were just talking with Ted about. If you think about the range of content that we're offering the variety of content and entertainment that we're offering, games just adds one extra layer to that variety and that depth. And we're also seeing, I would say, back moving it more to your short-term and mid-term. We're also seeing performance metrics that support that this fundamental strategic hypotheses are sound. So games engagement right now on our service drives core business metrics in a way which is incremental to movies and series. So – but the main challenge ahead of us to get to your mid-term is that our current scale and frankly, our current investment level are both very, very, very small relative to our overall content spend and engagement. So now our job is to incrementally scale to the place where games have a material impact on the business. We've got ambitious plans there. We want to really grow our engagement by many multiples of where it is today over the next handful of years. And we can see how to get there. Looking a layer deeper at the title level. We see – some titles are really working for our members, and they're working for our business. If we can do more of those, we know we can scale into that proposition. We've got to do that through better title selection based on everything that we're learning. We got to do it on better product features to maximize connection with the audience for any given title. And we have to do it by gradually improving consumer awareness, which as we've seen is when we launched other content categories, you can think about unscripted or you can think about film. That broadly lifts overall engagement metrics as consumers learn that we're a place to go to, to find games. I'm excited about what we got going on in Q4. We're going to launch some big high-profile titles, which sort of keeps that drumbeat going. We got Dead Cells. We've got Football Manager 2024. We've got Money Heist. Think about connections with our IP that's coming in Q4 as well. That's Casa De Papel for folks who saw in that language. We also have Virgin River coming in Q1. So as you pointed out, this trajectory is not dissimilar from what we've seen before, when we've launched a new region, think about Latin America or we launched a country like Japan where traditional Western media companies have struggled or we launched new genres like unscripted. We've got a crawl, walk, run and we build it, but we see a tremendous amount of opportunity to build a long-term center value of entertainment, more entertainment value for our members.

Jessica Reif Ehrlich:

Great. Okay, two. So the first of the two sports, you're creating the Netflix Cup tournament to be out next month. Is this a change in your sports strategy at all? Or how should we think about that?

Jessica Reif Ehrlich:

There was some news also today, I guess, on [indiscernible]. But my last question to stay with what Spencer asked – you've talked a little bit more recently about your ancillary businesses, including the Netflix House. Can you talk about what that looks like over time? And will it be a big investment area, but more importantly, will it be a contributor?

Spencer Wang:

Great. Well, Jessica, thank you very much for your questions, and we appreciate everybody tuning into our earnings call, and we're looking forward to chatting with you all next quarter, if not sooner. Thank you.

Spencer Wang:

Hello, and welcome to the Netflix Q2 2023 Earnings Interview. I'm Spencer Wang, VP of Finance, IR and Corporate Development. Joining me today are Co-CEOs, Ted Sarandos; and Greg Peters; and CFO, Spence Neumann. Our interviewer this quarter is Jessica Reif Ehrlich from Bank of America. As a reminder, we'll be making forward-looking statements and actual results may vary. Jessica, I'll now turn over the call to you for your first question.

Ted Sarandos:

Thanks, Jessica. Good afternoon. Thanks for the questions. Let me start by making something absolutely clear. These strikes, this strike is not an outcome that we wanted. We make deals all the time. We are constantly at the table negotiating with writers, with directors, with actors and producers with everyone across the industry and we very much hoped to reach an agreement by now. So I also want to say, if I may, on a personal level, I was raised in a union household. My dad was a member of IBEW Local 640 as a local -- he was a union electrician. And I remember his local because that union was very much a part of our lives when I was growing up. And I also remember on more than one occasion, my dad being out on strike. And I remember that because it takes an enormous pole on your family financially and emotionally. So you should know that nobody here, nobody within ANPTP and I'm sure nobody had SAG or nobody at the WGA took any of this lightly. But we've got a lot of work to do. There are a handful of complicated issues. We're super committed to getting to an agreement as soon as possible. One that's equitable and one that enables the industry and everybody in it to move forward into the future.

Ted Sarandos:

Well, look, we've put some of our upcoming content in the letter. We've said in the last call, we produced heavily across all kinds of content TV, film, unscripted, scripted, the local domestic, English, non-English, all those things and they're all true. But as besides the point, the real point is we need to get to this strike to a conclusion so that we can all move forward.

Greg Peters:

Yeah, Jessica. So we've worked really hard, iteratively over many months and really even over 1.5 years to find an approach that we thought was a good product experience for most consumers that gave them the information that they needed to make clear decisions that included features that they wanted. So think about transferring our profile and your viewing history to a new account, easy ways to manage your devices and account access, being able to purchase that extra membership for a loved one. So we've done a good job at building those features, we think, but also in a way that balances those user considerations with making sure that Netflix was able to get reasonably paid when we delivered entertainment to someone. So then, of course, we can invest that into making the service better for everyone. As of today, we've now launched that experience in almost all the countries that we operate in and we're seeing that it's working. We're positive in terms of both revenue and subscribers relative to pre-launch in all of our regions. But I also think it's important to note that the business impacts of that product experience will roll in over several quarters. So it's not an overnight kind of thing. Because, in part, the interventions are applied gradually and in part because some borrowers won't immediately sign up for their own account, but we'll do so next month or three months or six months or maybe even longer down the line, as we launch a title that they're particularly interested in. So we're live in the vast majority of countries, over 90% of countries by revenue and we're going to continue to iterate and execute that model.

Greg Peters:

Yeah. So there's components of it that are essentially what you described where whether it's because there's behaviors or because how we've organized the product experience, how those roll out, they'll happen over time. And so we'll see those interventions broaden to more of those cohorts over a period of time. So that's one sort of component of phasing it out. The other component is that we see differential engagement across that borrower population. So there are some borrowers who are using it the service every day. And those folks are very likely to transfer to their own accounts very soon. And then some folks are less engaged. And it's going to take us a little bit longer to convince them to move over with great stories, great TV shows and films. So that's -- both of those effects essentially are what distributes the business impact from this product experience. So that's why I would think about it as we're seeing effects right now, but we'll also see those effects over the next many quarters.

Greg Peters:

Yeah. I would say, generally, what we see is these are well-qualified members. So in other words, they are choosing plans and are engaging at rates, have retention characteristics that generally look like higher tenure members, that's good because they are well qualified, that retention is quite good in essence. So that's a broad way to think about what those borrower cohorts are. And that's consistent also with the fact that we'll convert essentially those most engaged, most well qualified borrowers first. That's a general way to think about it. And then beyond that, I won't comment on more specific numbers.

Greg Peters:

Spencer, do you want to take this one on?

Jessica Reif Ehrlich:

But there's another surprise that you had this in the last couple of weeks, which seems like it could also be a very positive driver to ARM, and that is that you dropped the basic plan in Canada several weeks ago and you just announced that in the U.S. and UK. So I guess a couple of questions here. Are there any plans for the rest of the world and has it so far from your experience in Canada, has it driven the response that you hoped for? Is the response that you -- more people go to the advertising tier? And then I guess one other final part of this question is that it's an obvious positive for ARPU. I mean it feels like the impact is like $5 or more per month. When this is fully rolled out over three years – like, over what period of time do you think this will have the most impact?

Jessica Reif Ehrlich:

So one last question and then I'll move on to advertising. But for your new members or new subs from the password sharing, are there any noticeable differences in churn?

Jessica Reif Ehrlich:

Right.

Jessica Reif Ehrlich:

Moving on to advertising. Could you give some color on some of the innovative or non-traditional offerings that you have? I mean one of the things you talked about in the upfront was like offering advertisers the ability to go into the top 10, which is -- provides an incredible reach a guaranteed reach really every -- all the time. Just talk through some of the ways because you're thinking in ways that are very different from traditional media.

Jessica Reif Ehrlich:

Has there been any change to advertising ARM since last quarter when you said advertising ARM was at least as high as the standard here, indicating that advertising-only part of it was $8.50 or more.

Jessica Reif Ehrlich:

Can you tell us about your initial upfront advertising performance? I mean, you seem to have everything advertisers are looking for. But this is a really tepid overall advertising environment. So is there anything you can say about how -- what the reaction has been?

Jessica Reif Ehrlich:

What tools and how much time do you need to like invest to build your own ad-tech infrastructure?

Jessica Reif Ehrlich:

But is there like a time period in order to achieve scale, is this like a three year plan before you feel like you really have all the tech capabilities in place?

Jessica Reif Ehrlich:

Spence, this one maybe for you, but -- what's your vision for the advertising contribution? You've said in the past that you'd like it to be 10% of revenue. But given the decline of linear, are you rethinking this so that it would be a higher percent?

Jessica Reif Ehrlich:

Sure. But maybe to follow up on what you just said, like where do you think the pool of ad dollars will come from over time? Like, why would it -- given that all of the capabilities that Greg just talked about, why would it be limited to linear because you're going to have such extraordinary capabilities, like, shouldn't the pool be linear and digital?

Greg Peters:

Yeah. I think it's fair to say that over a period of time, we anticipate pulling both linear and digital dollars. But where we are today, we're much more targeted at that linear brand focused TV advertising. That's the sweet spot that we can speak to right now. We're definitely building capabilities and have an aspiration to build capabilities that over time will allow us to expand that envelope. But again, we -- price number one, first is to go after that brand advertising. There's a lot of dollars there. There's a lot of dollars looking for great consumers to connect with and we think we can provide that solution.

Jessica Reif Ehrlich:

One last question on this, and then I'll move on. But has engagement changed in the past quarter or so, are there any noticeable differences between the tiers?

Spencer Neumann:

Ted, if you -- I know you all on.

Greg Peters:

Yeah, I think that's exactly right. And just the foundation of our attractiveness to advertisers is ultimately our reach, this high level engagement and amazing titles, TV shows and films like Ted mentioned in the top 10 that they want to have their brands next to them.

Spencer Neumann:

Yeah. Sure. I can take that one, Jessica. I mean what you see in our cash flow forecast, we took it up for 2023 in terms of our expectations. It's really driven by a few things. One, just higher certainty in our forecast with the success of the early success of the paid sharing rollout. We also had some move in production timing, just the typical ins and outs of the schedule. And then lastly, the impact of the strikes. And so there's still a pretty wide range of outcomes for where we -- where we're going to ultimately land on cash flow this year given the ongoing strikes, but -- and that may also create some lumpiness actually between 2023 and '24. So still a substantial expected free cash flow in '24, but some lumpiness between the years. But more broadly, we're past that most cash-intensive phase of building out our original programming strategy. So we'll have some near-term lumpiness. But if we apply a multiyear lens, we expect positive and growing free cash flow trajectory in the years ahead. So that's generally what you're seeing. And of course, as part of that just ongoing prudent expense management still growing our expenses but trying to grow slower than revenue in a responsible way that helps us scale healthy.

Spencer Neumann:

Well, what you've seen is and what we talked about when our revenue had slowed down in early '22 is that we would keep our content -- our cash content spend roughly flat. And that's what we've been doing from 2022 through with the plan through '24 with the lumpiness that we talked about, some of it because of that kind of coming out of the throws of COVID, as we talked about in the last couple of calls and now most recently because of the strikes. But our hope and our expectation is we get back up to those levels similar to levels in '24 as we were in '22. So we will grow next year is our hope and expectation back to those levels. And we talked about it in the letter too, what that works out to is roughly about 1.1 ratio in terms of our cash content spend relative to our content expense. So that allows us to kind of scale in a healthy way while also kind of growing our cash flow over time. And then as we prove out revenue acceleration, which we expect to do and as we've guided to, to start in Q3 and then further in Q4. We hope to start ticking up our cash spend on content again and doing it in a healthy way. We just -- we have to prove that out, obviously. But we've got a lot of great entertainment that we hope to provide to members all around the world is as Ted said. So we think we've got a lot more we can spend into, spend into a big opportunity, but we want to do it responsibly.

Ted Sarandos:

So I would say, Jessica, the best way to think about it is we expect to grow revenue and profits over time. As Spence mentioned, we are past the most cash intensive phase. So that cash -- content cash spend to content amortization ratio that we've talked a lot about in the past, we think is going to be roughly in the neighborhood of 1.1 times in 2024 and probably somewhere around that area for the foreseeable future based on the current plans. So I think that gives you a the right sort of building blocks and be able to get a rough sense of it. I think what you would see is that would lead to very healthy free cash flow generation for the foreseeable future.

Ted Sarandos:

Spence, do you want to go on.

Jessica Reif Ehrlich:

And just maybe moving to sort of a little bit away on that, but you've developed a library over 10 plus years at this point. And it's pretty substantial, and you've got some amazing -- I mean, really amazing global titles. Would you consider selling your library content to others?

Ted Sarandos:

Jessica, we have time for probably one last question.

Ted Sarandos:

You can make it two parts if you want, Jessica.

Ted Sarandos:

Look, it's -- our position in live sports remains unchanged. We're super excited about the success of our sports adjacent programming. We just had it recently -- just launched a great one called Quarterbacks with the NFL. A few months -- a few weeks ago, we had TordeFrance, which did exactly what we saw with Drive to Survive, which is introduced to a brand new audience to a sport that's been around for a really long time and not very well understood and you do that through exceptional storytelling, not through the liveness of the game. So -- by doing that, we can now offer this wide variety of sports programming for sports fans that's in season year round and it really leans on our strengths, which are storytelling. So we're really excited about that. And you read some of the experimental stuff that we're going to be doing, like this live golf match in November. And we're excited about that because it serves as a promotional vehicle for our sports brands like full swing and Drive to Survive. So we really think that we can have a really strong offering for sports fans on Netflix without having to be part of the difficulty of the economic model of live sports licensing.

Spencer Wang:

Hello. And welcome to the Netflix Q1 2023 Earnings Interview. I am Spencer Wang, VP of Finance, IR and Corporate Development. Joining me today are Co-CEOs, Ted Sarandos and Greg Peters; and CFO, Spence Neumann. Our interviewer this quarter is Jessica Reif Erlich. And as a reminder, we will be making forward-looking statements and actual results may vary. With that, Jessica, I am going to turn it over to you for your first question.

Ted Sarandos:

Well, Jessica, as you pointed out, it’s our first quarter together as Co-CEOs but 15 years working together and in those 15 years, you build a lot of respect and trusting each other to help you get you through some trying times. And not to let you down about - there is no drama, but this was pretty much a business as usual quarter for us having done this together for so long. And Greg and I enjoy the same kind of trust, respect and shorthand that I enjoyed with Reed for so many years. I know that Greg did as well. So it’s not as eventful as folks might have thought and it’s really been incredibly and wonderfully professionally stimulating to have a Co-CEO to get to tackle big problems together. So I think one of the things that we will look back at Reed’s incredible 25 years at Netflix, one of the great accomplishments is facilitating this very, very smooth transition and succession.

Spence Neumann:

I can take this one, if you want. Jessica, this is really about, we talked for the last few quarters about further refining our pricing strategy and monetization. And if you think back to when we did our global launch in 2016, it was pretty much across the board, a bit of a skim approach and not particularly sophisticated in terms of our pricing. So think of this as kind of that next step in our evolution of a bit of a better market fit, product market fit, pricing fit, with the aim of growing our penetration in these markets and also better medium and long-term revenue. So better for our members, better for our business. But just want to emphasize, this is not a material to our business anytime in the near-term for sure. So it’s a lot of countries, but it represents less than 5% of our revenue and so it’s something that will -- over the long-term, hopefully, will benefit us and we can point to an example of success is sort of like what we saw in India. So last year back in December of 2021, we launch -- we dropped prices in India between 20% to 60%. We saw engagement over the past year grow by about 30% high growth in paid net adds. And also revenue, FX neutral revenue growth actually accelerated from 19% in the year prior to 24% last year. So that’s -- we are not saying every market is going to play out like that, but that’s what it would look like a success.

Greg Peters:

Yeah. I will take that one. So this is an important transition for us and so we are working hard to make sure that we do it well and as thoughtfully as we can. This last of the country rollouts have gone well, and maybe most importantly, were directionally consistent with what we saw in Latin America. So just to remind people what that looks like, very much like a price increase, we see an initial cancel reaction and then we build out of that, both in terms of membership and revenue as borrowers sign up for their own Netflix accounts and existing members purchase that extra member facility for folks that they want to share with. So, first of all, it was a strong validation to see consistent results in these new countries, because there are different market characteristics different from each other and also different from the original Latin American rollout countries. So to get to a positive outcome, you mentioned Canada, we are now in a positive member and positive revenue position relative to pre-rollout. So that’s a really strong confirmation that we have got an approach that we can apply in many different countries with different market characteristics, including our largest revenue countries. In fact, we actually -- we could have launched that solution. We actually considered that option. But we also learned from this last set of launches about some improvements we can do, especially in areas that matter a lot to our members, things like having seamless access to Netflix as they have always been using it on the go or while traveling, as well as making sure that we have got good tools for them to manage access to their accounts and their devices. So, all in, we felt based, on those results, it was better to take a little bit of extra time, incorporate those learnings and make this transition as smooth as possible as we can for members and we think that approach also best serves the long-term business goals as well. So we are going to launch this new improved version broadly, including in the United States in Q2.

Greg Peters:

Yeah. So that launch we are doing in Q2 is a very broad launch, it includes the United States, includes many, many other countries. I mean, we reserve the right for some countries where we think there’s a different approach. But I would say the bulk of our countries, and certainly, when you think about it from a revenue perspective, the vast majority will be rolling out in Q2. You mentioned in terms of pricing. We will look at that on a market-by-market basis. But obviously, we tested different pricing in these last rollouts that will be tested in Latin America and that gives you a sense about how we are thinking about what is optimal pricing, especially in more affluent countries, so I will leave it at that. And then in terms of preference, what we are trying to do is create a structure that really supports choice. So that gives an opportunity for folks to spin-off to borrower accounts where they think that’s the right solution for them or for use cases, which are legitimate use cases where somebody wants to basically buy Netflix for a family member or something like that, we want that extra member to be in place, too. So we don’t really have, I’d say, a strong preference. We are not trying to steer in one perspective other than using pricing to both satisfy those customer choice goals, as well as thinking about long-term revenue optimization.

Greg Peters:

Well, I will leave this -- go ahead, Spencer.

Greg Peters:

No. You got it. You got it. You got it.

Jessica Reif Erlich:

So let’s move on to advertising. Netflix appears to have a huge advantage in, let’s call it, television advertising. I mean, you pretty much have nothing to lose from a legacy perspective and everything to gain on an AVOD platform. Given the limited ad load, premium video content, your humongous reach and engagement with some pretty hard to reach demographics, as well as the ongoing mass transition from linear to streaming, your position is enviable. Having said that, you seem to be very careful in your advertising rollout. Can you give us your key learnings to-date and what the growing pains have been so far?

Jessica Reif Erlich:

There have been a lot of press reports regarding your buildup of ad tech capabilities. Can you provide an overview of plans, time frame and cost?

Spence Neumann:

Sure. I’d say just generally, Jessica, we try to, in all of this, first, we have always -- we have talked about this crawl, walk and run, which Greg mentioned, being very thoughtful and methodical how we are building the business. And with that also, how it impacts our overall financials, our revenue and our incremental profit contribution we believe, we can do that in a very healthy way. So that’s what we are building towards. So, yes, there is some cost to this, both in terms of the cost of the Microsoft partnership and the cost to kind of some building out of our capabilities, people, as well as tech capabilities. But all very manageable. We also talked about a little bit of content costs as we continue to kind of we increased our level of content parity on the plan this past quarter, which is great. So it’s about 95%-plus of viewing parity, which is again a great progress. So we are -- we keep moving forward, but this is all at a level that we believe is not just better for our members with a lower priced option but better for our business and we think we could do it with and are doing it in a way that’s, I would say, without being overly specific, think of it as like 50% or more incremental profit contribution to the business.

Greg Peters:

Yeah. So on your first question, we are always thinking about and working to improve that plan structure, the pricing. We have got two goals in mind when we do that. One is, we want to have a wide range of consumers and -- ideally increasingly wide range of consumer’s access to our great stories at a range of prices with appropriate corresponding features. The second goal is think about optimizing long-term revenue. A good example of this is based on the economics of our ads plan, based on the limited switching behavior that we have seen off of standard and premium. We have upgraded the ads plan features, both in terms of video resolution or video quality and number of concurrent streams, because we think it supports both of those goals. So that’s a good example of that. I would say beyond that we have got -- we will continue to evaluate as we always do, you have seen us make moves in the space before, but we have got nothing more to add on that today. And then in terms of scale, obviously, we are growing, every day we grow and we are seeking to continue to grow, but we are not going to sort of announce or a target or what we expect forecast, let’s say, for upfronts at this point.

Spence Neumann:

Yeah. I can jump in. I mean, yes, overall, we are pleased with our kind of per member ad plan economics. It’s higher than our basic plan overall, and as you say, in the U.S., it’s actually even higher than our standard plan. So we really like the path we are on, the trajectory we have, and as I said, it’s kind of a win-win, because it’s a lower priced option for our members and it’s both kind of incremental revenue, incremental profit to -- as a business -- for the business. So it makes the business stronger, which of course, we can then reinvest into more and more great entertainment. So we like the path, but again, it’s early. We are only a couple of quarters into this, Jessica, so we are going to get better, as Greg said, better targeting and measurement, better kind of tools and buying options for advertisers. So we think all of that will actually kind of build on this so that we will reinforce and strengthen that kind of premium CPM ad network that we are building.

Spence Neumann:

We are not -- we have never provided a long-term guide to our margins. But, I’d say, we are already in a place where we feel great about the business that we have. It’s a very -- it’s a great business model. The business at scale with over $30 billion of revenue, healthy profit margins, growing margins, growing free cash flow. So that’s sort of a starting point, and as I mentioned before, we are trying to balance, as we reaccelerate revenue, ticking up those margins with also reinvesting back into the business, back into that member base, back into that big prize, where we feel like we are so small today. We have talked on recent earnings calls where we represent we believe roughly 5% of that direct consumer spend in the areas of entertainment that we are participating in today primarily in film, TV and games. And when we think about even just the member population that’s available, those 1 billion-plus broadband households and even today, roughly 450 million, 500 million of those being connected TV households and we only have 230 million-ish paying members today roughly, right? So that’s why we are so focused on addressing with paid sharing and then just making our business and the value that we bring to the service better each day to bring in more members. So that’s really what we are working towards. And then long term, we just -- we don’t see ourselves approaching a near-term ceiling. There’s lots of proxies out there. Entertainment services and networks at scale traditionally have been well above our roughly 20% operating margin. So we believe we have a long way to go and we have some inherent advantages. We are a truly global entertainment network, perhaps the first, with really healthy leading engagement and a really scalable content model. So we believe we have got a long way to go, but not really putting more specific guidance out for now.

Jessica Reif Erlich:

Could you give us an update on your capital return plans, I mean, how are you thinking about -- you announced the $1.2 million buyback in Q1. But relative to your free cash flow and an incredible balance sheet, this -- you have a lot of capacity. So can you give us any color on how you are thinking about capital returns over the longer term?

Spence Neumann:

I…

Spence Neumann:

Yeah. I can take that one. Thanks, Jessica, for the question. And we are happy to be fully investment grade as of Q1. So that’s a nice milestone for the company. And you are right, there’s no change to our capital allocation philosophy. So we are still targeting to maintain minimum cash equivalent to roughly two months of revenue. Based on the Q1 numbers, it’s about $5.4 billion of minimum cash. We ended the quarter with about $7.8 billion on the balance sheet so we do have about $2.4 billion of excess cash. So that is why we did indicate in the letter that our share repurchases will accelerate over the course of the year. And then one other minor thing I forgot to mention in my intro, that this video interview will include forward-looking statements and actual results may vary. So I do want to say that and here’s evidence that this video interview is actually not scripted. So back to you, Jessica.

Ted Sarandos:

Well, Jessica, let’s first to say, we respect the writers and we respect the WGA and we couldn’t be here without them. We don’t want a strike. The last time there was a strike, it was devastating to creators. It was really hard in the industry. It was painful for local economies that support production and it was very, very, very bad for fans. So if there’s a strike and we want to work really hard to make sure we could find a fair and equitable deal so we can avoid one. But if there is one, we have a large base of upcoming shows and films from around the world, we could probably serve our members better than most. And we really don’t want this to happen, but we had to make plans for the worst and so we do have a pretty robust slate of releases to take us into a long time. But just to be clear, we are at the table and we are going to try to get to an equitable solution so there isn’t a strike.

Ted Sarandos:

Yes. It depends on revenue growth. And also keep in mind that the way that revenue or the way that content spend hits us, it’s with starter productions and deliveries. We still worked through or we came through or comping off of those post-COVID floodgates opening and so that does throw -- makes the content spend a little lumpier. We expect to be back to about the $17 billion level in 2024 and the rate of growth depends on the rate of revenue growth for sure.

Spence Neumann:

Okay. Just to add to Ted’s point…

Spence Neumann:

…because I totally agree with all of that. And -- but again, it’s -- there’s a big opportunity ahead so I just want to reinforce that. We are not going to -- we said, we would stay at roughly $17 billion on average over a few year period over that 2022 to 2024 period, but there’s a big entertainment market to go after beyond that. So as we reaccelerate revenue, we see a lot of opportunity to grow into that viewing and engagement and business opportunity ahead. So we expect to be there and we just have to build into it.

Jessica Reif Erlich:

Do you have any thoughts on revisiting your film strategy? In terms of like theatrical output, as well as distribution, you have had so much success at the Academy Awards. So does that change anything for you? And you also recently had a restructuring in this division, is there anything to read from that?

Spence Neumann:

And…

Spence Neumann:

… it’s really leaning into advantage -- we believe an advantage we have of delivering that value to our members, but because of our reach and our scale to have over 230 million paying members at our average revenue per member, it affords the opportunity to invest in these big movies, bring them to our members at just one other piece or area variety of content and must-watch content and entertainment for members. So it’s really kind of leaning into that advantage.

Jessica Reif Erlich:

How is your live strategy evolving? And Chris Rock was a huge hit, but Love is Blind had some technical issues. Is live a big advertising driver, do you need to invest more to beef up your technical capabilities?

Greg Peters:

Yeah. I will kick it off. I would start by saying we are really sorry to have disappointed so many people. We didn’t meet the standard that we expect of ourselves to serve our members. And just to be clear from a technical perspective, we have got the infrastructure, we had just a bug that we introduced actually when we implemented some changes to try and improve live streaming performance after the last live broadcast, Chris Rock in March. And we just didn’t see this bug in internal testing, because it only became apparent once we put sort of multiple systems interacting with each other under the load of millions of people trying to watch Love is Blind. So we hate it when these things happen, but we will learn from it and we will get better and we do have the fundamental infrastructure that we need. And I would say the good news is that ultimately, 6.5 million viewers watched and enjoyed the show. Then I will turn it over to Ted to talk about more of the strategy side.

Jessica Reif Erlich:

Is it a big driver of the advertising?

Greg Peters:

No. Go ahead, Ted. You take it.

Jessica Reif Erlich:

Right. I have one more question on password sharing, I will just go back to that for a second. But of the 30 million you can and 100 million-plus global borrowers, that sounds like from your release, that’s actually the number of households. What is the number of potential subs or add-ons, I mean, what is the potential conversion from these 100 million-plus households?

Jessica Reif Erlich:

And then just also going back to like advertising, what are the advertising features that you are most excited about?

Jessica Reif Erlich:

What do you consider the walk phase?

Spence Neumann:

Yeah. We talked about it’s a multiyear build and a gradual build and crawl, walk, run and we are only a couple of quarters into this. So I don’t know, Greg, if you would agree, but I would hope we are in the walk phase by the end of the year and into next year. But I think this is a year of getting from crawl to walk.

Jessica Reif Erlich:

And then I just wanted to clarify something, Spence, I think you said, this is a 50% margin. I mean, typically, advertising could be as high as 80% or 85% margins. Is that -- do you expect to build up to that or do you think it’s really just a 50%-plus business?

Jessica Reif Erlich:

Okay. Moving on to gaming, can you give us some data points on engagement and what you are seeing on retention?

Jessica Reif Erlich:

Are there plans to directly monetize games, for example, advertising or licensing IP to game developers?

Jessica Reif Erlich:

So maybe turning to India, which is one of the biggest global markets and one of the fastest growing markets really in the world right now. Spence, you mentioned the pricing change in 2021. And Ted, you recently said at a panel earlier in the year, I think, you were in India…

Jessica Reif Erlich:

… that is your fastest growing market and you have given the statistics engagement of 30%, revenue up 24%. But I think, Ted, you said that you are increasing your local originals from 28% last year. Can you just talk a little bit about this market, like, what are your longer term plans? Is it actually profitable or is this something that we -- where we can see a real change in contribution?

Spence Neumann:

Jessica, we have time for two last questions, please.

Ted Sarandos:

Yeah. We continue to grow it. The primary driver for our consumer products business is to build and deepen fandom. It does drive some revenue. But, in general, we are really looking for those opportunities to help fans connect with their favorite shows, their favorite films, their favorite talent by wearing the shirt or carrying the notebook and other ways that people really like to express their fandom. And also through these very successful live experiences, the Bridgerton experience or the Stranger Things experiences that travel around the world, we are super excited about all of them and you see us stepping into even a newer one with the Stranger Things stage show and there’s all kinds of amazing stuff coming in that world. But keep in mind that it’s mostly to build fandom in a way that can drive revenue, but mostly it strengthens the core of the business.

Greg Peters:

Yeah. We see some of those effects, right? And we know that in especially price sensitive markets, right? So this is also a situation which is very different market-by-market. But in some price-sensitive markets, consumers essentially got to a practical or informal pricing structure by subscribing to premium and then sharing us out, and then, oftentimes, actually having people pay for a fraction of that from -- as they are sharing it. So associated with that, we see some of that being shifted off of those plans and having those people sign up for individual plans as we rationalize that structure, implement the changes that prevent password sharing and also have them be able to use things like extra member or in countries where it’s relevant the ads plan as a new entry level price. I think you are going to see some of that sorting. And again, we think this really -- it’s better for the business. Ultimately, it sets us up structurally to have more members to have a one-to-one relationship with those members, to have all the systems that we have work more correctly, to have more transparent sort of pricing connections with those different members on the different plans. So we are excited about getting through that point. But again, I would characterize this as a very country specific kind of approach, where some countries respond that way and other countries really wasn’t about that, it was much more about casual sharing.

Jessica Reif Erlich:

You missed Beef. You didn’t say that. It’s incredible.

Greg Peters:

And plus one to Beef as being an amazing drama, I love…

Spence Neumann:

True.

Jessica Reif Erlich:

Great. And with that...

Ted Sarandos:

Yeah. I just want to tell you a quick. We are really pleased with the quarter. 2023 is off to a good start. Netflix is the leading streaming service in terms of engagement, revenue and profits and streaming is the future of entertainment at home. So on engagement, just yesterday, Nielsen released data that in Q1 of 2023, Netflix was the most watched of any broadcaster or streamer in the U.S. by a pretty nice margin. We have -- and we have plenty of room to grow, even with that tremendous amount of watching, we are about 10% of total TV time in our most established markets like the U.S. and the U.K. On revenue and profit, we are growing, not as fast as we believe we can, not as fast as we would want to, but we are growing and we are profitable, and we have a clear path to reaccelerate growth in both revenue and profit and we are executing on it. You will see a broader rollout of paid sharing in Q2 and we are going to continue to grow that ad business. And we also grow our aiming to continue to grow free cash flow. As we said this year, we are going to generate about $3.5 billion in free cash and on increased margins. So remember that this account sharing initiative helps us have a larger base of potential paying members that we can continue to serve and grow Netflix long-term and that’s why we have been so focused on execution. So the variety and quality of our must watch movies, our must watch TV shows, our must play games, we are going to keep working to improve discovery, to have buzzier and more creative marketing, because when we deliver for our members, we deliver as a business. And we keep doing that by doing it just a bit better and a bit faster than our competition every month, every quarter and every year. Thanks, Jessica.

Spencer Wang:

Good afternoon and welcome to the Netflix Q4 2022 Earnings Interview. I am Spencer Wang, VP of Finance, IR and Corporate Development. Joining me today are Executive Chairman, Reed Hastings; Co-CEOs, Ted Sarandos and Greg Peters; and CFO, Spence Neumann. Our interviewer this quarter is Jessica Reif Erlich from Bank of America. As a reminder, we’ll be making forward-looking statements and actual results may vary. With that, Jessica, over to you for your first question.

Reed Hastings:

Jessica, it feels like yesterday was our IPO. We were covered in red envelopes, we IPO-ed at about $1. Hopefully, some of you have held the stock, the full 21 years. And when I think of the evolution, the three of us and so many other incredible Netflix employees to go from DVD service to streaming leader in films and television and emerging player in games and now to have over 230 million members, it’s just – well, Jim Collins probably said it best. He calls it a good start. We’ve had a good start. But honestly, we dream of the whole world finding their favorite entertainment on Netflix and we shorthand that as entertaining the world. And the three of us have been working together for 15 years now trying to figure out how do we get through this issue, that issue, how do we grow. And I couldn’t be happier to complete our succession process. It really started about 10 years ago with the Board trying to think through how could this work. They both have such amazing talents and gifts and to find a platform where they have been able to contribute is fantastic. About 2.5 years ago, we took a partial step. Ted as Co-CEO, Greg as COO. We continue to just make a super progress. And frankly, more and more, they have been leading the company and this is acknowledging really in formal terms how we have been operating for at least the last few quarters. It’s just a great feeling. And when I think about the stock appreciation over the last decade, I know that they want to beat that record and I am all for that. I will be Executive Chairman, helping them everywhere I can, but it’s really theirs to lead and to do that energy and hustle and intensity that we have been doing. They are very ready. That’s what’s driving the timing and so I could not be happier. So back over to you.

Ted Sarandos:

Jessica, let me start with, first and foremost, to thank Reed personally and professionally. He has been, and I trust will continue to be a role model, a mentor, friend. And 22 plus years, Reed has positively changed my life in every way imaginable and he leaves some big shoes for Greg and I to fill. Unfortunately, we have four feet to do it with. So that’s a good thing. In so many ways, the way that Reed has been able to see around corners. That’s why he has been thinking about the succession for the last decade. He generously opened up more of a co-leadership model over a decade ago for he and I, and like he said, 2.5 years ago made it a little more formal. And in that time, delegating a lot of the day-to-day to Greg and I. And in that time, in the 2.5 years we’ve been working at it. We’ve been working together for 15 years, Greg and I. But in the last 2.5 years, particularly, we have been able to build a really trusting, respectful and complementary partnership. In many ways, the same way I have with Reed over the years. And I really do believe that this kind of shared leadership model is going to help us to move fast and to challenge each other, to challenge the company to raise to new heights. And I am just incredible what we are able to do. And to your point, this is the leadership team. It’s been pretty stable and that’s why that this steady transition feels so steady. This ability of this team has helped us build a great foundation and a culture that can absorb complexity and change. And as you saw in this last quarter, it can rise to any occasion. And Greg, I just want to say I am thrilled to be in this with you. And Reed, we can’t thank you enough.

Jessica Reif Ehrlich:

Great. So this was originally for Reed, but now given the change in leadership structure, maybe for all three of you, for Reed, Ted and Greg. One of the best quotes recently was from John Malone, who said shareholders should build a monument for Reed Hastings? John and Rupert Murdoch ran the dominant global media companies in prior decades and we are one of the few media executives who have been able to see around corners. Ultimately, they both sold the bulk of their assets. Netflix is now one of the most dominant global media companies, if not the dominant. What is your view of the next 5 plus years? Do you need to get bigger, stay the course?

Greg Peters:

Yes. And Jessica, I would say I think that, that translates into being bigger. And I think that means being bigger in terms of touching more members around the world, delivering them incredible entertainment. We will see that in terms of being bigger, in terms of the amount of engagement that we can drive the amount of hours that we are satisfying them, be bigger in terms of the culture impact is too. I mean you have seen – I mean just incredible cultural impact in terms of Wednesday, Stranger Things, the ramifications that these shows have in terms of the popular culture are significant and that’s going to get bigger, too. Also it means bigger in terms of revenue and profit stream. So we are looking forward to those as well.

Greg Peters:

I will take a shot at that and then Ted, maybe weigh in. But I think it’s a fundamentally different situation. And if you look at where we are at a significant part of what we need to go do is essentially take the core model that we have been operating since we have been starting in streaming and just execute it better in all dimensions. And so whether it’s the incredible content that Bella and Scott’s team are producing constantly, how we are talking about that content to the marketing and conversation that we do, the product experiences and business model innovations that we are doing, but a lot of it really fundamentally is about executing that core model better. We are not – there is not a lot of massive pivots away from a traditional legacy business model that we have to go figure out. We are planting some seeds in terms of games and things like that, that if we execute well and we are excited about the progress we are seeing so far, will represent the future potential for us in terms of growth and more profit opportunities. So that’s exciting. But essentially, a lot of this is just continue to execute the play that we have got and do it better and better.

Spence Neumann:

Jessica, may I just – just one thing to add, I know but I just think the analogy is kind of fundamentally different. So with ESPN and the example you gave, that was a fundamental kind of shift in the industry from 100 plus million pay-TV connected homes to cord cutting that’s on a path down to mid to high single-digit reductions in that distribution platform each year and that’s moving in that direction. So it’s kind of a shrinking core distribution platform where you see in our earnings letter, the world is shifting from linear to streaming. Even in the largest – there is no country where streaming is more than 40% of share of TV time. And in many big countries, as you saw, it’s less than 5%. So, it’s our 5% – or it’s less than 5%, it’s less than 10%. So there is an incredible runway still in the shift from linear to streaming. And so for us, it’s about growing into that shift and also obviously competing well and continuously innovating and improving. And what you saw or what we saw and felt when we had that decline in subscribers was really near-term limiters in growing into that big market, but the big market is still growing as opposed to fundamentally long-term limiters in that ESPN shift that you described.

Greg Peters:

Yes. Like you say, it’s 2 months. And I think the hardest part is actually that first step when you are crawling, because you don’t really know what exactly to expect as you get it going. And now with 2 months, we are ridiculously early, but we have learned a bunch already, I would say. So just ticking through this, I mean, I’d say, first and foremost is that we were able to launch this very, very quickly. And the tech is all working. The product experience is good. And that’s really a testament to lots of hard work for both Microsoft and Netflix teams who worked very hard to make that happen and it’s really rewarding to that to see. The other, I’d say, pretty significantly fundamental thing is around engagement and we see that engagement from ads plans users is comparable to sort of similar users on our non-ads plan. So that’s really a promising indication. It means we are delivering a solid experience and it’s better than we modeled and that’s a great sort of fundamental starting point for us to work with. Furthermore, now, we are seeing take rate and growth on that ads plan is solid. It’s great, because partly that take rate and that growth is due to incremental subscribers coming into the service, because we have a lower price point, that’s $6.99 in the U.S., €4.99 in Germany, just to give you two examples. And so that elasticity is a real – not only a benefit to sort of growing our ad scale and sustainability, but also to the general business. I expect to see that continue to actually grow over the year. That take rate fits sort of within the middle of our other plans, which is another really healthy sign. It means that we’ve got a complementary set of offerings that are working to sort of satisfy different needs for different consumers at the right mix of features and price points. So that’s quite good. Another important one, I think, for the investor community because it came up a lot before we launched was plan switching. We aren’t seeing as expected much switching from high arm subscription plans like premium into our ads plan. So the unit economy remain very good as we modeled. So these are all really good initial sort of progress points, but I think it’s important to reiterate that as you mentioned, we’re crawling and we’d like to get to sort of move to the walking phase. We’ve got a lot to do to get there. So there is a bunch of technical improvements in terms of ad delivery validation, measurement. We’ve got progress already on that, more to do in the next quarter or two. Targeting improvements, which will be better for consumers. More relevant advertising, better for advertisers in terms of more value delivered, a better set of offerings on products for advertisers to buy. We’ve got a long list of experience improvements that we know we can deliver that will deliver more value to both subscribers and advertisers. And there is just also some nuts and bolts stuff that we are learning and improving, just things like how do we do a better job with Microsoft at the ad sales and operations processes. There is so much that we need to do both companies need to do to better serve advertisers, serve an increasing number of advertisers and meet that demand. So we’re just getting started. We’re constantly improving, and we see the trajectory ahead of us. And really, our aspirations are ultimately successively over a period of years to basically build, just like we have essentially in terms of the streaming experience, the best, most effective, highest quality premium connected TV ads experience as a win for consumers and advertisers and for us as a business.

Spence Neumann:

Greg, do you want to go first or you want me?

Spence Neumann:

Alright. Let’s see. I mean Hulu is – yes, they have had a long start, they started in the ads business. They have – we would estimate, reason we obviously don’t know exactly, but roughly half of their membership is on the ad tier. It’s a multibillion-dollar business for them already, and that’s a domestic business, U.S. only. So lower reach, lower engagement than us. So I guess the short story there is we have given what we’ve seen and what Greg just outlined in terms of the engagement on our ad plan, the strength of the performance in terms of the monetization, kind of the unit economics and our ability to kind of scale in a way that is even better than the kind of comparable ad free plan, plus providing clearly choice that our members or consumers are seeking out because of the sign-up flow that we would expect to be as large or larger over time, certainly in just our U.S. market and more from there. But it’s – I just want to emphasize, it’s a multiyear path. So we’re not going to be larger than Hulu in year 1. But hopefully, over the next several years, we can be at least as large, and we wouldn’t be getting into this business obviously, Reed, as you know, if it couldn’t be a meaningful portion of our business. So we’re over $30 billion of revenue, almost $32 billion of revenue. in 2022. And we wouldn’t get into a business like this if we didn’t believe it could be bigger than at least 10% of our revenue and hopefully much more over time in that mix as we grow. So that’s kind of how I see it without putting a specific guide on it.

Greg Peters:

Well, I think as Spence talked about it, it will be an iterative process. To your point, it does signal that we have big aspirations here, and we think there is a big potential opportunity, and so we’re committed to incrementally execute against that opportunity. But just back to Spence’s point, we are starting from a zero base essentially. And also, we’re also starting from a history as a non-ads platform, we had a lot of folks to basically join Netflix fully as non-ad subscribers, and so I think that we will be working through that over a period of time. But again, our goal and aspiration is that this is a very meaningful and significant source of revenue and profit for us over many years to come.

Greg Peters:

Not really. I would say that initially, we’re competing mostly with that sort of traditional TV advertising pool. Now I think we can layer into that over time, components of what has made digital advertising so effective. So if you think about the targeting capability, the fact that we signed in fully addressable. If you think about the growing relevance of first-party data and how we do that, those are real big advantages that we can bring relative certainly to the traditional TV world. But again, the form that we have at least for the next couple of years will still be in that sort of lean back – primarily in that lean back experience. And so that lends itself to certain kinds of advertising and certain kind of advertising goal. And a lot of the demand collection component that a Google or a Facebook is really good at. We won’t be well suited to compete with that for at least some time to come.

Jessica Reif Erlich:

Yes. No, it’s an enormous opportunity, but there is also, besides advertising, there is enormous opportunity in incremental subscribers, as you have mentioned. You are the lowest priced service, at least now you are the lowest price, but can you frame the opportunity in terms of sub growth and how you’re thinking about it?

Jessica Reif Erlich:

Before we get to password sharing, just one last advertising question. You now have roughly a decade of producing your own IP. Any thoughts on offering a fast service over time, free advertising supported television?

Ted Sarandos:

Yes. Look, we’re open to all these different models that are out there right now, but we’ve got a lot on our plate this year, both with the paid sharing and with our launch of advertising and continuing to this slate of content that we’re trying to drive to our members. So we are keeping an eye on that segment for sure.

Greg Peters:

Yes. I think there is a range of motivations for different borrowers. So some of it is economically driven and to a part of what we’re trying to do is that we are being responsive to that and finding the right price points, whether in terms of an individual account or an extra member of forte. And obviously, the ad-supported plans give us the opportunity present a lower consumer face pricing in those countries where we have advertising. Part of it is just what we call casual sharing, which is people could pay, but they don’t need to, and so they are borrowing somebody’s account. And so our job is to give them a little bit of a nudge and to create features that make transitioning to their own account easy and simple. So we have this basically a profile export feature, which allows you to take your viewing history and all the great recommendations with you. So to your point, there is a range of motivations and I think a range of solutions that we will be able to offer to land people in different places.

Greg Peters:

Yes. So we’ve been working hard at this and trying to do some sort of thoughtful experimentation to let our members speak to us in terms of what set of solutions work for them. So that’s the testing that you’ve seen us do over the last couple of quarters. We feel like we have gotten to a good set of features. It’s the profile export that I mentioned, but there is also a bunch of account management features that we think are important to making this experience work for folks. And so we’re ready to roll those out later this quarter. We will staggered that a bit as we sort of work sets of countries, but we will really see that happen over the next couple of quarters. And I think it’s worth noting that this will not be a universally popular move, so there will current members that are unhappy with this move. We will see a bit of a cancel reaction to that. We think of this as similar to what we see when we raise prices. So we get some increased churn associated with that for a period of time. But then generally, what happens is both from the specific changes that we make, we will see folks come on as new subscribers, essentially borrowers creating their accounts or incremental monetization through the extra member that will happen shortly thereafter. And then clearly, our job is to continue to grow value, right, to have more amazing titles that people cannot wait to see and whether that’s satisfying those members to make those transitions or winning back essentially folks who have turned off the service and bringing them back on service over the months and years to come.

Jessica Reif Erlich:

And given the revenue drivers of paid sharing and advertising, how are you thinking about price increases in the current year? Is it just too complicated? How are you thinking about it?

Ted Sarandos:

No, I would just say that it’s the massiveness of the content that will make the paid sharing initiative work. It’s – that will make the advertising launch work that will make continuing to grow revenue work. And so it’s across film, across television. It’s the content that people must see and then it’s on Netflix gives us the ability to do that. And we are super proud of the team and their ability to keep delivering on that month-in and month-out, and quarter-in and quarter-out and continuing to grow in all these different market segments that our consumers really care about. So, that to me, is core to all these initiatives working, and we have got the wind at our back on that right now.

Ted Sarandos:

Time to your New Year’s resolution, yes.

Ted Sarandos:

Yes. We can’t comment on the partner economics, but I would tell you that we have historically stayed away from the fitness category because it’s abundantly available online, in many cases, for free, as you know. But we thought if we could partner with a great brand, and Nike is certainly a leading brand in fitness with really well-produced content, which this content is, and then let’s go out to our members and see if it’s something that they value. And we will see that in the engagement and see where we could take it from there. So, I think in that way, working with a great partner and the high quality, to your point, of the content itself, we will put it in a really good test, do people want to use Netflix to get in shape or to get back in shape. And if they do, we would like to keep serving that. And if they don’t, we will keep poking around. So, it’s the way we kind of – we are able to test the market at a very high end with a premium brand partner.

Ted Sarandos:

Yes. Look, I would say in sports, our position has been the same, which is we really – we are not anti-sports for pro profits, and we have not been able to figure out how to deliver profits in renting big league sports in our subscription model. Not to say that, that won’t change. We will be open to it, but that’s where it’s at today. And in WWE, we look at – we have a lot of M&A activity all the time. We look at all of them, but nothing we can comment on.

Ted Sarandos:

I would look at this as part of just like other crawl/walk/run scenarios, where we are really looking at our content that would benefit creatively for being live. So, the results show for one of our competition series that we have or a reunion show that drives news or like the SAG Awards and opportunity to engage audiences live. And because we have got the shelf space, we can do hours of shoulder programming around the live events and all of those things that our members may enjoy. So, I think – there is nothing particularly novel about live television, as you know. But we are dabbling in it, starting with our Chris Rock live concert to try to create the excitement around live for those things that are uniquely more exciting to be live.

Ted Sarandos:

Well, I am thrilled with every aspect of the release of Glass Onion, starting with Ryan Johnson, and his great film and Scott Stuber and the film team for bringing it to the table. And I think what you saw was a lot of excitement. We drove a ton of us with that theatrical release, and we created a bunch of demand. And that demand, we fulfilled on our subscription service. Our core business is making movies for our members to watch on Netflix, and that’s where we are really focused, and everything else is really a tactic to drive excitement around those films.

Ted Sarandos:

It’s a little – mostly the fuel engagement and fuel fandom. We actually – we do participate in it. Our owned content, we do drive a lot of revenue in our consumer products business. But mostly, the motivation is that is to drive fandom. And Greg alluded to this earlier, but this impact on the culture that this content can have on our platform. In our earnings letter, we mentioned the Lady Gaga song came back after 11 years because of Wednesday. But that doesn’t mention, the four songs this year that we actually jammed back into the charts, some that never charted and some that were off the charts for 40 years from Metallica, Kate Bush, The Cramps. And that impact on culture, Sofia Carson’s music career took off because of Purple Hearts. Jenna Ortega picked up 10 million social media followers in the first week Wednesday launched on Netflix. And all of these folks who build these gigantic careers on Netflix then go on to have to own their own companies, sell their own makeup in many cases and become incredibly powerful influencers. And all of that business is drawn because of our – the impact that this distribution platform, and it’s incredible UI that basically can take something like Wednesday, which was not a slam dunk for people to predict that people would love it as much as they do. And the UI could pick up on that activity in the early going of the release and push it out to where it’s going to be one of our most watched shows in our history all over the world. And we do use consumer products as a way to intensify fandom. And it could be anything from makeup, from Wednesdays, as you said, or maybe even a hand on your shoulder. Spence?

Jessica Reif Erlich:

Sticking with content for a few minutes. The local language hits a building, but tell me on the U.S. hits. How do you think about allocating your $17 billion or so content budget between genres or languages? Like is there any way like you can kind of parse it out?

Spencer Wang:

Jessica, we have time for one or two last questions. I just want to make sure you have a chance to ask about margins or anything else you might want to ask…

Spence Neumann:

Spencer, why don’t you go first with the capital allocation philosophy, if you like?

Spence Neumann:

Yes. And I can pick up with margins, I can start with. It’s a bit of an explanation. But if you like, in terms of just in the near-ish term, our outlook for ‘23 and then just generally, what’s driving our outlook. But what you saw in the letter, it kind of dates back, frankly. If we walk back to where we were in the beginning of 2022, when we saw a slowing revenue growth, we said, “We are going to manage to the target operating margin of 19% to 20%, FX neutral at those January 2022 rates.” And we ended the year at 20%, so at the high end of that range. And now as we kind of turn the page to ‘23, first, I should say, with everything we talked about, we have got – we are quite optimistic in terms of our path forward. I also just want to highlight there is also kind of short-term unusual amount of less visibility than typical because these things we are talking about in terms of our revenue initiatives, whether it’s scaling our ad platform, launching page sharing, which hasn’t globally rolled out yet, these things are early days. And then also all multinationals have a level of macro uncertainty. So, that’s a bit of a caveat in terms of the variability in the forecast. But what we see is we see with the – our path to accelerating revenue growth and our high confidence there that as we turn forward to ‘23, we are guiding to now 21% to 22% FX-neutral operating margins, those same January 2022 rates. We are now into New Year, so we take it forward to January ‘23 to current rates, and that’s a range of our operating margin guidance of 18% to 20%. So, now FX neutral for ‘23, we are going to manage within that band to deliver at least within 18% to 20% operating margin guide. So, that is growing margins, growing absolute profit. And really what’s reflected in there is that this – we have high confidence in our ability to accelerate revenue throughout the course of the year as we scale ads and we launch paid sharing. We have got high confidence in improving the service and the strength of our content slate with everything that Ted discussed here on the call. And we are also continuing to manage our cost structure with increasing discipline. You saw that in the back half of ‘22 with our slowing expense growth and we will carry that through similarly in ‘23. So, that all lends itself to our focus, which is kind of healthy growing double-digit revenue growth and accelerating that revenue growth throughout the year, expanding our – both our absolute profit and profit margin and then growing positive free cash flow. So, that’s all reflected again with the big caveat that there is a bit less visibility than typical in this near-term. That’s something we will continue to work through. We will obviously know a lot more over the next couple of quarters, a few quarters as we roll out paid sharing, and we will update guidance as appropriate. But that’s what plays through and then also plays through that cash flow generation that you see, where we believe with all those dynamics and managing at about the same level of cash content spend that we will have more than $3 billion, at least $3 billion of free cash flow in the year.

Spence Neumann:

Spencer, I just – because I can’t just deal with this thing. I just want to thank Reed as well. This is not a goodbye, I know. But it’s been fantastic. I couldn’t have asked for a more incredible experience in the past 4 years with you as our leader, learned so much, across everything from work to humanity. And I am so thrilled with the next chapter with Greg and Ted and you and so super excited. And thanks Reed.

Reed Hastings:

Thank you, guys. It’s certainly not goodbye. I am heavily invested in Netflix success. So, there has been 83 earnings calls now, and I honestly have loved them. I love the interaction. But it’s time for Greg and Ted and the team to lead, and I will be in the prep sessions, but this will be my last earnings call on the screen. Overall, I would say our first 25 years were good, and I am super excited about Netflix’s next 25 years being great under our broadened leadership team. Pleasing, our shareholders and members is so satisfied and I just want to thank all of you for your support and look forward to continued more progress. Thank you everyone.

Spencer Wang:

Good afternoon and welcome to the Netflix Q3 2022 Earnings Interview. I'm Spencer Wang, VP of Finance, IR and Corporate Development. Joining me today are Co-CEO, Reed Hastings; Co-CEO and Chief Content Officer, Ted Sarandos; COO and Chief Product Officer, Greg Peters; and CFO, Spence Neumann. Our interviewer this quarter is Doug Anmuth from JPMorgan. As a reminder, we will be making forward-looking statements and actual results may vary. With that, let's jump into it. Doug, over to you for your first question.

Greg Peters:

Yes, Doug. So a lot of what we're thinking in terms of setting pricing for basic with ads and how we think about pricing in general anchors on what's the value that we're delivering consumers. We're trying to work very hard to translate the dollars that they give us and do incredible shows. And you can see sort of in Q3 some great examples of the series that we're delivering there, the films we’re delivering there and their Q4 slate looks incredible as well. And then, specifically with regard to ads, we modeled out essentially what we think the expected revenue is on a variety of different countries that we're launching in to make sure that in a combination of the subscription price that we're charging for basic with ads, plus that anticipated monetization, we'd be roughly call it unit economics-wise revenue positive to neutral. And then, when we look at them, the fact that we think that this lower price will -- consumer-facing price will bring in a lot more members then we're quite confident in the long term that this will lead to a significant incremental revenue and profit stream.

Greg Peters:

Yes. It may be relevant to note that we don't see a lot of member switching plans. So oftentimes when they come in and they select the plan for a given feature, let's say, that's the 4K resolution. We see that to be a pretty sticky choice. And so, when we're thinking about unit economics being neutral to positive, we're really comparing to the like feature set in the basic without ads.

Greg Peters:

Yes. We started with a bunch of models that were informed by, obviously, the ad activities in those different countries around the world. But now we're in the point where we get to take those models and we got to bring them actually to advertisers and sort of see what's working in practice. And it's been great to see both our partner in Microsoft and their sales team as well as our small but crack ad sales team in actual action with brands and with agencies working through that. And I would say that, the initial demand that we're seeing is very strong. So people are very excited about the proposition of bringing their brands and their ads to a bunch of consumers around the world that are watching our shows. They're excited about the positioning against the incredible content and the titles that we have. And so, that demand has been very, very strong. And so we're seeing sort of a lot of the expectations that we built into our models come through in that actual sales process. So that's great. I think it's also worth noting though that we're very much in the walk -- a crawl-walk-run kind of model that we talked about before, we're sort of iteratively improving. And so, we're building in a lot of capabilities over the next couple of quarters that we think are important to advertisers to make that advertising offering increasingly attractive and, sort of, check a bunch of boxes that they have. You might have seen the verification partners that we announced. That's a pretty good example of that. But we've got a lot more on that road map to go do that we're excited about delivering for brands.

Greg Peters:

Yes. Again, I think, we're starting -- part of what we want to do is actually get this out to market quickly. And you could see we went from basically the point we announced it to delivering it in about six months which has been a testament to a lot of hard work on internal teams and to Microsoft. But we do have relatively basic targeting capabilities in terms of contextual targeting genre et cetera. But that's, sort of, consistent with what we see with television as well, right? And obviously now our job is to move from that into more of what we expect from a digital world where we have 100% signed-in audience fully addressable, fully targetable and so we can start to layer in additional targeting capabilities over time. I think it's also worth noting when we talk about that that we're very cognizant of privacy and we want to make that paramount and how we think about this offering and all of the data that we use will just be used to basically deliver more relevant ads offering on Netflix and we're not using that data in any way shape or form for a profile building off Netflix or anything like that.

Greg Peters:

I'm not going to comment on any specific pricing, but I would just say that I think we've got a very attractive offering and that's a combination of the audience that we have that we're delivering to that oftentimes it's hard to access in other ways, certainly harder to access in traditional TV in many cases. And it's a result of the incredible content that we've got. So Ted's team is doing an amazing job at producing titles that advertisers want to be next to. And so that's I think what you see is driving the demand and the pricing that we can get.

Greg Peters:

Yes. As you noted we want to start with an experience that's very pro-consumer-centric. And so that's definitely informed both our ad load and thinking about the frequency capping. What I love about those things is the more we talk to brands and advertisers there's actually a high degree of alignment between, sort of, what their desires are and we think is great for consumers. So they're enthusiastic about not having high frequency caps and having sort of -- a sort of more unique offering there. And also limited ad loads sets their ads apart more distinctly. So I think I love that alignment to begin with. And then over time we're going to access a bunch of the capabilities that you've seen us leverage over the last 10 years to think about innovation in the space. So personalization I think is a great example where we don't need to think about the ads experience as being uniform across all of our members. And we think about we can leverage the personalization capability that we've built in terms of titles and how we present titles and also in terms of how we present ads. So I think that's an exciting dimension that we're going to work on as well. And additionally we're also excited to work with partners and our advertisers to think about what is that ad experience, the ad format that is really best suited for premium connected TV. And we're starting with meeting the market where it's at today. That's important to access all the capabilities they've got but we don't need to stay there. And I think we're looking forward to over a couple of years understanding what is the right native format for premium connected TV and figuring out what that looks like.

Doug Anmuth:

Okay. In terms of subscribers, how do you think about just this concept of new net adds versus trade-down from existing subs on the basic with ads tier? It's, obviously, a pretty frequent discussion with investors.

Doug Anmuth:

And how do you think about the impact in terms of reducing churn and perhaps how that plays out across some of the different markets given different characteristics and levels of penetration?

Ted Sarandos:

Again so much of that is tied to engagement. I mean, the best way to reduce churn is to keep them entertained.

Greg Peters:

Well, one of the big factors for us in picking Microsoft is that we felt like we were highly strategically aligned. They had an approach that was similar to ours, which is that we want to launch and then learn quickly and iterate quickly and that there was a lot of flexibility both in terms of innovation around the formats and approaches that we just talked about. Partly it was a lot of flexibility in thinking about how do we leverage the combined go-to-market capability that Microsoft has a lot of right now and that we have very little, but we're going to build overtime. And frankly when I see the demand that we're in right now, we're stretched between the two teams to really support all that. So, I'm actually excited about our ability to grow that capacity on the Microsoft side that I think they're going to do some hiring and building and we're going to do some hiring and building and then through that joint capacity growth be able to better serve more advertisers which we can't even – we can’t even - actually we’re turning some folks away right now because we just don't have the go-to-market capacity to serve everyone.

Doug Anmuth:

He did.

Doug Anmuth:

So Reed maybe that just brings up the question -- and for you as well, Greg. I mean when you're going out to agencies and marketers do you feel like you're going after linear TV dollars or are you going after digital dollars right now?

Doug Anmuth:

Okay. And Spence in terms of ad revenue it feels like it should be very high margin. Maybe you can just talk about some of the key costs or investments in running the ad business given that Microsoft is responsible for the bulk of that sales for now?

Doug Anmuth:

Okay. Great. All right. So, for the record we're not hitting subscriber numbers until about 15 minutes in here. So -- but you added 2.4 million subs in the third quarter. You're expecting 4.5 million in 4Q. Maybe you can just kind of walk us through how you're feeling about core subscriber growth before you kind of get into the dynamics in 2023 around advertising and paid sharing.

Spencer Wang:

Yes, Reed, no, you're doing my job for me, which is great. I appreciate that. But yes, we're – as we said, we're not – we're still growing as fast as we'd like. So we're building momentum. We're pleased with our progress but we know we've got a lot more work to do. We're pleased with Q3. We saw acquisition growth a bit more than we had in the past few quarters, which is great across every region. Churn remained, yes, slightly elevated kind of similar to where we were at the end of Q2. But overall, when you combine those two things, we delivered paid net adds of 2.4 million, which is a little bit above our guide. So we kind of under forecast there obviously. And then for Q4, as we talked about and as we talked you mentioned – we're guiding to 4.5 million paid net adds. Reflected in that guide is what we talked about. We're off to a nice start. I'm sure Ted will talk about the strength of the content slate. We started with Monster, the Jeffrey Dahmer story and into The Watcher and others that are building. So it's a strong seasonal quarter. But some of those revenue accelerators that we know we're focused on in the near-term, whether it's ads, we just talked a bunch about that. There's not going to be – we don't expect at least a big financial impact in this first launch quarter. And we also – as we talked about in the letter, we have a solution that we'll be rolling out in 2023 for paid sharing and monetizing all that unpaid viewing, we've been talking about. But again that doesn't even start rolling out until early 2023. And there's some other near-term limiters to our growth. There's – on the – take currency out, we still have penetrating the connected TV market and the sales cycle there. We got competition. We've got some macro strain, whether it's higher inflation, energy prices and some of the geopolitical strain around the world. So all those things are factored into our guide. It's a little bit less visibility than we typically would see. But overall, we feel really good that we're building that momentum. We've set a path to the growth. You're seeing growth in paid net adds both in actuals for Q3 and into the guide to Q4 and most importantly, a path to accelerate revenue growth and hit the ground running in 2023.

Ted Sarandos:

Look, big shows that folks engage with and talk about drives a lot of growth. I do think it's – people come to value that. And for us our goal is we've got to get them to come to expect it. So right after they finish something great that they love that there's an expectation that there's something right behind it. So you described it pretty nicely. You come out of Stranger Things Season 4. You roll right into a big movie like Gray Man or a movie that you fall move with like Purple Hearts or a great animated feature like Seabees, then you do with that and you roll right into Monster, the Jeffrey Dahmer story. And then right out of that, I mean back-to-back kits from Ryan going right and right into The Watcher. So, I think it's -- that cadence is something I do think we're getting better at as we get more and more mature in our creation of original content. Remember Doug, we've only been at it for 10 years.

Reed Hastings:

Ted maybe just talk a little about the smoothing of content monthly kind of what state we're at this year, what you think we can get to next year sort of easing out of that COVID concentration.

Doug Anmuth:

Okay.

Ted Sarandos:

And probably, none was a better example of this go around than Extraordinary Attorney Woo from Korea, 400 million hours of watching around the world. Just a real phenomenon that we can take a show that other folks would view as being extraordinarily Korean and make it work around the world.

Ted Sarandos:

Look the -- let me go back to what I was saying earlier. We started this about 10 years ago. We had no IP. We had no library. We moved as quickly as we could to build a library of our own IP and to build our own library. And in those 10 years, that library now gets more viewing more revenue and more profit than all of our competitors who've been at it for over 100. So when I look at that and think, okay, along the way we probably made a lot of mistakes. And we learned a lot. So today, when I think about what we learned today, we've kind of developed a lot stronger skill sets and partnerships and processes to ensure quality of delivery and working with our creators and to give them the tools to deliver for the audience, some things that are fairly proprietary and some things that just benefit from the scale of our business, so that they can really do what we want to do, which is please audiences. And you've got to remember as we go to do that it isn't just making prestige shows in English. It's also making a very kind of pop culture television across every genre, across every format imaginable. And in doing that, that's the thing that I think we can bring scale and creativity and audience connectivity that others can't compete with. So for me, that's the biggest thing that when you say are we sharpening our tools, are we getting better, we're definitely getting more mature about the process. And then, if you go all the way back to the beginning of time, we didn't have any staff, we'd had any experience creating original anything on Netflix. So, we build that up to where we're at today, which is in the last quarter we've released seven of our most popular releases of all time just in this last quarter.

Ted Sarandos:

Look, I think what we're seeing Doug is that, both the scope and scale, as well as the range and the cadence of hits is improving. So that – I feel better and better about that $17 billion of content spend, because what we have to do is be better and better at getting more impact per $1 billion spend than anybody else. And that's how we're focusing on it. So, I think we're about the right – we're spending at about the right level. And as we reaccelerate revenue, we'll revisit that number of course, but we're a pretty disciplined bunch about that.

Ted Sarandos:

Well, first, I'll tell you, we're in the business of entertaining our members with Netflix movies on Netflix. So that's where we focus all of our energy and most of our spends. Our films are always heavily featured in film festivals around the world, because they're in demand, made by the greatest filmmakers on the planet. And for all those folks who can't get to a city where a festival is this one week release on 600 screens is a way of creating access to the film, and building buzz the same thing we're doing in those festivals. So I would look at this as, just another way to build anticipation for the film, and build buzz and reputation for the film ahead of its Netflix release. There's all kinds of debates all the time back and forth, but there is no question internally that we make our movies for our members, and we really want them to watch by Netflix. And of course, with one week of release in theaters, most people will see them on Netflix, just like they see all movies. Most people watch most movies at home. So we think that, there's a plenty of – and I think this particular release sits somewhere between that week we have to run movies to qualify for awards, and the time that we run them in a film festival, and the time that we travel them around, but it's a way of condensing that into a louder event.

Greg Peters:

Sure. The profile transfer, I mean, supports a couple of different use cases, right? I mean, there's obviously situations where you can imagine like you have a kid at home, who is going to go off and become an adult, and get their own account, and it supports those ones. But it does enable a key thing that we learned around how we think about paid sharing. And we've been working really hard to try and find essentially a balanced position and approach towards this one that supports customer choice, and frankly, a long history of customer centricity that we think is informed how we think about establishing our service, but balancing that with making sure that as a business we're sort of getting paid when we're delivering entertainment value to consumers. And as we try to deal with pretty much all of our product changes where we can, we try and try different approaches and listen to our members and use their reactions to help us understand what's working and what's not working. So, we've tried a couple of different approaches in different countries. You saw that. And based on the customer feedback that we're getting, we sort of landed on an approach towards paid sharing that we think strikes that balance. And a key component of that is the ability for borrowers, people that are using somebody else's account right now to access Netflix to be able to create their own separate account. And part of that is transforming their profile and their viewing history and all the great information that basically informs hopefully great recommendations for them. And we think that that sort of separate account path will be especially attractive in countries where we're launching that lower-priced basic with ads plan that lower price, obviously, makes that more attractive. Another component of this though is allowing account owners to be able to pay for Netflix for some friends or family something they want to share the service with. And so they're able to create a sub account which we're calling extra member to enable that model too. So, we're trying to come up with a range of options that supports customer choice balances those considerations but also ensures that we've got a sustainable business model that allows us to invest in more of that great entertainment that Ted's team has always focused on for all of our members. So, we're looking forward to getting that out in early 2023.

Greg Peters:

I don't -- I want to say which is to be bigger or better. I think they're complementary in many ways. And what we're seeing is that there's a number of different needs, right? Paying for Netflix for somebody that you want to share that service with, that's a legitimate need. Creating a lower price that balances out for us as a business with monetization from ads that's a legitimate need to get to all the great content that we're making. So, I just think of this as a range of options that try to speak to a range of different needs, the right price points, the right feature set. And we're really just trying to do a better job at expanding that range so that we can serve more consumers on the planet in the right way.

Spencer Neumann:

Sure. Spencer do you want to take that one, or...

Doug Anmuth:

Okay. That's great. That's helpful. If we look at the 4Q guide, 4% operating margin. It's heavily impacted by FX pressures. I think it's 10% ex FX and I guess on a year-over-year basis kind of up from 8%. Maybe you can just talk about some of the factors there. Is there anything fundamental in terms of the business that's kind of perhaps weighing there a little bit more on 4Q margins, or is it kind of all FX?

Doug Anmuth:

Okay. And then I guess maybe you can just talk about cash content spending. Just to confirm, it sounds like you're kind of reiterating the same thing around the $17 billion type of level going forward. What does that mean for free cash flow generation over these next few years?

Spencer Wang:

Doug, we have time for about two last questions please.

Reed Hastings:

That's a great question, Doug. I mean, clearly, us and Disney are investing heavily and will be two big brands in the premium space. YouTube is very strong on connected TVs so they will continue to grow. I think depending on how SUNDAY TICKET lands at some -- Apple Amazon somewhere else, you'll start to see a bunch of people focus on sports and bringing that over to on-demand. And then Tickets, how mobile telephony just slowly replaced fixed-line telephony. And that was even before smartphones right just on the convenience. And you're just going to see it grow every year for many years ahead and makes TV a lot more convenient, more enjoyable, and smart TV now costs less than a mobile phone. It doesn't have a battery. It's got a smaller processor. It's easier to manufacture. So, smart TVs are getting ubiquitous and lower cost. There was the supply chain slowdowns, but generally I think you'll see around the world smart TV is continuing to get to every home in the world that has a TV. So that's all very positive vector. So, again think of it on basically pretty steady every year climbing share. And then a lot of us battling it out for do we have the best content in the world, do we have the best suggestions in the world at lowest prices, all the classic competitive dynamics. So, we're pretty excited about this next phase, which is competitive excellence. And it's straight-ahead execution. If we can just be better than everybody else and we're pretty driven with that.

Reed Hastings :

I'll go first. I mean, for me it's the overall direction of what we're doing and that there's kind of clear context for everyone that if we execute down this particular path well then we're going to win. So that's very exciting and we're on target for that.

Spencer Wang:

Doug for me, I'll have two suggestions. So one is as you've heard us say, we want to build a really big, but also a very profitable business. So in our role in corporate strategy and planning, we want to help the company build and refine the muscle around big profits over time. And then secondly, we've been doing more M&A over the last year or so. So, again, it's getting better and better at that in terms of integration and making sure those deals live up to the expectation.

Greg Peters:

Doug, I'll cheat and give you two. I mean tactically, we are sprinting at ads and it's been super fun to see teams engaged and doing incredible work to make that happen in such a short time. But behind the scenes, we're doing amazing stuff on improving the -- what we call the choosing experience, which is the content discovery and recommendations and all the things that essentially, I think takes all the work that Ted's teams do and tries to magnify the value of that for the users we have around the world. And sometimes, those things are subtle, because they sort of happen behind the covers if you will. But every quarter that we see improvements there, I know we're doing a good job for our members around the world.

Ted Sarandos:

Thanks, Doug. And since you didn't ask, I'm going to take another couple of seconds to tell you about Q4 anyway.

Ted Sarandos:

The Watcher is already turning out to be enormous. We have returning season of The Crown, Emily in Paris, Manifest, Dead to Me, Firefly Lane, Ginny and Georgia, an origin story from the World of Witcher. We have an incredible new action series starring Noah Centineo, called The Recruit. We have Tim Burton's television directorial debut with Wednesday. We have a new series from Guillermo del Toro called Cabinet of Curiosities. And from around the world are some of our most successful shows like Alice in Borderland and Barbarians and Elite are back for new seasons too all just in Q4. So let me say, first and foremost, we have a lot of work to do, to continue to reaccelerate revenue. We're really happy with our levels of engagement, the number of hit series and films, that we're able to put to our members at prices that they think are a phenomenal value in these strained economic times and we're growing, even in those strained economic times and with the extraordinary levels of competition out there for streaming dollars and for hours of viewing. We stood up an ad product in six months with this -- and with the tremendous demand on that product and with a great partnership with Microsoft and with Greg Peters and his phenomenal team that runs that effort, our basic with ads tier is going to help us open up Netflix to a whole new audience of folks who are attracted to all that great content at an even lower price point.

Spencer Wang:

Good afternoon, and welcome to the Netflix Q2 2022 Earnings Interview. I'm Spencer Wang, VP of IR and Corporate Development. Joining me today are Co-CEO, Reed Hastings; Co-CEO and Chief Content Officer, Ted Sarandos; COO and Chief Product Officer, Greg Peters; and CFO, Spence Neumann. Our interviewer this quarter is Doug Anmuth from JPMorgan. As a reminder, we'll be making forward-looking statements, and actual results may vary. With that, I'll turn it over to Doug now for his first question.

Reed Hastings:

Looking at the quarter, Doug, we're executing really well on the content side. Obviously, Ozark, Stranger Things, lots of titles, lots of viewing. We're improving the -- everything we do around marketing, improving the service, the merchandising, and all of that slowly pays off. If there was a single thing, we might say Stranger Things. But again, we're talking about losing 1 million instead of losing 2 million. So, our excitement is tempered by the less bad results. But looking forward, streaming is working everywhere. Everyone is pouring in. It's definitely the end of linear TV over the next five, 10 years, so very bullish on streaming. And then our core drivers are just continuing to improve. And then, of course, we'll talk later in the call about monetization and how that's improving. So, tough in some ways, losing 1 million and calling a success. But really, we're set up very well for the next year.

Doug Anmuth:

So, almost all of the subscriber base has seen a pricing change over the past year. How do you think about that in terms of a factor just perhaps in 2Q and maybe even going forward just in terms of gross adds or churn? I think you still have perhaps some rollout in UK and Ireland and maybe the tail perhaps in 2Q in the US.

Spencer Neumann:

Go ahead. Go ahead, Greg, and then I'll--

Spence Neumann:

So Greg, you hit on it at the end in terms of the -- it's part of what you see in the Q2 performance and the Q3 guide is that we're getting further away from some of those price changes. We always expect to see some slight elevated churn after price increases, as Greg said, highly kind of revenue positive. And so we had some elevated churn early in the quarter because we had some big price changes, big markets that had price increases like US, UK, Ireland, some other parts of EMEA, early in both Q1 and rolling through Q2. But then as we get further past that, that's part of why you see positive paid net-adds guidance in Q3.

Spence Neumann:

Well, you kind of hit out, and we talked about some of the things that were near-term kind of headwinds to the -- at least the subscriber growth numbers as well as revenue growth in our business, whether it's the combination of growth in connected TV homes around the world, it's that. It's a little bit of paid sharing. It's competition and some of these macroeconomic factors like higher inflation as well as the invasion of the Ukraine and the knock-on effects around EMEA and other parts of the world. So we're still kind of working through that. But exactly as you say, we get further away from price increases, we get to a stronger seasonal period, we get to strength of slate, and we're working to address all these things. Some of them take a little bit more time to address like what we talked about with paid sharing, which we'll talk about in the letter. And I'm sure you'll get to that, but some of these we actually have to take action to further address.

Spence Neumann:

Do you want me to take it or you want somebody else?

Greg Peters:

To extend that just a touch. I mean we think Netflix is a great entertainment value. We want to keep and make sure that it is a great entertainment value. We try to provide a range of price points to consumers around the world to make sure that, that service is accessible even in the current environment. And I would say, I'm sure we'll get to this in a little bit, but I think that our ad-supported offering is an extension of that sort of pro consumer, wide range of prices that will increase accessibility of the service, especially in the years to come.

Spence Neumann:

Sorry, Doug, I was just going to add, if you zoom out a bit and look at past economic cycles, at least in the US, most forms of entertainment have been fairly resilient to downturns. There's a level of escapism, I think, that entertainment provides. Also, if you look at the Pay TV business over economic cycle, it tends to be a bit more resilient as well, just because the value of in-home entertainment increases as folks perhaps don't go out as much. And also as a subscription business, it tends to be a little bit stickier. I don't -- obviously, every recession and cycle is different. So we don't want to take that for granted, and we're monitoring it pretty closely, but that's hopefully a little bit of helpful context for you.

Reed Hastings:

That's a great question for Greg here.

Doug Anmuth:

And Greg, when you say the partners that you have lined up, I mean, Microsoft obviously a key one, are you referring to advertisers here as well? They're already taking a lot of interest. Maybe you could talk more about what that looks like at this early stage.

Doug Anmuth:

So we'll -- in terms of the Microsoft deal, will ads be sold early on exclusively by Microsoft? And how do you think about your desire to build out more of your own sales force over time?

Doug Anmuth:

Okay. You already have tiers across a range of prices. But what do you anticipate will happen in terms of members switching plans and perhaps trading down to the ad-supported tier? And do you have a view, kind of, long-term what percentage of subscribers might be on the ad-supported tier?

Doug Anmuth:

And should we be thinking about this as a single tier essentially below the basic plan?

Doug Anmuth:

Sure. Okay. And you talked about advertising monetization essentially helping close the gap perhaps with current arm or getting above that level. How long -- how do you think about timing? And perhaps how long it could take to get to current ARM levels on the ad tier?

Spence Neumann:

I think that's key, Doug, is that this is going to build overtime. It's not like all of a sudden, all folks on ad-free Netflix are going to join advertising Netflix. And so, supply/demand, I think, probably works in our favor between both geography as well as opening up the aperture to our members.

Spence Neumann:

I'd say, overall, Doug, these are -- this is -- our focus is, as we've talked about these initiatives across paid sharing as well as advertising as ways to better monetize our viewing and grow members, as Greg said, advertising, as an example, it can do both. And we believe we can do this both in a revenue-accretive way as well as a profit accretive way. As we roll out a solution for paid sharing that probably has a more near-term impact once we get to a solution that works, and there's not a lot of incremental expense to that. And then on the advertising side, we have some -- obviously some incremental costs that go against that business. But as Greg said, there's incremental revenue, we believe, at the unit economic level, so we think we can manage that pretty -- to a -- and operating income neutral to positive pretty soon out of the gate. So -- but it's a slower build over multiple years to have a material impact on the business. But our focus across 2023 and '24 is to build out to kind of return to a more accelerated revenue trajectory for the business.

Spence Neumann:

Ted, you wanted to?

Spence Neumann:

It's certainly a nice to have, Doug, but it's not a must-have. As Ted says, we can launch today without any additional content clearance rights. And hopefully, we can supplement that, but we'll be disciplined in what we do.

Greg Peters:

You know, some basic levels, they've got the technical components we need. They've got to go-to market components we need. They made a bunch of sort of fundamental, what I would characterize as, table stakes, pieces, which is a strong commitment to privacy, data protection for things that we care a lot about and were fundamental to us. But I would say at the -- beyond those things, it was really what I mentioned before, which is that we saw a high degree of strategic alignment in their interest in innovating in the space and really working with us over the next several years to basically try and create a new ads ecosystem around premium TV, connected TV ads. And so both from the consumer perspective because that's really important, and I think we've seen the sort of long arc of advertising towards very pro-consumer, let's make advertising part of the quality of the experience rather than detracting from it as well as having a really strong brand and advertiser kind of focus on what do they need to support their goals from there. And so we saw that as being a lot of alignment out of that, and we're just excited to sort of work with them iteratively on making that happen.

Greg Peters:

I would say we're not going to go into the specifics of any of the deal -- the terms of the deal.

Greg Peters:

Yes. So a couple of things there. First of all, we picked Microsoft as our ad partner because we think they're going to be great as an ad partner. So that was really the criteria that was used to inform how we thought about the choice on, you mentioned, cloud. We're super excited about Amazon and our partnership with them, and we haven't changed that relationship. We haven't changed our focus on AWS as essentially our cloud infrastructure partner there. So we also have -- we've done other stuff with Microsoft. We continue to do work with them on sort of go-to-market partnerships, things like that. We'll look for those opportunities as they exist with Microsoft and with other companies as well. So I would say this doesn't foreclose on anything like that. But you should think about this was about a great ads partnership deal at the end of the day.

Greg Peters:

Yes. First of all, it's excited to -- I'm excited to get to the stage. We've been sort of working behind the scenes for almost two years in building the technical capabilities to get this stuff rolled out, and now we actually get to put something in front of consumers and see how they react. And this is sort of where the rubber meets the road. So we've got the two models, as you expressed. Essentially, both of them are similar in that they ask consumers not to stop sharing so much but just to pay a little bit more for different forms of sharing. And the first model that we deployed it was pay a little bit more to add a member and share with those additional members. The second model we're trying is pay a little bit more to add an additional home and share the account with the additional homes. So really, at this point, we'll sort of see what works for consumers. That's obviously the reason we're trying these different approaches, is to learn more. We're learning a lot every day on a daily basis at this point in time based on what we've deployed. And I would say while it's early to call it, obviously, we just are getting going on the second approach, so we'll learn more from that. I would say we're tracking quite well to sort of the plan that we had in place. And I am increasingly confident that based on what we're seeing, that we'll have something that we can deploy next year as we were planning.

Greg Peters:

Yes. And one of the reasons we've been working on this quite some time is because we were building those capacities in the background. So -- and these are mostly technical implementations that understand through a variety of network signals and stuff, what is happening. But then we're sort of putting it through the lens of the consumer-facing model. And so in each of these two approaches have slightly different characteristics. But generally, we're trying to lean into a consumer-friendly model that supports legitimate use cases. And travel is a good example of that, personal device use using your mobile phone as you go around the world, your PC, things like that. So, supporting those legitimate use cases, but also making sure that we're doing a good job at getting paid as a business when we're delivering entertainment to folks outside that household or that home in a way that is reasonable where we're asking for a little bit of extra monetization to make that happen, make it a smooth transition as we can for users and really trying to balance that sort of very consumer -- pro-consumer, consumer of choice model with what we think are practical considerations of the business. So, those approaches are different and that's obviously why we're trying these different things to figure out sort of which is going to work better in managing that balance point.

Greg Peters:

We're pursuing both independently because we think that there's value to the business and value to consumers, frankly, especially on the ads plan with a wide range of prices. So, we're pursuing them independently now. There's a great synergy that happens when -- as we think about on sharing and pay sharing. Part of this is being able to offer to a range of folks who may be borrowing Netflix because they didn't quite see as much value from the entertainment and the viewing to sort of motivate getting their own plan. That's part of that segment. Part of the segment, we just have to encourage them, push them and nudge them to get to that point. But part of what's great about ads is that obviously, we get to give folks that are seeing a little bit less value, a lower price and be able to convince more of them to sign up through that ad plan.

Ted Sarandos:

Yes, look I think these titles continue to hit new heights, which is really fantastic that we could still be doing this back to back and delivering hits on top of hits and I think that really belongs to the content teams that do such a phenomenal job around the world. Bill Bejar, who heads at TV group, and to keep surpassing records like we have been able to do with Stranger Things and Bridgeton and Squid Game. And our biggest hits have all come out in the last 12 months, which is really kind of a phenomenal sign of progress. Scott Stuber and his film team, really killing it. Again, I'm going to call back to Friday release at Gray Man, because I think it's an unbelievable proof point of what, kind of, films that this team can put out. I think that this is -- and again, this is kind of back to back to back, where I think Gray Man will join Red Notice and Adam Project and Don't Look Up as among the most popular movies of the year, not just on Netflix, but period. And I think that really is a testimony to these teams and the teams around the world, working great with creators to create a platform for them to do the best work of their lives. So we've been really pleased with the output. We've been pleased with the performance. 35 of our original shows are nominated for Emmy's this year, which says a lot about the work that's coming out, including three best drama nominees, which happened to be among our most watched shows on Netflix ever. So the fact that they could be crowd pleasing and award winning is a pretty tough and pretty gratifying combination.

Doug Anmuth:

All right. Hopefully, they won't mind that you gave that number a little early. Okay. On -- let's go back to Gray Man for a minute. Ted, how are you approaching the marketing differently perhaps for this title versus some of the other big movies that you've had in the past?

Doug Anmuth:

So with Stranger Things for your best series debut of all time, which we talked about. Are there ways that you can leverage that record breaking viewing to drive engagement with other shows and learnings that you can take to build out additional franchise content?

Doug Anmuth:

And Ted, how do you balance out driving both that high-quality content and the significant scale? Because you're clearly releasing a lot of content on an annual basis. Does anything change in your process around content going forward?

Doug Anmuth:

Okay. So to support that content, you've talked in the past about kind of the $17 billion to $18 billion spending for this year. Spence, maybe you can update kind of how you're thinking about it for 2022. And as we talk to investors, there's probably about half of them that actually want content spending to come down some and to be kind of reined in a little bit. And then the other half wants that to continue to grow and find more hits and go more globally.

Doug Anmuth:

I hear you. How do you think about that content spending going forward?

Ted Sarandos:

Just half of them. I would say, look, we spend the way we spend to get to where we are today, and we think that we're about in the right ZIP code. And as like Spence said, that that COVID distortion in the last two years are kind of make it a little murky. But in general, I think that we're kind of in the right ZIP code, I agree.

Reed Hastings:

Ted, maybe just talk about Stranger Things 4 as an example, how much did COVID inflate the production costs in your view?

Spence Neumann:

And more broadly, maybe the way to think about it is throughout COVID, we were, at various times, 5% to 10% of our overall spend was kind of COVID-related costs that it started higher, worked down lower, so on these kind of numbers that's significant. And it's obviously much smaller now, but that was a big kind of drag on our overall efficiency of spend that.

Doug Anmuth:

Okay. I want to make sure we talk about operating margins and, of course, free cash flow. So operating margins, Spence, I think you're talking about 19% to 20% for this year, but ex-restructuring and then also I think the FX changes from January when those numbers were first provided. So maybe you can just provide a little more context there?

Doug Anmuth:

Okay. And on free cash flow, so 2022, really your first year of sustainable kind of strong free cash flow. You're talking about $1 billion or so for the year. How are you thinking about some of the key puts and takes around that? And what does substantial growth mean in '23?

Doug Anmuth:

Okay. And then we just want to maybe close out with what content each of you are most excited about in the back half. And I don't know if it's Gray Man for everybody or not, but I'm sure there's a lot of other good things.

Spence Neumann:

For me, Doug, I'm super excited for Ozark 2. I've heard great things from our content executives on that one. So definitely anticipating that one for me.

Spence Neumann:

I'll jump in and let Reed close it out. I just -- I've been going through Stranger Things to catch up. I just finished that, and I am really looking forward to Extraordinary Attorney Woo. I'm hearing great things from everyone throughout the hallways, and I'm excited to watch it soon.

Spence Neumann:

Changing your mind.

Spencer Wang:

Good afternoon, and welcome to the Netflix Q1 2022 Earnings Interview. I'm Spencer Wang, VP of IR and Corporate Development. Joining me today are Co-CEO, Reed Hastings; Co-CEO and Chief Content Officer, Ted Sarandos; COO and Chief Product Officer, Greg Peters; and CFO, Spence Neumann. Our interviewer this quarter is Doug Anmuth from JPMorgan. As a reminder, we'll be making forward-looking statements, and actual results may vary. With that, Doug, I'm going to turn it over to you for the first question.

Reed Hastings:

Yes, Doug. I mean I think our views are a little different because our numbers are a little different. If we had made our 2.5 million guidance, I think that was consistent with our thesis. And the lower acquisition really forced us to kind of tease apart what's going on. And as we put in the letter, COVID created a lot of noise on how to read the situation, boosted us a lot in 2020. And then in 2021, I think we thoughtfully said it was mostly pull forward, which was the logical conclusion. But now, coming into 2022, that doesn't really hold. So then pushing into it, we realized, with all of the account sharing, which we've always had, that's not a new thing, but when you add that up together, we're getting pretty high market penetration. And that, combined with the competition, is really what we think is driving the lower acquisition and lower growth. So on the two parts, we're working on how to monetize sharing. We've been thinking about that for a couple of years. But when we were growing fast, it wasn't the high priority to work on. And now, we're working super hard on it. And remember, these are over 100 million households that already are choosing to view Netflix. They love the service. We just got to get paid at some degree for them. So that's part of it. And then two, it's really -- we got great competition. They've got some very good shows and films out. And what we've got to do is take it up a notch. And I'll tell you that we're all pretty -- I know it's disappointing for investors, and it is for sure. But internally, we're really geared up, and this is like our moment to shine. This is when it all matters. And we're super focused on achieving those objectives and getting back into our investors' good graces.

Douglas Anmuth:

Okay. Thanks. So maybe just in terms of the recent trends, if we could talk about 1Q a little bit more, you lost 200,000 subscribers or gained 500,000 ex the Russia removal. Hoping you could perhaps parse out a little bit around some of those factors that you mentioned. It sounds like acquisition might be at the top of the list, and you've talked about that for a little while now, but hoping you could kind of isolate some of those factors. And then talk to us about how that informs your 2Q guide for a loss of 2 million subscribers.

Gregory Peters:

And maybe I could pick it up and talk about the first 2 factors you want a little bit more detail on. And we have this addressable market that's expanding over time in every country that we're operating in. It's a bunch of enabling factors, like broadband and smart TVs. And then in some countries that we're operating in, where we've been operating the longest, like the U.S. is a great example, we have really significant high penetration of viewers into that near-term market potential. And that was really boosted by sort of this growth at the beginning period of COVID and the lockdown. Now that viewer penetration is made up of 2 groups. One is a group that's paying us, which is great. And then there is a group of viewers that are not paying us, and they're sharing someone else's account credential. And we really see that second group is a tremendous opportunity because they're clearly well-qualified. They have everything they need to do to get to Netflix. They know what the service is. They found titles that they want to watch. And so now, our job is really to better translate that viewing and the value that those consumers are getting into revenue. And the principal way we've got of going after that is asking our members to pay a bit more to share the service with folks outside their home. So if you've got a sister, let's say, that's living in a different city, you want to share Netflix with her, that's great. We're not trying to shut down that sharing, but we're going to ask you to pay a bit more to be able to share with her and so that she gets the benefit and the value of the service, but we also get the revenue associated with that viewing.

Gregory Peters:

Yes. I mean first, it's important to note that we're trying to find a balanced approach here, and we're trying to basically come up with a model that supports a customer-centric approach. It still puts members in charge, it supports member choice, that delivers great entertainment value and sort of all of the options that we've got. But also, very importantly, allows us to bring in revenue for everyone who's viewing and who gets value from the entertainment that we're offering. And then obviously, we're doing that so that we can invest then into more great content and a better service for everyone. So there's a bunch of factors that we're working through. That's why we've deployed the test that we have. And frankly, we've been working on this for about almost 2 years. We -- about a year -- a little bit over a year ago, we started doing some light test launches that we -- informed our thinking and helped us build the mechanisms that we're deploying now. We just did the first big country test. But it will take a while to work this out and to get that balance right. And so just to set your expectations, my belief is that we're going to go through a year or so of iterating and then deploying all of that so that we get that, sort of that solution globally launched, including markets like the United States.

Spencer Neumann:

Yes. That's great, Doug. You kind of nailed it, which is, as you heard from Greg, we're looking to monetize sharing and kind of meet our members where they are. So you should expect that member numbers or subscriber numbers are sort of less relevant over time because these -- it may very likely show up in ARM. So you should think about it as engagement and average revenue per member, probably increasingly important, and then obviously, revenue growth, which we've always said we're trying to optimize, both near- and long-term revenue growth, to drive that positive flywheel of reinvestment in the business. So it's not that there isn't going to be a P times Q. There's still a Q, but increasingly important is probably ARM and engagement and revenue overall. Yes.

Spencer Neumann:

That's right. That's right, that's right. So it's less distinctive of an individual household account.

Spencer Neumann:

That's right. And as Greg said, we're still working through the ultimate solution here. So we don't exactly know how that's going to play out, but you should assume that it's -- that there's kind of less importance on an individual household account number, and therefore, what's more important is revenue viewing engagement, so viewing engagement, overall revenue growth and ARM as a key metric.

Spencer Neumann:

Ted, do you want to take that?

Douglas Anmuth:

Got it. Okay. I want to go to pricing just from -- I mean there's a lot of -- you kind of have this confluence of trends basically that are taking place here. But Greg, I was just hoping you could talk a little bit more about the recent price increases, primarily in the U.S. I know it's still early in the UK. But I guess, to what effect -- you did mention slightly elevated churn in 1Q. I guess how much was that a factor? How is this price increase being received currently?

Reed Hastings:

And related...

Reed Hastings:

Related to that, Greg has done great work on the price spread. And one way to increase the price spread is advertising on low-end plans and to have lower prices with advertising. And those who have followed Netflix know that I've been against the complexity of advertising and a big fan of the simplicity of subscription. But as much I'm a fan of that, I'm 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. So that's something we're looking at now. We're trying to figure out over the next year or 2. But think of us as quite open to offering even lower prices with advertising as a consumer choice. Spence, do you want to keep going?

Douglas Anmuth:

Okay. Reed, you pulled me forward to advertising, so I do want to get there, but it was a little further down on the list, but one last point, just on pricing. Given all these factors that you've talked about and written about in the letter, is there a change to your view on long-term pricing power?

Douglas Anmuth:

Okay. All right. So let's shift to ads...

Gregory Peters:

And there's a long history of that across entertainment for decades, right? If people love film and TV and games content and if we can continue to deliver that value, deliver that engagement, there's a long history of people being willing to pay for it and as Reed said, also advertisers trying to reach those audiences. So we believe we can kind of drive that value over time and then monetize it so long as we deliver on that entertainment value.

Reed Hastings:

Yes. It's not a short-term fix because once you start offering a lower-priced plan with ads as an option, some consumers take it. And we've got a big installed base that probably are quite happy where they are. So think of it as it would phase in over a couple of years in terms of being material volume. And in terms of the profit potential, definitely, the online ad market has advanced. And now, you don't have to incorporate all the information about people that you used to. So we can be a straight publisher and have other people do all of the fancy ad-matching and integrate all the data about people. So we can stay out of that and really be focused on our members creating that great experience and then again, getting monetized in a first-class way by a range of different companies who offer that service.

Reed Hastings:

We're probably not that advanced, but no, I think it's pretty clear that it's working for Hulu. Disney is doing it. HBO did it. I don't think we have a lot of doubt that it works, that all those companies have figured it out. I'm sure we'll just get in and figure it out as opposed to test it and maybe do it or not do it. So I think we'll really get in. But again, it would be a plan layer, like it is at Hulu. So if you still want the ad-free option, you'll be able to have that as a consumer. And if you would rather pay a lower price and you're ad-tolerant, that's also -- we're going to cater to you also.

Theodore Sarandos:

Yes. So those -- they are proven brands for us, of course, and going into the -- I'll start with Stranger Things because the new season of Stranger Things is a super-sized season that's why we cut it in half. Each episode of the new season feels like a big feature film. It's really phenomenal. We're super excited about how it's landing creatively and how excited fans are for it. And I think that's going to be obviously the big story coming up later in the quarter. The new -- the finale of Ozark, which is our Emmy award-winning fan favorite, the Season 3 was a killer, and Season 4 brings it home in a really incredible way. We're also wrapping up our longest-running show, Grace and Frankie, with an incredible final set of episodes coming up later this month that we're really excited about. And the -- we've always said we ran through the COVID delays that had us back-stack 2021. 2022 is not quite as back-stacked, but it does build throughout the year, and it builds up to some of our big event films in Q4 that we're really excited about, like Knives Out 2, Gray Man coming up before that from the Russo brothers, who we have had a lot of great success with, really fantastic action movie with Ryan Gosling. So the upcoming slate in '22, we're confident, is better and more impactful than it was in '21. And we think '23 will be better and better and more impactful than '22. So we're really -- the content flow has been fantastic, and we're really excited about it.