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Free cash flow case study: Netflix financial cash flow

by myyachtguardian123



What is free cash flow, and why is free cash flow such an important financial metric?

The best way to understand #freecashflow is through real life examples. Here’s a free cash flow case study for a company that most of you will have heard of: Netflix. If you want to understand how that business works, it helps to understand how its financial statements work!

⏱️TIMESTAMPS⏱️
00:00 Introduction to free cash flow case study
00:48 Revenue, profitability and free cash flow
02:31 Drivers of Netflix revenue
03:12 Revenue impact on profit and free cash flow
03:45 Streaming content assets and free cash flow
05:36 Netflix cost of revenue
07:13 Netflix cash flow statement
08:57 Drivers of free cash flow performance
09:14 Netflix free cash flow forecast

Let’s take a high level look at Netflix financial performance for the past five years. Revenue grew from $6.8 billion in 2015 to $20.2 billion in 2019, which translates to a compound annual growth rate of over 30%. Yes, you heard that right. 30% revenue growth per year! Profitability, as measured by Net Income, grew from $123 million in 2015 to $1.9 billion in 2019, a compound annual growth rate of nearly 100%. Yes, you heard that right. On average nearly doubling the Net Income year after year. Cash flow, as measured by Free Cash Flow, went from negative $921 million in 2015 to negative $3.3 billion in 2019, a compound annual growth rate of over 35%. Yes, you heard that right. On average, the Free Cash Flow “deficit” grew by more than 35% per year. So is Netflix making money? If you define making money as being profitable, then yes. If you define making money as generating free cash flow, then no.

How do these numbers for revenue, net income and free cash flow relate to each other? Revenue is certainly a big driver for profitability. Both have gone up dramatically over the years. Revenue is also a big driver for free cash flow generation, but it seems that the revenue growth has not been big enough to turn overall free cash flow positive.

How does revenue impact profitability and cash flow? Members are billed in advance of the start of their monthly membership and revenues are recognized ratably over each monthly membership period. So for profitability in the income statement, revenue is recognized through matching month-by-month. For cash flow, what’s important is that the cash payment is received upfront. So cash flow from paid memberships gets recognized quicker than income from paid memberships.

The main factor that explains the difference between profitability and cash flow for Netflix is how streaming content assets, the TV series and films that Netflix owns or has a license to, are treated. Let’s zoom into these, as they provide the key to the majority of the costs in the income statement, and the majority of the cash outflow in the cash flow statement. Here’s the official description of streaming content assets from the Netflix annual report: the Company acquires, licenses and produces content, including original programming, in order to offer members unlimited viewing of TV series and films.

The word “assets” suggests that we should be able to find these on the balance sheet, as this is something that Netflix owns. Correct! Content assets make up more than 70% of the value of the total assets on the balance sheet. $24.5 billion, to be exact. In the notes to the financial statements, we can even find the split between licensed content assets worth $14.7 billion, and produced content assets worth $9.8 billion. Produced content assets are the original Netflix series and films that the company produces.

So if the value of the TV series and films at a point in time is found on the balance sheet, then how does the in- and outflow work? The inflow is new TV series and films that Netflix produces or gets a license to. The outflow consists of the TV series and films being watched by members. The consumption of the assets. The inflow of content assets is reflected in the cash flow statement. The outflow of content assets is reflected in the income statement.

Philip de Vroe (The Finance Storyteller) aims to make accounting, #finance and investing enjoyable and easier to understand. Learn the business and accounting vocabulary to join the conversation with your CEO at your company. Understand how financial statements work in order to make better investing decisions. Philip delivers #financetraining in various formats: YouTube videos, classroom sessions, webinars, and business simulations. Connect with me through Linked In! .

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15 comments

The Finance Storyteller 17/09/2021 - 2:50 Chiều

Enjoyed this video? Then subscribe to the channel right now, and watch several more case studies of the balance sheet, income statement and cash flow statement for companies like Amazon, Facebook, Microsoft and Tesla https://www.youtube.com/watch?v=PI9X5Ybek_E&list=PLKbmcnUUQMlmMt9bnq6CruylRotpL8YOY&index=1

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Matt English 17/09/2021 - 2:50 Chiều

FANTASTIC!!! TY!

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Don 17/09/2021 - 2:50 Chiều

Can I make a Discounted cash flow using negative free cash flows?

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convinth 17/09/2021 - 2:50 Chiều

If 90% amortisation takes place within 4 years, then I still don't fully understand why free cash-flow (as defined here) is such a high negative figure. Perhaps it means that the company is attempting to grow so fast that it achieves economy of scale quickly making it harder for any competitors.

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T 17/09/2021 - 2:50 Chiều

Thank you for the video! It is very annoying to me that the accounting standards allow the core operating costs, such as the cost for purchasing content for Netflix, to amortize over the years as expenses in the income statement because companies are worried that a one-time huge expense will affect the net income figure grossly. I mean can't they just make things simpler : (

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Nihal 17/09/2021 - 2:50 Chiều

Hi
what is positive cashflow and what is Negative Cashflow?
Is that generate FCF ? Or
Changes in percentage of Cashflows of every QOQ &YOY ? Or
You explained Netflix example like that Negitive CF (Starting C – Ending C) ?

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Natalia Diaz 17/09/2021 - 2:50 Chiều

Thank You, Sir, for this great video.

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Shikhar Singal 17/09/2021 - 2:50 Chiều

Another great video. Practical case studies and examples are great. “The maker of the video does not hold position and doesn’t even have a Netflix subscription” was hilarious

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Nebula Finance 17/09/2021 - 2:50 Chiều

What do you think about capitalizing customer acquisition cost for Netflix instead as OPEX. They have huge stickiness and paying subscribers which is their most important KPI. My reasoning is because customer acquisition cost fits the definition of capital expenditures.

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Connor Sims 17/09/2021 - 2:50 Chiều

Your videos have helped me understand financial statements better than any other channel. Thank you and keep it up! You deserve way more views, but I think most people don't want to get this deep into the accounting nitty gritty.

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Waschbär 17/09/2021 - 2:50 Chiều

Hello! I want to thank you for this great video <3. I have to create a PowerPoint about the cash flow of Netflix and luckily you did this amazing video a month ago 🙂

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Leighan Meddick 17/09/2021 - 2:50 Chiều

Great video and very easy to understand because you break it down well. Would love more of these case studies.

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Ace Hardy 17/09/2021 - 2:50 Chiều

💲

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Pavel Hrivnak 17/09/2021 - 2:50 Chiều

I can understand that the investing cash-flow is negative because of "investment" into the content assets. What I do not get is why Netflix has negative operating cash-flows? The cash-inflow from revenue is upfront and growing like crazy, the cash out-flow from operating expenses is not a big deal relative to the revenue and the amortisation of content assets is a non-cash expense… So why negative operating cash-flows?

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Vikash Barnwal 17/09/2021 - 2:50 Chiều

Hi friend

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