WHEN: TODAY, TUESDAY, APRIL 26TH
WHERE: CNBC’S BUSINESS DAY PROGRAMMING
Following is the unofficial transcript of a CNBC interview with Netflix CEO Reed Hastings. Excerpts of the interview will air throughout CNBC’s Business Day programming. All references must be sourced to CNBC.
JULIA BOORSTIN: I’m at Netflix headquarters, where I’m joined now by Reed Hastings, the CEO of Netflix, on the heels of the company, the first quarter earnings. Reed, thanks so much for joining us.
REED HASTINGS: Thanks for coming, Julia.
JULIA BOORSTIN: So, Reed, why did your second quarter projections fall short of what analysts were expecting?
REED HASTINGS: You know, we really don’t focus much on the analysts. We focus in growing subscribers. We had an amazing Q1. We’re forecasting an amazing Q2. In Q1, we added 3.3 million net additions to our subscriber base. So, our-- additions for Q2 are forecast to be well in excess of last year’s Q2.
JULIA BOORSTIN: Your subscriber growth has truly been impressive, but looking forward, how can you maintain this kind of growth over a sustained period of time?
REED HASTINGS: Well, our service keeps getting better. As we grow, we license a lot more content. So, a year ago, we only had some content, now we’ve got a lot more. We just added Glee, as an example. Mad Men is coming exclusively to Netflix in July. And the more content that we add, the more we grow, and that gives us more money to be able to license more content.
JULIA BOORSTIN: But content cost is-- very high and significant. Especially for this premium content that you’re talking about. And are very concerned about the cost of content. analyst, Michael Pacter says that he thinks that your content costs are gonna hit $2 billion by 2012. Will they?
REED HASTINGS: Well, the studios certainly hope so. And the key is that if our revenue is galloping ahead of our content costs, that we continue to grow our profitability. So, if you look at our domestic operating margin, two years ago, we’re in the 10-11 percent, then 11-12, 13-14. Last quarter in Q1, 16 percent. And we’re trying to target a 14 percent operating margin. So, definitely content costs are growing. We’re spending a lot of money with studios and networks. But our revenue and subscribers are growing faster.
JULIA BOORSTIN: But you joke about-- about Hollywood, you know, wanting to make sure that you pay a lot to them. But that’s really no joke. Hollywood understands how successful Netflix is. And they want to make sure that they’re compensated. How have you managed that dynamic? And how do you make sure you’re not overpaying for content?
REED HASTINGS: Well, in-- our gross margin is about 30 to 35 percent, that’s our target range. And so, two thirds of our revenue is going to our cost of goods, which is mostly studio content. And they feel good about that. We feel good about it. So, we’re continuing to grow on that basis. With two thirds of the revenue going to the content.
JULIA BOORSTIN: And this slew of-- of announcements you made this past quarter, CBS, Fox, Lion’s Gate, is-- is there rightful concern that that might drive those costs up higher than that?
REED HASTINGS: Well, our-- content spending is always looking at our operating margin and trying to target our operating margin of 14 percent. But when-- any time a company’s growing as fast as us-- our subscriber growth now-- a year over year basis is 69 percent. So, you know, it is hard when you’re growing that fast. And sometimes we’re a little high, a little low. But basically, subscribers love Netflix streaming. And more and more people are coming to Netflix.
JULIA BOORSTIN: You House of Cards. It really puts you in the same sort of category as HBO. Paying for exclusive content. What is your strategy with that type of deal?
REED HASTINGS: Well, HBO is actually more ambitious than us in original content. So, they’ll look at scripts. They’ll think about what actors go with what script. Really do all of their production and then own the global rights. In our case, with House of Cards, we’re just licensing the premier window-- in certain territories. So, it’s-- it’s not as ambitious as what HBO does. But it is different than what we’ve been doing in the past. It’s a little bit riskier, we’re doing it with a small percentage of our total budget.
And our view is let’s try and see how it works to premier a serialized drama on Netflix. Can we build a great audience for it? Because it’s so easy to go back to episode one, if you hear about it three months after it started, because the buzz has started to build. So, that’s where we think we might have an advantage.
JULIA BOORSTIN: But what does this mean for your strategy down the line? Will you be doing a lot more of this? And do you think it makes you a competitor to HBO? Maybe you’ll get people to sign up for Netflix if they’re trying to pick between HBO, Netflix, and Showtime?
REED HASTINGS: You know, people often want us to say we’re competing with HBO, but we compete about like baseball competes with football. We have none of the same content that HBO does. Sure, we compete for time a little bit. We compete for money. But most of the people who subscribe to HBO, subscribe to Netflix. Just like baseball and football.
JULIA BOORSTIN: Well-- HBO Go---does seem to be much more of a competitor to what you’re doing. It allows you to stream content. It’s-- it’s really an on demand streaming service in the same way that Netflix is. How-- do you see that as a threat?
REED HASTINGS: You know, it’s not-- on demand streaming service. You can’t go as a subscriber and just sign up for HBO Go. So, it only comes as part of an MVPD solution, cable or satellite, and then it only comes to certain devices. And so, it’s really not a direct competitor. It’s part of the TV Everywhere system. And TV Everywhere over time is competitive to Netflix. And that really keeps us on our toes. It means we have to license more content, do a better job on personalization, and continue to differentiate on why Netflix is such a great experience at eight bucks a month.
JULIA BOORSTIN: You mentioned TV Everywhere. Amazon authorized a service that’s all about streaming content on demand. There are a slew of new players in this space. And-- and I do think that HBO Go is trying to-- to serve the same purpose that Netflix serves. How do you see these range of new rivals? And how will you differentiate and prove that it is a good deal?
REED HASTINGS: The core differentiation is for us to have more and more content. You know, we’re getting content now from FX. We’re getting content from Discovery. We’re getting content from all of the broadcast networks. And so, we’re just building an incredible service with a lot of prior season TV, very broad, a lot of great movies. And then we’re using personalization to really help consumers figure out what’s the content they would like most. So, it’s differentiated in the U.I. Differentiated in the content. And at eight bucks a month, Netflix is such a deal.
JULIA BOORSTIN: You raised prices for your DVD service-- well, you know, for rentals, including DVD’s. Are you going have to continue to raise prices in order to-- to afford these various content costs?
REED HASTINGS: You know, we lowered prices with the introduction of streaming only, so that our base entry plan is $7.99 a month for unlimited streaming. And that’s our core focus. And then DVD as you mentioned is a supplement on top of that. And our main focus is on streaming, streaming, streaming, because consumers just love Netflix streaming.
JULIA BOORSTIN: Will you have to raise prices, though? Either for the core streaming or for-- for the DVD option?
REED HASTINGS: I’m not sure where we’ll go on pricing-- on-- specifically in the long term. But in the near term, we’re very focused on this great $7.99 price point. We use the same price point in Canada. And it’s been a huge success for us. Over 800,000 subscribers. So, that low price point, unlimited streaming, is just a big winner.
JULIA BOORSTIN: You mentioned this a little bit on earnings-- about negotiating with Hollywood. The companies that you’re negotiating with have all the leverage here. If you want to differentiate based on content, they have a bunch of other places to go. How can you negotiate with them without having your cost go through the roof?
REED HASTINGS: You know, we’ve got a larger subscriber base than anybody else. So, we can pay more for content than anybody else. And that’s a great virtuous cycle. The more content we get, the more subscribers, the more we’re able to pay for content. And as long as we pay more and more for content, then that virtuous cycle keeps turning.
JULIA BOORSTIN: Now that Dish has acquired Blockbuster, will that pose a threat to Netflix?
REED HASTINGS: Well, Dish is a very-- sophisticated, powerful company. And we’re not sure exactly what they’re up to. But it certainly seems like they’re going to launch a subscription streaming-- play under the Blockbuster brand. And so, that’ll make it very interesting. The new competitor in the market. And we’ll wait and see what Dish does.
JULIA BOORSTIN: And do you have any sense of how you’re going to respond to them? Or the TV Everywhere’s of the world?
REED HASTINGS: Yeah. Fundamentally, we’re focused on making our service better and better. And that’s more content, better personalization, better U.I. And just continue on that cycle. ‘Cause the better our service is, the more our consumers will love us.
JULIA BOORSTIN: A question about Time Warner. Jeff Bewkes said in an interview with me. He said that Netflix is a 400-pound chimp and he compared you to the Albanian Army. What do you-- how do you respond to that?
REED HASTINGS: Well, Jeff’s a comedian. I mean, you know, he’s got a great sense of wit. And he does compare us to the Albanian Army. And so, we’ve turned that around as a point of pride. And, you know, when I get tired some nights and I’m thinking, "Am I going to stay up and work or drink another glass of wine?" I’ll-- think of Jeff’s comment and I’ll pull our my little Albanian Army dog tags here. And it will motivate me to work a little bit harder. So-- J-- Jeff does have a great sense of humor and he means it very nicely.
JULIA BOORSTIN: But—you nicely, but you-- do you not have any relationship with Net-- with-- Netflix doesn’t have a relationship with Time Warner in terms of delivering their content. Is that
REED HASTINGS: Well, we do, actually. We license some Time Warner content, Nip/Tuck. We’ve got a big relationship on DVD.
JULIA BOORSTIN: But not with HBO content.
REED HASTINGS: That’s true. On HBO content, they don’t license it to Showtime either, and they don’t license it to Netflix, at this point.
JULIA BOORSTIN: Is that going to be problematic? Is-- is Jeff Bewkes’ very public-- sort of negative comments about-- Netflix going to be problematic for the company down the line?
REED HASTINGS: Well, Jeff’s-- again-- been a great comedian about Netflix for many years. And we’ve continued to grow and have enormously successful results. So, I don’t think it’s a big problem in-- in the Netflix growth. And it’s fun to watch
JULIA BOORSTIN: Speaking of Netflix growth, Netflix is a growth company. Why are you spending $108.6 million to buy back shares?
REED HASTINGS: Well, our view is as we generate excess cash, we should return it to shareholders. And-- we’ve been buying back stock for years. That’s not something new this quarter. And we feel like as we grow and we generate excess cash, we’ll continue to do that.
JULIA BOORSTIN: And-- is that the best use of your-- of your cash right now?
REED HASTINGS: That’s right. We think it’s the best use of our cash, ‘cause it’s excess cash. We’ve got a nice reserve. And we’re continuing to generate more cash every quarter. I mean, we’ve been free cash flow positive for so long, we can’t even remember.
JULIA BOORSTIN: You had a very public showdown with Whitney Chilson. How did you resolve that?
REED HASTINGS: Well, Whitney’s a very thoughtful guy. I do a lot of nonprofit work with Whitney-- for Kipp Charter Schools. I find him to be a very broad, creative guy. And-- you-- he had a short position and then a public letter about that with Netflix. And so, I wrote back-- a response. And then he eventually wrote back saying that-- he’s no longer short Netflix. So, I’m happy with that. He’s happy with that. So, it worked out very well.
JULIA BOORSTIN: Your stock has been on a phenomenal tear, especially over the past two years. Do you think it’s worth the price?
REED HASTINGS: You know, the market really determines the price. And we really don’t focus that much on the stock price. We focus on the consumers and the amazing growth we’ve had. We add more content, more people join. We add more content, more people join.
JULIA BOORSTIN: But looking at the growth, looking at your projections for Q2 and the market reaction after hours this afternoon, do you think the stock will keep up the growth?
REED HASTINGS: You know, the business is what we think will keep up the growth. And on the stock, that’s going to be up to investors. So, we’re feeling really good about the continued growth of Netflix. Again, these amazing numbers that we’re putting up. And when you think back up, it’s not just Netflix. Online video is on a tear. YouTube is growing fast, Hulu is growing fast. Consumers are really in love with this click and watch. It changes the TV experience in such a positive way. And that tailwind of online video is propelling Netflix and other firms forward.
JULIA BOORSTIN: Looking forward, how much of your growth is going to come from international expansion? When will we see international beyond Canada have a positive impact on your bottom line?
REED HASTINGS: Well, on a bottom line basis, that’ll be a long time. ‘Cause there’s so much market to invest in. And we have to invest market by market. But what we’ve seen is incredible, ‘cause we think in Canada, we’re going to get to break even within four quarters. One year of launch. I mean, that’s just an amazingly short term for a-- short time for a subscription service. And-- we’re looking at-- we’re rolling out more and more international markets. And they’ll make a big positive contribution in the long term.
JULIA BOORSTIN: Netflix streaming-- ‘cause there’s a maximum amount of bandwidth. The statistics are-- mindboggling. If you look at how much bandwidth it consumers, basically during primetime hours. What happens when internet service providers start charging consumers based on how much bandwidth they’re using? Wouldn’t that be a major threat to Netflix’s business?
REED HASTINGS: In Canada what we’ve seen is there have been very low data caps. And yet, our business has grown tremendously. I mean, we’re at 800,000, which is about eight percent of all households. That took us six years in the U.S. to get to, and we’ve gotten there in seven months in Canada. And they have those low data caps. So, what we do is we adjust our streaming. It’s a slightly lower video quality, but it’s still very enjoyable. So, we’ve got a lot of tools to work with them. And over time, we think the trend is for the internet to grow.
Think about it, just ten years ago it was dialup. And then it was a megabit or two. And now it’s ten or 15 megabits. And a month ago, Google announced they’re doing a gigabit. A gigabit to homes all through Kansas and that’s going to grow. So, that-- the internet is growing. And we’re not too worried about the internet not growing.
JULIA BOORSTIN: And so, even if consumers have to pay more, you’ll figure out a way to-- to still distribute—
REED HASTINGS: You know, in the Google experiment that they’re doing in Kansas, it’s a gigabit. And they-- I don’t think it’s going to be very expensive. So, what’s happening is technology is making it cheaper and cheaper to provide more and more bandwidth. And that’s why you’ve seen this amazing growth of the internet over the last ten years. And you will see that over the next ten.
JULIA BOORSTIN: Now that you’re the biggest entertainment subscription service in the United States, beating Comcast, beating XM Sirius, how will you continue to gain subscribers without it being prohibitively expensive? We saw your subscriber acquisition costs go up this past quarter.
REED HASTINGS: You know, what we’ve seen is over the past couple years, we’ve spent-- $250 of the $300 million on marketing every year for the last six years. And we’ll probably be about that in the U.S. this year. And with that steady market investment, we’ve been able to grow our subscriber base faster and faster and faster. And we’ll have more net additions this year, domestically, than we’ve ever had. And then you put on top of that the international. And it’s just amazing.
JULIA BOORSTIN: A final question. How do you address Wall Street and analysts’ concerns and criticisms of-- about your content costs and the fact that you don’t break them out separately?
REED HASTINGS: Well, our content cost is across the entire business. And our business that we offer to consumers is both DVD and streaming. And so, at this point, it’s all one service. And that’s why we put them together.
JULIA BOORSTIN: Great. Reed Hastings, CEO of Netflix, thanks so much for talking to us today, after your first quarter earnings.
REED HASTINGS: Thank you, Julia.
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