Netflix Inc.: What Domestic Marketing Pullback?

By Markets Fool.com

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In April, in conjunction with its Q1 earnings report, Netflix told investors that it planned to shift some of its marketing budget from the U.S. to international markets beginning in Q2.

The rationale was rather simple. There's more growth available outside the U.S., where Netflix is a relatively new service, than in the somewhat more mature domestic market. Thus, Netflix would simply be reallocating its marketing spending to make it "more efficient," in the words of CFO David Wells.

But if Netflix implemented any changes to its marketing strategy, they were a lot more subtle than what the company's management had implied.

So, how about that marketing adjustment?
Given that Netflix mentioned the shift in marketing spending in its quarterly investor letter and management raised the issue again during the subsequent earnings interview, investors could be excused for expecting a big shift in Netflix's spending patterns.

Looking at the sequential trend in marketing spending, that's what appears to have happened. Domestic marketing spending fell 18% sequentially to $73.4 million, while international marketing costs rose 17.7% to $123.7 million.

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But due to the seasonality of Netflix's business, domestic marketing spending routinely falls sequentially in Q2. In fact, domestic marketing spending declined 19.4% sequentially -- i.e., somewhat more steeply than last quarter's decline -- from Q1 to Q2 in 2014.

Furthermore, on a year-over-year basis, domestic marketing expense rose by double digits (13.4%) last quarter. That's hardly the pullback in marketing spending that Netflix's management seemed to be forecasting.

On the flip side, it's true that international marketing costs surged 121% year over year last quarter. Clearly, Netflix made a strategic decision to invest more money in marketing outside the U.S.

Even so, a large part of that jump can be explained by Netflix's global growth. The company embarked on a major European expansion last fall that significantly increased its addressable market. Most of Netflix's increase in international marketing costs can be attributed to having to reach potential customers in more countries than ever before.

What happened here?
Given that Netflix reported stellar subscriber growth in both the domestic and the international segments last quarter, investors have no cause to complain about its marketing spending.

Frankly, it's likely that the double-digit year-over-year increase in domestic marketing spending contributed to Netflix's 0.9 million net subscriber additions in the U.S. That was the best result for the seasonally weak second quarter since 2011 -- before Netflix completely split its DVD and streaming offerings.

Perhaps Netflix just miscommunicated its plans and didn't mean to imply a cut to domestic marketing spending. Perhaps Netflix changed its strategy on the fly to keep up its subscriber growth momentum once it was clear that it would beat its domestic contribution profit guidance anyway.

Whatever the explanation for Netflix's decision to keep growing domestic marketing spending on a year-over-year basis, it worked. Investors simply hope that the company can keep getting such good returns on its marketing investments in the future.

The article Netflix Inc.: What Domestic Marketing Pullback? originally appeared on Fool.com.

Adam Levine-Weinberg has no position in any stocks mentioned. The Motley Fool recommends Netflix. The Motley Fool owns shares of Netflix. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.