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MarketScreener Homepage  >  Equities  >  Nasdaq  >  Netflix, Inc.    NFLX

NETFLIX, INC.

(NFLX)
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NETFLIX : Management's Discussion and Analysis of Financial Condition and Results of Operations (form 10-Q)

10/22/2020 | 04:04pm EST
Forward-Looking Statements
This Quarterly Report on Form 10-Q contains forward-looking statements within
the meaning of the federal securities laws. These forward-looking statements
include, but are not limited to statements regarding: our core strategy; content
amortization; impact of recently adopted accounting pronouncements; price
changes and testing; dividends; impact of foreign currency and exchange rate
fluctuations, including on net income, revenues and average revenues per paying
member; deferred revenue; investments in global content, including original
content; impact of content and pricing changes on membership growth; the impact
of the discontinuance of the LIBO Rate; liquidity, including cash flows from
operations, available funds and access to financing sources; net cash provided
by (used in) operating activities and free cash flow; unrecognized tax benefits;
deferred tax assets; accessing and obtaining additional capital, including use
of the debt market; accounting treatment for changes related to content assets;
net income; future contractual obligations, including unknown content
obligations and timing of payments; membership growth for the remainder of the
fiscal year; and the impact of the coronavirus (COVID-19) pandemic and our
response to it. These forward-looking statements are subject to risks and
uncertainties that could cause actual results and events to differ materially
from those included in forward-looking statements. Factors that might cause or
contribute to such differences include, but are not limited to, those discussed
in our Annual Report on Form 10-K for the year ended December 31, 2019 filed
with the Securities and Exchange Commission ("SEC") on January 29, 2020, in
particular the risk factors discussed under the heading "Risk Factors" in Part
I, Item IA, as updated in the Company's Quarterly Report on Form 10-Q for the
quarter ended March 31, 2020.
We assume no obligation to revise or publicly release any revision to any
forward-looking statements contained in this Quarterly Report on Form 10-Q,
unless required by law.

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Investors and others should note that we announce material financial information
to our investors using our investor relations website (netflixinvestor.com), SEC
filings, press releases, public conference calls and webcasts. We use these
channels, as well as social media, to communicate with our members and the
public about our company, our services and other issues. It is possible that the
information we post on social media could be deemed to be material information.
Therefore, we encourage investors, the media, and others interested in our
company to review the information we post on the United States ("U.S.") social
media channels listed on our investor relations website.



Overview

We are the world's leading subscription streaming entertainment service with
over 195 million paid streaming memberships in over 190 countries enjoying TV
series, documentaries and feature films across a wide variety of genres and
languages. Members can watch as much as they want, anytime, anywhere, on any
internet-connected screen. Members can play, pause and resume watching, all
without commercials. Additionally, we continue to offer our legacy DVD-by-mail
service in the United States.
We are a pioneer in the delivery of streaming entertainment, launching our
streaming service in 2007. Since this launch, we have developed an ecosystem for
internet-connected screens and have added increasing amounts of content that
enable consumers to enjoy entertainment directly on their internet-connected
screens. As a result of these efforts, we have experienced growing consumer
acceptance of, and interest in, the delivery of streaming entertainment.
Our core strategy is to grow our streaming membership business globally within
the parameters of our operating margin target. We are continuously improving our
members' experience by expanding our content with a focus on a programming mix
of content that delights our members and attracts new members. In addition, we
are continuously enhancing our user interface and extending our streaming
service to more internet-connected screens. Our members can download a selection
of titles for offline viewing.
Our membership growth exhibits a seasonal pattern that reflects variations when
consumers buy internet-connected screens and when they tend to increase their
viewing. Historically, the first and fourth quarters (October through March)
represent our greatest streaming membership growth. In addition, our membership
growth can be impacted by our content release schedule and changes to pricing.


Results of Operations

The following represents our consolidated performance highlights:

                                                         As of/ Three Months Ended                          Change
                                                  September 30,            September 30,
                                                      2020                      2019                   Q3'20 vs. Q3'19
                                                       (in thousands, except revenue per membership and percentages)
Global Streaming Memberships:
Paid net membership additions                              2,204                     6,772             (4,568 )        (67 )%
Paid memberships at end of period                        195,151                   158,334             36,817           23  %
Average paying memberships                               194,049                   154,948             39,101           25  %
Average monthly revenue per paying membership $            10.95       $    

11.13 $ (0.18 ) (2 )%


Financial Results:
Streaming revenues                            $        6,376,803       $         5,173,028       $  1,203,775           23  %
DVD revenues                                              58,834                    71,877            (13,043 )        (18 )%
Total revenues                                $        6,435,637       $         5,244,905       $  1,190,732           23  %

Operating income                              $        1,314,863       $           980,239       $    334,624           34  %
Operating margin                                            20.4 %                    18.7 %              1.7 %          9  %



Paid net membership additions for the three months ended September 30, 2020
decreased 67% as compared to the three months ended September 30, 2019, in large
extent due to the COVID-19 pandemic which contributed to significant paid net
membership additions in the first half of 2020, and resulted in less growth in
the third quarter of 2020 as compared to the prior year. While we are unable to
accurately predict the impact of the pandemic on paid net membership additions
in subsequent quarters, we expect less growth for the remainder of 2020 as
compared to the prior year.

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Consolidated revenues for the three months ended September 30, 2020 increased
23% as compared to the three months ended September 30, 2019. The increase in
our consolidated revenues was due to the 25% growth in average paying
memberships. The growth in paid memberships was partially offset by a 2%
decrease in the average monthly revenue per paying membership due to the
strengthening of the U.S. dollar relative to certain foreign currencies.
The increase in operating margin is primarily due to increased revenues and
decreased marketing costs, coupled with technology and development, and general
and administrative costs growing at a slower rate as compared to the 23%
increase in revenues. The increase in operating margin was partially offset by
increased content expenses as we continue to acquire, license and produce
content, including expenses related to the COVID-19 pandemic and expenses
related to overall deals.
The full extent of the impact of the COVID-19 pandemic on our business,
operations and financial results will depend on numerous evolving factors that
we may not be able to accurately predict. See Item 1A: "Risk Factors" in our
Quarterly Report on Form 10-Q for the quarter ended March 31, 2020 for
additional details. In an effort to protect the health and safety of our
employees, our workforce has had and continues in most instances to spend a
significant amount of time working from home, international travel has been
severely curtailed and many of our productions remain paused or continue to
experience disruption, as are the productions of our third-party content
suppliers. Our other partners have similarly had their operations disrupted,
including those partners that we use for our operations as well as development,
production, and post-production of content. While we and our partners have
resumed productions and related operations in many parts of the world, our
ability to produce content remains affected by the pandemic. In an effort to
contain COVID-19 or slow its spread, governments around the world have also
enacted various measures, some of which have been subsequently rescinded,
modified or reinstated, including orders to close all businesses not deemed
"essential," isolate residents to their homes or places of residence, and
practice social distancing. We anticipate that these actions and the global
health crisis caused by COVID-19, including any resurgences, will continue to
negatively impact business activity across the globe. While we have observed
demand increases for our streaming entertainment service in the first half of
2020, we experienced less growth in the third quarter of 2020 and we cannot
estimate the impact COVID-19 will have in the future as business and consumer
activity decelerates across the globe. We will continue to actively monitor the
situation and may take further actions that alter our business operations as may
be required by federal, state, local or foreign authorities, or that we
determine are in the best interests of our employees, customers, partners and
stockholders.  It is not clear what the potential effects any such alterations
or modifications may have on our business, including the effects on our
customers, suppliers or vendors, or on our financial results.

Streaming Revenues
We derive revenues from monthly membership fees for services related to
streaming content to our members. We offer a variety of streaming membership
plans, the price of which varies by country and the features of the plan. As
of September 30, 2020, pricing on our plans ranged from the U.S. dollar
equivalent of $3 to $24 per month. We expect that from time to time the prices
of our membership plans in each country may change and we may test other plan
and price variations.
The following tables summarize streaming revenue and other streaming membership
information by region for the three and nine months ended September 30, 2020 and
September 30, 2019.

United States and Canada (UCAN)
Three months ended September 30, 2020 as compared to the three months ended
September 30, 2019
                                                          As of/ Three Months Ended                       Change
                                                   September 30, 2020       September 30, 2019        Q3'20 vs. Q3'19
                                                      (in thousands, except revenue per membership and percentages)
Revenues                                        $        2,933,445$      2,621,250$ 312,195           12  %
Paid net membership additions                                  177                       613          (436 )        (71 )%
Paid memberships at end of period                           73,081                    67,114         5,967            9  %
Average paying memberships                                  72,993                    66,808         6,185            9  %
Average monthly revenue per paying membership   $            13.40          $          13.08     $    0.32            2  %
Constant currency change (1)                                                                                          3  %



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Nine months ended September 30, 2020 as compared to the nine months ended
September 30, 2019
                                                             As of/ Nine Months Ended                            Change
                                                    September 30, 2020         September 30, 2019           YTD'20 vs. YTD'19
                                                           (in thousands, except revenue per membership and percentages)
Revenues                                        $            8,475,891       $          7,379,300     $    1,096,591           15 %
Paid net membership additions                                    5,419                      2,357              3,062          130 %
Paid memberships at end of period                               73,081                     67,114              5,967            9 %
Average paying memberships                                      71,082                     66,357              4,725            7 %
Average monthly revenue per paying membership   $                13.25       $              12.36     $         0.89            7 %
Constant currency change (1)                                                                                                    7 %




Europe, Middle East, and Africa (EMEA)
Three months ended September 30, 2020 as compared to the three months ended
September 30, 2019
                                                          As of/ Three Months Ended                       Change
                                                   September 30, 2020       September 30, 2019        Q3'20 vs. Q3'19
                                                      (in thousands, except revenue per membership and percentages)
Revenues                                        $        2,019,083$      1,428,040$ 591,043           41  %
Paid net membership additions                                  759                     3,126        (2,367 )        (76 )%
Paid memberships at end of period                           62,242                    47,355        14,887           31  %
Average paying memberships                                  61,863                    45,792        16,071           35  %
Average monthly revenue per paying membership   $            10.88          $          10.40     $    0.48            5  %
Constant currency change (1)                                                                                          3  %


Nine months ended September 30, 2020 as compared to the nine months ended
September 30, 2019
                                                           As of/ Nine Months Ended                          Change
                                                  September 30, 2020       September 30, 2019           YTD'20 vs. YTD'19
                                                         (in thousands, except revenue per membership and percentages)
Revenues                                        $       5,635,094        $          3,980,506     $    1,654,588           42 %
Paid net membership additions                              10,464                       9,537                927           10 %
Paid memberships at end of period                          62,242                      47,355             14,887           31 %
Average paying memberships                                 59,076                      43,119             15,957           37 %
Average monthly revenue per paying membership   $           10.60        $              10.26     $         0.34            3 %
Constant currency change (1)                                                                                                5 %



Latin America (LATAM)

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Three months ended September 30, 2020 as compared to the three months ended
September 30, 2019
                                                         As of/ Three Months Ended                       Change
                                                September 30, 2020      September 30, 2019          Q3'20 vs. Q3'19
                                                      (in thousands, except revenue per membership and percentages)
Revenues                                        $        789,384      $            741,434     $   47,950            6  %
Paid net membership additions                                256                     1,490         (1,234 )        (83 )%
Paid memberships at end of period                         36,324                    29,380          6,944           24  %
Average paying memberships                                36,196                    28,635          7,561           26  %
Average monthly revenue per paying membership   $           7.27      $               8.63     $    (1.36 )        (16 )%
Constant currency change (1)                                                                                         5  %


Nine months ended September 30, 2020 as compared to the nine months ended
September 30, 2019
                                                           As of/ Nine Months Ended                          Change
                                                  September 30, 2020       September 30, 2019          YTD'20 vs. YTD'19
                                                        (in thousands, except revenue per membership and percentages)
Revenues                                        $       2,368,205        $          2,049,042     $    319,163           16  %
Paid net membership additions                               4,907                       3,303            1,604           49  %
Paid memberships at end of period                          36,324                      29,380            6,944           24  %
Average paying memberships                                 34,752                      27,722            7,030           25  %
Average monthly revenue per paying membership   $            7.57        $               8.21     $      (0.64 )         (8 )%
Constant currency change (1)                                                                                             10  %



Asia-Pacific (APAC)
Three months ended September 30, 2020 as compared to the three months ended
September 30, 2019
                                                         As of/ Three Months Ended                      Change
                                                September 30, 2020      September 30, 2019          Q3'20 vs. Q3'19
                                                     (in thousands, except revenue per membership and percentages)
Revenues                                        $        634,891      $            382,304     $ 252,587           66  %
Paid net membership additions                              1,012                     1,543          (531 )        (34 )%
Paid memberships at end of period                         23,504                    14,485         9,019           62  %
Average paying memberships                                22,998                    13,714         9,284           68  %
Average monthly revenue per paying membership   $           9.20      $               9.29     $   (0.09 )         (1 )%
Constant currency change (1)                                                                                       (1 )%


Nine months ended September 30, 2020 as compared to the nine months ended
September 30, 2019
                                                           As of/ Nine Months Ended                          Change
                                                  September 30, 2020       September 30, 2019          YTD'20 vs. YTD'19
                                                        (in thousands, except revenue per membership and percentages)
Revenues                                        $       1,687,691        $          1,051,400     $    636,291           61  %
Paid net membership additions                               7,271                       3,878            3,393           87  %
Paid memberships at end of period                          23,504                      14,485            9,019           62  %
Average paying memberships                                 20,732                      12,543            8,189           65  %
Average monthly revenue per paying membership   $            9.05        $               9.31     $      (0.26 )         (3 )%
Constant currency change (1)                                                                                             (1 )%



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(1) We believe constant currency information is useful in analyzing the
underlying trends in average monthly revenue per paying membership. In order to
exclude the effect of foreign currency rate fluctuations on average monthly
revenue per paying membership, we estimate current period revenue assuming
foreign exchange rates had remained constant with foreign exchange rates from
each of the corresponding months of the prior-year period. For the three and
nine months ended September 30, 2020, our revenues would have been approximately
$158 million and $562 million higher, respectively, had foreign currency
exchange rates remained constant with those for the three and nine months ended
September 30, 2019.

Cost of Revenues
Amortization of content assets makes up the majority of cost of revenues.
Expenses associated with the acquisition, licensing and production of content
(such as payroll and related personnel expenses, costs associated with obtaining
rights to music included in our content, overall deals with talent,
miscellaneous production related costs and participations and residuals),
streaming delivery costs and other operations costs make up the remainder of
cost of revenues. We have built our own global content delivery network ("Open
Connect") to help us efficiently stream a high volume of content to our members
over the internet. Delivery expenses, therefore, include equipment costs related
to Open Connect, payroll and related personnel expenses and all third-party
costs, such as cloud computing costs, associated with delivering content over
the internet. Other operations costs include customer service and payment
processing fees, including those we pay to our integrated payment partners, as
well as other costs incurred in making our content available to members.

Three months ended September 30, 2020 as compared to the three months ended
September 30, 2019
                                    Three Months Ended                   Change
                             September 30,      September 30,
                                  2020               2019           Q3'20 vs. Q3'19
                                        (in thousands, except percentages)
Cost of revenues            $    3,867,751$    3,097,919$    769,832    25 %
As a percentage of revenues             60 %               59 %



The increase in cost of revenues was primarily due to a $454 million increase in
content amortization relating to our existing and new content, including more
exclusive and original programming. Expenses associated with the acquisition,
licensing and production of content increased $277 million, including expenses
related to the COVID-19 pandemic and expenses related to overall deals.
Streaming delivery costs and other operations costs increased driven by our
growing member base.

Nine months ended September 30, 2020 as compared to the nine months ended
September 30, 2019
                                    Nine Months Ended                    Change
                             September 30,     September 30,
                                 2020               2019           YTD'20 vs. YTD'19
                                        (in thousands, except percentages)
Cost of revenues            $  11,111,159$    8,974,190$    2,136,969    24 %
As a percentage of revenues            61 %               61 %



The increase in cost of revenues was primarily due to a $1,188 million increase
in content amortization relating to our existing and new content, including more
exclusive and original programming. Expenses associated with the acquisition,
licensing and production of content increased $830 million, including expenses
related to the COVID-19 pandemic and expenses related to overall deals.
Streaming delivery costs and other operations costs increased driven by our
growing member base.

Marketing

Marketing expenses consist primarily of advertising expenses and certain
payments made to our marketing partners, including consumer electronics ("CE")
manufacturers, multichannel video programming distributors ("MVPDs"), mobile
operators and internet service providers ("ISPs"). Advertising expenses include
promotional activities such as digital and television advertising. Marketing
expenses also include payroll and related expenses for personnel that support
marketing activities.

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Three months ended September 30, 2020 as compared to the three months ended
September 30, 2019
                                    Three Months Ended                   Change
                             September 30,      September 30,
                                  2020               2019           Q3'20 vs. Q3'19
                                        (in thousands, except percentages)
Marketing                   $      527,597$      553,797$  (26,200 )   (5 )%
As a percentage of revenues              8 %               11 %



The decrease in marketing expenses was primarily due to a $25 million decrease in advertising expenses.


Nine months ended September 30, 2020 as compared to the nine months ended
September 30, 2019
                                     Nine Months Ended                    Change
                             September 30,      September 30,
                                  2020               2019           YTD'20 vs. YTD'19
                                         (in thousands, except percentages)
Marketing                   $    1,465,797$    1,773,525$  (307,728 )   (17 )%
As a percentage of revenues              8 %               12 %


The decrease in marketing expenses was primarily due to a $327 million decrease
in advertising expenses, partially offset by increased payments to our marketing
partners.

Technology and Development
Technology and development expenses consist of payroll and related expenses for
all technology personnel, as well as other costs incurred in making improvements
to our service offerings, including testing, maintaining and modifying our user
interface, our recommendation, merchandising and streaming delivery technology
and infrastructure. Technology and development expenses also include costs
associated with computer hardware and software.

Three months ended September 30, 2020 as compared to the three months ended
September 30, 2019
                                    Three Months Ended                   Change
                             September 30,      September 30,
                                  2020               2019           Q3'20 vs. Q3'19
                                        (in thousands, except percentages)

Technology and development $ 453,802$ 379,776$ 74,026 19 % As a percentage of revenues

              7 %                7 %



The increase in technology and development expenses was primarily due to a $67
million increase in personnel-related costs, including increases in compensation
for existing employees and growth in average headcount to support the increase
in our production activity and continued improvements in our streaming service.

Nine months ended September 30, 2020 as compared to the nine months ended
September 30, 2019
                                     Nine Months Ended                      Change
                             September 30,      September 30,
                                  2020               2019             YTD'20 vs. YTD'19
                                           (in thousands, except percentages)
Technology and development  $    1,342,664$    1,135,773$     206,891         18 %
As a percentage of revenues              7 %                8 %




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The increase in technology and development expenses was primarily due to a $188
million increase in personnel-related costs, including increases in compensation
for existing employees and growth in average headcount to support the increase
in our production activity and continued improvements in our streaming service.

General and Administrative
General and administrative expenses consist of payroll and related expenses for
corporate personnel. General and administrative expenses also include
professional fees and other general corporate expenses.

Three months ended September 30, 2020 as compared to the three months ended
September 30, 2019
                                    Three Months Ended                   Change
                             September 30,      September 30,
                                  2020               2019           Q3'20 vs. Q3'19
                                        (in thousands, except percentages)
General and administrative  $      271,624$      233,174$     38,450    16 %
As a percentage of revenues              4 %                4 %


General and administrative expenses increased primarily due to a $32 million
increase in personnel-related costs, including increases in compensation for
existing employees and growth in average headcount to support the increase in
our production activity and continued improvements in our streaming service.

Nine months ended September 30, 2020 as compared to the nine months ended
September 30, 2019
                                     Nine Months Ended                      Change
                             September 30,      September 30,
                                  2020               2019             YTD'20 vs. YTD'19
                                           (in thousands, except percentages)
General and administrative  $      800,947$      659,783$     141,164         21 %
As a percentage of revenues              4 %                4 %


General and administrative expenses increased primarily due to a $118 million
increase in personnel-related costs, including increases in compensation for
existing employees and growth in average headcount to support the increase in
our production activity and continued improvements in our streaming service.


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Interest Expense
Interest expense consists primarily of the interest associated with our
outstanding debt obligations, including the amortization of debt issuance costs.
See Note 6 Debt in the accompanying notes to our consolidated financial
statements for further detail on our debt obligations.

Three months ended September 30, 2020 as compared to the three months ended
September 30, 2019
                                      Three Months Ended                   Change
                               September 30,      September 30,
                                    2020               2019           Q3'20 vs. Q3'19
                                          (in thousands, except percentages)
Interest expense              $      197,079$      160,660$     36,419    23 %
As a percentage of revenues                3 %                3 %



Nine months ended September 30, 2020 as compared to the nine months ended
September 30, 2019
                                       Nine Months Ended                      Change
                               September 30,      September 30,
                                    2020               2019             YTD'20 vs. YTD'19
                                             (in thousands, except percentages)
Interest expense              $      570,313$      448,222$     122,091         27 %
As a percentage of revenues                3 %                3 %



Interest expense primarily consists of interest on our Notes of $191 million and
$556 million for the three and nine months ended September 30, 2020,
respectively. The increase in interest expense for the three and nine months
ended September 30, 2020 as compared to the three and nine months ended
September 30, 2019 was due to the increase in debt.

Interest and Other Income (Expense)
Interest and other income (expense) consists primarily of foreign exchange gains
and losses on foreign currency denominated balances and interest earned on cash
and cash equivalents.

Three months ended September 30, 2020 as compared to the three months ended
September 30, 2019

                                                       Three Months Ended                     Change
                                                September 30,      September 30,
                                                     2020               2019              Q3'20 vs. Q3'19
                                                             (in thousands, except percentages)
Interest and other income (expense)            $    (256,324 )$      192,744$ (449,068 )      (233 )%
As a percentage of revenues                               (4 )%                4 %



Nine months ended September 30, 2020 as compared to the nine months ended
September 30, 2019
                                                        Nine Months Ended                     Change
                                                September 30,      September 30,
                                                     2020               2019             YTD'20 vs. YTD'19
                                                             (in thousands, except percentages)
Interest and other income (expense)            $    (367,802 )$      215,378$ (583,180 )      (271 )%
As a percentage of revenues                               (2 )%                1 %



Interest and other income (expense) decreased in the three and nine months ended
September 30, 2020 primarily due to foreign exchange losses of $258 million and
$397 million, respectively, compared to gains of $170 million and $161 million,
respectively, for the corresponding periods in 2019. In the three and nine
months ended September 30, 2020, the foreign exchange losses were primarily
driven by the losses of $249 million and $275 million, respectively, from the
remeasurement of our €5,170 million Senior Notes, coupled with the remeasurement
of

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cash and content liability positions in currencies other than the functional
currencies. In the three and nine months ended September 30, 2019, the foreign
exchange gains were primarily driven by the gains of $171 million and $168
million, respectively, from the remeasurement of our €3,600 million Senior
Notes, partially offset by the remeasurement of cash and content liability
positions in currencies other than the functional currencies.

Provision for Income Taxes

                                                   Three Months Ended                        Nine Months Ended
                                            September 30,     September 30,
                                                2020               2019          September 30, 2020     September 30, 2019
                                                                  (in thousands, except percentages)
Provision for income taxes                 $      71,484$      347,079     $         473,693      $         632,952
Effective tax rate                                     8 %               34 %                  18 %                   33 %


On June 29, 2020, California enacted legislative changes that impose an annual
cap of $5 million on the amount of business incentive tax credits we can utilize
in California effective for tax years 2020 through 2022.
As of September 30, 2020, we had a California research and development ("R&D")
credit carryforward of $239 million which can be carried forward indefinitely.
In the second quarter of 2020 we evaluated our ability to realize the California
R&D credit, and considered all available positive and negative evidence,
including operating results, ongoing tax planning, and forecasts of future
taxable income and determined it is more likely than not that the pre-2020
credits and a portion of the current year R&D credit would not be realized. In
the nine months ended September 30, 2020, we recorded a valuation allowance of
$239 million. We will monitor our business strategies, weighing positive and
negative evidence in assessing the realization of this asset in the future and
in the event there is a need to release the valuation allowance, a tax benefit
will be recorded.
The effective tax rates for the three and nine months ended September 30, 2020
differed from the Federal statutory rate primarily due to the recognition of
excess tax benefits of stock-based compensation, partially offset by the
establishment of a valuation allowance on the California R&D credit in the
second quarter of 2020.
The decrease in our effective tax rates for the three and nine months ended
September 30, 2020, as compared to the same period in 2019 was primarily due to
the United States Treasury issuance of final regulations that made certain
aspects related to the Tax Cuts and Jobs Act of 2017 no longer applicable to the
Company and the recognition of excess tax benefits of stock-based compensation,
partially offset by the establishment of a valuation allowance on the California
R&D credit in the second quarter of 2020.

Liquidity and Capital Resources

                                                         As of
                                            September 30,      December 31,
                                                 2020              2019
                                                     (in thousands)

Cash, cash equivalents and restricted cash $ 8,422,280$ 5,043,786 Short-term and long-term debt

                   16,047,133        14,759,260



Cash, cash equivalents and restricted cash increased $3,378 million in the nine
months ended September 30, 2020 primarily due to cash provided by operations
coupled with the issuance of debt.
Debt, net of debt issuance costs, increased $1,288 million primarily due to the
issuance of debt in April 2020 coupled with the remeasurement of our
euro-denominated notes. The amount of principal and interest due in the next
twelve months is $1,259 million.  As of September 30, 2020, no amounts had been
borrowed under the $750 million Revolving Credit Agreement. See Note 6 Debt in
the accompanying notes to our consolidated financial statements. We anticipate
continuing to finance our future capital needs, if any, in the debt market. Our
ability to obtain this or any additional financing that we may choose to, or
need to, obtain will depend on, among other things, our development efforts,
business plans, operating performance and the condition of the capital markets
at the time we seek financing. We may not be able to obtain such financing on
terms acceptable to us or at all. If we raise additional funds through the
issuance of equity or debt securities, those securities may have rights,
preferences or privileges senior to the rights of our common stock, and our
stockholders may experience dilution.

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Our primary uses of cash include the acquisition, licensing and production of
content, streaming delivery, marketing programs and personnel-related costs.
Cash payment terms for non-original content have historically been in line with
the amortization period. Investments in original content, and in particular
content that we produce and own, require more cash upfront relative to licensed
content. For example, production costs are paid as the content is created, well
in advance of when the content is available on the service and amortized. We
expect to continue to significantly increase our investments in global content,
particularly in original content, which will impact our liquidity and result in
future net cash used in operating activities and negative free cash flow. We
currently anticipate that cash flows from operations, available funds and access
to financing sources, including our revolving credit facility, will continue to
be sufficient to meet our cash needs for at least the next twelve months.
Free Cash Flow
We define free cash flow as cash provided by (used in) operating and investing
activities. We believe free cash flow is an important liquidity metric because
it measures, during a given period, the amount of cash generated that is
available to repay debt obligations, make investments and for certain other
activities or the amount of cash used in operations, including investments in
global content. Free cash flow is considered a non-GAAP financial measure and
should not be considered in isolation of, or as a substitute for, net income,
operating income, cash flow provided by (used in) operating activities, or any
other measure of financial performance or liquidity presented in accordance with
GAAP.
In assessing liquidity in relation to our results of operations, we compare free
cash flow to net income, noting that the three major recurring differences are
excess content payments over amortization, non-cash stock-based compensation
expense and other working capital differences. Working capital differences
include deferred revenue, excess property and equipment purchases over
depreciation, taxes and semi-annual interest payments on our outstanding debt.
Membership fees due are generally collected quickly.

Three months ended September 30, 2020 as compared to the three months ended
September 30, 2019

                                                             Three Months Ended
                                                      September 30,       September 30,
                                                          2020                2019
                                                               (in thousands)

Net cash provided by (used in) operating activities $ 1,263,761 $

    (501,794 )
Net cash used in investing activities                      (118,651 )           (49,354 )
Net cash provided by financing activities                    68,665         

11,989


Non-GAAP reconciliation of free cash flow:
Net cash provided by (used in) operating activities       1,263,761            (501,794 )
Net cash used in investing activities                      (118,651 )           (49,354 )
Free cash flow                                      $     1,145,110$      (551,148 )



While we and our partners have resumed productions and related operations in
many parts of the world, our ability to produce content remains affected by the
pandemic. As a result, the timing of certain production payments has been and
will continue to be delayed until productions can resume and may be shifted to
future years. Net cash provided by operating activities increased $1,766 million
to $1,264 million for the three months ended September 30, 2020. The increase in
cash provided by operating activities was primarily driven by a $1,191 million
or 23% increase in revenues coupled with a decrease in cash payments for content
assets. The payments for content assets decreased $710 million, from $3,744
million to $3,033 million, or 19%, as compared to the increase in the
amortization of content assets of $454 million, from $2,280 million to $2,734
million, or 20%. In addition, we had increased payments associated with higher
operating expenses, primarily related to increased headcount to support our
continued improvements in our streaming service and our international expansion.
Net cash used in investing activities increased $69 million for the three months
ended September 30, 2020, primarily due to the increase in purchases of property
and equipment.
Net cash provided by financing activities increased $57 million for the three
months ended September 30, 2020, due to an increase in the proceeds from the
issuance of common stock.
Free cash flow was $355 million higher than net income for the three months
ended September 30, 2020 primarily due to $300 million favorable working capital
differences, $249 million of non-cash remeasurement loss on our euro-denominated
debt and $106 million of non-cash stock-based compensation expense, partially
offset by $300 million of cash payments for content assets over amortization
expense.
Free cash flow was $1,216 million lower than net income for the three months
ended September 30, 2019, primarily due to $1,464 million of cash payments for
content assets over amortization expense, partially offset by $148 million
favorable working capital differences and $100 million of non-cash stock-based
compensation expense.

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Nine months ended September 30, 2020 as compared to the nine months ended
September 30, 2019

                                                            Nine Months Ended
                                                     September 30,      September 30,
                                                          2020              2019
                                                              (in thousands)

Net cash provided by (used in) operating activities $ 2,564,749$ (1,425,347 ) Net cash used in investing activities

                     (358,955 )        (179,493 )
Net cash provided by financing activities                1,203,324         

2,281,861


Non-GAAP reconciliation of free cash flow:
Net cash provided by (used in) operating activities      2,564,749        (1,425,347 )
Net cash used in investing activities                     (358,955 )        (179,493 )
Free cash flow                                      $    2,205,794$  (1,604,840 )


While we and our partners have resumed productions and related operations in
many parts of the world, our ability to produce content remains affected by the
pandemic. As a result, the timing of certain production payments has been and
will continue to be delayed until productions can resume and may be shifted to
future years. Net cash provided by operating activities increased $3,990 million
to $2,565 million for the nine months ended September 30, 2020. The increase in
cash provided by operating activities was primarily driven by a $3,663 million
or 25% increase in revenues coupled with a decrease in cash payments for content
assets. The payments for content assets decreased $1,406 million, from $10,094
million to $8,688 million, or 14% as compared to the increase in the
amortization of content assets of $1,188 million, from $6,637 million to $7,824
million, or 18%. In addition, we had increased payments associated with higher
operating expenses, primarily related to increased headcount to support our
continued improvements in our streaming service and our international expansion.
Net cash used in investing activities increased $179 million for the nine months
ended September 30, 2020, primarily due to the increase in purchases of property
and equipment.
Net cash provided by financing activities decreased $1,079 million in the nine
months ended September 30, 2020, due to a decrease in proceeds from the issuance
of debt from $2,225 million, net of $18 million issuance costs in the nine
months ended September 30, 2019, to $1,002 million, net of $8 million issuance
costs in the nine months ended September 30, 2020.
Free cash flow was $13 million lower than net income for the nine months ended
September 30, 2020 primarily due to $864 million of cash payments for content
assets over amortization expense, partially offset by $275 million of non-cash
remeasurement loss on our euro-denominated debt, $239 million non-cash valuation
allowance for deferred taxes due to recent legislation which imposed an annual
cap on research and development credits, $308 million of non-cash stock-based
compensation expenses and $29 million favorable other working capital
differences.
Free cash flow was $2,885 million lower than net income for the nine months
ended September 30, 2019, primarily due to $3,457 million of cash payments for
content assets over amortization expense, partially offset by $267 million
favorable other working capital differences and $305 million of non-cash
stock-based compensation expenses.

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Contractual Obligations

For the purpose of this table, contractual obligations for purchases of goods or
services are defined as agreements that are enforceable and legally binding and
that specify all significant terms, including: fixed or minimum quantities to be
purchased; fixed, minimum or variable price provisions; and the approximate
timing of the transaction. The expected timing of the payment of the obligations
discussed below is estimated based on information available to us as of
September 30, 2020. Timing of payments and actual amounts paid may be different
depending on the time of receipt of goods or services or changes to agreed-upon
amounts for some obligations. The following table summarizes our contractual
obligations as of September 30, 2020:

                                                              Payments due by Period
Contractual obligations (in                         Less than                                         More than
thousands):                          Total            1 year         1-3 years        3-5 years        5 years
Content obligations (1)          $ 19,072,254$  8,668,296$  8,004,624$ 1,956,565$    442,769
Debt (2)                           21,882,995        1,258,639        2,136,439       3,612,818       14,875,099
Operating lease obligations (3)     2,801,946          332,028          629,071         567,453        1,273,394
Other purchase obligations (4)      1,020,860          762,225          248,487          10,148                -
Total                            $ 44,778,055$ 11,021,188$ 11,018,621$ 6,146,984$ 16,591,262

(1) As of September 30, 2020, content obligations were comprised of $4.6 billion

included in "Current content liabilities" and $2.9 billion of "Non-current

content liabilities" on the Consolidated Balance Sheets and $11.6 billion of

     obligations that are not reflected on the Consolidated Balance Sheets as
     they did not then meet the criteria for recognition.


Content obligations include amounts related to the acquisition, licensing and
production of content. An obligation for the production of content includes
non-cancelable commitments under creative talent and employment agreements and
other production related commitments. An obligation for the acquisition and
licensing of content is incurred at the time we enter into an agreement to
obtain future titles. Once a title becomes available, a content liability is
recorded on the Consolidated Balance Sheets. Certain agreements include the
obligation to license rights for unknown future titles, the ultimate quantity
and/or fees for which are not yet determinable as of the reporting date.
Traditional film output deals, or certain TV series license agreements where the
number of seasons to be aired is unknown, are examples of these types of
agreements. The contractual obligations table above does not include any
estimated obligation for the unknown future titles, payment for which could
range from less than one year to more than five years. However, these unknown
obligations are expected to be significant and we believe could include
approximately $1 billion to $4 billion over the next three years, with the
payments for the vast majority of such amounts expected to occur after the next
twelve months. The foregoing range is based on considerable management judgments
and the actual amounts may differ. Once we know the title that we will receive
and the license fees, we include the amount in the contractual obligations table
above.

(2) Debt obligations include our Notes consisting of principal and interest

payments. See Note 6 to the consolidated financial statements for further

     details.


(3) See Note 5 to the consolidated financial statements for further details

     regarding leases.


(4) Other purchase obligations include all other non-cancelable contractual

obligations. These contracts are primarily related to streaming delivery and

cloud computing costs, as well as other miscellaneous open purchase orders

for which we have not received the related services or goods.




As of September 30, 2020, we had gross unrecognized tax benefits of $85 million,
of which $24 million was classified in "Other non-current liabilities" and $30
million as a reduction to deferred tax assets which was classified as "Other
non-current assets" in the Consolidated Balance Sheets. At this time, an
estimate of the range of reasonably possible adjustments to the balance of
unrecognized tax benefits cannot be made.

Off-Balance Sheet Arrangements
We do not have transactions with unconsolidated entities, such as entities often
referred to as structured finance or special purpose entities, whereby we have
financial guarantees, subordinated retained interests, derivative instruments,
or other contingent arrangements that expose us to material continuing risks,
contingent liabilities, or any other obligation under a variable interest in an
unconsolidated entity that provides financing, liquidity, market risk, or credit
risk support to us.


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Indemnification

The information set forth under Note 7 to the consolidated financial statements under the caption "Indemnification" is incorporated herein by reference.


Critical Accounting Policies and Estimates
The preparation of consolidated financial statements in conformity with
accounting principles generally accepted in the United States of America
requires management to make estimates and assumptions that affect the reported
amounts of assets and liabilities, disclosures of contingent assets and
liabilities at the date of the consolidated financial statements, and the
reported amounts of revenues and expenses during the reported periods. The SEC
has defined a company's critical accounting policies as the ones that are most
important to the portrayal of a company's financial condition and results of
operations, and which require a company to make its most difficult and
subjective judgments. Based on this definition, we have identified the critical
accounting policies and judgments addressed below. We base our estimates on
historical experience and on various other assumptions that we believe to be
reasonable under the circumstances. Actual results may differ from these
estimates.

Content

We acquire, license and produce content, including original programing, in order
to offer our members unlimited viewing of entertainment. The content licenses
are for a fixed fee and specific windows of availability. Payment terms for
certain content licenses and the production of content require more upfront cash
payments relative to the amortization expense. Payments for content, including
additions to content assets and the changes in related liabilities, are
classified within "Net cash provided by (used in) operating activities" on the
Consolidated Statements of Cash Flows.
We recognize content assets (licensed and produced) as "Content assets, net" on
the Consolidated Balance Sheets. For licensed content, we capitalize the fee per
title and record a corresponding liability at the gross amount of the liability
when the license period begins, the cost of the title is known and the title is
accepted and available for streaming. For produced content, we capitalize costs
associated with the production, including development cost, direct costs and
production overhead. Participations and residuals are expensed in line with the
amortization of production costs.
Based on factors including historical and estimated viewing patterns, we
amortize the content assets (licensed and produced) in "Cost of revenues" on the
Consolidated Statements of Operations over the shorter of each title's
contractual window of availability or estimated period of use or ten years,
beginning with the month of first availability. The amortization is on an
accelerated basis, as we typically expect more upfront viewing, for instance due
to additional merchandising and marketing efforts, and film amortization is more
accelerated than TV series amortization. On average, over 90% of a licensed or
produced content asset is expected to be amortized within four years after its
month of first availability. We review factors that impact the amortization of
the content assets on a regular basis. Our estimates related to these factors
require considerable management judgment.
Our business model is subscription based as opposed to a model generating
revenues at a specific title level. Content assets (licensed and produced) are
predominantly monetized as a group and therefore are reviewed at a group level
when an event or change in circumstances indicates a change in the expected
usefulness of the content or that the fair value may be less than unamortized
cost. To date, we have not identified any such event or changes in
circumstances. If such changes are identified in the future, these aggregated
content assets will be stated at the lower of unamortized cost or fair value. In
addition, unamortized costs for assets that have been, or are expected to be,
abandoned are written off.

Income Taxes
We record a provision for income taxes for the anticipated tax consequences of
our reported results of operations using the asset and liability method.
Deferred income taxes are recognized by applying enacted statutory tax rates
applicable to future years to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
bases as well as net operating loss and tax credit carryforwards. The effect on
deferred tax assets and liabilities of a change in tax rates is recognized in
income in the period that includes the enactment date. The measurement of
deferred tax assets is reduced, if necessary, by a valuation allowance for any
tax benefits for which future realization is uncertain.
Although we believe our assumptions, judgments and estimates are reasonable,
changes in tax laws or our interpretation of tax laws and the resolution of any
tax audits could significantly impact the amounts provided for income taxes in
our consolidated financial statements.
In evaluating our ability to recover our deferred tax assets, in full or in
part, we consider all available positive and negative evidence, including our
past operating results, and our forecast of future earnings, future taxable
income and prudent and feasible tax planning strategies. The assumptions
utilized in determining future taxable income require significant judgment and
are consistent with the plans and estimates we are using to manage the
underlying businesses. Actual operating results in future years could differ
from our current assumptions, judgments and estimates. However, we believe that
it is more likely than not that most of the deferred tax assets recorded on our
Consolidated Balance

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Sheets will ultimately be realized. We record a valuation allowance to reduce
our deferred tax assets to the net amount that we believe is more likely than
not to be realized. As of September 30, 2020, the valuation allowance of $371
million was related to the California research and development credits and
certain foreign tax credits that we do not expect to realize.
We did not recognize certain tax benefits from uncertain tax positions within
the provision for income taxes. We may recognize a tax benefit only if it is
more likely than not the tax position will be sustained on examination by the
taxing authorities, based on the technical merits of the position. The tax
benefits recognized in the financial statements from such positions are then
measured based on the largest benefit that has a greater than 50% likelihood of
being realized upon settlement. At September 30, 2020, our estimated gross
unrecognized tax benefits were $85 million of which $49 million, if recognized,
would favorably impact our future earnings. Due to uncertainties in any tax
audit outcome, our estimates of the ultimate settlement of our unrecognized tax
positions may change and the actual tax benefits may differ significantly from
the estimates. See Note 9 to the consolidated financial statements for further
information regarding income taxes.

Recent Accounting Pronouncements


The information set forth under Note 1 to the consolidated financial statements
under the caption "Basis of Presentation and Summary of Significant Accounting
Policies" is incorporated herein by reference.


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