As Netflix (NFLX: $104/share) readies to report earnings the afternoon of January 19, 2016, we’d like to take a look at what we know, what we expect, and review just how overvalued NFLX remains.

Consensus estimates for the quarter are $1.83 billion in revenue and $0.02 per share. However, those numbers are not the main story. More important are the issues with the company’s business model that are not reflected in the reported accounting results:

• Netflix’s streaming content costs are outpacing revenue growth. While revenues have grown by 30% compounded annually from 2003- trailing twelve months, content costs have grown by 53% compounded annually.
• Subscriber growth is slowing domestically and is getting more unprofitable abroad. International contribution margin fell to -13% in 3Q15, down from -9% the year prior.
• Netflix’s accounting practices allow the company to understate its cash burn. From 2011-2014, Netflix burned through a cumulative $2 billion in free cash flow. The cash burn is getting worse as over the trailing twelve months, Netflix’s free cash flow is -$1.4 billion.
• The way Netflix accounts for its streaming costs has led to a nearly $1 billion discrepancy between reported content costs and actual cash payments from 2011-2014.
• Competition is growing and only getting more competitive. At its core, Netflix is only a delivery platform, undifferentiated from the numerous others such as Amazon Video, Hulu Plus, HBO Now, or Verizon’ Go90.
• Since 2010, when Netflix began ramping up its streaming content library, the company’s return on invested capital (ROIC) has fallen from 55% to 5%. Its net operating profit after-tax (NOPAT) margin has fallen from 8% to 3%.

What To Expect From Earnings Call

When Netflix reports earnings, we expect much of the same that we’ve seen in the past. Particularly, we expect:

• Content costs to continue rising faster than revenues.
• International margins to decline, thereby undermining any domestic margin increase.
• Domestic subscriber growth to continue to decelerate YoY.
• Management to project some future date for when international growth will become profitable, thereby attempting to push bear concerns off for another quarter.

How Overvalued Have Shares Become?

We’ve previously pointed out just how overvalued Netflix is by quantifying how many subscribers the company would need to justify its current valuation. At it current price of $104/share, NFLX would have to grow profits by 27% compounded annually for the next 20 years. In this scenario, the company would be generating $859 billion in revenue in 20 years, which at $9.99/month would imply Netflix has 7.1 billion unique, worldwide subscribers. For reference, at the end of 3Q15, Netflix had 69 million worldwide subscribers and the global population is right around 7 billion. It probably makes sense to cut the total addressable subscriber population for Netflix by at least 10-20% given that most Netflix users share accounts with other people.