ACCT 400A/500A

Intermediate Financial Accounting

Project #2

Analysis of Netflix’s 2019 10K

● Charlotte McCabe, 11:00

● Luke McCoy, 11:00
● Cooper Odenkirk, 11:00
1. Describe the format of the income statement (single-step, multi-step, hybrid) and identify
why you describe it that way.
Netflix inc. used a hybrid format for their income statement. Key factors that have identified this
format is their separation of operating vs. non operating. Another key factor is their income
before income taxes. Yet, it is not a pure multi-step income statement due to no gross profit
subtotal (See Reference 1).

2. What items are included as part of the company’s other comprehensive income? Does the
company report comprehensive income as a continuation of the income statement or as a
separate statement?

The following are items reported as part of other comprehensive income:

Netflix reports comprehensive income as a separate statement (See Reference 2).

3. Utilize the footnote addressing significant accounting policies to identify the method used to
depreciate PP&E.

Netflix utilizes the straight-line method to calculate depreciation. All property, plant, and
equipment are carried at cost less accumulated depreciation. The straight-line method is utilized
with respect to the shorter of the estimated useful lives of assets, which is generally up to 30
years. For leasehold improvements, the depreciation is calculated over the expected lease term.
(See Reference 6)

4. Think about the business model utilized by your selected company (how do they sell their
products or services to customers). Utilize the footnote addressing significant accounting
policies to summarize how they recognize revenue and any specific issues related to revenue
recognition that they need to consider given their business model. Examples could include
selling on credit, receiving payments in advance, sales returns, gift cards, collectability
concerns, etc.
Netflix inc.’s primary source of revenue is monthly membership fees. Members are billed in
advance of the start of their membership. The revenue is recognized by estimating it over each
monthly membership period. In cases such as a bundle from other partners the revenue
recognized will be a reduction due to the partners having no standalone price for Netflix. (See
Reference, 3)
5. Evaluate the trend in Sales/Revenue over the past 3 years. Calculate the year over year
percentage change in revenue. Discuss what you believe is driving the change in sales
considering what you know about the company, the industry, and the overall economic
conditions.

Netflix saw an increase in revenue 35% from 2017-2018 and 27.6% from 2018-2019. Netflix has
dramatic increases in revenue in the years 2017-2019 due largely to the increase in subscribers.
Netflix earns the majority of revenue from month to month billings of customers. From 2011 to
2019, Netflix jumped from 22 million to 150 million subscribers. As streaming services have
increased in popularity, Netflix has led the charge as an industry leader. Cable television is
becoming obsolete: this coupled with a youth market that describes Netflix's services as
“indispensable,” has allowed Netflix to see increased revenues. In recent years, Netflix has seen
success in their originals or own production of television shows and movies. These have provided
Netflix with an additional channel of profit that has continued to grow in popularity. (See
Reference 4)

6. Evaluate the trend in net income over the past three years.
a. Calculate profit margin (net income as a percent of revenue). Perform vertical
analysis on key items (calculating each item as a percentage of revenue) of the
income statement to help identify reasons for the change in profit margin rates
between years.

(See Reference 1)

Based on the analysis above, we see that Net Income has been gradually increasing as a percent
of revenue over the three year time period. The operating expense categories have remained
relatively similar as revenues have sharply increased over the time period, which explains why
net income has also increased. Each year reported cost of revenues between 60 and 70 percent,
while revenue nearly doubled over the 3 year time span, which explains why gross margin was
able to increase steadily.
 b. Calculate the year over year percentage change in net income. Compare the
percentage change in revenue from question #5 to the percentage change in net
income.

Netflix saw Net Income increase by 53.85% from 2017 to 2018 and an increase of
35.12% from 2018 to 2019. In the same periods, Netflix’s revenue by the significant
percentages of 25.96% and 21.64%, respectively. Over the time period, Netflix’s
operating expenses remained stagnant, showing that the increases in Net Income are due
to the streaming platform’s revenues and increasing memberships. (See Reference 1)

c. Analyze and discuss your findings.

Over the 3 year time span of 2017 through 2019 Netflix experienced significant growth in
their revenues. This positively impacted Net Income as most operation expenses only
increased by slight percentages in comparison. We attributed this to the overall growth in
popularity of the streaming industry in the late 2010’s. Netflix was at the forefront of this
trend and their revenues have been increased greatly because of it. Additionally, Netflix
was one of the corporations who established this streaming business model first, so
consumers were more likely to choose them as a familiar option.

The slight decrease in marketing expenses from 2018 to 2019 support the idea that
Netflix was at the forefront of the streaming revolution. In 2019, where Netflix
experienced its highest revenue, marketing expenses decreased approximately 2%
because it was already a household name and required less advertising of their
memberships. With a cost of revenues on average of over 60%, Netflix will need to
continue to bring in large revenue values to ensure that their gross margin can remain
upwards of 30%. With more large competitors entering the industry in recent years,
Netflix may have to temporarily increase marketing expenses to ensure they are not
surpassed by competitors.
7. Compute your company’s current ratio and debt to equity ratio for both years presented in
the balance sheet. Analyze and discuss what these ratios tell you about the company.
 The above table presents the current ratio and debt to equity ratio for Netflix inc. The current ratio
measures a company’s ability to pay off current debts. A ratio of .17 is interpreted as for every $1
of current liabilities on the balance sheet, they have $0.17 if current assets to pay off the current
liabilities. From 2018 to 2019 their current ratio has increased by 0.05, meaning their ability to
pay off current debts with current assets have slightly increased in the year. In 2019, within
current assets their cash has increased a substantial amount protecting their liquidity.

The debt to equity ratio measures the amount of debt compared to how much equity the company
has. A ratio of 3.38 is interpreted as, for every $1 of equity on the balance sheet, they have $3.38
dollars of debt. The debt to equity ratio is used to assess a company’s leverage. By using this ratio
it shows the degree at which a company is financing through debt versus equity. From 2018 to
2019 Netflix’s ratio decreased meaning that their debt is less than their equity in 2019. The higher
the debt ratio the higher the risk. The decrease from these years shows that Netflix is lowering
their risk. Yet, having a high debt ratio can benefit a company as the pay of using more debt can
generate more earnings. Looking at the overall ratio to conclude if the debt to equity ratio is too
high or low it is important to consider the industry as a whole. While their liabilities have
increased in 2019, by looking at their equity from their retained earnings and common stock has
significantly grown in the year compared to 2018. (See Reference 5)

8. Select a competitor and calculate current ratio and profit margin for the competitor’s most
recent year. Compare to your calculations for your company. Analyze and discuss.

We selected Time Warner. The following table shows their Current Ratio and Profit Margin compared to
Netflix:

Note: Every competitor of Netflix, i.e., Hulu, is owned by a larger company like Disney. Time Warner has
owned HBO Max and was our best comparison. This is because Time Warner is also in the film
production business. However, Time Warner was purchased by AT&T in 2017 and so therefore, there are
no financials available after the period.
Both Netflix and Time Warner have very similar Current Ratios. However, it is interesting that Netflix
had a 0.9 current ratio in 2019. This is concerning for the company because this means that their current
liabilities were larger than their current assets. For Netflix, this could mean it would be difficult for them
to fulfill their short-term obligations. When looking at profit margin, Time Warner has a significantly
higher return. This means that they are able to earn higher returns on their sales as opposed to Netflix. For
every dollar of sales, Time Warner sees nearly double the net income of Netflix. Both companies saw
increasing profit margins, which is beneficial for both companies.
 References

Reference 1 - Consolidated Statement of Operations

Reference 2 - Consolidated Statement of Comprehensive Income

Reference 3 - Revenue Recognition

Reference 4 - Consolidated Balance Sheets

Reference 5 - Company Analysis

Reference 6 - Property and Equipment

Reference 7 - Statement of Stockholders Equity