NetFlix 2007 Annual Report Download - page 37

Revenue Sharing Expenses. Our revenue sharing agreements generally commit us to pay an initial upfront
fee for content acquired and either a percentage of revenue earned from such rentals for a defined period of time
or to pay a fee based on utilization. A portion of the initial upfront fees are non-recoupable for revenue sharing
purposes and are capitalized and amortized in accordance with our content library amortization policy. The
remaining portion of the initial upfront fee represents prepaid revenue sharing, and this amount is expensed as
revenue sharing expense as content subject to revenue sharing agreements is shipped to or watched by
subscribers. The terms of some revenue sharing agreements with studios obligate us to make minimum revenue
sharing payments for certain titles. We amortize minimum revenue sharing prepayments (or accrete an amount
payable to studios if the payment is due in arrears) as revenue sharing obligations are incurred. A provision for
estimated shortfall, if any, on minimum revenue sharing payments is made in the period in which the shortfall
becomes probable and can be reasonably estimated. Additionally, the terms of some revenue sharing agreements
with studios provide for rebates based on achieving specified performance levels. Volume purchase discounts
received from studios on the purchase of titles are accrued when earned based on historical title performance and
estimates of demand for the titles over the remainder of the title term.
Fulfillment expenses
Fulfillment expenses represent those expenses incurred in operating and staffing our shipping and customer
service centers, including costs attributable to receiving, inspecting and warehousing our content library.
Fulfillment expenses also include credit card fees.
Operating Expenses
Technology and Development. Technology and development expenses consist of payroll and related costs
incurred in testing, maintaining and modifying our Web site, our recommendation service, developing solutions
for the Internet-based delivery of content to subscribers, telecommunications systems and infrastructure and other
internal-use software systems. Technology and development expenses also include depreciation of the computer
hardware and capitalized software we use to run our Web site and store our data.
Marketing. Marketing expenses consist primarily of advertising expenses. Advertising expenses include
marketing program expenditures and other promotional activities, including revenue sharing expenses, postage
and packaging expenses and content amortization related to free trial periods. Marketing expenses also include
payroll and related expenses for marketing personnel.
General and Administrative. General and administrative expenses consist of payroll and related expenses
for executive, finance, content acquisition and administrative personnel, as well as recruiting, professional fees
and other general corporate expenses.
Stock-Based Compensation. Effective January 1, 2006, we adopted the fair value recognition provisions of
SFAS No. 123(R) using the modified prospective method. We had previously adopted the fair value recognition
provisions of SFAS No. 123 as amended by SFAS No. 148 and restated prior periods at that time.
We grant stock options to our employees on a monthly basis. We have elected to grant all options as
non-qualified stock options which vest immediately. As a result of immediate vesting, stock-based compensation
expense determined under SFAS No. 123(R) is fully recognized on the grant date, and no estimate is required for
post-vesting option forfeitures.
Gain on disposal of DVDs. Gain on disposal of DVDs represents the difference between proceeds from
sales of DVDs and associated cost of DVD sales. Cost of DVD sales includes the net book value of the DVDs
sold, shipping charges and, where applicable, a contractually specified fee for the DVDs that are subject to
revenue sharing agreements.
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