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High wire

14 October 2016 By Jennifer Saba, Sara Silver

Netflix may program some poor financial repeats for investors. The streaming-video service, which reports third-quarter earnings on Monday, commands a high valuation. But it has lately missed subscriber targets and has other challenges. Investors may not be fully attuned to the risks.

The company run by Reed Hastings has morphed from being the killer of video-rental giant Blockbuster into streaming and producing award-winning content like “Master of None.” It has also made the phrase “binge-watching” near ubiquitous.

That has not come cheap. Analysts expect Netflix to earn $388 million next year, just 4 percent of the $10.8 billion revenue estimated in 2017, according to Thomson Reuters data. Its stock trades, though, at more than 30 times Wall Street’s forecast earnings for 2019. That implies shareholders think the $43 billion company has many more years of growth ahead of it even after the more than threefold increase in the bottom line between next year and then.

Netflix, though, faces several hurdles. For starters, subscriber growth is slowing. The nearly 20-year-old company missed its own second-quarter forecasts for both U.S. and international subscribers and has reduced its estimates for the next three months.

Competition is fierce, too, from Apple to Hulu to Sling TV. Amazon.com is set to double its programming budget to more than $3 billion, Macquarie reckons, and enter the expensive market for sports rights for events like tennis. And cultural and language differences in non-U.S. markets may hinder growth abroad.

Moreover, Netflix already spends some $6 billion a year on content and it plans to increase that figure. It also has at least $7 billion of off-balance-sheet liabilities for future content costs and an additional $3 billion to $5 billion may kick in over the next three years. Total content obligations could reach $19 billion in 2018, Macquarie calculates. Analysts adopt a variety of usually opaque approaches to modeling these liabilities.

Netflix’s trove of data on people’s viewing habits helps it determine that, say, Adam Sandler movies or dramas like “Stranger Things” are good uses of its money, in turn attracting more customers.

But the intense competition increases the likelihood of price wars and programming flops just as off-balance-sheet costs kick in. Hastings has little wiggle room: Netflix already plans to sell more bonds after spending most of the $1.5 billion it borrowed last year. If its financial plot over the next couple of years is not as upbeat as the company and shareholders hope, Netflix may find itself binge-borrowing.


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