Whether The Credits Have Rolled For Netflix

| About: Netflix, Inc. (NFLX)

By Jonathan Chen

News came out after the bell yesterday that Starz (LSTZA) would be pulling its content from Netflix (NASDAQ:NFLX) effective February 28, 2012 after the two companies could not come to an agreement.

Netflix wanted to give Starz more than $300 million per year, according to the Los Angeles Times, but Starz wanted tiered pricing. This means that if you were a Netflix subscriber, you would have to pay an additional fee over what you normally pay to Netflix every month, say another dollar or two. While this does hurt content as it will eventually cut out movies from Walt Disney (NYSE:DIS) and Sony (NYSE:SNE), the $300 million can go elsewhere, as Mark Cuban and others have said.

Both companies are getting hammered this morning, with Liberty Media Corp (Starz) down around 5%, and Netflix down more than 8%. There are tons of analysts coming out this morning, both bearish and bullish alike to weigh in on the decision.

Starz said in a statement, "This decision is a result of our strategy to protect the premium nature of our brand by preserving the appropriate pricing and packaging of our exclusive and highly valuable content. With our current studio rights and growing original programming presence, the network is in an excellent position to evaluate new opportunities and expand its overall business."

Netflix CEO Reed Hastings spoke to Business Insider yesterday to talk about why he let Starz walk away, and he said that Starz is much less important people are making it out to be.

Hastings said, "While Starz was a huge part of viewing on Netflix several years ago because it was some of the only mainstream content we offered, over the years we spent more and more licensing great TV shows from all four broadcast networks and many cable networks, and we have licensed 1st run movies from Relativity, MGM, Paramount, Lionsgate and others."

"Because we've licensed so much other great content, Starz content is now down to about 8% of domestic Netflix subscribers' viewing. As we add a huge more content in Q4, we expect Starz content to naturally drift down to 5-6% of domestic viewing in Q1. We are confident we can take the money we had earmarked for Starz renewal next year, and spend it with other content providers to maintain or even improve the Netflix experience," Hastings said.

Some are saying it is bearish for Netflix, as it loses a portion of its content, and now throws an unknown into how much acquiring content will cost the company in the future. Morgan Keegan was bearish, and lowered its price target from $295 to $240. In the report, Morgan Keegan said, "NFLX shares will clearly face near-term pressure as 1) price changes and 2) Starz create uncertainties around gross adds, churn, and GM. Reduce PT to $240 (35x) from $295 (43x) as a lower multiple is warranted until these questions are resolved."

I have seen reports that 22% of the top streaming titles on Netflix are Starz titles, and streaming carries much higher margins, then does DVD rentals.

Others are taking a decidedly more bullish tone, saying it shows fiscal discipline for Netflix, and that the company will not just pay anything to get its hands on content. Piper Jaffray even went so far as to say that the loss of Starz could potentially allow for Netflix to spend more on other content. Piper Jaffray notes that Starz was only 8% of Netflix subscriber viewing. It remains Overweight.

Cuban, the billionaire entrepreneur and Dallas Mavericks owner, went so far as to tweet that this was a smart move for Netflix. He said in another tweet, "No one joins NFLX [Netflix] for specific content, rather for breadth and quality'; 'Avail $ can buy more for less."

Other, simply really have no idea. Jefferies, Stifel Nicolaus, and Merriman all left their Hold rating on shares.

Since there is so much time left between now and the expiration of the deal, there is more than a good chance the two companies come back to the bargaining table. Starz would have a hard time telling shareholders it passed up $300 million, and obviously Netflix thought enough of Starz content to offer that sum of money.

Starz could go to Amazon (NASDAQ:AMZN) which if it does, could be another death blow for Netflix. Amazon has been boosting up its efforts in online video, and with more than $6 billion in cash, Amazon can easily afford the $300 million or so for Starz content. Amazon has been racking up deals left and right, and there is even speculation that it could buy Hulu.

Ultimately, it is probably still too early to figure out whether this deal will prove to be bullish or bearish for Netflix. We have to wait to see what the next move is. This is only the first move in this chess game. If Starz goes to a Netflix competitor, it will be seen as decidedly bearish. If Starz comes back to the bargaining table, Netflix has their content, and could wind up paying less for it.

One thing I do know for sure. This "drama" just got a lot more interesting. I'm getting my popcorn ready.



Traders who believe that Netflix showed fiscal constraint might want to consider the following trades:

  • This could be a positive for Netflix earnings, as subscribers will want to see the money used for other content and could potentially make the Netflix experience better. You may want to use this dip to add or initiate a position.


Traders who believe that Netflix is hurting itself may consider alternate positions:

  • If other content providers take this stance with Netflix, it could cause a loss of subscribers. This could be beneficial for Coinstar (NASDAQ:CSTR) and Amazon.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.