For my money, 2011 went down as the year of the implosion in the stock market. There was nothing quite like watching Research In Motion (RIMM) and Netflix (NFLX) fall apart at the seams.
2012 could very well go down as the year of the big bankruptcy. I'll cheat a bit and call the November 2011 bankruptcy announcement by American Airlines parent AMR Corp. (OTCQB:AAMRQ) a 2012 story. Of course, Eastman Kodak's (EK) pathetic little story played out this week as it filed for Chapter 11. And, as Seeking Alpha's Paulo Santos cogently points out, Sears (SHLD) could very easily be next. Like my colleague Robert Weinstein noted earlier this month, any upside in SHLD represents little more than a dead cat bounce.
If they put out odds in Vegas on this sort of thing, Sears would certainly be the favorite for the next company to go under. You would probably get as good of odds as you would making a futures bet for the Boston Bruins to win the Stanley Cup again. Making the same play on Netflix would probably get you nothing better than Toronto Maple Leafs or Colorado Avalanche-type odds. It could happen, but it's pretty much still a long shot, at least if you put any stock into the consensus.
And that's just what strikes me as funny when I see NFLX bulls patting one another on the back with the stock hovering around $100. For whatever reason, large numbers of investors give this company and, in turn, the stock the benefit of the doubt. With the dust not even close to settling, the public face of Netflix always looks a heck of a lot rosier than reality.
What's even more comical is that the optimism today seems somewhat stronger than it was last year when the stock was powering its way to $300. At that time, I got hammered from all sides for predicting an impending implosion when the consensus was that everything's just fine and dandy. Of course, the consensus (people like Goldman Sachs' Ingrid Chung with their obscene NFLX price targets) was proven flat wrong.
Those who have turned optimistic on Netflix in 2012 repeat history by committing two crucial errors. First, they cast Netflix's problems off to the price increase and Qwikster still birth, just like Reed Hastings wants them to. In doing so, they ignore the analyses people such as myself put out early in 2011 warning of endemic issues with the company's business model that have only gotten worse over time.
That's why it's downright frightening to see people recommend and set $125 price targets on a stock that not only imploded, but is floated by a company that now admits it will lose money in 2012 and had to go to the street for a $400 million cash infusion. These massive problems did not exist last year on the way to $300 a share. They're front and center now, yet folks have lined up to buy the stock in 2012.
Last May, I published an interview with hedge fund manager Len Brecken. In it, he predicted bankruptcy for Netflix by the end of 2012:
Subscriber adds will begin to slow this quarter and continue through 2011, especially domestically. As this occurs, and amortization expense accelerates (unless management continues its accounting gimmicks through under-amortization), it will create negative leverage on earnings, causing (them) to decline. With over $10/share in off-balance sheet expenses for the next three years to hit earnings (at) $3.00/share in 2010, you figure out what will occur.
Ultimately, the accounting will catch up and the entire streaming effort will be labeled a ruse and the stock will be under $5 per share or bankrupt by the end of 2012. In my view, NFLX will not be able to meet its obligations to Hollywood, as by 2012, I expect the combination of churn and competition will result in negative cash flow and declining subs.
Consider how crazy that sounded to some people last year. These same individuals likely would have scoffed at the notion that Netflix would have to raise cash, something I warned about way back in March of 2011. Again, I was labeled a kook by many for making that prediction.
With that in mind, before you question the question, Could Netflix File For Bankruptcy in 2012?, consider not only the reality, but the gravity of the company's present situation and how far it has fallen. Go back and look at the argument fellow Seeking Alpha contributor Liqddynamite made in October when he published Why Netflix Could Be Bankrupt Within A Year.
I reserve the right to be insane or a complete and total idiot. However, I've looked at the numbers every way imaginable and I cannot figure how this apparent return to subscriber growth NFLX bulls seem so excited about can even begin to dig Netflix out of the abyss. The company will lose money in 2012. Its expenses - for content, international expansion and brand marketing - continue to increase exponentially. Forget the balance sheet, Netflix has a major cash flow problem; it's rapidly deteriorating with no end in sight. The company said so itself in its last quarterly report:
Free cash flow for the three months ended September 30, 2011, as compared to June 30, 2011, decreased $45.8 million primarily due to an increase in excess streaming and DVD content payments over expenses of $36.9 million. Payments for content increased $89.0 million while content expenses increased $52.1 million.
As a result of the significant increase in subscriber cancellations resulting in flat domestic revenue, coupled with increased investment in our International segment and in particular in international content, we expect consolidated net losses and negative free cash flows in future periods (emphasis added).
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Yet, publicly, Hastings reassures investors that Netflix, and its cash situation, is doing just fine. Something just does not seem right. It's deja vu all over again, especially when investors eat up statements from Hastings that are so clearly and plainly opposed to reality:
We were probably adequately capitalized, but we were a bit thin. And then the suppliers get nervous and they want their cash up front, and then you do end up with a cash problem.
In the face of quotes like that from its CEO, Netflix's 2012 performance would shock me if I was not a student of history. I saw the bulls make the same types of mistakes in 2011. I hate cliches, but one fits here:
Fool me once, shame on you; fool me twice, shame on me.
Additional disclosure: Author is short NFLX via June $40 put options.