The Netflix app is displayed alongside other streaming media services on the homepage of a Roku Streaming Stick. (Photo credit: Matthew Keys / Flickr Creative Commons)
Netflix is burning through free cash and the company’s balance sheet is ballooning with debt. The junk-rated company continues to attract buyers in this frothy stock market, however.
By Brian Nelson, CFA
Netflix (NFLX) reported third-quarter results Monday, October 16, 2017. The shareholder letter can be found here.
The digital streaming entertainment company burned through $465 million (-$465 million) in free cash flow during the third quarter of 2017. During the past four quarters, the company has burned through $2.14 billion (-$2.14 billion) in free cash flow, almost what it generated in revenue during the third quarter ($2.99 billion) –- so basically, it’s burning through about a quarter’s worth of total revenue each year (cash going right out the door). Management doesn’t seem to care either: the team has expectations to burn through $2-$2.5 billion in free cash flow in 2017. The market seems to love this?!?!
Standard & Poor’s rates the company’s debt as junk. Netflix’s long-term debt is now $4.89 billion at the end of September 2017, up from $3.36 billion at the end of 2016. Cash and cash equivalents stood at $1.75 billion at the end of September, good enough for a rather large net debt position, one that will likely have to grow to handle the tremendous free cash flow burn. As Netflix grows faster and faster (if it can continue to do so), it seems likely it will burn through more and more free cash flow, facilitating the need for more and more debt to fund its core content costs. The market seems to love this?!?!
Image Source: Netflix
How high can Netflix’s stock go – nobody really knows. Management is excited about potentially generating $11 billion in revenue during 2017. With a market cap of ~$88 billion at the time of this writing, that means the company is trading at 8 times revenue (8 times REVENUE) on a business that doesn’t generate positive free cash flow and is starting to add more and more to its net debt pile. Netflix has done nothing more than to embarrass traditional fundamental-based value investors, to the point where its valuation is inexplicable. Either somebody knows something nonpublic about Netflix (an entity that may want to buy it in the future if it keeps up its growth), or something’s not right with today’s stock market. Both may be true — stocks just don’t trade irrationally like Netflix. How embarassing.