Market Overview

Why Reed Hastings Might Be Getting Desperate

Earlier today, news came out that CBS (NYSE: CBS) and Warner Bros. Television had signed a deal with Netflix (NASDAQ: NFLX) to instantly watch previous seasons of scripted series that air on The CW from its current schedule through the 2014-15 season.

Included in the deal are the new seasons of series "Ringer," "Hart of Dixie" and "The Secret Circle;" returning hits "The Vampire Diaries," "Gossip Girl," "90210," "Supernatural," "Nikita" and mid-season series, "One Tree Hill." Previous seasons will be available to watch October 15, with "Supernatural" and "90210" beginning in January 2012.

"This is a forward-thinking agreement for a network whose programming occupies a unique space in the content marketplace," said Leslie Moonves, President & Chief Executive Officer, CBS Corporation, in a press release. "It is a model that opens a new door for The CW programming to expand its audience reach through the terrific Netflix service, and creates a brand-new window for CBS and Warner Bros. to be paid for the content we supply the network. It also further illustrates how new distribution systems are providing premium content suppliers with additive revenue streams while still preserving traditional monetization windows."

While the terms of the negotiations were not disclosed by the companies, CNBC's Herb Greenberg tweeted the price of the deal at $1 billion.

If it is $1 billion, that is incredibly expensive for Netflix, and a stroke of genius for Time Warner (NYSE: TWX) and CBS. Remember when Netflix refused to pay more than $300 million for Starz (NASDAQ: LTSZA) content, and the deal was nixed? That does not appear to be the case now.

Over the recent days, Netflix, led by CEO Reed Hastings, has gotten desperate to stop churn at the company after the price hike of $5 per month and split of the DVD business and streaming. Earlier this week, Netflix announced it would be abandoning its plan to split DVDs and streaming, but customers are still extremely aggravated. Netflix reports earnings on October 24, and when it does, Wall Street will be paying HEAVY attention to the subscriber numbers, as well as the cash flow numbers.

Netflix has become a case study on how to mess up a great company run by a visionary businessman. Harvard Business School would have a field day with this one, and probably will sometime in the future. It is a service enjoyed by everyone, and in recent months, company management has done nothing to make it easier for customers and has added no value, despite raising the price of some subscriptions by nearly 60%. If you are going to raise prices in this economy, customers definitely want to see a value-add there.

CBS is no stranger to licensing its content to Netflix, having done so previously. This is an incredibly shrewd move by Moonves and team, as whatever the money that Netflix is paying CBS and Time Warner is incredibly high margin. There is little if any production cost from CBS' standpoint of view, and all of the operating costs fall on Netflix's shoulders.

If Greenberg is correct, and the cost for that content is $1 billion, Netflix must be getting really desperate to try to keep existing customers and add new ones. Amazon (NASDAQ: AMZN) is getting closer and closer to eating Netflix for lunch, and with iCloud opening up to the public now, Apple (NASDAQ: AAPL) might be going after Netflix as well. Even if the cost is not $1 billion, it is conceivable that Netflix is paying a hefty sum for content lately, and the share price is reflecting that, down almost 70% since the summer, due to churn and loss of content.

Desperate times call for desperate measures. Often in business, they do not work out for the best.

ACTION ITEMS:

Bullish:
Traders who believe that $1 billion was the amount paid might want to consider the following trades:

  • That is extremely beneficial for CBS, and Time Warner. Traders may want to add to positions or initiate here. As they say, content is king.
  • Amazon and Apple also have the cash to do these kinds of deals and not have it affect their businesses, Netflix does not. We could see subscribers move to Amazon, or Apple, if it starts a new service.

Bearish:
Traders who believe that Netflix is overpaying for less than stellar content may consider alternate positions:

  • Traders have continued to short this name and be profitable. Shares could spike even lower when it reports earnings on October 24.

Neither Benzinga nor its staff recommend that you buy, sell, or hold any security. We do not offer investment advice, personalized or otherwise. Benzinga recommends that you conduct your own due diligence and consult a certified financial professional for personalized advice about your financial situation.

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