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Troubling Signs on Netflix Financial Statements



September 16, 2011 – Comments (7) | RELATED TICKERS: NFLX

I read most of this stuff in another blog here so I want to give credit where it's due. The guy kind of rambles though, so I will summarize it a little here. Also, feel free to correct me if you see any mistakes. I will be the first to admit that I am a novice when it comes to financial statements.

Also, for your convenience if you want to follow along, here are links to their 10-Qs:

Q1 10-Q

Q2 10-Q

Accounts payable has ballooned to $533MM in Q2 and represents about 43% of total liabilities. Nearly half of this figure was due to a massive increase in accounts payable of $233MM in Q2 alone. This contrasts with their cash flow from operations of only $86MM, meaning without the increase in accounts payable, cash flow would've been -$147MM for the quarter. Netflix's cash flow is very poor because increasing accounts payable at such a rapid rate is not a sustainable way to generate cash. Accounts payable will need to be paid back eventually, which results in a cash outflow.

This coincides with a large run-up in the value of their content library on the balance sheet, which is currently listed as about $925MM, or a whopping 59% of their total assets. Of this, about $500MM is listed as current content library, meaning it will be amortized in less than one year, and roughly matches the accounts payable.

The problem is this: a big chunk of their content library is largely intangible, consisting of their "streaming library," and due to be removed from the balance sheet in the future as amortization. However, their accounts payable is very real, and will result in a cash outflow of $533MM at some point in the next year. Consider the facts that they have about $375MM in cash and negative cash outflow ex-accounts payable, and it becomes clear that Netflix's financial strength is much shakier than many people would assume. I am speculating that the unpopular and somewhat puzzling 60% price hike for subscriptions was at least partially influenced by their need to raise cash.

Some other red flags to consider:

-Netflix is surprisingly leveraged, with an equity value of $334MM compared to assets value of $1.5BB (nearly 5 times leverage). Equity value is negative if you simply remove current content library, which is an asset that will go away within one year.

-Netflix actually removed the "accounts payable" line from its cash flow statement in its Q2 10Q. It is clearly there in the Q1 10Q. Instead, accounts payable is now buried inside the "Change in streaming content liabilities." Very shady, especially considering it is such an alarming increase.

-Netflix has about $2 billion in off-balance-sheet commitments due in the next three years.

-Netflix's CFO resigned in December 2010.

Disclosure: short NFLX

7 Comments – Post Your Own

#1) On September 19, 2011 at 6:59 PM, truthisntstupid (82.23) wrote:

Great post, walt! I have no interest in NFLX so I won't be spending any time digging through their statements, but I enjoyed your analysis!

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#2) On September 19, 2011 at 8:32 PM, walt373 (99.87) wrote:

Thanks man. I was hoping someone could point out some silly mistake in my analysis but nobody commented =(

I don't short stocks much but NFLX was facing a perfect storm even if these accounting red flags were really just red herrings, and with valuation somewhere between in the ionosphere, I had to get in on that.

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#3) On September 19, 2011 at 8:38 PM, Rockafellor (69.57) wrote:

Good analysis. Wish I read it before I clicked outperform in the CAPS game.

 How long ago did you begin to short? Was it right before their recent run downwards?

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#4) On September 19, 2011 at 8:46 PM, truthisntstupid (82.23) wrote:

It probably would have drawn a few comments if you hadn't posted it on a Friday night.  I mean, I'm betting you posted it on a Friday night.  I just used my BA-II to see when you posted this and it was on a Friday.

Anyway, I enjoyed reading it.  Hope it works out well!

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#5) On September 19, 2011 at 8:47 PM, truthisntstupid (82.23) wrote:

Silly me.  It was last Friday!

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#6) On September 19, 2011 at 9:03 PM, walt373 (99.87) wrote:

Rockafellor, I got in at 213. Did not expect it to collapse so quickly so I got lucky. Added more today at 158.

Truth, good call, didn't even think about that. I'll remember that in the future.

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#7) On September 29, 2011 at 2:56 AM, itconsultant (< 20) wrote:

Seriously good stuff Walt

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