Whitney Tilson Explains Why He Went Long Netflix, Says He "Hasn't Lost His Mind", Cites Business Insider To "Defend" Thesis

Tyler Durden's picture

And now the "letter" we have all been waiting for...

From T2 Partners

Dear Partner,
 
We established a position in Netflix yesterday after the stock crashed 35%.  We will discuss it at greater length in our monthly letter next week, but in case you read about it before then, we wanted to assure you that we haven’t lost our minds.  We simply think it’s a good company and that the market has over-reacted to all of the recent negative news, thereby providing us the chance to own it at a cheap price.
 
Given our unsuccessful timing of being short this stock – a highly frustrating experience – we’ll admit that it was hard to overcome the emotional baggage and think about Netflix with a fresh perspective, but as we wrote to you in last month’s letter, for every investment decision, we simply ask ourselves: if we were starting our fund from scratch today and held only cash, what would we do?  In this case, the answer is that, at this price, we’d own Netflix.
 
Netflix today reminds us of BP 16 months ago (and we all know how well that worked out): the company, its CEO and the stock are all universally hated right now, with endless headlines of furious customers and shareholders.  We love situations like this – as long as we’re convinced that there’s a good company and a cheap stock once you cut through all of the noise.
 
And we do think Netflix is a good company – even when we were short it.  The problem wasn’t the company, but rather the extreme valuation of the stock – but now that it’s down nearly 75% from its peak less than four months ago, the valuation is downright cheap in our opinion. 
 
The article below captures many of the reasons we’re bullish.  In addition, we’d add the following:
 
•        We think Netflix can earn $5-6 of contribution margin per customer per month (a bit less than half of average revenue of approximately $12.50).  This translates into $1.3-$1.7 billion of operating profit (excluding Netflix’s nascent international operations), for a company with a market cap today of just over $4 billion.
•        With 23.8 million subscribers (again, excluding 1.5 million international ones), Netflix is being valued at $175/subscriber, a very low figure relative to other media companies.
•        We think Netflix was smart to raise its price – our only quarrel is how Reed Hastings communicated it.  We wish he’d send the letter below to them, explaining the reasons for this action.  Note that the price increase only affected subscribers who were getting both the streaming and DVD services (they were paying $9.99 and now have to pay $7.99 for each service, a 60% price increase).  Streaming-only and DVD-only customers didn’t see a price hike and these subscriber numbers are growing quickly, especially the streaming-only, which is the future of the company.  Based on the company’s guidance and our own estimates, we think that the number of streaming-only customers will rise 29% from 9.9 million at the end of Q3 to 12.8 million at the end of Q4, due to both new subscribers as well as current streaming and DVD customers dropping the DVD portion.  The net result is that the total number of subscribers will remain roughly flat in Q4, but the mix will shift to more streaming and fewer DVD customers (who will be far more profitable, thanks to the price hike).  We think these trends bode well for the company over time.
•        Its shrunken market cap means that Netflix would be a bite-sized acquisition for any number of much larger companies like Apple ($370B market cap), Google ($188B), Amazon ($93B) or Disney ($64B).
 
Please let us know if you have any questions.
 
Sincerely yours,
 
Whitney and Glenn
 
PS—Our fund is up 7.8% this month through yesterday.

----------------------

What we wish Reed Hastings would write to his subscribers:

 

We cannot deliver a superior streaming and DVD-by-mail service to our customers for $7.99/month, so we cannot rescind the recent price increase.  Allow me to explain why.  For many years, we had only the DVD-by-mail service and made a reasonable profit charging $9.99/month (for our basic plan).  We knew, however, that the future lay in streaming: it’s obviously far better to click a few buttons and watch a movie immediately rather than have to wait for it to come in the mail (and then have to mail it back). 

But streaming developed slowly thanks to technological barriers (which thankfully are falling rapidly) and the difficulty of licensing content (which remains difficult and expensive).  In the early days of our streaming service, it wasn’t a great product: few of our customers had the internet bandwidth to download movies quickly and in high definition, and our content library was very limited.  Thus, we gave it away to all of our subscribers.

This worked beautifully for a number of years: millions of our existing subscribers began using streaming and millions more signed up for Netflix to access our convenient streaming library of over 15,000 titles.  But the overwhelming popularity of our streaming service created a dilemma: our subscribers wanted more and more streaming content, but unlike DVDs, where we can simply buy a DVD and send it again and again to our customers, with streaming the law requires that we negotiate licensing deals with the content owners.  Not surprisingly, seeing our millions of customers and understanding that streaming is the future, they began to demand higher and higher prices for their content.  We don’t begrudge them, but this dramatically increases our costs if we want to make available to our subscribers the most popular movies and TV shows.  Meanwhile, the costs to provide our DVD-by-mail service certainly weren’t going down.  Thus, we had no choice but to charge separately for our two services.

I think $7.99/month for unlimited streaming or unlimited DVD rentals is a bargain – we just can’t afford to provide both for that price.  I wish we could and hope you understand.

 


 

Tilson ends his letter using an article from none other than Business Insider to "defend" his thesis:

Sorry, But This Netflix Collapse Is Overdone, source

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FLUSA.com's picture

Denial...the first stage of death...

Jay Gould Esq.'s picture

"Cites Business Insider." Akin to "Cites Laugh-In." 

redpill's picture

Here come the Red Dead Redemptions!

Robot Traders Mom's picture

Business Insider has to be lower on the totem pole than CNBC's website. Seriously.

While I'm at it, fuck them for bashing Ron Paul.

They're fucking amateurs, Dude.

TheFourthStooge-ing's picture

On a more personal note, I know that the recent swan dive by Netflix probably has your son on suicide watch. However, after his most recent stunt, I don't think you need to worry.

(For those who don't know, Robot Traders Mom's son attempted suicide by sitting in his mom's running car inside the garage with the garage doors closed. However, Robot Traders Mom drives a plug-in hybrid, which was plugged in at the time.)

 

Robot Traders Mom's picture

Thanks Shemp. I actually haven't seen him in awhile. I'm hoping he just got lost on the freeway.

Hephasteus's picture

He's an oportunisic offender and well the low haing fruit is rotting right now.

gmj's picture

Business Insider often reports both sides of an issue with equal passion, but under separate clickbait headlines.  Then the haters from both sides pile on and accuse them of bias, etc.  This generates even more clicks, and life is wonderful.  They don't pretend to be deep.  They often provide links to in-depth articles, in case you really care about the issue.  I learn a lot at BI, and it's fun.  I don't have any problem with their style.  You just have to understand their game.

FOC 1183's picture

can't make this shit up

JW n FL's picture

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dracos_ghost's picture

Gotta love Red Light/Green Light investment strategies.

Ted K's picture

momo going up........ momo going down........

fonestar's picture

Streaming media and "premium content" long-term price point is $0 IMHO. 

Hedgetard55's picture

Amazing to me that people will pay these fools money to handle their assets/money/investments.

tekhneek's picture

Blah blah blah.

He's just another contrarian indicator.

Opened fresh shorts.

Thanks Whitney for your succint research on the matter. I will be sure to short into oblivion every overbought, overvalued stock that you are long.

Archimedes's picture

Oh the criminal Henry Blogett wrote it. Well at least Joe "I am the dumbest f**king finance reporter in the world" Weisenthal did not pen it.

drink or die's picture

How anyone can consider BI a legitimate source of news is beyond me.  It's more of a tabloid than anything else.

snakeboat's picture

Ditto. Saw the word Kardashian on there the other day.  Done.

oddjob's picture

I think that was the September issue of Gigantic Asses.

Pool Shark's picture

 

 

Gigantic Asses

Yep, that's an accurate description of BI...

ZippyBananaPants's picture

If we were all in cash, why would we want to mess with NFLX at all?

Azannoth's picture

If I was all cash I would be all in gold, but than again I am all in gold :)

AngryGerman's picture

hilarious. throw money away. then ask for bailout.

ZippyBananaPants's picture

If we were all in cash, why would we want to mess with NFLX at all?

bob_dabolina's picture

Meanwhile you can get their product for FREE at 30-40 websites I can think of off the top of my head. 

As a matter of fact, I believe "Margin Call" was just released on Pirate Bay a few days ago.

Meanwhile Netflix has a shitty variety of movies...this model won't work. 

...and can't you get movies for a fucking dollar at redbox?

s2man's picture

"they began to demand higher and higher prices for their content."

Nice

ZippyBananaPants's picture

If we were in all cash, why would we want to mess with NFLX at all?

LongSoupLine's picture

well, well, well...Tilson's on CNBS as a "special guest" as I write.

Too predictable...massive damage control. (read: Bear CEO on just before crash)

jcaz's picture

Nope, hasn't lost his mind- just making another shitty trade.

Gee- no clue about forward revenue, a flawed and opaque business plan, no margins, competion ramping up left and right, and a CEO that is hiding under his desk-   yeah, that's the recipe for a long-term winner......

His month to date performance record says it all- he's trying to catch a wave. 

Whitney- the newest mo-mo guy.

s2man's picture

I made a shitty trade like that, once.  Knee-jerk "its dropped so much I can't go wrong". Wrong. 

Maybe I could be a fund mgr.

tekhneek's picture

It's called "catching knives" and we've all done it. Most of us tend to do it with our own money though so there's actual consequences.

 

malikai's picture

Yep. Now where do I sign up for doing that with someone else's money?

ViewfromUndertheBridge's picture

I leave a small part of my latest dumbest-trade on...more effective than going on TV denying it.

Hot Apple Pie's picture

Yeah, once you learn the hard way with your own cash you tend not to repeat the mistake. Oh, to be on Wall Street where I can risk other people's money and get a cut when it goes up and have to live off my meager six-figure bonus when it goes down.

AnarchoCapitalist's picture

Why would Amazon want to acquire NFLX? Amazon already has a successful streaming business via Amazon Prime. This guy is desperate.

Hustler Elite's picture

Tilson should learn to manage his emotions better and not make rash decisions such as going long... right after a loss on his short.

This looks like a trading strategy based on technical indicators rather than a "value" based strategy as he proports to uphold.

As for his month to date performance, yeah he is up... in a month that the S&P is also up about 6% (Oct.)

I am a Man I am Forty's picture

still more expensive than Apple with absolutely shitty guidance while Apple has great guidance and is selling iPhones hand over fist

slaughterer's picture

If we get QE3, NFLX will go to $125, conservatively.  That's a 60% ROI.    

Vlad Tepid's picture

And the whole time your ROI is being taken into negative value territory while the numbers stay positive because of the inflation QE causes in equities. Baaaaaaa-uy, Lamby-kins.

The Axe's picture

i will wait for the secondary, which is sure to come...

jcaz's picture

Yep, no doubt they're talking to investment bankers right now, gonna spin the secondary as "bridge capital necessary for the Global rollout".....  Whatever, dudes......

Personally, I still have my Netflix account, until something better and cheaper comes along....  I can only imagine the secondary will try to quantify my "loyalty" in some positive number, LOL!

Bam_Man's picture

This is compulsive gambling behavior.

There are plenty of stocks out there that have crashed just as hard as NFLX and represent far better value. Take RIMM, HPQ and FSLR for example.

If you are an investor in Tilson's fund, the fact that he chose NFLX instead is absolutely scary.

bob_dabolina's picture

FSLR sucks. You know why FSLR sucks? Because solar sucks. 

If there was a market for that shit it wouldn't need all these government subsidies. 

It's just another stock to chase...like enron, worldcomm, tyco, etc. Not saying they are a fraud (fslr) but it's just another donkey to jump on. You know the drill, jump on a donkey and pretend it's a Ferrari

moldygoat's picture

Solar wont suck when GE starts producing it. They are just biding time untill they can buy all the tech at pennies on the dollar then wham......one presidential reach-around and solar is great. I think Immelt is a power bottom BTW.