Don’t bet on a Netflix sale

Video Streaming Another Netflix bubble burst: On Monday, its shares soared more than 6 percent on reports that Verizon was in talks to acquire the video streaming and DVD-by-mail company. By the closing bell Tuesday, the shares had given back nearly all of those gains after several analysts shot down the initial reports.

Still, hope springs eternal, and the shares were up again in the after hours market, perhaps on speculation that even if Verizon isn’t a buyer for the currently beleaguered service, someone else might be.  Maybe, but I wouldn’t bet on it.

The Verizon rumors gained traction initially because Verizon CEO Lowell McAdam acknowledged publicly last week that the telco was interested in the online video streaming business, going so far as to admit to kicking the tires at Hulu when it was being shopped. But of all the potential suitors for Netflix, Verizon is among the least likely.

Most of Netflix’s growth over the next several years is likely to come from outside the U.S., which is not a good fit for Verizon strategically. It also certainly doesn’t want any part of Netflix’s DVD
business but it’s unlikely Netflix would sell without wanting to price the DVD operation into the deal. The rumored partnership with Redbox would be a much better fit for Verizon because it could leverage Redbox’s user base to jump-start a subscription streaming service while leaving the DVD kiosk business to Coinstar.

In fact, any sale of Netflix seems unlikely at the moment no matter who the buyer might be for at least two reasons. First, Netflix shares closed Tuesday around $72. A decent premium might push the bid to around $100 – $110 a share. But the Netflix board would be hard pressed to accept a bid in that neighborhood when the shares were recently trading over $300.

The more fundamental reason a sale of Netflix is unlikely, however, is the same reason why Hulu ultimately did not sell: uncertainty over the present value of future video streaming rights.

As I discussed in a recent column for GigaOM Pro ($$), the market is in the midst of a massive repricing of video streaming rights but no consensus has yet emerged as to their current value. Netflix, Amazon and, indirectly Hulu have all seen volatility in their valuations recently that can be traced to that uncertainty.

The immediate cause of the meltdown in Netflix shares over the past few months was a bungled price increase and subsequent loss of subscribers. The deeper reason was that the hasty price hike suggested Netflix itself was panicking over the cost of the long-term streaming rights deals it was signing and needed to boost revenue in a hurry, which played into the same growing fear in investors. Netflix’s brief flirtation in with the Qwixster spin-off only added to the doubts by forcing investors, at least briefly, to think about how much value to assign to its legacy DVD business and how much to assign to its streaming business.

The result was a massive repricing of the value of the streaming business.

Similarly, The non-sale of Hulu, was due at least in part to an inability of its network owners and potential buyers  to settle on a mutually acceptable valuation for the streaming rights to the networks’ programming.

As Janney Capital analyst Tony Wible noted in pooh-poohing the Verizon rumor, any potential Netflix buyer will need to calculate not only the price of Netflix equity but the cost of its future rights commitments versus the cashflow they’re likely to generate. Until there’s more clarity on those points, it would be a brave CEO who would take a deal for a streaming company to the board.