Netflix Inc. (NFLX) recently announced that it will raise $400.0 million by issuing common equity and convertible notes. The video rental and online streaming provider expects the issuance of common equity and convertible notes to generate proceeds of approximately $397.0 million, after deducting offering expenses.
Netflix will raise $400.0 million from two premier investors namely T. Rowe Price Associates, Inc. and Technology Crossover Ventures (TCV). Netflix sold 2.86 million of common stock at $70.00 per share to certain mutual funds and accounts managed by T. Rowe Price Associates, Inc. On the other hand, TCV bought zero coupon convertible senior notes of the company maturing 2018 for $200.0 million in a private placement.
We believe that the cash infusion will help Netflix pursue its global expansion policy. The company is venturing into the uncharted areas of the United Kingdom and Ireland and has already announced a number of partnerships with premier Hollywood studios such as Metro-Goldwyn-Mayer Studios Inc., Lions Gate Entertainment Corp. (LGF) and Miramax Studios.
In the third quarter of 2011, the company also ventured into Latin America and the Caribbean, where it teamed up with local content providers for regional language programs. We believe the strategy to expand internationally will be accretive for Netflix over the long term and provide the necessary platform for raising its profitability on a global basis, as the company significantly diversifies the risk of customer concentration in a particular region.
However, we believe that the International operations will take some time to contribute significantly to the company’s top-line and bottom-line growth. Moreover, the company has faced significant criticism in the U.S. due to the increase in DVD prices and its initial decision of splitting its operations into two and subsequent backtracking. Netflix lost approximately 800,000 subscribers during the third quarter.
Although the company foresees a profitable fourth quarter of 2011, subscriber growth is expected to remain flat. Netflix forecasts several quarters of losses starting from the first quarter of 2012, as domestic profits are not expected to be high enough to compensate the expected losses from expansion into international markets. Netflix is expecting a net loss for the fiscal year ending December 31, 2012, primarily attributable to relatively flat consolidated revenues and increased investment in the International segment.
We believe that the proceeds from the transaction will also help Netflix to expand its streaming library, particularly in its domestic market, which will attract new subscribers going forward. However, an increasing debt level remains a concern, in our view. As of September 30, 2011 Netflix had cash and cash equivalents of $365.8 million versus a long-term debt of $200.0 million.
Further, the multi-year contracts with the studios will require Netflix to pay approximately $3.5 billion for the rights to stream video over the long term. Netflix also expects these costs to increase going forward, which will remain a significant overhang on the stock in our view.
Additionally, intensifying competition from large players such as Amazon.com Inc. (AMZN), Apple Inc. (AAPL) and Google Inc. (GOOG) in the online streaming market is also a headwind, as it will further escalate license fees and also affect subscriber additions over the long term.
We have an Underperform recommendation on Netflix over the long term (6-12 months). Currently, Netflix has a Zacks #3 Rank, which implies a Hold rating in the short term.
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