Monday, December 20, 2010

NFLX CEO Reed Hastings Responds to Tilson's Short Thesis

I find this fascinating - NFLX CEO Reed Hastings has written a polite, thorough reply to hedge fund manager Whitney Tilson, who published his detailed short thesis on NFLX last week.  Readers can read both letters and evaluate the situation for themselves, but I find Hastings's reply very interesting, simply because it's pretty unusual for a CEO to respond to a short seller like this.

In my opinion, Hastings's letter focused too much on how Tilson's critiques wouldn't be an issue in 2011.  The problem is that NFLX isn't cheap based on 2011 estimates - it's already pricing in many years of consistent forward growth.  On the other hand, I think Hastings is right (and Tilson wrong) about the value of NFLX's content to their subscriber base.  I'm continuing to get the distinct impression that NFLX's customers don't mind waiting 28 days, 6 months, or even longer to access the content they want at an incredibly cheap price.  As Hastings puts it:

"The next issue is what Whitney calls our “weak content.” While Whitney may think “Family Guy” is weak content, our subscribers do not. Furthermore, our huge subscriber growth to date has been built on this “weak content,” so imagine how much upside we have as we improve our content, as we are always trying to do. I think what Whitney may be misunderstanding is that at $7.99 per month, consumers don’t expect to have everything under the sun. A variant of this misunderstanding is when DirecTV (DTV) advertises against Netflix, calling out some Netflix content weaknesses. When an $80 per month service is picking on an $8 per month service, the $8 per month service just gets more attention from consumers and grows even faster."
In a stream of consciousness list form, my personal thoughts on NFLX would look like this: 

Bull Case: super cheap content delivery service for users who don't need the latest movies right now.  First mover advantage - established user base, widely adopted streaming technology, hard for others to compete with at this price point.  Users seem to love the product - that's the most important thing.

Bear Case:  Increased bandwidth usage will be paid for by someone, which may eventually flow back to users.  May be tough to increase streaming library while maintaining low cost of subscriptions.  Stock is priced aggressively, little room for error.

I have no position in NFLX.

1 comment:

Anonymous said...

One brief point here: many (most?) of the content streaming devices sold support both the free (e.g., YouTube) cheap (e.g. Netflix) and more dear content providers automatically, and the latter can be a la carte. So you might buy (say) an Apple TV to stream your music and NetFlix, but you could (and I am guessing many will) sometimes rent a movie or recent TV episode. I have no idea whether Netflix's stock price is justified, but I am really confident that their subscriber numbers will go way up, since the service is nicely complimentary to other options you have.