For the last five years, Netflix (NASDAQ: NFLX) has seen increasing levels of cash burn as it invests more and more in original content and marketing. CFO Spencer Neumann expects the company to produce free cash flow of negative $3.5 billion this year. Netflix has also taken on increasingly more debt to fund that cash burn, most recently making a $2 billion bond offering.
Netflix's cash burn and debt funding have been a major sticking point for myself and many other potential investors, especially considering the entirety of its original content strategy has taken place during a bull market. But there are a couple of factors that have helped me stop worrying about the company's cash burn.
Netflix can flip a switch anytime to go cash flow positive
Neumann said Netflix will burn about $3.5 billion in cash this year.
It's also increasing its content spending by about $3 billion on a cash basis this year to $15 billion. About 85% of that increase in spending is going toward Netflix originals, according to head of content Ted Sarandos -- roughly $2.5 billion.
If Netflix merely held its content budget steady, it'd bring its negative cash flow below the $1 billion threshold.
While content spend is the biggest factor in Netflix's negative cash flow, the accompanying marketing spend around that content has a major impact as well. The company spent about $2.5 billion over the last four quarters on marketing. If Netflix cut its marketing budget back to 2017 levels -- about $1.3 billion -- in conjunction with halting the annual increases in its content budget, it'd suddenly be cash flow positive.
It's worth noting that Netflix likely wouldn't add as many new subscribers and increase revenue as quickly without its elevated content and marketing spend, which would negatively impact cash flow. The look back in content and marketing spend merely illustrates that it's been able to keep revenue growth in line, on an absolute basis, with its increased cash spending. That's a sign of a good investment, and it illustrates that Netflix is much closer to being cash-flow positive than its financial statements indicate at first glance.
Netflix is pretty recession-resistant
Since Netflix is using debt to fund its growth, it's also important to understand that it's benefited from the bull market run and what the business looks like in a recession. Over 70% of economists expect a recession before the end of 2021. A recession could induce higher interest rates, making it more expensive for Netflix to borrow. It could also mean less subscriber growth for the company as consumers spend less on discretionary goods and services.
A high interest rate environment shouldn't be a huge concern for Netflix investors, though. As noted, Netflix has a lot more control over its cash burn than the runaway numbers of the last few years might suggest. If interest rates go up considerably, Netflix might simply borrow less or find other ways to raise capital.
But the idea that a recession would have a negative impact on Netflix's ability to grow revenue seems far-fetched. Its service is relatively cheap compared to big pay-TV bundles. There are still 90 million pay-TV households in the United States compared to just 60 million U.S. Netflix subscribers. It's much more likely for consumers to cut the cable cord to save some money than to cancel Netflix.
Moreover, Netflix is increasingly an international company. More than half of its revenue came from international markets last quarter, and international streaming contribution profit climbed to about half that of its domestic streaming business. International subscribers have grown significantly faster than domestic subscribers recently, and that trend will likely continue for the foreseeable future. That may also mean Netflix simply shifts more of its content spending and debt offerings to international markets in the face of a U.S. recession.
Going forward, Netflix expects content spending growth to moderate, which should help move cash flow back toward positive territory and make the interest rate environment more of a moot point. But in the meantime, investors shouldn't worry too much about the company's cash burn.
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