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Spoke to a reporter about why my $NFLX target is "so low" at $165. Explained that sum-of-the-parts (SOTP) is shorthand for a guess on future positive free cash flow, and noted that the company has burned MORE cash each year for 5 consecutive years /1
So I explained that the current guide for cash burn "similar to" last year's $(3) billion suggested little or no improvement. At $500 million per year improvement in perpetuity, $NFLX would reach breakeven in 2024, would be debt free by 2032 /2
If we assume that the $4 billion in positive cash flow was sustainable in perpetuity (surely, they will be close to market saturation by 2032???), the NPV of 20x 2032 FCF at a 5% discount rate would be a $94 share price . . . /3
So I suggested we assume $1 billion in annual improvement. That means FCF breakeven in 2021, debt free in 2026, and an exit FCF generation of $5 billion. At 20x and a 5% discount rate, we get to a price target of $158 (very close to mine) /4
I then queried why the reporter didn't ask the analysts with $450 price targets to justify theirs. At that level, $NFLX is worth $212 billion. Assuming a 5% discount rate, the company would have to improve its FCF by $2 billion per year. /5
The math then implies that $NFLX gets to FCF breakeven in 2020 (fat chance) and hits $7 billion in annual FCF in 2023 with no debt. At a 5% discount rate, my PT would be $256. So we still don't get to $450 . . . /6
Maybe if the company improves by $3 BILLION per year? Of course, its revenues are growing by only $4.5 billion, and presumably, it will pay taxes eventually. At that level, $NFLX will be debt free in 2022 and generating $9 billion per year /7
At that level, we get to a $345 price target using a 20x FCF multiple and a 5% discount rate. The only way I could justify a $450 target is if the company will generate $11 billion in FCF in perpetuity. That's a $14 billion turnaround from last year's level /8
It seems remotely possible that can happen, but in order for Netflix to turn its FCF around by that much, it would have to more than double its revenue and drop 60% or more of the revenue growth to the bottom line. /9
The only conclusion that I, as a rational person, can reach, is that I'm the only one who can actually see the Matrix . . . /10 fin
