Last week, Netflix (etftrends.com/quote/NFLX) posted better-than-expected third quarter results with a jump in subscribers and in an effort to maintain its momentum, the video streaming giant plans to offer $2 billion in junk bonds to fund new programming.
The Netflix bond offering will be issued in dollars and euros, and will effectively bring the company’s debt load past the $10 billion mark. Nonetheless, its market value has risen over 70% this year to around $140 billion.
“To me it feels a bit like a win-win situation,” said John McClain, a high-yield money manager at Diamond Hill Capital. “You’re buying the highest-quality, high-yield business at yields that are fairly close to the overall market. It’s low-cost funding for them, especially relative to the cost of issuing new equity.”
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Last Tuesday, Netflix’s revenue came in exactly at the estimated $4 billion expected per a Refinitiv consensus estimate, but bested earnings per share (EPS) estimates of 68 cents with 89 cents for the third quarter. Furthermore, subscriber additions came in at 6.96 million with domestic subscriber additions reaching 1.09 million versus 673,800 estimated, and international subscriber additions reaching 5.87 million as opposed to the 4.46 million estimated.
Furthermore, Netflix also announced a gain of 370,000 net memberships in the U.S. and 3.2 million internationally, beating its initial forecast of 2.3 million new users.
Netflix’s announcement to tap into the junk bond market comes just a few days after Uber Technologies Inc. raised funds via the high-yield bond market through a private placement. Per Bloomberg, demand for high-yield debt “has been spurred by the worst supply shortage since 2008, according to JPMorgan analysts, and the higher demand kept a lid on relative borrowing costs even as the Federal Reserve hikes interest rates.”
Other Junk Bond Options
Junk bonds or high-yield bonds have long been considered investable assets that make the majority of investors turn the other cheek with their below investment-grade debt, but for savvy investors, treasures can by had by sifting through this mass of junk bonds. As opposed to allocating investment capital directly into junk bonds, ETFs can used for high yield exposure to these bonds, such as the iShares iBoxx $ High Yield Corp Bd ETF (NYSEArca: HYG) and SPDR Blmbg BarclaysST HY Bd ETF (NYSEArca: SJNK).
HYG tracks the investment results of the Markit iBoxx® USD Liquid High Yield Index, which is comprised of high yield U.S. corporate bonds that have less than investment-grade quality. Investors who have been able to forego the credit risk have seen total returns of 6.74% the last three years and 2.50% the past year based on Yahoo! Finance performance figures.
SJNK seeks to provide investment results that correspond generally to the price and yield performance of the Bloomberg Barclays US High Yield 350mn Cash Pay 0-5 Yr 2% Capped Index. SJNK invests its total assets in the securities comprising the index, which is designed to measure the performance of short-term publicly issued U.S. dollar-denominated high yield corporate bonds. The short-term maturities will help hedge some credit risk due to the lesser exposure, but holdings are still less than investment-grade.
Netflix is Watching Rising Rates
As subscribers tune in to watch Netflix, the video streaming company is watching a healthy dose of interest rate episodes as some analysts are forecasting that rising interest rates could be a factor that might hamper the company’s future growth.
“Longer term, we expect Netflix will continue to invest and market behind its ramping global original programming and we raise long-term marketing expenses [as a percent]of revenues by ~100 (basis points versus our) prior forecast,” Morgan Stanley analyst Benjamin Swinburne said in a note. “We also raise the incremental cost of debt based on rising interest rates, with Netflix still needing to raise an additional ~$5 (billion) of debt over the next two years before reaching positive free cash flow in 2021.”
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Treasury note yields were partly to blame for October’s deep stock sell-off as benchmark notes went on a weeklong ascent, pushing to new highs that caused investors to fret. The rising yield contagion eventually made its way to the stock market, hurting several tech giants like Netflix.
Rising rates are not the only thing Netflix has to worry about with respect to future growth as more competitors enter the video streaming market segment, such as Apple, AT&T, Walmart and Costco.
“While these services offer varying levels of direct threats to Netflix’s subscriber base, they indicate that the arms race for content is not likely to ease any time soon,” said Nomura’s Mark Kelley.
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