Netflix's New Content Deal

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Video streaming services provider Netflix (NFLX) recently signed a new content deal with Turner Broadcasting System and The Warner Bros. Television Group (“WBTVG”), both divisions of Time Warner (TWX).

The partnership will enable Netflix to offer some of the popular Cartoon Network shows such as Adventure Time, Ben 10, Regular Show, Johnny Bravo and Warner Bros. Animation's Green Lantern on its “Just For Kids” section starting from March 30, 2013. “Just for Kids”, as the name implies, is targeted at children aged 12 and under.

Netflix will also stream Adult Swim shows that include Robot Chicken, Aqua Teen Hunger Force, Sony’s (SNE) The Boondocks and WBTVG’s Children’s Hospital. In addition to these shows, Netflix subscribers will also be able to access season 1 and 2 of the critically acclaimed television series Dallas from January 2014.

The new content deal further strengthens the partnership between Netflix and Time Warner. Earlier this month, Netflix entered into an agreement with WBTVG to stream eight current (produced in 2012-2013 season) television shows that include ‘Revolution’, ‘Political Animals’, ‘666 Park Avenue’ ‘The Following’, ‘Longmire’, ‘Chuck’, ‘Fringe’, and ‘The West Wing’ in 2014.

The addition of all these popular television shows will not only diversify Netflix’s streaming portfolio but will also strengthen its position in the video-on-demand (“VOD”) market. We believe that the deal would be incrementally beneficial for the company in attracting new subscribers as well as retaining the old ones.

Amid increasing competition from streaming providers such as HBO, Amazon.com Inc. (AMZN), Huluas well as newly launched services from cable and media companies, Netflix remains focused on boosting its streaming portfolio with varied content. Apart from recent movies and documentaries, Netflix is also boosting its original content portfolio.

Netflix’s partnerships with leading Hollywood studios and entertainment companies such as Metro-Goldwyn-Mayer, Twentieth Century Fox, Hasbro studios, The Weinstein Company (“TWC”), Epix, Walt Disney (DIS) has enabled it to offer varied content. Through its original television shows, Netflix has been venturing into different genres like comedy, political thrillers, autobiographies as well as horror. Netflix is expected to stream five original series by 2013 end.

The improved content has also driven customer engagement lately. In the recently concluded third quarter of 2012, the total unique subscribers (domestic and international) jumped 25.7% year over year to 31.8 million.

Nevertheless, increasing licensing and renewal fees coupled with higher investment on content delivery network (:CDN) development and overseas expansion will hurt profitability going forward. Netflix needs to pay $5.0 billion for streaming content obligations, out of which $2.1 billion is to be paid within the next 12 months.

Moreover, when compared to some of its cable and communications peers who have diversified revenue and cash flow streams, Netflix relies solely on streaming for future growth as its DVD rental business continues to lose subscribers. We believe that the streaming market is becoming overcrowded and this will hurt Netflix’s margins going forward.

We remain Neutral on Netflix over the long term (6-12 months). Currently, Netflix has a Zacks Rank #3 (Hold).

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