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The Business of “Breaking Bad” is Good; Netflix Not So Bad Either

Michael Santoli
Daily Ticker
The Business of “Breaking Bad” is Good; Netflix Not So Bad Either

The Emmy wins by AMC Network’s (AMCX) “Breaking Bad” and Netflix Inc.’s (NFLX) “House of Cards” Sunday show that award voters have come around to what critics, viewers and investors have known for a while: The best, most addictive original series are coming from cable and online studios, and they are turning audience buzz into dollars.

A week ahead of its intensely anticipated series finale, “Breaking Bad” won the Emmy for best dramatic series and Anna Gunn took the best-actress trophy for her portrayal of Skyler White, wife of Brian Cranston’s schoolteacher-turned-drug-gangster lead. “Breaking Bad” is commonly referred to as a cult hit, but if so it’s a pretty big cult. More than 6 million viewers tuned in Sept. 15, double last year’s average audience, and more than 600,000 tweets about the show flew the night of that episode.

Netflix became the first online platform to earn an Emmy when David Fincher won as best director for “House of Cards,” its political thriller that represents its aggressive bet on original programming to distribute to its 33 million streaming-video subscribers.

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Both AMC and Netflix are exploiting the new economics of the media business, in which niche networks can capture an avid audience accustomed to a wide array of entertainment options, consumed when and on whatever device they choose. Loyalty is reinforced by social-media chatter and viewer appetites are stoked by short, spaced-out seasons – which nonetheless allow for voracious “binge-viewing” of shows during or after a season.

As noted in the above video, the “end” of a show such as “Breaking Bad” – or the coming wind-down of AMC’s “Mad Men” with the final 14 episodes over two years – is not its death. Many folks who never sampled the shows get the urge to consume them in one big bite after they’ve run their course.

(No one ever said about “Cheers” or “M*A*S*H” that they would wait until the finale to delve into the series. Back then viewers passively waited a few years for reruns in syndication and for years no company made a dime from the audience.)

Because AMC’s business relies largely on “affiliate fees” paid by cable and satellite operators for the right to carry its networks, its established track record of developing compelling, buzzy programs gives the company leverage to charge more. AMC has already jacked up its fees by some 50% since 2007, the year “Mad Men” debuted. While over time it is crucial for AMC to hatch popular, viral new series (and it’s hoping a forthcoming “Breaking Bad” spinoff will qualify), for now simply the perception that audiences demand AMC in the basic-cable “bundle” gives it pricing power.

The market is well aware of this momentum, and has bid up AMC shares by nearly 60% in the past year, making it and its cable-content peers Discovery Communications (DISCA) and Scripps Networks (SNI) rather richly valued by traditional media-industry standards. AMC’s enterprise value (market capitalization plus net debt) to cash flow ratio exceeds 13, and Discovery’s is more than 16-times. Big Media incumbents such as Time Warner (TWX) and CBS Corp. (CBS) trade below 10-times.

Part of the bullish case on AMC and the other cable-network pure plays is that down the road they could easily be acquired by the media conglomerates or another player. AMC, which also owns IFC, Sundance Channel and WEtv, was created by Cablevision Systems (CVC) in 1980, and was spun off to Cablevision shareholders in June 2011.

Related: Netflix Owns Nothing, Is Poised for Short-Term Drop: Pachter

Any spinoff cannot be acquired within two years of its split from a parent company without incurring tax penalties, and that two-year no-acquisition window recently lapsed.

As for Netflix, the stock has burned up the tape in the past year, exploding higher by some 450% to a new all-time high above $310 and defying most traditional methods for determining the appropriate valuation of a business. The stock trades at more than 100-times the past year’s cash flow, 95-times analysts’ forecast for 2014 profits and more than $500 per subscriber.

Clearly, the market is generously giving Netflix credit for essentially redefining and embodying the future of entertainment production and delivery. The company recently altered its official corporate description, asserting that it is “leading the way” in creating Internet TV, and is indeed a “movie and series network” with deep knowledge of users’ personal preferences even when the viewers themselves aren’t fully aware what they might want to watch next.

Netflix’s product offering is compelling and its management execution has been brilliant lately. But the market has priced a staggering level of success already into its stock price, in a market where it has effectively shown every company from Amazon.com (AMZN) to Time Warner how to compete better with it in this new world of digitally enabled, portable, a la carte entertainment consumption.

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