Here's Why Verizon Buying Netflix Would Make Sense

(Note: The author of this fundamental analysis is a financial writer and portfolio manager. He and his clients own shares of VZ and NFLX.)

Verizon Communications Inc. (VZ) may have a strategic interest in acquiring Netflix Inc. (NFLX), and the window of opportunity could be closing. T-Mobile US Inc. (TMUS) made a smart move by offering free Netflix services on its T-Mobile One family plans. It is a clever move, and one that could help lure subscribers away from Verizon and AT&T Inc. (T).

But in AT&T's corner is the pending Time Warner deal, which could Verizon left behind. If Verizon bought Netflix, it would be able to solve a number of its long-term legacy issues, revive growth, and bring in content, thereby positioning itself as a leader in content delivery. 

Verizon shares have struggled over the past three years, falling by nearly 3 percent, while the S&P 500 has gained nearly 26 percent. And T-Mobile surging by nearly 102 percent. A Verizon/Netflix deal could revive the missing growth component and bolster Verizon's struggling stock. 

VZ Chart

VZ data by YCharts

Strategic Importance

The recent T-Mobile announcement shows why Verizon needs to act fast in its content acquisition quest and why it could be strategically important. It would establish Verizon as a major player in content creation and content delivery. Should Verizon attempt to acquire Netflix, it would bring much-needed content to its existing portfolio while working Netflix into a bundle package offering the service to its wireless and FiOS subscribers.

The potential acquisition could also help to revive top-line revenue growth that has slipped away from Verizon in recent years. Indirectly, it would also allow Verizon to get in front of T-Mobile customers since T-Mobile users would now also be using Netflix. 

Growth Opportunities

According to the website Statisa, by the year 2020, there will be nearly 180 million users in the U.S. using their phones to watch video content. Moreover, Statisa estimates there will be approximately 124.2 million users in the U.S. watching video from their tablets. The opportunities in video via a device has a clear growth trajectory, and Verizon would be able to offer a service plan with Netflix as part of the bundle for its wireless and FiOS customers.

Statista also estimates that smartphone video penetration is expected to reach 74 percent by the year 2020. The trend toward watching video and content on a streaming device is heating up. 5G also holds promise to help push video viewership higher, because of the increased speed the next generation of wireless technology is set to offer. 

Structuring A Deal

With a market cap of roughly $80 billion and an enterprise value of nearly $82 billion, Netflix would not be a cheap acquisition for Verizon. Verizon already has long-term debt of nearly $120 billion, but with a market cap of $193 billion, Verizon could use its equity as currency and do a cash-and-equity deal for Netflix, giving investors Verizon stock and cash in exchange for Netflix. Verizon would likely to have issue debt to get the cash component because currently its cash, short- and long-term investments only amount to $5.5 billion. 

VZ Cash and Short Term Investments (Quarterly) Chart

VZ Cash and Short Term Investments (Quarterly) data by YCharts

Strategically, a move by Verizon to acquire Netflix would solve a lot of problems for Verizon. First, it would address the company's growth issues, with revenue that has been struggling to grow on a year-over-year basis for many years. Second, it would solve Verizon's race to acquire content, where it has been slowly falling behind AT&T. Finally, it could potentially bring more subscribers to Verizon, and give it an international footprint. 

Such a deal would be a big move for Verizon to make, but it would solve many of its legacy growth problems. It would also elevate Verizon into another arena, and would really stick it to T-Mobile. 

Michael Kramer is the Founder of Mott Capital Management LLC, a registered investment adviser, and the manager of the company's actively managed, long-only Thematic Growth Portfolio. Kramer typically buys and holds stocks for a duration of three to five years. Click here for Kramer's bio and his portfolio's holdings. Information presented is for educational purposes only and does not intend to make an offer or solicitation for the sale or purchase of any specific securities, investments, or investment strategies. Investments involve risk and unless otherwise stated, are not guaranteed. Be sure to first consult with a qualified financial adviser and/or tax professional before implementing any strategy discussed herein. Upon request, the advisor will provide a list of all recommendations made during the past twelve months. Past performance is not indicative of future performance.

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