4 Reasons Apple Should Buy Netflix Today

Peter Sayles |

Four Reasons Apple Should Buy Netflix Today

Apple is one of the most profitable company ever created in history.

The amount of cash it pumps out is mind blowing.

Just take a look at some of these numbers.

Keep in mind, Apple reported its Q3 on July 31. This was supposed to be a “down” quarter for Apple as it gears up for Q4 sales. And the launch of its newest edition iPhone.

But Apple beat almost all analyst estimates. And it’s stock rose nearly 6%.

Warren Buffet’s company – Berkshire Hathaway (BRK-B) made out with a cool $2.6 billion after Apple’s stock popped.

Berkshire Hathaway owns over 175 million shares as of March. And if we knew anything about Buffet, he’s not going to sell because Apple pumps out that much cash.

How much cash you might ask?

Apple had net sales of $53.2 billion in the quarter. They churned out over $11 billion in free cash flow – cash that’s left over after capital expenditures.

Think about that.

Apple pumped out more free cash in one quarter than the entire market cap of Fitbit 10x over.

Annualized that’s about $44 billion in free cash this year. That is freaking INSANE.

The $44 billion in just free cash is more than the entire market cap of Ford… with an extra $5 billion as a buffer.

However, a major reason investors aren’t rewarding Apple with a better multiple is because of the cash on its balance sheet.

Apple doesn’t have much to do with that cash to move the needle on its business. Except one thing.

Buy Netflix.

Here are our 4 reason Apple should buy Netflix as soon as possible. It will push Apple well over the $1 trillion market cap. And it will keep it’s “biggest company” throne for at least the next 5 years.

Analysts expected Apple to slow down. After all, it did reach $1 trillion in market cap.

So here’s five reasons Apple should buy Netflix.

       1. Apple will become the largest content creator

Apple announced late 2017 that it will invest $1 billion in acquiring and creating original content. All in an effort to compete with Netflix, Amazon, Hulu, HBO, and everyone else.

Why would Apple want to compete with these companies? There’s no guarantee the $1 billion it spends will result in successes.

Worst case, all the shows flop. Apple will be known as the company that can’t succeed at anything besides iPhones, Mac computers, and tablets. (It’s Apple Watch wasn’t considered successful even though it’s the leader in smartwatch sales. And its TVs were also considered flops.)

Best case, the $1 billion creates one to two original hit shows. Where does that get them?

It not only forces the users to pay for another platform to watch. But it’ll force Apple to double down and spend an ever increasing price to compete.

For example, each HBO’s Game Of Thrones episode in season one cost $6 million. It increased to $7 million per episode in season two. Season six episodes cost $10 million a piece. And it is expected Game Of Thrones’ final season will cost about $15 million per episode.

Netflix spends $10 million per episode for The Crown. And $8 million per episode for Stranger Things.

Here’s Statista on original content spend (excluding sports) in 2017:

Media-Content-Race

Why does Apple want to compete with that? It doesn’t need to.

Overall, Netflix plans to spend $8 billion per year in original content in 2018. Hulu spends $2.5 billion. Amazon spends $5 billion. HBO spends $2.5 billion.

Netflix, Hulu, and Amazon alone are expected to triple their spend on original content by 2022.

Each have their own loyal audiences. Apple buying Netflix will get access to over 5,500 movies and TV shows. It only has to let Netflix do it’s own thing. After all, Netflix aims to create more than 800 original content series in 2018.

It doesn’t have to compete on its own. It shouldn’t.

       2. Apple & Netflix will have billions of dollars in marketing synergies

First of all, Netflix has over 130 million subscribers. (Who knows how many households it actually reaches with people sharing accounts). Netflix expects to grow subscribers another 5 million next quarter. It’s growth potential is still massive.

Having Apple buy them would be a massive marketing opportunity for both companies.

As we’ve said before, Apple’s watch and TV were considered flops – even though they still do billions of dollars in sales per year.

Maybe Apple was a little early with their watches. Maybe people didn’t see the true value of their TVs over Samsung, LG, and the like.

But owning Netflix opens up millions of marketing possibilities.

Someone buying an Apple TV can get five years of free Netflix (an arbitrary number of years).

Maybe it’s the other way around.  

Netflix users can get 20% (or more) off all Apple watches or TVs. Or laptops, macs, iphones. You name it.

Amazon does this today with Whole Foods. Amazon Prime members get 5% off all items in Whole Foods. Certain stores offer greater discounts on select items.

Apple’s margins are insane. If it wants to grow and become a bigger part of the consumers life (more so than it is now), it could forego a couple percentage points of margin to grow.

We don’t need to expand upon this idea… let your mind go wild.

This is a massive catalyst for Apple.

Meanwhile, Netflix barely earns any money. It trades at 230x its last year’s earnings (as of August 2018). That’s an insane valuation.

Who better to provide the capital than the greatest cash gushing machine in the world?

Think about it. Apple earns free cash per quarter than Netflix spends in original content per year.

This is an obvious pair.

       3. Apple investors want it to use its cash

Apple has over $240 billion in cash and bonds on its balance sheet.

Investors have been waiting for a big time acquisition. Investors – long or short – know Apple is more of an iPhone company than anything else. iPhones make up 55% of its revenue.

It needs to diversify. And investors know that Tim Cook is clearly not as visionary as Steve Jobs.

Tim Cook is doing a great job rewarding shareholders with buybacks and dividends.

Apple has a $100 billion buyback. It sees the best use of its cash in the form of buying back shares.

Buybacks can be a very valuable financial tool. If a company buys back its shares when they’re undervalued, then it rewards its shareholders. But if a company buys back its shares when they’re expensive, then it’s destroying capital.

The only problem with buybacks is that CEOs are horrible capital allocators when it comes to buybacks.

Here’s a chart of buybacks from Yardeni Research.

S&P-Buybacks

You can see that corporate buybacks peaked in 2007. Right before the Great Recession.

Right before stocks plummeted more than 50%.

If CEOs were good capital allocators, buybacks should’ve been minimal between 2005-2007. And increased during 2008-2009 when stocks fell by more than 50% across the board.

So where are we today with stock buybacks?

Oh, you know… past the 2007 peak. Right when stocks are the most expensive they’ve been by dozens of measures.

We’re not against Apple buying back shares at these prices. But we think there are so many other ways to reward shareholders.

Apple would be better off increasing their dividends faster than buybacks in our opinion.

Shareholders see dividends reach their hands. Buybacks don’t.

Buying Netflix will shift the sentiment from Apple being trapped between a value and growth stock back into being a growth company.

There’s no reason Apple needs to fall back into value territory as Amazon continues penetrating every market kicking ass and taking names.

Apple has a chance to shift the paradigm in the content game. It should use it’s cash (and debt + share issuance) to buy Netflix.

(Honorable mention: Apple spending hundreds of millions – if not billions – of dollars on a new campus isn’t the best use of capital either.)

       4. Apple will remain the largest company in the world

Apple, like Amazon, wants to be in almost every part of the consumers life.

Amazon gave up pretty quickly on trying to compete on phones. So Apple wins there.

But Amazon crushes the smart speaker market with its Dot and Echo. About 1 in 6 Americans own a smart speaker. That will continue to grow.

Amazon is beating Apple on content too (see #1).

If Apple wants to remain a bigger company than Amazon, it has to make a large acquisition. There’s only so many people that can own an iPhone. Not everyone can upgrade their phone every two years for $1,000.

Meanwhile, Amazon is penetrating nearly every industry. It’s a leader in cloud storage. Ecommerce sales. Smart speakers. And penetrating the food (Whole Foods) and healthcare (teaming up with JPMorgan and Berkshire Hathaway) among other industries.

Amazon has dozens of avenues to grow way past $1 trillion. Even though Apple was the first to reach that benchmark.

If Apple continues to make small purchases, Amazon will surpass Apple as the largest company within 12 months.

But purchasing Netflix will keep Apple as king of the hill.

What Price Will Apple Have To Pay To Buy Netflix?

Apple will have to pay a pretty penny.

It’ll easily be one of the largest acquisitions in history (at today’s valuations).

It’s share price will fall at whatever valuation it pays. But long term it’ll be worth it.

Netflix’s market cap is $150 billion at of the time of writing. It’s trailing price-to-earnings ratio (the price which investors are paying for last year’s earnings) is at 230x.

In all honesty, we think Netflix’s valuation is way too high. And we think buying Netflix outright today is a horrible risk to reward situation. We advise everyone to steer clear.

But let’s, for argument sake, say Apple buys Netflix at $300 billion.

How would Apple pay for Netflix?

Well, let’s just take a look at its financials again.First, it has over $240 billion in cash and bonds (treasury and corporate bonds) on its balance sheet.

It could use $150 billion in cash to pay for almost 50% of it. And still have $90 billion on its balance sheet leftover to do what it pleases.

Great. $150 billion left to come up with to pay for Netflix.

It could then issue $100 billion in debt at near zero interest rates. This will likely happen in Europe where rates on many corporate bonds are negative still.

Apple issuing $100 billion (across however many number of bonds at different maturities) could be the easiest thing it it’ll ever do. It’s issued billions before, no problem. And investors would eat that up in a heartbeat.

Think about it. Investors overbought 100-year Argentinian, Ireland, and Austria bonds. All below 3%. We think Apple is a lot safer over the next 10-20 years than these countries over the next 100.

You think investors wouldn’t buy Apple issuing 20 year bonds at 3%? Get outta here. You’re wrong.

Even if it pays 3% on those bonds… it’ll only pay $3 billion per year in interest. Apple makes $3 billion every 23 days.

Okay. Then what? Just $50 billion left.

It could then issue the rest in stock.

The cash it generates could be used for the buybacks to pay for the rest. We don’t need to go into any of the other logistics.

Especially because it doesn’t include any of the growth or marketing synergies we talked about in point number #2.

Apple Buying Netflix Just Makes Sense

Apple wants to become a content creator. It’s spending $1 billion to create its own original content.

But it shouldn’t focus on playing catch up. Original content is now way too competitive. And based on Apple’s recent product launches, it would just make sense to buy a larger competitor.

Plus, Apple needs to diversify away from being an iPhone company.

What better way to diversify AND become the content king than buy Netflix.

Yes, the valuation will be one of the biggest in history. But Apple can easily afford it.

It’s the greatest cash generating machine in the history of the world.

And in today’s environment of o% interest rates, now is the perfect time for Apple to issue billions in debt to pay for Netflix. It would essentially be buying Netflix for a discount considering the interest on that debt would be minimal.

C’mon Tim Cook. You’ve got this.

Steve Jobs would be proud.