Moody's Rates New Netflix (NFLX) Unsecured Notes at 'B1'

Moody's Investors Service assigned a B1 -- LGD4 rating to Netflix Inc.'s (Netflix)(Nasdaq: NFLX) new senior unsecured notes of benchmark size. Proceeds from the issuance will be used for general corporate purposes and to finance the company's business plan, including increasing investments in original programming and accelerated expansion in new international territories. The new senior unsecured notes will rank pari passu with the company's existing $500 million 5.375% senior unsecured notes due 2021, $400 million 5.75% senior unsecured notes due 2024 and other unsecured non debt obligations at Netflix's operating subsidiaries. We estimate that pro forma for the new notes issuance, debt-to-EBITDA (incorporating Moody's standard adjustments) as of 12/31/2014 will be lower than our 6.0x sustained leverage ceiling for the B1 rating. However, based on our expectations for weaker operating results in 2015 and an increase in absolute debt levels, we anticipate that for 2015, leverage will likely exceed levels appropriate for the B1 rating, particularly if the company issues more than $1 billion of new debt this year, which may be needed to sustain ample liquidity through 2017, and which could result in gross debt-to-EBITDA leverage as high as 8.0x. The company's B1 CFR and stable outlook are supported by our expectation that its operating results will improve and leverage will decline through EBITDA and cash flow growth starting in 2016, but particularly in 2017, at which point Netflix could be well-positioned in its rating category. Netflix's B1 Corporate Family Rating (CFR), Ba3-PD Probability of Default Rating and SGL-1 Speculative Grade Liquidity rating remain unchanged. The outlook remains stable.

Assignments:

..Issuer: Netflix, Inc.

....Senior Unsecured Regular Bond/Debenture (Local Currency), Assigned B1, LGD4

RATINGS RATIONALE

Netflix's B1 CFR is supported by the company's position as the largest content streaming subscription service in the world, with a sizeable subscriber base and a market leading streaming product offering. The rating also reflects expectations for higher leverage and negative free cash flow generation resulting from significant cash outlays for content costs and more rapid expansion. The rating incorporates key business risks, which include business concentration, and risks associated with low barriers to entry and the potential for disintermediation from competitors in the distribution of content. The company's past predisposition for share repurchases (having repurchased almost $1 billion from 2007 to 2011), significant subscriber churn and relatively low EBITDA margins compared to traditional media companies continue to weigh on its credit profile, though we do not anticipate that the company will pay any dividends to shareholders or buy back shares over the intermediate-term.

Netflix has successfully developed a digital business model and has evolved into the dominant online content streaming company in the US and some international territories from a pure physical DVD rental subscription service, as evidenced by strong double digit top-line growth in total revenues over the last eight quarters. However, Netflix's business continues to be in transition with the next few years being crucial to its developing a profitable streaming business across various international territories that can balance potential saturation in the domestic segment and fully offset the declining profits from the high margin US DVD business. Its B1 CFR reflects the execution risk associated with this transition, especially in the context of a broad range of emerging disruptive competitors with low entry barriers, and the evolving digital content distribution landscape that may hamper the subscriber growth it needs in order to successfully build and sustain a streaming business model, strong enough to withstand competitive pressures, and balance significant investment demands.

Rating Outlook

The stable outlook reflects our expectation that Netflix's operating results will improve and the company will de-lever following hitting peak leverage in 2015 through EBITDA and cash flow growth in 2017, recognizing that over the near-term, debt to EBITDA will likely exceed levels typical for the B1 rating.

What Could Change the Rating - Up

Given the material increase in permanent debt and change in fiscal policies by the company's management, an upgrade is unlikely in the near term. However, ratings could be upgraded if Netflix's mature markets can fund new market launches and increases in content spend such that it can maintain a significant lead on its content offering relative to competitors, while sustaining leverage below 4.0x. A strong commitment from management to a higher rating will be necessary for an upgrade.

What Could Change the Rating - Down

Ratings could be downgraded if leverage is sustained above 6.0x for an extended time frame (beyond 2016). The company's rating may face downward pressure if it experiences domestic streaming subscriber growth of under 4 million per year until it reaches above 40 million US subscribers, and is unable to maintain domestic and equally mature markets' margins above 12%. Expectations for deterioration in long-term growth due to competitive pressures or operational setbacks and liquidity constrains could also lead to a downgrade.

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