Moody's Investors Service upgraded Netflix, Inc.'s (NASDAQ: NFLX) corporate family rating (CFR) and senior unsecured notes to Ba3 from B1. The probability of default rating (PD) was upgraded to Ba2-PD from Ba3-PD. The rating upgrades are due to our expectations for continuing strong momentum of global subscriber and revenue growth for the intermediate-term, and our expectation that 2018 will be the negative cash flow trough for the company. The credit metrics are expected to remain weak relative to the Ba3 rating through 2019, but we expect metrics, particularly debt-to-EBITDA leverage (including Moody's standard adjustments) to improve and become more consistent with the rating in 2020. We don't expect the company to generate cash flow across the whole company over the intermediate-term. We anticipate that relatively mature markets like North America, that are cash flow positive, will be paced by the continued ramp up of self-produced and owned original content spending. In addition, the company will continue to spend on licensed branded original content to meet the growing global diverse demographic television entertainment appetites and the volume needed to keep them continuously engaged on the platform. The outlook is stable.

A summary of today's action follows:

Affirmations:

..Issuer: Netflix, Inc.

.... Speculative Grade Liquidity Rating, Affirmed SGL-1

Upgrades:

..Issuer: Netflix, Inc.

....Corporate Family Rating, Upgraded to Ba3 from B1

....Probability of Default Rating, Upgraded to Ba2-PD from Ba3-PD

.Senior Unsecured Regular Bond/Debentures, Upgraded to Ba3 (LGD4) from B1 (LGD4)

Outlook Actions:

..Issuer: Netflix, Inc.

....Outlook, Remains Stable

RATINGS RATIONALE

Netflix's continues to successfully grow its global subscriber base on the back of a very simple platform that provides frictionless access on demand to a multitude of exclusive original and licensed second run programming on any screen. It has launched in all major international territories except China, and is aggressively growing its own self-produced content which continues to require significant investment and working capital beyond what its internal cash flow generation. The deficits are being funded completely with new debt issuance, resulting in growing debt levels and high debt-to-EBITDA leverage which was about 7.3x as of December 31, 2017. "However, the company's growth is completely organic and we expect annual revenue growth to be sustained at or over 20% over the next three years," stated Moody's Senior Vice President, Neil Begley. The cost of this growth is flowing through the company's income statement which places a drag on results as compared to growth through acquisition. We believe that this drag will dissipate as the subscriber scale increases and leverage will decline to comfortably under 5.0x by the end of 2020.

"In our view, the company is on a trajectory to reach over 200 million subscribers by the end of fiscal 2021," stated Begley. We expect the steady subscriber growth, together with gradual price increases will outpace the increasing investment in content and the upfront working capital spending on self-produced and owned programming, resulting in steadily improving margins. We believe that those margins will need to grow from the 7% range of 2017, to the low to mid 20% range to generate positive cash flows. "As a result, we forecast the company becoming cash flow positive in approximately five years," added Begley. If subscriber growth slows unexpectedly, we anticipate that management will slow its content spending growth and positive free cash flow might be achieved sooner as working capital needs decline.

Given the high current leverage and negative free cash flow today, the Ba3 ratings prospectively consider the company's strategic success and future opportunity. "We see little competitive and operational risks and barriers to meeting our forecasts for the company other than unforeseen capital market disruption that may interrupt capital raising and slowing content spending in the future," stated Begley. The company's debt maturities appear manageable over the next five years, with only about $500 million maturing in 2021, and around $700 million in 2022. The company maintains large cash balances consistently above $1 billion, and more recently above $2 billion, and has a $500 million unused revolving bank facility. Debt is expected to fund the negative cash flows until margins more than triple and breakeven cash flow generation is accomplished. We believe this could add as much as $15 billion of debt to the company's current approximate $6.5 billion debt load, though with a significantly moderated level of debt leverage.

We believe the company's strategy to procure its own content has positive long-term implications as it builds its owned library assets as compared to pure licensing of content, which we believe is already providing scale benefits for the company. These include providing proprietary value to consumers, and creating a valuable asset base for bondholders as the owned library grows. With expanding distribution across the world, Netflix has the capability to create content at a fixed cost and scale it across its near global footprint.

The stable outlook reflects our expectation that Netflix's operating results will improve and the company will de-lever through revenue, EBITDA and margin growth. We anticipate that credit metrics should become less volatile over time since no new markets are being launched, which have been a significant drag on margins in the past.

Another upgrade of the company's credit rating is unlikely in the near term given the steady increases in debt to fund expansion of original content production until original content production costs and working capital use level off and free cash flow generation is evident. However, ratings could be upgraded as: 1) Netflix's adds newer markets to its mature profitable markets footprint; 2) it continues to expand subscriber numbers and margins, helping to fund increases in content spend working capital such that it can maintain its significant lead on its content offering relative to competitors; and 3) sustaining debt-to-EBITDA leverage below 4.0x. Higher profitability would be needed for a higher rating along with a strong commitment from management to sustain stronger credit metrics given the company's view that an optimized capital structure for the company includes a ratio of 25% debt to enterprise value.

Moody's would consider a downgrade to Netflix's ratings: 1) if consistent and continuous margin improvements fail to be achieved such that negative cash flows persist at current high levels; 2) leverage remains stubbornly high and are not on a trajectory to decline to below 5.0x; 3) if there are expectations for deterioration in subscriber numbers due to competitive pressures or operational setbacks; and 4) if liquidity issues arise due to capital market access issues and capital needs exceeded the company's cash balance and revolving credit facility availability.

The principal methodology used in this rating was Business and Consumer Service Industry published in October 2016. Please see the Rating Methodologies page on www.moodys.com for a copy of this methodology.

Netflix, Inc., with its headquarters in Los Gatos, California, is the world's leading subscription video on demand ("SVOD") internet television network with three operating segments: Domestic streaming, International streaming and Domestic DVD. Domestic and International streaming segments derive revenues from monthly subscription services consisting of streaming content over the internet, and the Domestic DVD division derives revenues from monthly subscription services consisting solely of DVD-by-mail. Revenues for the year ended 2017 was approximately $11.7 billion.