Market's are not appreciating the strength of the Netflix-WBD merger, which creates a giant with a 33% market share.
Jumping from a mail order DVD minnow to a giant media conglomerate with about 35% of the US streaming market in about two and a half and decades! Nope, this not a Hollywood studio blockbuster but the real story of Netflix.
Netflix (NFLX) $85 - understanding the Warner Brothers Discovery (WBD) acquisition. In my opinion, the set up is very good for long-term investors who'll benefit from a massive $100Bn (2027) revenue behemoth (Netflix+WBD) in streaming and media. This amounts to about 430Mn unique subscribers in 2027, or 33-35% of US viewing and subscribers and about 26% worldwide. A market share of that size would command a premium for sure. But investors must handle the execution risks, the debt and the additional scrutiny of the proposed acquisition. I would think that during the course of the acquisition and its closure the stock could dip to the low $70s. I'm holding for now, but would like to buy it around $70-$75. The best strategy would be to buy it in installments.
Netflix just posted Q4 and 2025 earnings with good operating and financial performance, with Q4 revenue up 17.6% YoY and operating margins expanding over 200 bps to 24.5%. The company closed the year with excellent GAAP operating margins of 29.5%. Advertising revenues jumped 2.5x to $1.5Bn for the year. I believe this growth will continue and ad revenue will take a larger piece of the pie, especially with event and sports programming becoming a target and focus area.
The forecast for 2026 is good with revenues increasing 15.3% YoY in Q1 and between 12% to 14% for the full year to between $50.7Bn and $51.7Bn, with climbing ad revenues. 13% revenue growth is fair for a company of that size in a saturated and competitive streaming market, and it comes with better margins as Operating margins are expected to expand 200 bps to 31.5%.
Acquiring WBD for $72Bn gives it an additional $38Bn in revenue but at significantly lower margins. Still, the combined behemoth inches to over $100Bn in revenues in 2027. It will be less profitable but will strategically reduce competition with 33-35% market share, and in my opinion improve content and Netflix’s profile with HBO’s content.
Increased prices or tiered pricing will move the operating margins back in the right direction over time.
Netflix is also spinning off the dying legacy businesses into Discovery Global to avoid being stuck with "declining" assets and to ease antitrust concerns, such as CNN, TNT sports and the
Linear Cable Channels, Discovery Channel, Food Network, HGTV, TLC, TBS, and TNT.
In my opinion, the all cash deal is the right way to go and Netflix does generate enough operating cash to cover interest expenses and then some.
The pending all-cash $72 billion acquisition of WBD’s streaming and studio assets creates about $80Bn in total debt, which will cost $7Bn a year to service. Besides the scrutiny that comes with a hostile attempt from Paramount for WBD, this is likely to end up in court/litigation and that's a huge distraction. More importantly this will become a different business dealing with a studio, gaming, the Marvel library, marketing and merchandising.
It’s trading at under 8x forward sales, and 27x forward earnings, which is OK and close to historic averages. But Netflix’s premium valuation was always based on a relatively asset light, single, focused model, and this will no longer be the case - they’re now dealing with a studio, gaming, the Marvel library, marketing and merchandising. Initially, this may be priced closer to 20-22x earnings unless the execution is terrific. Still, even if Netflix manages 11-12% in net income margins in 2027, and 14-15% in 2028, it earns about $2.50 to $2.75 in 2027 and $4.25 to $4.75 per stub in 2028. I would pay 25x earnings for a market leader with 35% market share, and that equates to a price of over $110 by early to mid 2027. Assuming we buy between $70 and $85, It would be a bumpy ride but worth it for a 30 to 45% return over 15 months, and if they execute well I think we can easily see 18-20% returns per year for the next 5. There wouldn't even be a close second in the entertainment business with that kind of content, reach and influence.
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