Icahn vs. Netflix: Here we go

Well, that didn’t take long. Whatever pretense may have held last week that Carl Icahn’s accumulation of a 9.98 percent stake in Netflix was anything other than a hostile raid on the company and its cash flow barely survived the weekend. On Monday, the Netflix board announced their unanimous adoption of a “shareholder rights plan” — otherwise known as a “poison pill” — that will kick in if and when “a person or group acquires 10% …or more of Netflix’s common stock in a transaction not approved by Netflix’s Board of Directors.”

If triggered, the plan would grant shareholders the right to buy “one one-thousandth of a share of a new series of participating preferred stock at an exercise price of $350 per Right,” for each share of common stock owned — essentially flooding the market with new shares, making it harder and more expensive for someone to accumulate a controlling stake in the company. The plan would also be triggered if an institutional investor acquires 20 percent of more, a provision designed to prevent Icahn from working with other shareholders to gain control.

Icahn immediately denounced the move as  “an example of poor corporate governance,” his first direct criticism of Netflix management. “As one of the company’s largest shareholders we are concerned about the poor corporate governance at Netflix that these and other actions reflect,” Icahn said in a statement filed with the SEC. Here we go.

Icahn made it clear in his comments last week that he thinks Netflix is an attractive acquisition target and even name-checked some potential buyers, including Microsoft, Google, Verizon and Amazon. And he clearly would like to see management hang out a “for sale” sign.”

As BTIG Research analyst Rich Greenfield argues persuasively in a blog post, however, the case for a technology company buying Netflix, including those mentioned by Icahn, is not a strong one:

Each of the companies in this category could utilize their strong balance sheet and global cross-marketing ability to accelerate Netflix subscriber growth (squash competition), scale up its investment in content, particularly originals, as well as existing international market presence.  However, subscription streaming of premium video content is simply not a core component of any of these companies, meaning the question is not how these companies could help Netflix, but how owning Netflix would help them sell devices from smartphones to tablets to gaming systems.

We have a very hard time understanding why any of these companies would spend billions to buy Netflix when you get all the benefits without the cost today, especially given Netflix’s low margins.  If one really thought they could drive enough market share gains by making Netflix proprietary to their devices/ecosystem or substantially “better” (albeit not sure what that means) on their platform, acquiring Netflix could be compelling.  However, that scenario is quite difficult for us to envision, as Netflix’s key to success has been putting the consumer first with ubiquitous distribution, rather than being exclusive/better on specific devices/platforms.

As I noted in my own post last week, however, Icahn is not likely to take “no sale” as an answer. Barred a quickly killing from flipping his shares in an acquisition, Icahn is likely to look for other ways to squeeze a return out of his investment, even if that means hollowing out Netflix for the long run in order to harvest more cash in the short run.

That will almost inevitably bring on a showdown with management. And we may just have heard the first shot fired.