Saturday, February 17, 2018

Vox Popoli: Netflix and the credit bubble

Netflix has always been a shady operation, in my opinion. Their streaming business depended entirely upon someone else being forced to pay for most of the enormous bandwidth costs that their delivery system required. They got away with that one somehow, but I think it is unlikely that they'll be able to get away with alleged accounting practices that sound creative even by Hollywood's infamous standards.

This almost-TV network will pay at least twice what anyone else will for original content, whether you are selling a TV series, film – or even a stand-up comedy special.

The modern version of this scheme is enabled by a very unique form of accounting hocus-pocus, used by the almost-TV network.  This accounting magic allows the company to claim that it is generating a “profit”.  The reality is that this company burned through about $2 billion of cash last year, and will burn through another $3-4 billion in 2018.

This almost-TV network simply depreciates the value of all these films and shows over a far longer period of time than everyone else ever has.  The company claims that their definition is legit, because the content is in their own “library”.

This almost-TV network is the 1st to deliver its content in a unique way, using relatively new technology – they were the first company to do it this way on a large scale.  This means the Feds presently have no basis to challenge the almost TV-network on its suspect accounting, because the new “definition” has not been proven wrong.  Only the ultimate financial collapse of the company will do that.  In the meantime, the accountants and auditors go along for the ride and happily collect their fees, as they always do.

The almost-TV network tells its stockholders that it can taper down this spending spigot in the future, to generate actual cash.  This is an obvious lie, in 2 ways.

If the almost-TV network ever cut spending and new content, many subscribers would drop them like a hot potato.  Second, the company is making many big public commitments to spend money like drunken sailors, for several years into the future.  The huge deal they made this week – that is just to the head guy alone.  It doesn’t count a penny towards what it will cost to make his shows.

This sort of corporate shadiness is yet another sign that the end of the most recent credit bubble is in sight. A commenter on the site had some interesting insights on the Netflix situation by making two historical comparisons.

The AOL fraud was based on an accounting scam where they capitalized all marketing expenses. All those CD-ROMs that you got through the mail and in magazines was claimed by AOL as a "research and development" cost. So could be amortized over seven years instead of charging them against that years accounts. So AOL not only never made any profit but had actually lost huge amounts of money. Which Time Warner discovered the hard way after the merger. Many billions of losses. Its not like everyone in the business at the time did not know that AOL was based on fraud.

The Softkey/Learning Company fraud was based on acquiring larger and larger software companies and greatly inflating the "goodwill" of the acquired companies. So their balance sheet looked great and the companies they acquired were cash rich and had great cash flows. But the scam needed bigger and bigger companies to acquire, like all Ponzi schemes, and when they ran out of companies to gobble up they sold the whole festering sack of shit to the nearest clueless idiot with money. In this case Mattel. Who a few years later had to write off $3 billion in losses and almost went bankrupt.

A friend of mine was involved with a very large corporation that grew through credit-funded mergers; his company was acquired several steps before the final end game. The company had billions in revenue and was worth many multiples more when it finally imploded. It was an extremely educational experience to be able to witness the whole thing gradually play out from the outside.