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Netflix to Stop Blaming Verizon, Rejects Split Proposal

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Netflix Inc. (NFLX - Free Report) recently said that it will stop blaming Verizon’s broadband service for the slow streaming of shows, effective Jun 16, 2014. The move comes after Verizon threatened to sue Netflix over the error messages that the streaming provider had sent to its customers.

We believe that this move will not only help in lessening the tension between the two companies but also help Netflix to avoid an unnecessary legal hassle. Although Netflix had blamed Verizon for the slow streaming of its videos, it would have been difficult for the company to prove so in the court.

Meanwhile, Netflix shareholders recently voted down a proposal of appointing an independent chairman. Currently, Reed Hastings holds both the positions of Chairman and Chief Executive Officer (CEO).

We believe that the vote against the proposal reflects shareholder confidence in Reed Hastings’ ability to steer Netflix toward further growth. Share price of Netflix has increased 16.52% over the last 6 months despite growing headwinds like higher content costs and problems with net neutrality.

Of late, Netflix has been vocal against Internet Service Providers (ISPs) for extracting fees from content producers as well as intermediate distributors such as Cogent, Akamai Technologies (AKAM - Free Report) and Level 3 Communications for faster delivery of data and services.

However, Verizon and Comcast Corp have unanimously stated that video delivering companies like Netflix should bear the cost of a faster Internet service. Netflix, on the other hand, holds a different view on this issue. The company asserted that the cost should be borne by ISPs as consumers using a broadband connection for viewing online videos are not being provided with the service they have been promised.

Netflix shows consume approximately 30.0% of peak Internet traffic (particularly during the evenings) in North America. Hastings stated that Netflix will continue to pay for directly accessing the broadband network of ISPs in the near term. This will help it to increase customer engagement and maintain subscriber base amid intensifying competition from Amazon Prime and HBO.

However, the fees will escalate operating costs. Netflix is already facing significant headwinds related to rising content costs. The company has $7.25 billion due for content streaming obligations, out of which $2.97 billion needs to be paid within the next 12 months. After that period, Netflix needs to pay $3.27 billion within the next three years.

In such a scenario, we believe that the shareholder vote in favor of not splitting the Chairman and CEO positions is a big boost for Hastings as it will help him to take decisions independently. His policy of international expansion is a key growth driver for Netflix in the long run.

Moreover, we believe that Netflix’s recent price increases (for both domestic and international new users) will help the company to offset these higher expenses. Further, the company’s ever-expanding content portfolio and focus on improving customer engagement will continue to boost subscriber base.

Currently, Netflix has a Zacks Rank # 3 (Hold).

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