Netflix prepares for a borrowing spree to bankroll Warner Bros. bid

Netflix plans to take on substantial new debt to finance the acquisition of a majority stake in Warner Bros. Discovery Inc., a deal valued at $72 billion.

The streaming company, which has significantly improved its balance sheet since the pandemic, is positioned to raise its offer in a potential bidding contest while maintaining its investment-grade status.

"Netflix's credit profile really turned around," said Stephen Flynn, an analyst covering telecom and media debt at Bloomberg Intelligence.

The agreed-upon acquisition includes $59 billion in temporary bank debt. Netflix Inc. intends to replace this with up to $25 billion in bonds, $20 billion in delayed-draw term loans, and a $5 billion revolving credit facility. The company plans to use cash flow for some repayment.

The debt load may increase as Paramount Skydance Corp. launched a hostile takeover bid for all of Warner Bros. at more than $108 billion including debt, exceeding the Netflix offer by approximately $26 billion.

Analysts at Morgan Stanley, led by David Hamburger, view the rising debt levels as a risk for Netflix investors. The company, rated A by S&P Global Ratings and A3 by Moody’s Ratings, is vulnerable to a downgrade to the BBB tier, according to their note. They recommend selling the company’s 2034 and 2054 notes due to potential new debt issuance and rating cuts.

Other risks include executing the large-scale media deal, potential regulatory intervention, and the risk of paying a $5.8 billion breakup fee if the Paramount bid succeeds.

Despite these risks, many analysts and investors consider them manageable. Risk premiums on Netflix debt showed little change recently. Moody’s affirmed Netflix’s A3 rating, citing strong operating performance and the benefits from acquiring valuable intellectual property such as Harry Potter, HBO, and DC Comics. The rating agency changed the company's outlook from "positive" to "stable," reflecting a slight increase in acquisition risk.

Bloomberg Intelligence calculates Netflix’s total debt at approximately $75 billion if the deal closes on the latest terms, up from about $15 billion currently. The merged entity is expected to generate about $20.4 billion in earnings before interest, taxes, depreciation, and amortization (EBITDA) next year.

This level results in a net debt-to-EBITDA ratio of about 3.7 times. By 2027, expected earnings growth should reduce the leverage ratio to the mid-2x range, a common level for investment-grade companies, according to BI.

"Overall, Netflix is a strong credit," BI's Flynn said. "They’ve got growing revenue, growing Ebitda, and growing free cash flow, so the pro-forma company can de-lever quickly."

Netflix’s increased borrowing recalls pre-pandemic debt accumulation, but the company’s current position is stronger. Netflix first issued junk bonds in 2009 during its transition to streaming. Its debt peaked at $18.5 billion while it produced original content. The company generated over $6.9 billion in free cash flow annually starting in 2023 and received investment-grade upgrades.

"Netflix has earned the right to take on an acquisition of this size," said Jim Fitzpatrick, head of US investment-grade credit research at Allspring Global. "Their balance sheet has plenty of capacity to accommodate this."