Credit Suisse’s Omer Sheikh believes that Disney cannot deliver annual synergies to justify Netflix’s price tag

Published By: Ken Bock on January 10, 2017 10:58 am EST

Since last October, there have been heavy speculations related to a potential acquisition of Netflix, Inc. (NASDAQ:NFLX) by Walt Disney Co (NYSE:DIS). The video streaming company’s shares received some boost from these assumptions.

While the highly unlikely transaction seems possible to analysts like Deutsche Bank’s Bryan Kraft and Bernstein’s Rodd Juenger, others including Brean Capital’s Alan Gould and the billionaire investor Bob Olstein think that Netflix would be like a white elephant for Disney, consuming billion of dollars annually with limited returns on top of its hefty price tag.

Today, Credit Suisse analyst Omer Sheikh published a research note giving his view on the potential merger between the two media behemoths, somewhat agreeing with Mr. Gould and Mr. Olstein. He does not believe that the deal presents any value for Disney, providing two main points:

First, he highlighted that the media industry trends are improving which is moderating the “strategic pressure” to takeover a distributor over the short term.

Second, he believes that “the dilution to EPS/FCF” as well as return at current stock price would be prohibitive.

Regarding the potential dilution of earnings per share and free cash flow, Mr. Sheikh noted, “We calculate that a 70% debt financed transaction at $160 per NFLX share would materially dilute DIS EPS/FCF (-11%/-10%), and modestly dilutive to CFROI®.”

To justify a price tag of $70 billion, Disney would require delivering about $2 billion per year in pre-tax synergies from the deal to cover its capital cost, he added.

The research firm highlighted Disney is close to gaining 90 million "global customer relationship years before its organic strategy kicks off. It has more monetization alternatives for sport rights. Considering these factors, as well as the elimination of SVoD," Credit Suisse concluded that it will be difficult for the company to deliver $2,000 in annual synergies to justify Netflix’s tag price.

As of 10:17 AM EST, Netflix shares edged up to $131.10 and Disney shares were trading down 0.25% at $108.12.