Fool’s “Could This $4.05 Small Cap Be the Next Netflix?”

Sniffing out the latest teaser pick from Motley Fool Hidden Gems

By Travis Johnson, Stock Gumshoe, October 16, 2017

This latest ad for Motley Fool Hidden Gems caught my eye over the weekend, partly because, yes, I am bitter about not investing in Netflix (NFLX) when the Motley Fool folks were teasing it as the “next Dell” back in 2007… but I also like a challenge sometimes, and this one’s a little short on clues.

So let’s see what we can find, shall we?

The pitch is that “This Stock Could Be Like Buying Netflix in 2004,” which is what we’re all looking for — though as you daydream about those kinds of massive winners, it’s also worth thinking about your personal psychology… Netflix shares have had periods when they’ve fallen by 25% or more probably a half dozen times in the past decade, including a couple really debilitating drops (up to 75% or so). Would you have held on to the stock during those drops? Would you have let the “safety” of a 20% stop loss cut you off at the knees time after time, or would you have held on? How would you have felt as your near-1,000% gain turned into “just” a 200% gain in 2011? It took three years after that big drop before Netflix again surpassed that 2011 high, but anyone who sold along the way and didn’t have the wisdom to buy back in fairly soon thereafter (and buying back in is really, really hard for most people) would have missed out on gains of almost 6,000% over the past decade (or more, of course, 10,000% or so if you bought back in 2007 when the Fool was pretty aggressively teasing the stock, or back in 2004 when they say they started recommending it).

So it’s not just about finding the right stock, it’s also about sticking with the great growth names with some conviction — even when everyone on CNBC is talking about why they’re not great anymore. That’s hard to do, but it’s certainly a worthwhile ambition. Not least because Netflix stock is setting new records again this evening after yet another quarter of big subscriber additions (and a price increase).

What’s the pitch from the Fool? Here’s a little taste:

“See, we just recommended another small cap entertainment company under $5, and it’s strikingly similar to both of those [Netflix and Disney].

“Now, I can’t give away what it is here — my CFO would kill me — but I will tell you that this stock is one of the best positioned entertainment companies in the industry.

“They have been busy buying up pieces of Disney and selling hundreds of hours of their content to be distributed on Netflix.”

OK, so it’s a little fella — any other clues?

“… they own one of the largest libraries of television content in the world, have produced some of the biggest stars in the industry, and have one of the most successful digital streams ever… you can buy shares right now for under $5!

“We haven’t been this excited about a small cap stock in years.”

And, well, that’s about it — so who’s the stock? I fed those limited clues into the gaping maw of the Hungry, Hungry Thinkolator and got… two possibles.

The first one that popped up is RLJ Entertainment (RLJE), the entertainment arm of BET Founder Robert Johnson’s company, which primarily is known for distributing British TV through Acorn TV (and also owns a majority stake in Agatha Christie Limited and a small niche movie network called Urban Movie Channel). That one’s kind of an interesting story, it was created when Robert Johnson’s blank check company (or SPAC) bought Acorn and Image Entertainment back in 2012, but it’s also tiny and hasn’t been particularly successful over the past five years. RLJE seems unlikely to be our pick, though some of their content has likely gone back and forth with Disney and Netflix over the years so we could probably force it to fit the clues.

The real match for this teaser pitch is almost certainly the stock behind door number two: the Canadian media company DHX Media (DHXM in NY, DHX.A or DHX.B in Toronto), which is one of the largest owners (if not the largest) of childrens’ television programming in the world, and also used to produce channels for Disney (notably Disney XD).

The company has been around for quite a while and owns some iconic names like Bob the Builder, Inspector Gadget, the Teletubbies and Degrassi High, but I think their biggest deal to date was the purchase of the valuable Peanuts franchise from Iconix back in May (along with Strawberry Shortcake) for $345 million (well, the 80% of Peanuts that the Schulz family doesn’t own, at least).

That deal has helped to pressure DHXM’s share price, since they took on a lot of debt to make that cash deal and also had a rough quarter last time out, with disappointing revenue from their other content, and the company announced a couple weeks ago that they have now begun a “strategic review” aimed at maximizing shareholder value.

Which could work out well, of course, we have no idea what the review will conclude (they haven’t hired a banker, and there’s no guarantee that they’ll end up breaking up the company or selling themselves, though that’s the speculation)… but the notion that they’re worried enough to begin such a review does give some pause — and it makes you wonder whether they’re already regretting their big investment in Peanuts (that Peanuts investment also brought huge hopes for previous owner Iconix, which I bought mostly because of Peanuts years ago, to my regret… though Iconix only paid about $280 million for the assets they sold to DHX for $345 million, so they can’t blame Peanuts for their troubles).

DHX Media did just announce a deal last week for kids’ content for Amazon Prime Video, though we don’t know what the financial terms are, and the recent free articles from the Fool, like this one explaining the stock’s weakness after earnings, do at least confirm (in the disclaimer) that DHXM is recommended by one of the Fool newsletters… so that’s a pretty good match in my book.

Is it a stock to buy? Well, it’s certainly at a transition point — the stock is down about 30% in the past month and is near multi-year lows (though the stock was listed in Canada for almost a decade before it got a Nasdaq listing in 2015, and it was certainly well below a dollar for much of that time), and there is no timeline for the strategic review… so anything could happen, or nothing could happen.

The guidance from the company in their quarterly filing is that next year will be “year one” of their “shift to focus on cash,” and that they will generate free cash flow of $50-70 million over this fiscal year now underway, about half of which they’ll spend on investing in new film and television programs. The big bolus of debt they have that helped to pay for Peanuts is a challenge, and it means they don’t have all that much flexibility if things go awry, but they are planning on pretty substantial cost cuts — and there is a fairly attractive amount of ongoing revenue from their wide variety of global licensing deals for shows (and their new Mattel deal for licensing toys for their more popular characters). And Peanuts, though it’s perhaps hard to justify that $345 million acquisition given the debt pressure it puts on the company, does generate pretty strong and reliable annual revenues and could have more growth potential.

I don’t see a clear and vibrant visionary leader here like Netflix had, nor a dominating market position like Disney, but certainly there’s potential — and it might even be that their content becomes more in demand when Disney moves all of its own content to its proprietary streaming service when that launches… that could increase demand for high-quality non-Disney childrens’ programming from Netflix and Hulu and Amazon and whoever else wants to try to offer a family-wide “over the top” programming stream. So I might be able to get talked into this one, but it doesn’t strike me as a huge potential winner — more like a company that might right the ship and become a decent cash flow generator over the next couple years. And they do pay a small dividend and recently raised that dividend, so it’s now two cents a quarter (Canadian), which gives roughly a 1.5% yield at the moment.

The company is not obviously undervalued based on current metrics, mostly because the large debt burden comes at a pretty substantial cost, but there is potential for that to turn around and you can clearly imagine some potential for growth — I’m not feeling like I’ve been talked into it at this point, perhaps because I’ve experienced what the curse of Peanuts did to Iconix, and it worries me that they’ve initiated this “strategic review” just six months after announcing a large acquisition, but I’m willing to think about it some more.

Are you getting our free Daily Update
"reveal" emails? If not,
just click here...

What about you? Ready for a big helping of Strawberry Shortcake and a rousing episode of Fireman Sam? Think DHX Media is anything like “the next Netflix?” Let us know with a comment below.

P.S. We’re compiling investor opinions about the newsletter services they’ve tried — if you’ve ever subscribed to Motley Fool Hidden Gems, please click here to share your experience with your fellow investors. Thank you!

Disclosure: I own shares of Netflix and call options on Disney. I do not currently own any other stock mentioned above, and won’t trade in any covered investment for at least three days after publication, per Stock Gumshoe’s trading rules.

Irregulars Quick Take

Paid members get a quick summary of the stocks teased and our thoughts here. Join as a Stock Gumshoe Irregular today (already a member? Log in)


This site uses Akismet to reduce spam. Learn how your comment data is processed.

Inline Feedbacks
View all comments
Thane Walton
Thane Walton
October 16, 2017 5:29 pm

I’m definitely a fan of the Fool. So I will do some research and likely toss a little play money in this direction. Thanks as always! Love when the Thinkolator covers the Fool.

October 16, 2017 6:16 pm
Reply to  Thane Walton

So do I. However, you must have some patience, because it takes a lot of time to appreciate the stock growth. Sometimes, it can take about three years.

Add a Topic
October 16, 2017 5:52 pm

Well done! . My take is well aligned with your thinking on this one . Many thanks.

👍 27
October 16, 2017 6:02 pm

Question. You said the Canadian stock has a small dividend. Does the us version have dividends Too? Also do you still have to pay tax on Canadian stocks and usa?

Add a Topic
Add a Topic
Add a Topic