The SEC Steps Back From Netflix and Hastings' Social Media Gaffe

April 3, 2013

On January 4, 2012, Netflix, Inc. (an on-line entertainment service that provides movies and television programming to subscribers by streaming content through the internet and by distributing DVDs through the mail) announced by press release that it had streamed two billion hours of content in the fourth quarter of 2011. 

In the opening paragraph of a January 25, 2012, letter to shareholders signed by Netflix Chief Executive Officer, Reed Hastings ("Hastings")  that accompanied Netflix's quarterly financial results included in its earnings release, Netflix again made pointed reference to  the two billion hours.  A copy of this January 25th letter was also furnished on EDGAR on a Current Report on Form 8-K. 

Netflix's revenues are derived through fixed subscriber fees, and, as such, are not based on the number of hours of programming viewed. Consequently, on January 25, 2012, during Netflix's 2011 year-end/Q4 earnings conference call, Hastings was asked why the two billion hours streamed content metric was relevant, to which he explained that the streaming was 

a measure of an engagement and scale in terms of the adoption of our service and use of our service. . . . . It [two billion hours streaming in a quarter] is a great milestone for us to have hit. And like I said, shows widespread adoption and usage of the service.

Additionally, Hastings stated that although he did not anticipate that Netflix would regularly report the number of hours of streamed content, Netflix would update the metric "on a milestone basis."

Hastings On Facebook 

In an early June 2012 posting on Netflix's official blog, Netflix made a brief reference to people "enjoying nearly a billion hours per month of movies and TV shows from Netflix."On July 3, 2012, just before 11:00 a.m. Eastern time, Hastings posted the following message on his personal Facebook page: 

Congrats to Ted Sarados, and his amazing content licensing team. Netflix monthly viewing exceeded 1 billion hours for the first time ever in June. When House of Cards and Arrested Development debut, we'll blow these records away. Keep going, Ted, we need even more!

Extrapolating the data in Hastings' posting, one can infer that the 1 billion-plus viewed hours in June alone represented a significant increase in streaming hours from Netflix's January 25, 2012 announcement that it had streamed 2 billion hours over the preceding three-month quarter. The simple math would be, roughly, 1 billion per month as of June times 12 months, for an annual rate of 12 billiion hours; versus the prior three-month rate of 2 billion times 4 quarters, for an annual rate of 8 billion. As such, Hastings' post suggested a 50% increase over the prior streamed hours. Netflix's stock

Market Reaction 

Following the July 3rd market open, the price of Netflix stock increased  from $70.45 at the time of Hastings's Facebook post to $81.72 at the close of the following trading day.

Didn't Ask / Didn't Tell

Prior to posting his July 3, 2012 Facebook comment, Hastings did not receive input from Netflix's chief financial officer, the legal department, or investor relations department; and the company did not file with or furnish to the the Securities and Exchange Commission ("SEC")  a Current Report on Form 8-K, issue a press release through its standard distribution channels, or otherwise announce the streaming milestone. 

SEC Investigation 

As a result of the above events, SEC Division of Enforcement  ("Enforcement") investigated whether Netflix and Hastings violated Regulation FD (17 C.F.R. §243.100 et seq.) and Section 13(a) of the Securities Exchange Act of 1934 ("Exchange Act"). 

SIDE BAR: Regulation FD and Section 13(a) of the Exchange Act prohibit public companies, or persons acting on their behalf, from selectively disclosing material, nonpublic information to certain securities professionals, or shareholders where it is reasonably foreseeable that they will trade on that information, before it is made available to the general public. 

The SEC determined not to pursue an enforcement action in this matter. Report of Investigation Pursuant to Section 21(a) of the Securities Exchange Act of 1934: Netflix, Inc., and Reed Hastings (Release No. 69279 / April 2, 2013). The investigation raised questions regarding:

  1. the application of Regulation FD to Hastings's post; and
  2. the applicability of the SEC's Commission Guidance on the Use of Company Web Sites, Release No. 34-58288 (Aug. 7, 2008) (the "2008 Guidance")

The SEC concedes that the 2008 Guidance was directed primarily at the use of issuer web sites as a method of disseminating information in compliance with Regulation FD, in contradistinction to social media. Consequently, the SEC saw the Netflix/Hastings situation as an (footnotes omitted): 

opportunity to clarify and amplify two points. First, issuer communications through social media channels require careful Regulation FD analysis comparable to communications through more traditional channels. Second, the principles outlined in the 2008 Guidance - and specifically the concept that the investing public should be alerted to the channels of distribution a company will use to disseminate material information - apply with equal force to corporate disclosures made through social media channels.

. . . 

Accordingly, we emphasize for issuers that all disclosures to groups that include an enumerated person should be analyzed for compliance with Regulation FD. Specifically, if an issuer makes a disclosure to an enumerated person, including to a broader group of recipients through a social media channel, the issuer must consider whether that disclosure implicates Regulation FD. This would include determining whether the disclosure includes material, nonpublic information. Further, if the issuer were to elect not to file a Form 8-K, the issuer would need to consider whether the information was being disseminated in a manner "reasonably designed to provide broad, non-exclusionary distribution of the information to the public."