Inside the Icahn Family Debate on Netflix

NEW YORK (TheStreet) -- If some families spend quality time sharing a Netflix  (NFLX) movie, it appears the Icahns have done so as investors.

Billionaire activist Carl Icahn has begun handing some of his $29 billion investing empire for his son Brett Icahn to manage. Already, Brett, 34, appears to be a quick study and no investment may prove the point so well as the younger Icahn's well-timed stake in Netflix ahead of the firm's strong 2013 stock performance.

A Tuesday disclosure by Icahn Enterprises (IEP) -- the holding company for Carl Icahn's investment portfolio and various operating subsidiaries in the energy, casino and transportation sectors -- indicates there was a healthy debate between Carl and Brett on Netflix's valuation and when to trim their holding in the company.

Brett Icahn was the brains behind the Netflix stake and was co-managing much of the investment in a portfolio he'd been given to prove his stock-picking mettle. While the Icahns are still bullish on Netflix and remain the firm's fourth largest shareholder, the elder Icahn appears to have put his foot down and realized an $800 million profit.

In August of 2012, Carl Icahn handed Brett $3 billion to invest in companies with a market value of between $750 million and $10 billion. The portfolio, Sargon, is co-managed with an Icahn Enterprises portfolio manager David Schechter and it is supervised by Carl Icahn. Brett Icahn's investing tryout with Sargon ends when Carl Icahn turns 80 in 2016 and he is building an impressive track record.

Netflix appears to be Brett's most prominent initial investment with Sargon and it is no surprise the portfolio has grown significantly in just over a year's time. The value of the Sargon Portfolio now stands at $4.8 billion, as of a Tuesday disclosure. [It appears Sargon will also continue to be paid as if it maintained its entire Netflix stake.]

Icahn Enterprises took a near 10% stake in Netflix in the fall of 2012 after shares in the company tumbled on a failed strategy by CEO Reed Hastings to split the firm's streaming and DVD businesses. Subscribers were leaving Netflix and so were investors.

According to filings with the Securities and Exchange Commission, Icahn Enterprises bought into Netflix at an average price of about $58 a share, in an investment that was disclosed on Oct. 31, 2012.

Media interviews indicated that the Icahns were confident in Netflix's management and believed the company had achieved a leading market position that would be tough to conquer. Carl Icahn also foresaw the prospect that Netflix would become the target of strategic acquirers, according to a Wall Street Journal interview.

Within weeks of the Icahn investment, Netflix began a string of announcements that dramatically changed investor and consumer perception of the company after Hastings' Qwikster debacle.

The company signed a deal with Disney (DIS) that will give Netflix exclusive rights to the media conglomerate's movie releases starting in 2016. The deal also indicated that Netflix, after disappointing investors by not re-upping rights to some Epix and Starz content, was becoming more selective in its media buying habits.

At a December media conference, some media heavyweights such as Harvey Weinstein expressed confidence in Netflix's selectivity and its focus on exclusive deals for premium-priced content. Weinstein, one of the most artistically daring studio executives in Hollywood, cut an exclusive rights deal with Netflix earlier in 2013.

Netflix was also in the midst of completing its first major original series, House of Cards, which debuted in February to rave reviews. By the end of the first quarter of 2013, subscribers were returning to Netflix and investors appeared to be gaining confidence in Chief Content Officer Ted Sarandos' ability to mix studio content deals with original programming in an economically viable manner.

Subsequent releases of original shows like new Arrested Development seasons, Orange is the New Black and Hemlock Grove helped to add subscribers.

For much of 2013, Netflix has been among the most-shorted and top performing stocks in the S&P 500. The company is now an "anointed" stock as Jim Cramer has said and it is subject to constant speculation on whether the firm's shares are over-or-undervalued.

Carl Icahn has said in interviews that his instinct was to sell Netflix shares in early 2013, after the firm's quick rebound from 2012 lows. He, however, was convinced by Brett Icahn that the firm's shares remained undervalued and its market position remained bright.

Tuesday's sale by Icahn Enterprises of roughly 2.99 million Netflix shares, or just over half of the firm's investment in the company indicates that Carl Icahn, as supervisor, wanted to take some chips off of the table on Brett's winning bet.

There appears to be a healthy father-son debate at the Icahn household as to how to manage their Netflix holding.

Brett Icahn is effusive about Netflix's market position and its value. He believes the firm will continue to grow scale and then will be able to significantly bolster its profitability by raising prices to $9.99 in coming years.

"[We] believe the company remains significantly undervalued. As a subscription service priced at only $7.99 per month, we believe Netflix is one of the great consumer bargains of our time," Brett Icahn said in a letter disclosed on Tuesday.

In particular, Brett identified an interplay between Netflix's growing scale in U.S. and international markets and its fixed content costs as the single most important piece of his investment in the company.

"Netflix's predominately fixed content cost (variable primarily to the extent management chooses to further improve the service) gives the business model massive operational leverage. Our recognition of this operational leverage, combined with our expectations for both domestic and international subscriber growth with modest price increases over time, has been and continues to be the core of our investment thesis," Brett Icahn added.

Icahn Enterprises, in aggregate, will continue to hold 4.5% of Netflix's outstanding shares and will be the firm's fourth largest shareholder.

"In our experience, there are few companies at any given time in history that represent the pure life blood of a colossal secular growth category, and even fewer where the CEO of that company instills deserved confidence among the company's investors by repeatedly exhibiting both vision and the ability to execute on that vision. We are proud to have identified Netflix as such a company and believe that it is well positioned for greatness," the younger concluded.

In a separate part of the letter, Carl Icahn appeared to temper Brett's enthusiasm.

"While I basically agree with David [Schechter] and Brett's assessment above and have often held positions for many years, as a hardened veteran of seven bear markets I have learned that when you are lucky and/or smart enough to have made a total return of 457% in only 14 months it is time to take some of the chips off the table," Carl Icahn said.

Carl Icahn also took to Twitter to thank Netflix's management team for helping to drive the firm's 2013 investment gains.

"I want to thank Reed Hastings, Ted Sarandos and the rest of the Netflix team for a job well done. And last but not least, I wish to thank Kevin Spacey. I also want to thank David and Brett," Carl Icahn elaborated.

Netflix shares were rising over 3% to $331.06 in early Wednesday trading.

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