Netflix Can’t Afford to Chill: Content Wars in Digital Streaming
As Netflix faces increasing competition from fellow media titans, can its original content production supply chain become a competitive advantage?
Content Wars
Netflix is under attack. Earlier this year, Bob Iger, CEO and Chairman of Disney, announced that the company will be launching a standalone streaming platform by 2019; the content lineup will include live action films and television programming based on its existing intellectual property catalogue, including franchises spanning Marvel, Star Wars, and Pixar [1]. The news came on the heels of an earlier announcement in August that Disney will be pulling its content from Netflix, starting with their 2019 production slate [2]. After many years of partnership, most notably several Marvel Cinematic Universe television adaptations, the break is emblematic of a land grab in an increasingly digital playing field.
The OTT Landscape
Online streaming services, also known as Over-The-Top or “OTT” platforms, follow a subscription payment model, in which users pay a nominal monthly fee for typically unlimited access to a content library; services like CBS All Access and Hulu also generate revenue through paid advertising (though both offer a premium ad-free option), whereas Netflix’ primary revenue stream is subscription fees [3].
A McKinsey report forecasted that consumer spending to access content will outpace spending to own content in 2017 [4]. Netflix was one of the first players to recognize this trend in consumer behavior, and continues to benefit from its first mover advantage with the largest subscriber base of any online streaming platform at over 100 million globally [5].
Show Me the Money
Consumers are increasingly demanding high production values, convenience, and low prices from their media consumption. The OTT space is therefore marked by significant content acquisition costs, as platforms compete to offer the most comprehensive libraries across film, television, and most crucially—original programming. Original content improves customer stickiness and lowers churn as viewers renew their subscription to see what happens next, and also attracts new members as blockbuster successes generate buzz [6].
Netflix has announced that it will spend nearly $8 billion on original content in 2018 [7], putting it ahead of its competitors like Amazon Prime Video at $4.5bn [8], Hulu at $2.5bn in 2017 [9], and Apple at $1bn [10]. As these costs increase with limited ability to minimize risk of content underperformance, Netflix must lean into digitization to make strategic content acquisition decisions, streamline production, and maximize user engagement.
Production 4.0
Doing business in Hollywood is similar to playing poker in Las Vegas; even the most skilled players can lose big to a string of bad luck. Customer preferences are extremely diverse and specific, and vary wildly across genre and geographies.
Netflix currently gathers valuable data on viewership trends, which are utilized in green light decisions on new productions (and famously in its proprietary recommendations algorithm) [11]. However, given how quickly viewer sentiment can change, Netflix must create and release content as quickly as possible to maximize time-sensitive insights and consistent audience engagement. The company should therefore explore logistics visibility and ultimately integration with its suppliers—the third-party production companies that create much of the content Netflix purchases—leading to shortened production timelines [12].
Cross-referenced and enriched information can help Netflix identify and quickly respond to production externalities [13]. Consider for instance the impact of a writer’s strike in Los Angeles, or a geopolitical crisis halting production on an original K-Drama in South Korea. As standalone incidents, individual producers have limited resources to develop efficient tactical responses. However, the sheer volume of projects that Netflix is involved in can provide enormous economies of scale; for example, rationalization of post-production suppliers to lower costs, or use of pooling accounts in Netflix’s cash management strategy to collectively minimize currency risk as Netflix expands globally. This differentiation could attract content creators to Netflix over its competitors, like Disney or traditional TV networks—a crucial advantage as the content war rages on.
In the medium term, Netflix should consider further integration with their suppliers through M&A. Netflix recently made its first acquisition of Millarworld [14], a comic book publisher, in a move to own the underlying intellectual property that will allow for sustained content opportunities and entry into derivative products like merchandising—or even larger tangible presences, like theme parks. Netflix has a proven track record of identifying and marketing properties that earn their members’ viewing time, and continued diversification will prime further engagement with their massive customer base.
Looking Ahead
As Netflix faces off against competitors making extensive capital investments in both their distribution platforms and original content, should the company expand into new media types like gaming or live television, or remain focused on its streaming strengths? Should Netflix be concerned about Disney’s forthcoming platform, and to what extent?
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[1] John Lynch, “Disney’s upcoming Netflix competitor will include Marvel and ‘Star Wars’ movies, according to CEO Bob Iger,” Business Insider, September 7, 2017, http://www.businessinsider.com/disney-streaming-service-will-feature-marvel-star-wars-movies-2017-9, accessed November 2017.
[2] Todd Spangler, “Disney to End Netflix Deal, Sets Launch of ESPN and Disney-Branded Streaming Services,” Variety, August 8, 2017, http://variety.com/2017/digital/news/disney-netflix-end-acquires-bamtech-espn-ott-services-1202519917, accessed November 2017.
[3] Netflix, Inc., 2016 Annual Report, p. 2, https://ir.netflix.com/common/download/download.cfm?companyid=NFLX&fileid=938338&filekey=FB0485BA-48EF-4457-ABED-CF26A5B21523&filename=10K_Final.PDF, accessed November 2017.
[4] “Global Media Report 2016,” McKinsey & Company, https://www.mckinsey.com/industries/media-and-entertainment/our-insights/global-media-report-2016, p. 20, accessed November 2017.
[5] Lauren Thomas, “Netflix shares rise after video streamer hits 100 million subscriber milestone,” CNBC, April 24, 2017, https://www.cnbc.com/2017/04/24/netflix-shares-rise-after-video-streamer-hits-100-million-subscriber-milestone.html, accessed November 2017.
[6] Netflix, Inc., 2016 Annual Report, p. 4, https://ir.netflix.com/common/download/download.cfm?companyid=NFLX&fileid=938338&filekey=FB0485BA-48EF-4457-ABED-CF26A5B21523&filename=10K_Final.PDF, accessed November 2017.
[7] John Koblin, “Netflix Says It Will Spend Up to $8 Billion on Content Next Year,” The New York Times, October 16, 2017, https://www.nytimes.com/2017/10/16/business/media/netflix-earnings.html, accessed November 2017.
[8] Todd Spangler, “Hulu to Spend $2.5 Billion on Content in 2017,” Variety, September 14, 2017, http://variety.com/2017/digital/news/hulu-2017-content-spending-2-5-billion-1202558912, accessed November 2017.
[9] Ibid.
[10] Tripp Mickle, “Apple Readies $1 Billion War Chest for Hollywood Programming,” The Wall Street Journal, August 16, 2017, https://www.wsj.com/articles/apple-readies-1-billion-war-chest-for-hollywood-programming-1502874004, accessed November 2017.
[11] Thierry Rayna and Ludmila Striukova, “360° Business Model Innovation: Toward an Integrated View of Business Model Innovation”, Research Technology Management, vol. 59, no. 3, pp. 21-28.
[12] Stefan Schrauf and Philipp Berttram, “Industry 4.0: How digitization makes the supply chain more efficient, agile, and customer-focused,” Strategy&, 2016, https://www.strategyand.pwc.com/reports/industry4.0, accessed November 2017.
[13] Ibid.
[14] “Netflix Acquires Millarworld,” press release, August 7, 2017, on Netflix website, https://media.netflix.com/en/press-releases/netflix-acquires-millarworld-1, accessed November 2017.
This is a brilliant article on a fascinating subject. Approaching this issue from the perspective of Netflix’s supply chain added an interesting twist to the regular discussion of Netflix’s competitive landscape.
My view is that Netflix should be certainly be concerned about suppliers — including, but not limited to Disney — going direct-to-consumer. Netflix currently finds itself in an unenviable and complex supply chain situation. They operate (and are valued in the public markets) as a ‘platform’ business, which does not own its own content and simply connects studios with consumers. Now, as you note, given competitive threats, they are having to spend billions of dollars on their own content, bringing them increasingly close to a traditional ‘pipeline’ business. The problem is that the more content they make (and the higher its quality), the more relatively eyeballs they will be effectively removing from their suppliers’ content in favor of their own. This means suppliers will be increasingly incentivized to go on their own to protect their own viewership, as Disney plans to, or partner with other platforms.
This will generate a vicious circle:
(1) More expensive high-quality Netflix-produced content required
(2) Relatively more viewers watching Netflix-produced content than suppliers’ content
(3) Suppliers unhappy that content being crowded out, leave Netflix
(1) More expensive high-quality Netflix-produced content required
The end-game of this process is simply a pipeline business that produces almost all of its own content, at great expense, with all its competitors stealing market share with their own platforms.
The future, in my view, does not look bright for Netflix.
Very thoughtful and intersting article. Netflix indeed cannot chill in the face of traditional players withdrawing their content from its platform. After all, exclusivity on Disney’s content helped the platform grow to its current position. Disney is by far in the best position to threaten Netflix’ dominance in the space. With its top notch franchises like Star Wars or Marvel, it might easily steal a significant portion of viewers away from Netflix after it launches its own original platform.
What Netflix should focus on in the short term is securing the deals with other studios (Warner Bros. NBC Universal) to lock their content, at least for the time being – to still offer the widest catalogue of top content. In the meantime, I agree, they should intensify on acquisitions. Production companies are key from the perspective of time-to-market releases, but I believe that actual IP is even more important. Hence, I would focus the budget on finding the next big franchise. And it doesn’t necessarily need to be in the US.
This is however a risky game and Netflix might fale to find such a deal. In the meantime, threatened traditional players will leave its platform, going direct-to-customer via their own channels (e.g. Hulu already belongs to 4 top traditional studios). And if traditional players decide to go further and bundle their content together, that might actually mean the start of the end of Netflix.
Very thoughtful and interesting article. Netflix indeed cannot chill in the face of traditional players withdrawing their content from its platform. After all, exclusivity on Disney’s content helped the platform grow to its current position. Disney is by far in the best position to threaten Netflix’ dominance in the space. With its top notch franchises like Star Wars or Marvel, it might easily steal a significant portion of viewers away from Netflix after it launches its own original platform.
What Netflix should focus on in the short term is securing the deals with other studios (Warner Bros. NBC Universal) to lock their content, at least for the time being – to still offer the widest catalogue of top content. In the meantime, I agree, they should intensify on acquisitions. Production companies are key from the perspective of time-to-market releases, but I believe that actual IP is even more important. Hence, I would focus the budget on finding the next big franchise. And it doesn’t necessarily need to be in the US.
This is however a risky game and Netflix might fale to find such a deal. In the meantime, threatened traditional players will leave its platform, going direct-to-customer via their own channels (e.g. Hulu already belongs to 4 top traditional studios). And if traditional players decide to go further and bundle their content together, that might actually mean the start of the end of Netflix.
Great piece, thanks for sharing. I think both Matt and Sasha also hit on some interesting long-term issues as it relates to Netflix’s long-term relationship with Disney and other major content creators. I wanted to add a perspective based on personal experience, as I worked at Disney on its subscription services’ strategies (including for Hulu, as Disney was a minority owner) from 2012-2014.
While at Disney, I helped create the business model for a direct-to-consumer, OTT subscription service (a precursor to the proposed ESPN/Disney products being launched in 2018/2019). As Matt states, Disney is the best-positioned content creator to provide such a service due to a strong brand name & franchises, not to mention a reputation for best-in-class customer experiences. However, the company has a number of weaknesses relative to Netflix:
(1) Few direct consumer touchpoints and, as a result, limited customer data:
Netflix has spent years collecting detailed data on its viewers — willingness to pay; product/technology requirements (e.g. do they need conditional downloads to watch in areas without wifi and, if so, how many?); genres of interest; etc. Disney has not. In contrast, almost all of Disney’s customer relationships (with the exception of the Parks and its web properties) are mediated through third parties such as MVPDs, theatrical distributors, and most recently, Netflix itself. As a result, Disney has forfeited its ability to collect granular data that could inform its own production decisions in response to consumer preferences. Moreover, it has failed to collect detailed customer contact information, meaning that its marketing costs will be astronomically high.
(2) Limited market opportunity relative to Netflix:
The downside of a strongly-defined brand is the difficulty of expanding outside of that brand! Disney has an inherently limited market opportunity with respect to its subscription services: The Disney service will largely appeal to families with young children, while the ESPN service primarily will appeal to men [1]. Netflix, on the other hand, is known for having a broad array of content that appeals to all audiences — a reputation that is difficult for Disney to match, even if it were to include ABC and other brands in a DTC bundle.
(3) Significant windowing restrictions:
Customers’ willingness to pay will be directly related to their perceived value of the service, which in turn is related to the library of content (and addition of new content over time). Unfortunately for Disney, many of the company’s best titles are tied up due to pre-existing licensing relationships — and the timelines and restrictions on these titles vary by region. Netflix, on the other hand, is relatively protected by its content volume and diversification of titles across studios (although, as Sasha pointed out, the threat of its original content operation may drive the studios to pull their own content from the service), such that the loss of any one title or set of titles is less detrimental to the perceived value of the service.
Ultimately, the above boils down to one key competitive issue: the speed and success with which Netflix can vertically integrate into content creation versus the speed and success with which Disney (and other content creators) can move into distribution. Or as Ted Sarandos said: “The goal is to become HBO faster than HBO can become us.” [2] We’ll see how it all shakes out!
[1] http://www.espn.com/espn/story/_/id/7379853/espn-tries-solve-equation-women-sports-fans
[2] https://www.newyorker.com/business/james-surowiecki/netflix-worried-hbos-streaming-plans