On October 2nd, 2013, Netflix’ stock price hit an all time high, trading at $331 per share. [1] I find this an interesting development, considering that in the last year, Netflix ceded a tangible share of the subscription online video market to competitors such as Hulu Plus and Amazon Prime (dropping from 76% to 67% total share). [2]

Is this an indication that the realities of the online video market make it difficult for a service like Netflix to maintain dominant market share in the long run? While Netflix did lose market share, its overall business continues to expand, due to the 34% growth in the overall market during the same time frame. [3] In addition, given the prevalence of alternate formats and delivery mechanisms that offer potential substitutes to customers, the competitive dynamics of this market are complex and correspondingly difficult to predict.

On a high level, does the online subscription video marketplace exhibit winner-take-all characteristics? Yes and no.

To some extent, there are moderate network effects associated with these platforms. Such sites are in essence three-sided networks, incorporating content consumers, advertisers and content providers, all seeking a distinct outcome within the streaming video ecosystem. Consumers want to use the services offering the most content, and there may also be a slight same-side network effect encouraging them to use platforms that other consumers are using as well (in order to view and discuss content that is most popular and relevant). The variety of content required by consumers to some extent strengthens network effects as well – due to the fact that users desire to continually consume new and distinct video offerings, they are somewhat more reliant on existing providers to discover and serve up compelling material. Advertisers (for unpaid services such as Hulu) will want to be on the platforms with the most users (and extra points for platforms that allow them to more effectively reach users in their target demographic). Content providers want to be on the platforms with the most users – IF they are paid on a royalty basis. If they are paid a flat fee for their content, there may be limited motivation for being on highly trafficked platforms, given that any user watching on an SVOD (subscription video on demand) platform is likely to cannibalize viewing via alternate formats (where the provider might be paid more directly).

Homing costs are tricky. For users, the cost of navigating multiple platforms is relatively minimal, as these interfaces are fairly intuitive. The biggest downsides are paying an extra monthly subscription fee and navigating between platforms to look for content, both of which are arguably manageable. For advertisers, homing costs are theoretically minimal, the same as running an advertisement on multiple TV networks would be: once the ad has been produced, arranging for additional ad space across platforms is a relatively painless process. For content providers, homing costs very much depend on the premium they can get for offering digital platform exclusivity, when contrasted with the incremental audience that can be reached by offering the same content on an additional platform.

Finally, in terms of demand for differentiated products, from a consumer perspective, the platform offers relatively little in and of itself: it is the content that is what users are after, and opportunities for platform providers to set themselves apart in any dimension other than their content offerings are consequently limited. Similarly, advertisers are aiming to simply reach users, so with the exception of unique ad formats and targeting mechanisms (such as Hulu’s “choose your ad” offering), there is limited demand here as well. And content providers, who view such platforms merely as a means to reach the end user, care much more about the fees they will receive for the content, and relatively little about the delivery mechanism itself.

In sum: it’s complicated. A service that manages to offer the right balance of exclusivity, a broad content mix, and all at a reasonable enough price point to generate large audiences, could theoretically exploit network effects to their advantage and lock in enough users and exclusive content agreements to make life very difficult for competitors. But the reality is that with a content universe so wide (not to mention the limited lifespan of licenses, which must continually be renegotiated, often at a stepped-up price, every time they expire), and a market that is growing so quickly, the dynamics make it very difficult for a single entity to “tie it up” – in spite of Netflix’ dominance over the last couple of years.

In addition to the services previously discussed, digital video sites with alternate models, such as YouTube (currently free/ad based, but with an eye towards developing premium subscription channels in the future), social networks and content sharing sites such as Facebook and Reddit (which stream or embed content for free but leverage advertising opportunities across the rest of the platform) and Apple’s iTunes store (pay-per-view download and rental marketplace), will continue to compete to attract the same consumers and content providers to their services. There is definite overlap between SVOD and these other approaches, as with Amazon Instant Video’s purchase and rental options and Hulu’s unpaid offerings (limited and served with ads).

With so many competitors offering a range of different payment models, my hypothesis is that the market has not settled sufficiently for consumers to have a good sense of where they obtain the greatest value with respect to digital video consumption. Similarly, content providers and advertisers are still trying to figure out what the value of an exclusive license, or a pre-roll ad, really is. My prediction: Until the various players involved develop more sophisticated analysis and valuation tools and understanding of the market over a longer time horizon, digital video distributors will continue to play hardball, slugging it out for market share in the wild-wild-west of online streaming video.

[1] Yahoo! Finance, http://finance.yahoo.com/q?s=NFLX, accessed October 2013.

[2] “The NPD Group: As TV Viewing Drives Subscription Video-On-Demand, Netflix Dominates, but Hulu Plus and Amazon Gain,” NPD press release, June 4, 2013 on NPD website, https://www.npd.com/wps/portal/npd/us/news/press-releases/the-npd-group-as-tv-viewing-drives-subscription-video-on-demand-netflix-dominates-but-hulu-plus-and-amazon-gain/, accessed October 2013.

[3] Ibid.

 


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This post answers questions on Netflix’s international strategy – specifically from an Asia Pacific lens. Do India and China offer a lucrative market for online movie streaming? And if they do, can Netflix dominate these markets? It probably won’t, in my opinion. Let us analyze this sequentially.

Netflix, the on demand internet movie and TV streaming media, added Internet video streaming in 2007. Perhaps Reed Hastings had realized that the future lay in internet streaming. By 2011, Netflix owned 61% of the US digital movie streaming market.  The natural course of action was to look towards global expansion. On 22nd Sep 2010, Netflix entered Canada and began its Latin America services a year later. In 2012 it began operations in UK and Ireland and earlier last month arrived in Sweden, Denmark, Norway and Finland. While we wait for most of these operations to stabilize, questions are being asked about the next international entry for Netflix. India and China seem like a big bet not just for Netflix but for other similar online movie streaming platforms. But can Netflix succeed in these markets?

There are three questions we need to answer.

  1. Does the Asia Pacific (especially India and China) online movie streaming market have potential?
  2. Can Netflix succeed in the region?
  3. If not, could they enter with a pivoted operating model? What all should they change?

A new report (“Online Movies:  A Global Strategic Business Report) predicts the total value of the global online movie streaming market to reach $4.4B in 2017. There are several drivers behind this growth. Most markets are growing internally, customers are increasingly aware of global trends and more comfortable with online payment systems, internet penetration is on the rise and movies remain popular in general.   In the US, broadband connectivity, which was a low 20% a few years back, has grown at a rapid clip over the years to reach a rate of over 78% in 2011. On the other hand, Asia-Pacific, driven by growing dominance of markets like China, India and Australia in terms of Internet connectivity, broadband penetration, and huge population base, is expected to grow at a fast clip of about 36% through 2017. Additionally, the “reach of online users” in Asia Pacific, as a share of total internet users is healthy. Asia Pacific scores an average of around 81% which is only slightly lower than the worldwide average of 81%. India and China hover around the 70% mark. Broadband penetration is growing and around 63% of the population shop online at least occasionally. However, in India, broadband penetration relative to total population is only 2% – which is small but also indicates huge potential. In China, this number is 12% – also indicating untapped potential. An untapped, growing market with enormous potential makes sense to enter.

However, I don’t think Netflix can succeed easily in these markets.

·         For starters, its expansion in Europe (a more comparable market to the US) is draining its cash reserves substantially. Netflix reported an 88% drop in its third quarter earnings this year and net income reduced as compared to last year. What this implies is that Netflix will wait for a significant time period before expanding into the lucrative markets of Asia Pacific. And while they wait, these markets would most likely be taken by home players. Even if Netflix wants to go to non-India/China markets like Korea, it will have to wait till its European earnings stabilize.

·         Domestic content providers have a much better shot at dominating these markets. They own the content and would likely host it on their websites. In India, a bunch of production houses (Eros, Reliance) have already started to do so. Netflix’s traditional licensing agreement will not be easy to pull off with such content providers. Even in China, the government-helmed China Movie Channel’s site M1905 joined forces with Jiaflix to launch a movie streaming service in China. It will be hard to displace such incumbents if you are late to enter the market. Content is king and owning it will not be easy.

·         Similar to the last point, Netflix will find it tough to negotiate with the domestic production houses in India and China on the same terms as the in the US. Will Netflix be flexible enough to take a much smaller share of the pie when it does get an in?

·         Within the Asia Pacific market, rampant piracy will hurt operations. Most of the population downloads illegally and for free. Most of Netflix’s movie and TV offerings are not the most recent releases – the latter being in the top favorite list of the population. Success of Netflix will involve changing customer behavior, which is always a long and painful process. If domestic content owners control their movies/shows then Netflix will be left offering its international collection – something most people can download in no time, for free!

·         YouTube can actually emerge as one of Netflix’s main threats in the region. Even if domestic production houses can’t host their own content (paid or free) and are unwilling to invest in a hosting website, they can always start a paid channel on YouTube which will attract the target market. How does Netflix compete with that?

So we know that the market has potential but Netflix will likely face a hard time if and when they get to it. That said, they must go into the region at some point – the potential is too huge to ignore. How then can Netflix succeed in these markets? Perhaps it can by changing its operating model.

In my opinion, Netflix would need to do away with its exclusive hosting model and share hosting platforms with domestic content providers. It brings a lot of value to the partnership – top notch technical expertise coupled with experience in providing a seamless customer experience are invaluable assets – especially for content creators that have traditionally not grappled with an online market. This takes away the fear of losing content control from the minds of the domestic production houses and also allows Netflix to have a share of the pie (albeit small). While Netflix will be able to showcase their own name of the partnered website, their revenue share will likely be much smaller as the platform will be mostly of the domestic content owner.

Additionally, there may be some content owners that are unwilling to go through the hassle of hosting their own streaming websites and Netflix could host their movies/shows on its normal website.

YouTube will still pose a huge threat to Netflix as it is also a hosting platform serving the same purpose. But YouTube will probably not be as adept in tracking customer preferences and experiences – something Netflix can and has done. It could pitch this value proposition to the domestic content owners as having a grip on preferences and streamlining experiences can help gain significant early traction. As a customer I would prefer a dedicated movie channel rather than finding and watching a channel on YouTube.

To summarize, the Indian and Chinese online movie streaming markets have a lot of potential and Netflix has the expertise to win in them – however domestic market conditions and friction with content owners will most likely hurt Netflix in actual operations. Changing its operating model for these markets is a solution but even then the road will be full of bumps. It will be interesting to see which path Netflix takes and how much success it can generate.


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In July of 2009, Amazon removed copies of George Orwell’s dystopian novel, 1984, from the Kindles of purchasers. The title had been put on sale by a publisher who did not actually own the right to distribute the still-in-copyright work and, at the actual owner’s request, Amazon addressed the copyright violation by revoking access to the title and offering refunds to customers. The outcry was immediate and shrill, from both bloggers and established media institutions like The New York Times[i]. The correlation between the Big Brother of Orwell’s novel and the revocation of rights to content (even though they were due to copyright infringement rather than censorship) alarmed many readers who realized for the first time an important difference between physical and digital media: we don’t own our digital files. Digital access can be revoked.

With the move to digital consumption, “ownership” of media is undergoing a transformation from owning a single instance of a work to purchasing a license for specific usage of that work. For example, when a customer bought a physical book, it was generally accepted that they had the right to read the content, to reread it as often as they liked, and to share or resell the book after they were finished with it. They didn’t have the right to photocopy or scan the book and sell or share copies. It was as if the purchaser owned the right to a single instance of that work and, as long as they didn’t create additional instances, they could do whatever they wanted with the instance that they had bought. Today, when you buy an eBook on your NOOK, download a digital movie through iTunes, or stream a song on Spotify, you instead have a revocable license to use that content in pre-specified ways.

Content licensed through Google Play, Google’s retailing service for books, music, apps and other media, adheres to two conditions that are clearly differentiated from true ownership:

(1)    You cannot resell or share content, even when you no longer wish to access it.

(2)    Google can revoke your license and withdraw access to content without offering a refund.[ii]

Apple, Amazon, Barnes & Noble and other retailers and distributors of digital content have similar requirements in their Terms of Service[iii] and all cloud-based distributors have the ability.

This new model of content ownership brings some enormous advantages to consumers. As the number of internet-connected devices per individual proliferates rapidly (Cisco estimates that we were already at 6.25 devices per person with internet access in 2010[iv]), the ability to access your content on any device at any time is a large part of the drive to cloud-based infrastructure. On a personal note, I love that I can read on my NOOK on the subway and then pick up where I left off on my iPhone when I’m in line at the grocery store. Real time subscription-style access to vast content libraries from companies like Spotify and Netflix lets consumers access more media more conveniently. If a device is lost, stolen, or broken, the customer’s entire content library can be easily added to their next device.

Additionally, some of the lost rights from physical media can be replicated in digital. For example Barnes & Noble and Amazon both allow readers to “lend” access to a book title to a friend, at which point access to the book is temporarily revoked from the lender and granted to the recipient. Readers can also “check out” an eBook from the New York Public Library. However, these programs feel artificial – the file is still on my device after access is revoked, just with a “lock” on it – and they face resistance from copyright holders who have always disliked redistribution of used content.

While the inconvenience of not sharing content is troubling to many users, the larger implication of the new model of ownership is much more noteworthy. It is as if when you bought a DVD at Best Buy, Best Buy reserved the right to come into your home, at any time, without notice, and take back that DVD. There are many consequences of distributors’ right to revoke content:

·         Consumers are locked into ongoing relationships with single distributors because they cannot transfer files to their competitors’ devices.

·         Were one of the distributors to go bankrupt or to decide not to support media libraries any longer, consumers could lose access to years of purchases.

·         Government-mandated censorship would be far more easily enacted if the government could require distributors to revoke access.

·         Distributors can ban certain individuals from accessing previously purchased content.

Today, the distributors of content generally seem to mean well – Amazon apologized profusely for the 1984 incident and has vowed not to do so again. But relying on the good intentions of others may not be enough. Just last week, a Norwegian reader had access to her Kindle account revoked and then reinstated due to unspecified “previous abuses of company policy”[v], raising the specter of 1984 again in consumers’ minds. Additionally, the distributors may not have a choice if it turns out that the content sold was not legally sellable, as was the case with 1984 and as is an increasing risk as distributors open their platforms to more and more content providers, relying on those providers’ guarantee that they have the rights to what they are selling.

In reaction to this concern, some vigilantes, like blogger and author Cory Doctorow[vi], recommend removing Digital Rights Management (DRM) from the files of any media that you purchase and then storing that media on a non-internet connected device. That seems both to violate the Terms of Service for the purchase and to be incredibly inconvenient – removing many of the advantages that digital content brings in the first place.

The question of content ownership, access, and legal protection are a long way from being resolved in our new world of digital distribution and consumption. It’s important that we, as consumers, are aware of this new ambiguity as we buy, subscribe, and rent so that we don’t find ourselves reliving the science fiction epics that so ironically were removed.


 

[i] Stone, Brad. “Amazon Erases Orwell Books From Kindle”. The New York Times. http://www.nytimes.com/2009/07/18/technology/companies/18amazon.html?_r=0. July 17, 2009.

[ii]“Google Play Terms of Service. https://play.google.com/intl/en_us/about/play-terms.html. Accessed October 20, 2012.

[iii]For example, Barnes & Noble’s Terms of Use state: “Barnes & Noble.com grants you a limited, nonexclusive, revocable license to access and make personal, non-commercial use of the Digital Content in accordance with these Terms of Use.” (“Terms of Use”. http://www.barnesandnoble.com/include/terms_of_use.asp. Accessed October 20, 2012.)

[iv]Evans, Dave. “The Internet of Things: How the Next Generation of the Internet is Changing Everything”. Cisco Internet Business Solutions Group. http://www.cisco.com/web/about/ac79/docs/innov/IoT_IBSG_0411FINAL.pdf. April 2011.

[v]King, Mark. “Amazon Wipes Customer’s Kindle and Deletes Account With No Explanation”. The Guardian. http://www.guardian.co.uk/money/2012/oct/22/amazon-wipes-customers-kindle-deletes-account. October 22, 2012.

[vi]Doctorow, Cory. http://www.craphound.com. Accessed October 25, 2012.


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The proliferation of broadband internet access, mobile devices, and smarter compression algorithms sparked a revolution in the way we watch television content.    Unfortunately, this spark led to an uncontrolled explosion rather than a simple “replacement” of the model.  It looks as though the Terminator blew up that mercury cyborg and the pieces are just slowly starting to come back together – except no one really knows what the reassembled cyborg will look like.

Few would argue on what the experience should be – TV viewers want ubiquitous and convenient access to high-quality, on-demand content at a reasonable price.  So why is it taking so long for the industry to reach a new equilibrium?

I believe three major factors contribute to the slower pace:

1.)    Display Devices: today, users can choose between smartphones, tablets, laptops, desktops, SD and HD-TVs to watch their favorite shows.  All of these devices come in different form factors, support multiple resolutions, and run different operating systems.  Furthermore, they may all have different broadband capabilities (e.g. DSL, cable, fiber, WiFi, 3G, 4G LTE).    A content distributor like Netflix needs to spend considerable resources to support all these display configurations and internet speeds.

2.)    Distributors:  just as users can pick from an array of display devices, networks and studios deliver their shows through many different online distributors. Initially, TV networks (e.g. NBC, CBS, HBO) saw online distributors like Netflix as small players bringing in some incremental revenue.  I believe this perception lowered the barriers to entry and caused many companies to enter the space.  It was also in the best interest of the networks to prevent any one distributor from having all the pricing power for internet TV content – as was the case for iTunes and the music industry.   Once the networks noticed the substantial growth in online demand, they were in a good position to increase prices for the content. The end result is a fragmented space of distributors with different offers and pricing models.   Today, Amazon, Netflix, iTunes, Hulu, and the networks themselves serve as access points to the content.     A user cannot simply stick with one service without foregoing access to certain content- you can go to Hulu for Family Guy, but you’ll need to browse over to CBS for The Big Bang Theory.  This troublesome experience slows down adoption.

3.)    Economics:  new entrants have yet to prove a revenue model that can compete with traditional cable. The old model is fairly simple – consumers enjoy free over-the-air TV shows funded by advertisers with deep pockets wanting to reach a wide audience.   Then, Comcast makes a killing by selling premium channels such as ESPN bundled with OTA stations and channels few people ever watch.  The online model disrupts bundling.  People still want great free shows but the online advertising revenue to fund those shows has yet to catch up.   For premium content, traditional distributors like Comcast have strong incentives to prevent online disruptors from offering unbundled content.  Not surprisingly, sports continue to be one of the biggest reasons against “cutting the cord”.

Even with all these issues, I believe internet TV will be a much more pleasant experience in the coming years.   The consumer demand for convenient, ubiquitous access to content will ultimately drive consolidation among the many distributors.  Once fragmentation gets under control, we will see even greater innovation for internet TV including social features, accurate show recommendations, seamless integration across device types, and user-content interaction.   YouTube became the standard for user-generated content.  Who will it be for internet TV?

 


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The TV world is in the middle of a digital wave.  Content has started moving from the fixed schedule to the more ‘on demand’ online format, see HBO Go or Hulu.  While many are resistant to this change (eg, Disney receives over $5 per cable subscriber per month for ESPN, an incredible source of value), they must realize that in the long run things will shift.

So the question then becomes, ‘what will the future look like?’.  Not an easy question, but examining the junction of what customers want versus what is economically viable for companies can give an idea:

What the customers want:  In today’s world, customers want instant gratification.  An episode is released, they want to be able to watch it on their timeframe, at the click of a button.  Pirating is a real issue, and sadly it won’t go away with legislation, and so if companies don’t deliver content in a quick and easy way, they can continue to expect a workaround (call it getting ‘Game of Throned’).  Also, consumers will ideally pay as little as possible, with the aim that when they do pay, it is for things they like, not lumped in with a bunch of crap they aren’t interested in (see music in the CD days, when you had to buy an entire terrible Smashmouth album just to get the one good song; also see Cable TV bundles today).  This ties into a major customer preference: customization.  So what impact will this have?  Unbundling.  Paying $100 for a cable package seems archaic to anybody that knows they can get it cheaper.  And the secret is slowly working its way out:  Netflix plus Hulu plus the basic channels you get from just plugging your TV into the wall (FOX, NBC, CBS, etc.) costs <$10 a month and yet provides an incredible array of content.

So, what can be inferred about the future of this space based on what customers want?  Content must be readily available, customization must be possible, and payment must not feel 90% wasted.

What is economically viable for companies:  Given these constraints, what might be a viable business model?  Companies need to ensure that revenues cover costs.  In the Entertainment industry, companies need a way to generate enough money from hits to cover failures, and they also need a system for pushing new content.  Two potential options come to mind:

The Menu:  This is quite simple, as series are produced they are listed online in places like iTunes for purchase; as with music there is a way to ‘test it out’ before buying more (eg, watch the first two episodes for free).  You can buy on an episode by episode basis, or you can buy full seasons at some kind of discount, it’ll be just like buying music today (single songs versus the album).  As content is largely a marketing industry, this would have to be supported by advanced marketing and recommendation engines to get people experimenting with new shows

Online Subscription: This is a little more fun.  Think of it as cable completely de-bundled.  Now, there is a starting point distribution service, a single site from which you pick and choose which ‘channels’ you want to subscribe to.  Why would you pick a channel?  It has content that you really care about.  For example, as a sports aficionado, I would want ESPN, or something similar, so I would pay whatever the monthly rate is for that.  To make it worthwhile to customers, every channel would need to have either a constant rate of fresh programming or a deep reservoir of content to pick from.  This would make it perfect for reality (including news & sports) where there is always updating and therefore it is worth it to pay a little bit each month.  However, this can also apply to many niches: horror, serialized dramas, comedy (like comedy central), and really anything people are willing to pay for.  Shows could still be released on a weekly basis, but once released they are available for viewing any time.

With the current state of the world (with both iTunes and Netflix), it can be assumed that these two formats will exist side by side.  But which will dominate?  With a menu style service, consumers will expect purchases to be ad-free, and this will forever force it to the secondary market.  Advertisements are a key source of value, and their use allows direct-to-consumer costs to be kept lower.  Also, advertisements are the best system for pushing new content, an absolute necessity in this industry.  A subscription format will be capable of this, and therefore it will come to dominate the future of content distribution.  The menu will likely take the place of buying the DVDs, for the people who are true fans and want the special features and ad-free format.

So then, who is poised to win in this space?  On the menu side, it is already obvious, iTunes is in a perfect position.  On the subscription side, it will be Netflix.  Netflix is an online-focused company with the goal of providing content in an instantaneously gratifying way.  They do not have any major ties binding them to the old cable format, and they are rapidly entering the space of original content (see the recent purchase of ‘House of Cards’ for reportedly more than $100M).  While it is currently a one price gives all subscription, they are fully capable of starting to add secondary ‘levels’ (for example $3 more per month gets you a special ‘horror’ bundle).  They could actively license content, or set up internal productions for different things.  If they’re smart, they will create an effective ESPN competitor.  Eventually, Netflix will be the home source of all viewing content.  They will be the portal through which everybody purchases their ‘channels’.  Some of it will start to look a bit like traditional cable (eg, a standard $100 bundle that provides all the common channels), but it will also create opportunity for more niche concepts, with a wide range in price.

All of this ends with the result:  Netflix will rule the future of TV.


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