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Netflix talks up content as investments skyrocket

Wall Street punished Netflix this week for not making good on its subscriber acquisition estimates, but the company played down the concerns by talking up its content plans.

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Netflix talks up content as investments skyrocket

Michelle Clancy
Wall Street punished Netflix this week for not making good on its subscriber acquisition estimates, but the company played down the concerns by talking up its content plans.

And content will become more and more critical to ensuring membership growth considering that the media majors are leaping into the over-the-top (OTT) market, most notably HBO and CBS, who both announced standalone digital services this week.

Moody's calls the decision by CBS to move forward with a streaming service another step forward in the "transformation" of content delivery, and said that the product will be attractive to millennials and cord-nevers. But, Moody's predicts the service and others from broadcasters and pay-TV won't have a material impact on subscriber demand for streaming-only concerns like Netflix, Hulu and Amazon Prime, considering that third-party content providers will have the ability to set restrictions on content delivery in order to maximize revenue streams. For instance, CBS won’t be offering its NFL games as part of the OTT service.

Netflix CEO agreed. In a letter to shareholders, he noted, “Since our per-member viewing and retention in the US are as strong as ever, we don’t think increased competition from piracy, TV everywhere, Amazon Prime Instant Video, Hulu, etc, is a major factor.”

He also addressed the would-be competitive threat of HBO specifically: “Starting back in 2011 we started saying that HBO would be our primary long-term competitor, particularly for content. The competition will drive us both to be better. It was inevitable and sensible that they would eventually offer their service as a standalone application. Many people will subscribe to both Netflix and HBO since we have different shows, so we think it is likely we both prosper as consumers move to Internet TV.”

No wonder Netflix is hitting the content message hard: it’s spending quite a bit to bring its plans to fruition, resulting in margin pressure. In other words, the investment needs to pay off. And in Q3, it didn’t.

The company’s total streaming content obligations increased significantly, to $8.9 billion in the quarter from $7.7 billion at the end of Q2, which includes $3.6 billion on the balance sheet. The increase was driven by the multi-year commitments associated with the latest market launches in Europe and the continued expansion of original programming, including its first original movie, Crouching Tiger Hidden Dragon: Green Legend, which Netflix will make available online and in IMAX theatres..

So, Hastings was careful to stress that he expects Netflix’s ongoing investments in content to boost subscriber numbers going forward.

Chief content officer Ted Sarandos told the MIPCOM 2014 audience that Netflix is “accelerating the [streaming film] model by putting our money where our mouth is. We're acting under a movie distribution model that's been in place since the beginning of movies on television in the early 70s."

Sarandos also talked up the arrangement to develop content with Adam Sandler—the first project there is set for a 2016 release. He said that Netflix plans to shake up the business model for original film.

"The Adam Sandler's movies will go directly on Netflix, we're not going to open them in theatres anywhere," he said. "And it's a big deal because for the last 20 years, Adam Sandler has had a successful movie in theatres every summer. So this is a very innovative step for someone like him who's a real movie star."

Next-gen content is part of Netflix’ playbook for the future too, and it’s trying to build an early business model around that to recoup some of its to-date investment. This week it announced that it is offering a $12 ‘Action’ family plan, a $3 premium over the standard streaming subscription, for access to UltraHD content. The portfolio is still very small, and includes only a handful of 4K titles so far, like House of Cards series 2, Ghostbusters and Ghostbusters 2, and the Smurfs 2. Breaking Bad and the Blacklist will be coming in 4K soon, it said. The company overall is targeting 2015 to have a host of additional UltraHD content available.

The company hopes it will be a big differentiator: A lack of broadcast standards for 4K television feeds means that “streaming will be the best way to get the 4K picture into people's homes,” Neil Hunt, chief product officer at Netflix, in an interview with the Verge last year.

Netflix subscriber additions were lower than expected for the third quarter at 3.02 million, bringing total members globally to 53.1 million. On the home front, Netflix added only about a million new members in the US, ending Q3 with 37.22 million members. That’s lower than forecast and lower than the prior year. Internationally, it added two million members, to end the quarter with 15.84 million subscribers—that’s also lower than forecast, but higher than prior year, and it’s a number that’s bound to increase thanks to recent additional launches in Germany, France and other markets in Western Europe.

The company is forecasting adding another 4 million members in Q4, ending 2014 with more than 57 million global members total.

“For the prior three quarters, we under-forecasted membership growth. This quarter we over-orecasted membership growth,” Hastings said. “We’ll continue to give you our internal forecast for the current quarter, and it will be high some of the time and low other times.”

The margin questions most certainly spooked investors, who drove Netflix stock down by 26% this week. But it’s worth noting that profit was up, with the company reporting earnings of 96 cents per share on revenue of $1.22 billion in revenue. Domestic streaming revenue came in at $877 million, which is a 25% spike year over year—a result, the company said, of the $2 increase in monthly streaming subscription pricing that went into effect in Q2. International revenue came in at $346 million, growing 89% year over year.