Following quarter after quarter struggling to make the content model work, Netflix is emerging with a new approach to its role in the competitive landscape — one that hinges on a continuing original content strategy which sets it up to truly compete with cable rather than act as a supplement.
The approach has investors jazzed, but some Wall Streeters caution against getting swept up in the euphoria — pricing and continued customer acquisition will be the lynchpins for the company going forward.
“Netflix does not seem to be able to put a wrong foot down these days,” Beevest analyst Benedict Tubuo said in an investor note on Seeking Alpha. “It has returned a hefty 132% YTD, had multiple days of double digit percentage gains and succeeded to keep Carl Icahn quiet. Its total revenue, gross and net income have mostly exceeded expectations and if it keeps its momentum it will surely be one of the stars on the NASDAQ by the end of the year.”
That growth, Tubuo said, is a direct result of a significant shift in strategy. “By allowing its deal with Viacom to expire, Netflix clearly demonstrated its preference to move away from the all-you-can-eat model to an a la carte model that allows it to pick and choose the content it buys,” Tubuo said. “This approach, coupled with its new emphasis and early success with original content, should position Netflix to become a premiere source of home entertainment rather than a complement to cable.”
With House of Cards, Hemlock Grove, Arrested Development and Orange, Netflix is working on a "redefinition and broadening of what Netflix is,” according to CEO Reed Hastings. Tubuo noted that if this redefinition is successful Netflix will effectively be on its third business model in its short-ish history, and will effectively have gone from a DVD rental service to a network or studio equivalent in record time.
“This shift is an obvious side effect from increasingly belligerent content providers who realised that Netflix was becoming a threat and decided to play hardball to protect their turf and prior relationships with cable providers,” Tubuo noted. “The new phase of selected content and original shows puts Netflix in direct competition with a rich variety of very capable companies like Comcast, Time Warner Inc, Amazon, Microsoft, Sony Corporation and Coinstar Inc, just to name a few. Minus live shows, the New Netflix is a premium, cheaper and more convenient alternative of cable.”
Tubuo did say that Netflix will likely not enjoy the spotlight all alone for very long. “Netflix grew on disruption and should appreciate that success might not only lead to copycat imitators, but might lead to imitators that actually provide similar services that disrupt its business model,” he said. “A good example of this is Aereo, a service that captures freely broadcasted live TV and digitally retransmits for a fee.”
Microsoft, Intel, HBO and Amazon in particular pose competitive threats to Netflix’s new original content-fueled model, and could spark a price war that would disrupt the company’s margins — and its content generation activities. Tubuo cautions that the company should focus less on viewership metrics, and more on strategic positioning and potential pricing changes. Hastings said that the company essentially has a price freeze at $7.99 per month for streaming, which has garnered loyalty. But Tubuo thinks it may be unwise to commit to that going forward.
“If Netflix is transitioning to compete directly with cable and HBO, it needs to measure paid subscriptions only, test elasticity of its pricing, define success of original content beyond recouping the cost of production, and also expand a bit more on the overlaps of its content with other providers,” he said. “It needs to better explore the budget limits of customers for video (on-demand, streaming and live) and finally quickly determine how it will make more money from its current customer base without losing them.”
Customer growth will be critical, Tubuo added. “If Netflix can grow to 60 million or 90 million users as was softly mentioned at the last quarterly call, then maybe Comcast needs to be trading at 17X and Netflix at 600X after all,” he said. “At 90 million paying subscribers they will be doing something that HBO could not do and they just might be able to do to Comcast, Amazon Prime, HBO, studios and networks what they did to Blockbuster. I will never say never, but I will not keep my fingers crossed for that and will continue to believe that Netflix is currently overvalued and bound for a correction.”