Wednesday, January 21, 2015

Netflix Posts Strong Results, But For How Long?

Netflix (NASDAQ: NFLX) posted better than expected earnings, revenue, and subscription growth after the close yesterday, propelling the stock to a 17.3% gain today.  Of note are their projections for a consistent year over year gain of 5 million subscribers, coupled with their entry into international markets.  At first glance, it's no wonder that the stock soared today.

It's prudent to question, however, just what the long term prospects are for this style of low-cost subscription based streaming.  Challenges in this space are not limited to Netflix, so there's no provider of this service available today with an edge, and when it comes to availability and content Netflix is the clear winner. Today.  They are available on more devices - especially in the older Blu Ray player market - and they are the hands-down winner when it comes to the number of shows or movies available. Today.

The fundamental problem facing Netflix is that we live in an instant gratification society, but for streaming content, the wait may be well over a year before it becomes available.  Before a streaming license is granted, all other revenue streams are exhausted.  The extremely popular HBO series "Game of Thrones," for example, is still not available for streaming on Netflix even though the series enters its fifth season this April.  They offer it in their DVD subscription, but not their streaming subscription.

Another challenge facing these providers is the ability to maintain the licensing for existing content.  Recently, for example, Netflix announced that their license with the BBC expires at the end of the month, and - except for a handful of popular shows - it is not being renewed.  It's not uncommon for a viewer to be midway through watching a series when the license is pulled and the remainder of the series becomes unavailable.  (This happened to me with the Highlander series in which the license was pulled when I had only the last episode - the second half of a cliff-hanger - to watch in the entire series!)

While Netflix must deal with the frustrations of its current user base, the number of competitors in that space continue to grow stronger.  Amazon Prime and HuluPlus are two with a similar model, and both are adding content at a very rapid pace.  They are all competitively priced.  While they, too, suffer from the same licensing issues, they are all competing for the same customer demographic.

In their Letter to Shareholders that accompanied the earnings announcement, Netflix admitted that they have serious competition from piracy, and a graphic they used to accompany the release showed BitTorrent styled client "Popcorn Time" surging into the Netflix market share space in September 2014, and keeping pace with Netflix ever since.  There are plenty of other pirate streaming sites out there that are equally popular, and that popularity is growing.  Piracy would be far less of an issue of Netflix were able to secure the licensing for current shows.

One pay-as-you-go site that is a real threat to Netflix is Vudu.  This site allows you to buy or rent movies and TV shows almost immediately, and for a very competitive price.  The most current episode of a TV show is available immediately, even before it appears in an On Demand menu at your cable provider.  When it comes to legal - not pirated - instant gratification, this service fulfills every need.

Original content is the way subscription services are getting around the instant gratification issue, however the competition in that space is growing rapidly.  Amazon Prime and Netflix are adding original content at a rapid pace, so there's really no edge to Netflix here.

For the moment, I understand Netflix' soaring stock price, and I understand the enthusiasm around the subscription rates.  What I don't believe, however, is that it is sustainable.  As other providers enter the game, as the popularity of current-show services (like Vudu) grows, and as major players like HBO begin to offer their own streaming for shows, I expect the decline in Netflix' subscriptions to be rapid.  Time will tell, but I don't think time is on the side of Netflix.

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