Netflix Needs to Change Its Content Strategy

<p class="canvas-atom canvas-text Mb(1.0em) Mb(0)–sm Mt(0.8em)–sm" type="text" content="On Dec. 30, Netflix Inc. (NASDAQ:NFLX) made a big announcement. The streaming giant said that, of all films and series released on its platform in 2019, its own content won out as the most viewed. ” data-reactid=”11″>On Dec. 30, Netflix Inc. (NASDAQ:NFLX) made a big announcement. The streaming giant said that, of all films and series released on its platform in 2019, its own content won out as the most viewed.

<p class="canvas-atom canvas-text Mb(1.0em) Mb(0)–sm Mt(0.8em)–sm" type="text" content="At first glance, this development might seem like a vindication of the company’s aggressive move into content production. However, a look beneath the surface reveals something far less impressive. ” data-reactid=”12″>At first glance, this development might seem like a vindication of the company’s aggressive move into content production. However, a look beneath the surface reveals something far less impressive.

<p class="canvas-atom canvas-text Mb(1.0em) Mb(0)–sm Mt(0.8em)–sm" type="text" content="High cost of content” data-reactid=”19″>High cost of content

<p class="canvas-atom canvas-text Mb(1.0em) Mb(0)–sm Mt(0.8em)–sm" type="text" content="Licensing streaming content is wildly expensive, and is only getting more expensive as streaming platforms proliferate. Even Netflix’s top executives have been shocked at the pace of price escalation. During the company’s third-quarter conference call, CEO Reed Hastings was left briefly aghast when his chief content officer laid out the scale of escalation in 2019 alone. As Hedgeye’s Andrew Freedman pointed out on Dec. 22, this escalation has emerged as the result of fierce and growing competition:” data-reactid=”20″>Licensing streaming content is wildly expensive, and is only getting more expensive as streaming platforms proliferate. Even Netflix’s top executives have been shocked at the pace of price escalation. During the company’s third-quarter conference call, CEO Reed Hastings was left briefly aghast when his chief content officer laid out the scale of escalation in 2019 alone. As Hedgeye’s Andrew Freedman pointed out on Dec. 22, this escalation has emerged as the result of fierce and growing competition:

“Scripted content inflation historically runs call it 8-10% per year. Things are hot now with so many new entrants so probably 10-12%.”

<p class="canvas-atom canvas-text Mb(1.0em) Mb(0)–sm Mt(0.8em)–sm" type="text" content="As much as Netflix has reassured investors that this price escalation will stabilize, the available data – and Freedman’s analysis – tell a very different story. Indeed, Netflix is liable not only to face continued high licensing price escalation, but also to find that it will get substantially worse as new platforms come online.” data-reactid=”24″>As much as Netflix has reassured investors that this price escalation will stabilize, the available data – and Freedman’s analysis – tell a very different story. Indeed, Netflix is liable not only to face continued high licensing price escalation, but also to find that it will get substantially worse as new platforms come online.

<p class="canvas-atom canvas-text Mb(1.0em) Mb(0)–sm Mt(0.8em)–sm" type="text" content="Of course, Netflix’s answer to this licensing problem has been to bet big on its own internally-produced content. But this is extremely expensive. Indeed, the company will likely spend $15 billion on content production in all of 2019. That is unsustainable, unless that content begins paying dividends.” data-reactid=”25″>Of course, Netflix’s answer to this licensing problem has been to bet big on its own internally-produced content. But this is extremely expensive. Indeed, the company will likely spend $15 billion on content production in all of 2019. That is unsustainable, unless that content begins paying dividends.

<p class="canvas-atom canvas-text Mb(1.0em) Mb(0)–sm Mt(0.8em)–sm" type="text" content="Questionable value” data-reactid=”26″>Questionable value

<p class="canvas-atom canvas-text Mb(1.0em) Mb(0)–sm Mt(0.8em)–sm" type="text" content="Netflix seemed to have answered this question in the affirmative this week when it announced that its top content produced during 2019 beat out content licensed in the same period for the first time. This sounds like quite an achievement. However, the methodology of this finding is highly questionable.” data-reactid=”27″>Netflix seemed to have answered this question in the affirmative this week when it announced that its top content produced during 2019 beat out content licensed in the same period for the first time. This sounds like quite an achievement. However, the methodology of this finding is highly questionable.

<p class="canvas-atom canvas-text Mb(1.0em) Mb(0)–sm Mt(0.8em)–sm" type="text" content="According to a Wall Street Journal report on Dec. 30, Netflix changed its methodology for determining what "watched" means in the context of views. According to a Netflix spokesperson, the company judged two minutes of streaming to count as a view. Yet, as the Wall Street Journal pointed out, this is very different from what Netflix has done in the past:” data-reactid=”28″>According to a Wall Street Journal report on Dec. 30, Netflix changed its methodology for determining what “watched” means in the context of views. According to a Netflix spokesperson, the company judged two minutes of streaming to count as a view. Yet, as the Wall Street Journal pointed out, this is very different from what Netflix has done in the past:

“Often Netflix has provided more detailed viewing data, typically when it is reporting its financial results. In those cases, Netflix has counted a viewer as someone who watched at least 70% of a movie or TV show. The two-minute methodology, the spokesman said, eliminates the bias toward short-form content, compared to longer shows and movies, that the 70% threshold has, so is better suited when ranking popularity.”

<p class="canvas-atom canvas-text Mb(1.0em) Mb(0)–sm Mt(0.8em)–sm" type="text" content="That is a big shift in its own right, and liable to result in substantially different metrics. The distortion is all the more likely when one considers that Netflix privileges its own content on its homepage, meaning that it often autoplays when users log on. Julia Alexander, Verge’s streaming industry reporter, explained why this matters:” data-reactid=”32″>That is a big shift in its own right, and liable to result in substantially different metrics. The distortion is all the more likely when one considers that Netflix privileges its own content on its homepage, meaning that it often autoplays when users log on. Julia Alexander, Verge’s streaming industry reporter, explained why this matters:

“By this metric, people who opened Netflix, left the room to attend to anything, and came back to the top carousel title playing (because that’s what it does), and then exited out, would have counted as a view. Same with hovering over a title, it autoplays, and then exiting.”

<p class="canvas-atom canvas-text Mb(1.0em) Mb(0)–sm Mt(0.8em)–sm" type="text" content="In other words, much of Netflix’s claimed content victory is likely down to gaming its own platform’s priorities. When a company has to resort to such gimmicks, it is usually a red flag for investors.” data-reactid=”36″>In other words, much of Netflix’s claimed content victory is likely down to gaming its own platform’s priorities. When a company has to resort to such gimmicks, it is usually a red flag for investors.

<p class="canvas-atom canvas-text Mb(1.0em) Mb(0)–sm Mt(0.8em)–sm" type="text" content="Strategic change needed” data-reactid=”37″>Strategic change needed

<p class="canvas-atom canvas-text Mb(1.0em) Mb(0)–sm Mt(0.8em)–sm" type="text" content="If Netflix continues to spend billions of dollars on new content with only limited (if any) financial return, it will find itself in peril. Netflix is already saddled with a massive long-term debt burden. As that comes due, fresh content production will become increasingly difficult.” data-reactid=”38″>If Netflix continues to spend billions of dollars on new content with only limited (if any) financial return, it will find itself in peril. Netflix is already saddled with a massive long-term debt burden. As that comes due, fresh content production will become increasingly difficult.

<p class="canvas-atom canvas-text Mb(1.0em) Mb(0)–sm Mt(0.8em)–sm" type="text" content="Not all is lost, however. As Andrew Freedman opined on Dec. 27, it would be possible for Netflix to right its finances somewhat if it can pull back on its original content output and reposition itself as the licensed streaming platform of choice:” data-reactid=”39″>Not all is lost, however. As Andrew Freedman opined on Dec. 27, it would be possible for Netflix to right its finances somewhat if it can pull back on its original content output and reposition itself as the licensed streaming platform of choice:

“I am still convincedNFLX should cut output by 20-30%, be more intentional in creative decisions and refocus their marketing efforts. Effectively swap content spend for marketing, but still net $2-3B of cost savings annually and put them on a path to positive free cash flow.”