Netflix: a disruptor loses its edge

Netflix fell 12% in after-hours trade in the US on Monday night to US$85.90. It’s likely to go lower, in my view.

Here is the problem. The company yesterday reported a 40% shortfall on its own 2.5m subscriber growth number estimate for the quarter.

Netflix says it’s all about the price rise (US$1/sub/month to US$9.99), but it’s worse than that. Netflix got an early free kick, content-wise, 20 years ago, courtesy of the fact that the Hollywood studios (including Fox, Columbia, etc) incorrectly priced their older series, by which is meant underestimated the level of viewer interest in shows more than two years old. This allowed Netflix to get an early hold on a bunch of subscribers. By the time Hollywood had worked it out, or could re-price the deal, Netflix had gone through the 10m subscriber level, which meant that it could raise capital to fund the next round of growth.

It did not waste opportunity, using that capital to seed new shows. Hence House of Cards and Orange is the New Black, among many others. It did this because it quickly understood that once the technological novelty of on-demand, advertising-free tv wore off, it would be left to compete purely on the quality of its new exclusive shows, which is the only way the company can drive new subscribers and keep existing ones. It’s a metric to which the company manages – it is aiming for as much as 50/50 ratio of its own shows to those of the other Hollywood studios.

But the game has moved on. Technology is no longer a barrier, on-demand TV is here, and in fact Hollywood (which is in the business of selling as many shows as possible to as many viewers as possible) is actively encouraging Netflix competitors. This is the reason that Stan has built itself a business in Australia, while in the US the studio majors including Comcast, Disney and Time Warner are also fielding candidates in the space (X-One, Hulu, HBO Go etc).

So Netflix is in a race with a lot of new competitors. It must put together as many new shows as it can, as fast as it can. The practical reality is that all the other studios are doing exactly the same, in a bid to seed their own Netflix-sized businesses.

This means that Netflix is forced to compete on its exclusive shows, since everything else is offered pretty much everywhere else. It will get interesting from here.