Wednesday, 19 November 2014

Streaming into Netflix

Netflix (NFLX) is the world's leading internet television network. Its 50 million customers are able to stream what they want to watch, anytime, anywhere on any internet connected device. It's a much better experience than linear TV as it gives you the power of choice with no advertising. NFLX can recommend shows for you based on what you have watched and you can watch as many episodes of a particular series as you want. There is no need to wait for next Sunday 7:30pm to catch up on your favourite show.

Its here March 2015
NFLX has announced that it is finally coming down under. It charges $8.99 a month in the US but there has been no announcement of the pricing here. NFLX can charge cheaper prices as it cuts out the middle man it doesn't need to pay a cable operator half their revenues. NFLX has a relationship direct with the consumer, there is no need for a commitment users can come and go as they please. It is likely that Australians will get less choice than US viewers as NFLX has to separately license shows for each region. But this should change over time, this year NFLX plans to spend $3 billion on content.

30% of all internet traffic
NFLX is a big success in America with more subscribers than HBO. The picture below is over a year old but the data is still the same NFLX basically takes over the internet during prime time. Traditional TV viewing is dropping because of increasing internet television. Since this chart was released a year ago Youtube has actually dropped to around 13% of usage.

Originally original
NFLX is all about TV series and movies. It does not stream news, sports or music videos. It is beginning to differentiate itself with exclusive content like HBO that you cannot find elsewhere. NFLX has produced House of Cards, Hemlock Grove and Orange is the New Black which have all been hits. While it did not win any Emmy's 31 nominations is a great start for a company that has just started to produce their own shows. The next big series to be released will be Marco Polo on December 12 a ten part series. Developed by the Weinstein brothers they are talking it up as their Game of Thrones. The series is estimated to have cost $90 million see preview below. To put this spend into context the first Mission Impossible movie cost $80 million.

Getting the best talent
NFLX has an advantage in launching new shows as they don't have limited viewing spots like traditional TV. NFLX is much more flexible with programming and can attract some of the best creative talent because they know NFLX will stick with their show and not pull it after two weeks.
NFLX is also looking to upend the movie release schedule. NFLX has announced a sequel to Crouching Tiger Hidden Dragon and will give subscribers instant access to the movie at the same time its shown at the cinema. It will be released on the same day as it appears in Imax theatres most other movie chains are refusing to show the film.

The power to binge
The great thing about NFLX is choice and many viewers choose to binge watch. Binge watching has been defined as watching 2-6 episodes of one TV series in a sitting. NFLX conducted a survey last year and found that 61% of members binge watch regularly. The majority of NFLX's most popular shows are Breaking Bad, Mad Men and the Walking Dead that are perfect for binge viewing. Starting Jan 1 they will stream the entire series of Friends. There were also rumours that they were in talks for the Seinfeld series, fingers crossed.

Just in case you get too carried away apparently the best way to stop the binge cycle is to watch the first couple of minutes of the next episode. If you can stop yourself early all your problems/concerns will be resolved and you won't be engrossed enough yet in the current episodes issue or drama! The current record for binge watching is 87 hours straight.

Watching the investment
I personally like to invest in companies that I love as a consumer. NFLX is a killer consumer product disrupting the industry but as an investment it is trickier. Their last result was a little concerning it hiked prices by $1 to $8.99 which resulted in new subscriber sign ups which were less than the prior year. This was worrisome as they should still be in the early innings of growth. They have guided to an addressable market of between 60-90 million just in their domestic market the US. This subscriber number is the most important as NFLX has fixed content costs. A new subscriber is more profitable as fixed costs are covered the extra revenue drops to the bottom line. Its a virtuous circle the more subscribers they have the more content they can spend on which creates more subscribers.

Free cash flow was also an issue. Funding new shows is expensive with costs created up front before the benefits come in. NFLX have hinted that free cash flow will suffer as they spend more on original content. I personally think these are short term issues but given the stocks high valuation we will watch the subscriber numbers very closely.

TV or Netflix
NFLX has given users the power of choice. It hasn't even entered Australia yet but it is already bringing benefits to Australian consumers. Forcing Foxtel to finally compete by dropping the price of its basic package in half from $50 to $25. The conversation is no longer which channel to watch but whether to put on TV or NFLX. Traditional TV is great for news or sports but for everything else there's NFLX.


Disclosure: Decisive does not have a position in Netflix (NFLX) stock.

The material in this article is for informational purposes only and in no way constitutes a solicitation of business or investment advice. The material has been prepared without regard to any client's or other person's investment objectives. Before making an investment decision you should consider the assistance of a financial adviser and whether any investment or service is appropriate in light of your particular investment needs.