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June 13, 2013
Analyzing Netflix's Economics Misses Netflix's Long Game
Trying to guess Netflix's content economics
seems to be a popular pastime this year; however, as Felix Salmon describes, these analyses are missing the forest for the trees. The latest entry in this game is a nicely written in-depth piece by Matthew Ball for Ivey Business Review
Ball looks at the cost of Netflix producing original content, and in particular what do those costs pay back in terms of building Netflix's subscriber base. This is a natural follow-up to Netflix's recent restart of Arrested Development. The show built up a following while it was on Fox but those who still want more now go to Netflix to get it. Ball goes deep dive, calculating things like Netflix's cost-per-minute and then comparing the value of paying Netflix solely for a specific piece of content you want (like Arrested Development) versus paying for other kinds of specific desired content such as a first-run movie.
These are great numbers, but I think they fundamentally miss what's going on, as Felix Salmon analyzes in his blog post today. I don't think anyone calculates the cost-per-minute of an entertainment offer, even subconsciously. The question is really can I get what I want there, and how much am I paying for what I want? Sure, some of the ongoing wave of cord-cutting is due to people not wanting to pay for big packages in order to get the specific content they're interested in. But that's big-view stuff, not the numbers that Ball is analyzing.
Salmon makes three points I think are worth keeping in mind. One is that original content is not just there to draw new subscribers - it's also a way to keep current subscribers. Netflix suffers from tremendous subscriber churn and the cost of acquiring subscribers has to be high.
Two is that Netflix is essentially bent over a barrel by the Cartel right now. If they appear to be making more money, then the broadcasters just hike the license fees to siphon off that revenue. Ball notes that Netflix had to pay fees of over USD 1.3 billion (yes, billion-with-a-b) in just the first quarter of this year. And I'm sure those fees are going to go up. No matter how expensive it may be to produce original content Netflix can be sure that it alone has control over that expense and isn't going to turn around and find its costs have doubled next quarter because of someone's external decision.
Third and finally, Salmon argues that Netflix isn't playing a quarter-to-quarter or even year-long game. Here's the money quote:
[Netflix wants] to become HBO faster than HBO can become Netflix
Exactly. HBO, with its disastrous response to demand for Game of Thrones
, showed how badly it misunderstands new media models. Netflix isn't exactly an agile start-up, but they have the potential to beat HBO at this game if the cable giant sits back and continues to do nothing. With a library of high-quality original (again, licensing-free) content on hand, Netflix will be in a much stronger position to keep customers engaged and paying those all-important subscription fees.
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