Netflix: Beginning of Streaming

In 20 years from now, we will all be able to click and watch TV Reed Hastings

Source: Unsplash

Netflix is a company that has taken entertainment to another level with its interactive, up-to-date, and user-friendly platform. With its industry-leading machine learning personal recommendations system and massive scale of original productions. Netflix has grown from 22 million in 2011 to 182 million subscribers, owning 13,500+ title licenses and is increasing its original production scale.

To entertain the world — Netflix (Corporate Mission)

Netflix was founded in 1997 by Marc Randolph and Reed Hasting (Current CEO) , with a pay-per-rental business model operates both on the internet and physical rentals. In 2000, the company revised their business model and has decided to change their pay-per-rental business model to its current “All-In-One” monthly subscription plan. Interestingly, Due to liquidity and incapability to scale, Marc has offered Blockbuster Netflix with a price tag for $50 million, however Blockbuster decided to declined its offer.

As Netflix‘s video streaming service continues received popularity throughout the decade, the business with 1 million paid-subscribers issued their initial public offering, raised $82.5 million, valuing the company at 250 million. From 2002 to 2010, Blockbuster launched Blockbuster Online to combat with Netflix, other streaming providers like Redbox (Closed), Prime Video, Hulu , validating the market opportunity of on-demand streaming services.

In early 2010s, Netflix expanded its coverage from North American internationally, beginning from South American to European to Asia. From the service as well as the production standpoint. A few key decisions Reed, as the CEO of Netflix has made over the years are: (1) Split-off its physical rental services as Qwikster (2011), (2) Establish Netflix’s Original Series (2013), (3)Introduce account feature with 5 user profiles with distinct recommendation algorithms (2013). Which have all led to Netflix’s current business model and significant competitive advantage over others.

If the Starbucks secret is a smile when you get your latte… ours is that the Web site adapts to the individual’s taste. Reed Hastings, CEO of Netflix

80% of the TV shows are discovered through Netflix’s recommendation platform system. Customer experience is the modern foundation of corporate success, for instance Amazon, McDonalds, Instagram. The traditional movie recommendation is really generic, it is typically sorted by the language, broad theme, year of production and customer ratings. However, it often failed to satisfy customer’s needs as they are not specific enough to identify one’s preference in movies and TV shows.

Netflix utilizes its technological capability in machine learning and its data pool derived by active users to engineer a distinct algorithm to distinguish movies that are highly relevant and personalized to the user — Ultimately increases customer satisfactions. In application, Netflix labels each movies/shows with specific descriptions including the actors, settings, plots, length, sub-themes etc, and collects two types of data from you —implicit and explicit data. Explicit data refers to thumbs-up/thumbs-down and search history, implicit data includes view-time, consumption variation in different time of the day, re-watching behaviour.

This grants Netflix a competitive edge over their competitors as they do not have the data pool of millions of subscribes to deploy its machine-learning models. Personalized recommendation has rooted in Netflix since the beginning, During 2007 to 2009 Netflix hosted 3 open competitions for the best collaborative filtering algorithm for engineers, offered each winner with $1,000,000 cash prize each year.

According to Investopedia, A value chain is a business model that describes the full range of activities needed to create a product or service. As the more stakeholders involved in the process the more mark-up it incurs. The streaming business model’s value chain cannot be simpler, there is content creation and distributions. The competitive edge begins with Netflix establishing its original series.

Before House of Cards, all Netflix contents are created by a third-party studio, the only way Netflix could put their contents on its website is by buying their copyrighted licenses, and they are the largest drivers for the company. Even till now, they spent 12.4 billion (62% of their revenue) into acquiring licenses (2019 data), relative to its 2nd largest operating expenses of 2.4 billion (13%) directed into sales & marketing. Netflix’s original series is established whereas Netflix needs to reposition itself in the competition against greater competitors e.g Disney and Amazon. The exclusivity has helped the Netflix to fill the gap for the missing movies (Disney) and built a relational attachment between the customers and Netflix’s Original contents.

By scaling Netflix’s Original production, not only it reduces the mark-up from licensing fees, it mitigates the problem of increased rivalry and new entrants to the streaming industry. Earlier, the public has questioned about Netflix Originals studio could kill its profitability and not being able to provide high quality contents. However, according to ARK Investment, data suggested that quality content is key to acquire new subscribers and a robust library of contents is the key to retain them.

Source: ARK Management

Strategic Decisions

Netflix’s roll-out strategy began with its standard plan, and introduces premium and basic plan to target different demographic effectively. Subscription plans have hiked almost bi-annually and the low churning rates have proven its high elasticity. Which is a positive sign for Netflix’s product.

Source: Fast Company

In 2019, Netflix realized the massive account-sharing activity , Netflix imposed device access limit to crowd-out accounting sharing activity. In 2020 Netflix recognized there are inactive accounts that affect its user analysis basing on categories, in order to remove clean data they decided to terminate inactive accounts.

Due to license right coverage does not apply everywhere in the world, Netflix is responsible to restrict access from regions to access certain contents. This is a challenge for Netflix because it requires substantial investment into the technology and yet there are always loopholes for people to get around within the device-locating proxy. Netflix’s spokemans said “People will always try and find ways to get the content they want no matter the technological barriers,”

However, the scenario Netflix has began to invest into their identification technology and VPN ban system to tackle the problem in different ways: target VPN carriers system IP addresses, extend verification process by asking for mobile number and track abnormal travel within devices. Furthermore, Netflix is able to leverage its technology to attract emerging countries into the ecosystem by introducing free trial without the fear of massive audience using VPN to bypass monthly payments.

Netflix is the one Silicon Valley company that tells their employee “We are not a family”. The environment is not friendly nor supportive relative to their peers at Google, Microsoft, Uber etc. According to The Wall Street Journal interviewed, 70 current and former Netflix employees described the environment as “ruthless, demoralizing and transparent to the point of dysfunctional.” In application, two examples of these practices are “Sun-shining”, which encourages employees to share a mistake they have made with colleagues thereby promoting transparency, and the “Keeper Test” where, as part of the review process, managers must ask themselves whether they would fight to retain an employee or not. Read more practices at Harvard Business Review.

I’ve worked very hard, but my life’s always been fun.
CEO of Netflix, Reed Hasting

Meanwhile as the corporate culture is primarily drive by fear, Netflix offers 25% to 50% higher salaries to their employees than legacy media companies excluding stock compensations. Entry-level roles make between 70–80k, managers are expected to have $150k base salaries and Vice Presidents are guaranteed to make at least $1 million dollars. The intense risk-rewards relationship have provided extraordinary motivations for employees to perform well.

It is a really interesting decision where starting in 2010 Netflix began to invest into TV shows production instead movies. In the streaming war, quantity is proven more important than quality. Because first the competition for quality movies are too strong, secondly the minute of content available on TV shows outweigh the movies, thirdly a series of TV shows tend to form greater relationship than movies.

Source: ARK Investment

As HBO, Prime Video, Disney+ roll-out to the market, they adopted really similar business models then Netflix do, also most of them have applied their advantageous features to better compete. HBO invests a little more onto quality, Prime Video leveraged their cloud infrastructure and prime membership to acquire new customers, Disney connects their own massive amount of contents onto the mobile application. All of them focus on user navigation, complete over price and quality to gain market share.

However, the pandemic in 2020 has taught the market that the streaming industry is a little less competitive as it seems, because in fact households do subscribe more than one streaming service. In fact 70% of US households subscribed to one of the streaming services and a quarter of them subscribed to two or more streaming services. Most streaming services have received positive growth during the pandemic at different pace yet price does not seem to be playing an important role at the moment.

The competitive landscape is going to be more and more intense in the upcoming year, the barrier of entry is extremely high in 2020 because it is almost impossible to start a streaming business if you do not create original content yourself. Streaming service takes an unprecedented role for media companies and it would continue in the future because of its ubiquitous distribution and customer self-navigation nature. Sales & marketing competitions have already began as most services offer free trials and bundle sales with telecommunication or other streaming providers. It will be hard for less-established firms like Quibi and HBO to build brand loyalty within their existing customers in the same time penetrating the market for market share.

In the following decade, their competitors can going to primarily compete within the two spectrum, content creation and distribution, which are the main blocks in the value. There maybe other factors that could come into play in the competition, such as integrating existing services (Amazon) or creating physical experience (Disney). However, with Netflix’s blueprint other competitors can easily modify and innovate in the media distribution block.

The content creation block is going to be key for at least the first half of 2020s, Original contents imply flexibility/profitability by having titles license ownerships, exclusivity in product selections and quality control including creating sensitive topical contents. Netflix’s original idea about establish Original series was to reduce cost from purchasing licenses from third-party, however it turned out Netflix Original captured a new pool of audience and was able to increase demand elasticity. As a result, not only Netflix could better compete with media giants but also building a moat against entrants.

Titles like Orange is the New Black, The Office continued to roll-out new seasons. Netflix is going to replicate its Original Series in an international scale, developed markets such as North America and European have shown decreasing signs of paid-membership growth and the streaming service should look forward to a acquire new customers in developing regions before somebody else does.

As E-commerce continues to rise and physical retailers are becoming less profitable, the commerce space could be a possible alternate revenue that Netflix could dive into in the future.

How will Netflix’s value proposition stand within the commerce industry? And how will it look like? Netflix, as a content media giant, could potentially extract value from its contents in addition to its subscription plan. There are superfans within the subscribers that are personally attached to certain shows or series and it could be a market opportunity to introduce merchandise, accessories or tickets to meet-up events sales.

Spotify grants early-access to ticket sales to partnered artists, Disney upwells its contents by merchandise and theme-park ticket sales and Netflix could have done something similar to provide a shoppable entertainment for subscribers.

Netflix’s business model has gone from a DVD rental service to an online streaming giant which manifested that successful business idea do not necessary have to be game-changing in the beginning, however an agile mindset with customer-oriented strategy are what takes Netflix to this point. Netflix’s investments into personalized recommendation technology, original content creations, international marketing exposure have fuelled the explosive growth. Which led to Netflix being the best public equity investment from 2010 to 2019.

Source: Unsplash

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