Thursday, December 6, 2012

Analyzing the Disney - Netflix Deal

This already much discussed content deal was announced fresh on the heels of our discussions together Monday at the Forecast : Hollywood event where we discussed at great length the digital subscription window and how it impacts content owner profitability and why it is driving the vast majority of growth in digital video consumption.

But the more I discussed this Tuesday and Wednesday with various industry colleagues, and the more I read articles covered by various newspapers, the more I realized that there are details and nuances in how content windows work and what is driving servicer provider profitability and consumer consumption that not everyone is fully aware.

So let's examine a few of them from the three most important views in this equation: Disney, Netflix and the Consumer.

1. The Consumer. This is the easy one. Assuming that price for the Netflix subscription doesn't increase, this is clearly a win for the consumer. They get access to movies as they move through the Pay TV window (typically 3-6 months after DVD street date for 6 months. Keep in mind, that regardless of who the consumer is, it is cheaper to have Netflix than it is HBO or Starz (on my AT&T package, HBO is $14 a month, Starz is $10 and I pay $8 for Netflix streaming only). For those parents with young kids--this is really, really good value.

2. Netflix. The articles sight analyst estimates that Netflix paid as much as $300 million per year for this deal when Starz only offered $100 million per year. The journalists further mention the concern that Netflix is financially over extended already, having paid significant sums of money already for Relativity and DreamWorks catalogs. But keep in mind how this works for Netflix. This isn't a $25 million per month cost to them (roughly $1 a day at current subscriber levels), bur rather this is an investment in attracting more subscribers. Let's assume this is a 3-year deal. To keep the math simple, we'll assume that any new consumers are only on board for 18-months of service (ie the linear average of all new sign-ups over the forecast period). Let's make one more simple assumption--that the average Netflix subscriber pays $10 per month (meaning some mix of streaming only and streaming + disc). So, while currently at roughly 25m million subscribers, Netflix would need to sign up an additional 5m subscribers to break even over the forecast period (meaning if they don't renew the deal after 3 years, every single subscriber who joined perhaps because of the Disney content leaves the service). I realize growing by 20% seems like a huge growth curve, but keep in mind that it really means they need a linear growth of 7% (1.67m new subscribers per year). And keep in mind that between tablet, SmartTV, and gaming console forecasted growth over this period, only a very small percentage of them would have to join to achieve these numbers. So, in both the short and long term, this looks like a win-win for Netflix, and more importantly, this gives them a steady stream of content for their consumers that is considered both "premium" and is fully of kid-friendly titles. What about additional costs? Likely to be very minimal (bandwidth costs continue to decline at a steady pace).

3. Disney. After our discussions Monday, this certainly seems like a perplexing decision on the surface, but let's analyze the details. First, a quick reminder on windows:

- A movie comes out at the theaters and stays there for 10-12 weeks.
- Then it gets released on DVD/Blu-ray and is mostly available the same day for digital rental and purchase.
- Then it his the Pay TV window (HBO, Starz, Showtime, EPIX, and now Netflix), which typically carries some level of exclusivity for 3-6 months.

So in theory, to the consumer, this is no different than Disney movies being available on Starz or HBO, which should mean that physical and digital buy rates should not be impacted. Keep in mind that for the majority of movies, the consumer makes a decision of when to see it based on their trade-off of price and time--the movie theater being the most expensive but earliest during the marketing hype cycle, and the pay TV window being the cheapest but forcing the consumer to wait as long as 6 months after the movie was released to theaters. So, unless the Disney deal does not move the titles through the Pay TV window (meaning they are available on Netflix, then are unavailable after 3-6 months), this will not impact the other windows--all they have done is potentially triple their revenue (and profit) and have impacted other pay TV window aggregators.

So, while perplexing on the surface, this is a good deal for every player involved and will likely create subscriber growth for Netflix that surpasses that of HBO (30m) before the deal is completed in 2019.

Want to discuss further? Join us at the 2nd Screen Summit on January 7th at the Wynn during CES in Las Vegas (


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