Netflix Needs Another Masterstroke
The
streaming service pioneer created the industry with one brilliant strategy
shift. But now it has to address the falling number of subscribers and the
millions of non-paying freeloaders that are hurting its prospects.
BY HOWARD
TULLMAN, GENERAL MANAGING PARTNER, G2T3V AND CHICAGO HIGH TECH INVESTORS@TULLMAN
One of the great "no net" pivots in
tech history was the gutsy decision by Netflix CEO Reed Hastings to sunset the
company's basic DVD-by -mail business, which accounted for virtually all its
revenue at the time. Hastings basically bet the farm on the digital delivery of
movies, which ultimately led to the creation of the premiere video streaming
service-- along with many copycat competitors-- which we all take for granted
today.
This critical shift changed the trajectory of
the company. Importantly, the DVD service continued, and contributed
substantially and critically to Netflix's profits in those transition years
when the streaming service couldn't pay its own way. You always want to make
sure you see the next log to land on as you skip merrily across the raging
river. There's a lot to be said for slow and steady change, especially in any
B2C marketplace where you're introducing new services, new technologies, and
expecting significant consumer behavior changes.
This is a lesson, given its current and
serious woes, that Netflix's leadership team needs to keep in mind just
as much today as in the past. Ultimately, Netflix's hundreds of millions of
streaming video subscribers turned the company into the industry's 800-pound
gorilla. There were certainly a few missteps along the way, such as the 2011
Quickster debacle, but the path forward was remarkably stable and
exponential--at least until this year. Even the entry of multiple, large-scale,
and well-funded competitors didn't seem to slow Netflix's growth or forward
progress.
But now, the combined impact of all of those
other like offerings along with Netflix's regularly recurring price hikes, the
slowly reopening post-pandemic world, and international subscriber losses due
to the war in the Ukraine, has come home to roost with a vengeance. Since
January, with the early warnings of first-ever subscriber count decreases, the
dreary forecasts suggest accelerating future departures. Likewise, the most
recent earnings reports have undermined much of the storied legend, leadership,
and legacy of Netflix. The company's market cap has shrunk by more $170
billion, and its stock price has fallen from a high of $700 a share to around
$180.
Responding to what increasingly looks like an
existential challenge will be the biggest obstacle its longtime management has
ever faced (never mind its size, resources and history) and a test as well of
its vaunted culture and business practices. Time is short and an effective
response will need to quickly address both the macro issue of the market's fears
about the dramatically changed and far more competitive streaming environment
and the micro issue of how to fill the revenue holes the ongoing losses of
millions of subscribers will create. As UCLA's legendary basketball coach John
Wooden used to say: "Be quick, but don't rush."
By Netflix's own admission, the company will
lose about two million more subscribers in the next quarter alone. Safe to say,
these folks won't be coming back any time soon and certainly not at the
subscription price points they previously represented. Long story short: given
the stock market's complete fixation with numbers, there's little relief in
sight on the macro front. The shadow over streaming's future will continue to
spread for some considerable time, and the implosion of CNN+ couldn't have come
at a worse time for the industry.
So, the main challenge for NFLX management
seems to be the in-house micro issue of how to replace tens of millions of
dollars in lost revenue with alternative revenue streams. And how to do that as
soon as possible without jumping from the frying pan into the fire by moving
too quickly. If existing subscribers aren't going to grow and departed
subscribers aren't coming back, the only two paths forward are adding new
subscribers from a diminishing and costly pool or increasing the monthly spend
of each of the remaining subscribers.
It's no surprise that Hastings-- much to the
chagrin of almost his entire team -- immediately suggested adding an
ad-supported version of its basic service to the mix to attract new "ad
subsidized" members, even though this concept has always been treated as
sacrilege by the company and the very last thing current Netflix members would
accept, since it completely upends the traditional NFLX experience. In truth, this
traumatic and hasty suggestion reeks more of desperation and knee-jerk reaction
than any kind of rational solution. This looks more like turning a carefully
differentiated and premier service into just another "me too"
offering and sacrificing years of brand equity and goodwill in the process.
The far more interesting suggestion, and one
that's been long overdue, is the need to recoup the millions in forfeited
monthly subscription revenues that Netflix has winked at almost since inception
by permitting subscribers to share their NFLX passwords with friends and family
on an unlimited basis. This was a deal with the devil from Day One, which was
always going to become an issue as the dollars involved continued to grow. But
management apparently concluded that the favorable word of mouth and the growth
in "users" -- as opposed to paying members -- was worth the hidden
costs.
A side concern is whether, because the company
knew that millions of consumers were fraudulently using its service, there were
disclosures and other accounting issues that were ignored or concealed. Of
course, we continue to live in a time where situational ethics too often dictate
behavior and there's no reason to expect an end any time soon. Amazon knows it
has millions of counterfeit vendors who are killing small retailers by ripping
off their products and selling cheap, defective copies all day long, but won't
take the necessary steps to shut these crooks down. Way back when, Snapchat's founders knew that its photos weren't really
ephemeral but didn't bother to tell its users or the public.
And, of course, the persistent lies and continual frauds which let Theranos survive far longer than it should have are
just the most recent examples.
Netflix's management's multi-year acquiescence
in the theft of its own services for whatever reasons and its refusal to take
any actions to acknowledge or eliminate the leakage aren't much better than the
old revenue-pumping scams of Crazy Eddie Antar. At
least, in a somewhat perverse reckoning, they will now belatedly have to
address the problem. It will be interesting to see how Netflix attempts to
explain its way out of the massive financial and ethical hole which it has dug
for itself. Blaming the longtime beneficiaries of its knowing, but sleazy and
shortsighted, generosity won't fly. I'm sure the company's board is simply
praying that the whole problem somehow disappears, but unfortunately you can't
pray a lie.
MAY 10, 2022