Netflix Drives Into a Ditch

Netflix stock closed Friday at US$357, up slightly from the depths it plummeted to earlier this week. Shares fell almost 25 percent in premarket trading on Thursday — more than $110 a share — to $338. The plunge followed news of weak subscriber growth in its third quarter.

Netflix reported $1.2 billion in Q3 revenue, which was up 38 percent from the same period a year prior. The net income of $59 million also was slightly above expectations.

However, subscriptions for the third quarter were lower than previously expected. Netflix had forecast that it would add about 3.69 million subscribers in Q3, with 60 percent coming from outside the United States. The company actually finished the quarter by adding just 3 million new subscribers; 67 percent of them were outside the U.S.

The company forecast 4 million subscribers for Q4, with revenue topping $1.3 billion.

Over the Top Pricing

Netflix’s slowdown in new subscribers followed a price increase that took effect beginning in May. The company’s last price increase, imposed in 2011, was seen largely as a debacle. It provoked an exodus of subscribers.

To avoid a similar pitfall this year, Netflix adopted a bold strategy — raising the subscription cost only for new subscribers. That could have been a turnoff to those on the fence about signing up.

“The key takeaway from the Netflix story this week is the notion that higher pricing might be to blame for the missed subscriber growth,” said Greg Ireland, research director for multiscreen video at IDC.

“The problem with OTT (over the top) services — or the perceived promise of OTT services — is that they are less expensive than traditional pay TV and will always represent something of a bargain,” he told the E-Commerce Times.

“All you can watch, deep content libraries, cheap monthly fee — that’s what we’ve come to expect, remarked Ireland. Netflix’s two stumbles — this week’s missed subscriber numbers and the [2011] Qwikster situation — both involved changes to the pricing model.”

OTT services such as Netflix still may be a bargain at slightly higher prices relative to other content services, but “the expectations of subscribers are perhaps unrealistic,” Ireland said, “and dealing with those that expect services like Netflix to be so different from what is typical in the pay-TV market — constantly increasing fees — is a significant challenge, not just for Netflix but for others in the OTT market as well.”

Summertime Blues

Another factor that might have influenced subscriber growth is the fact that Netflix has done little to develop new original content since Orange Is the New Black, one of its high-profile series, debuted in June. The remainder of the summer was mostly free of original offerings, apart from the final season of the cult series The Killing, a show that doesn’t immediately seem like lighter summertime fare.

“A big part of this is that this is how the traditional TV season behaves,” said Dan Cryan, director of digital media at IHS iSuppli.

“There is a big reason why we don’t get most of the major shows premiering over the summer,” he told the E-Commerce Times.

“Content is weaker in the summer, as people engage in other things than just watching TV,” Cryan added.

“As Netflix moved from a DVD by post to a streaming service, it is natural for Netflix customers to behave like traditional TV audiences,” he said.

“There is a gap in the new high-profile content, and Netflix mirrored the traditional network delivery of that content,” he noted. “That is the emerging theme here.”

Content Stream

Netflix has developed a reputation for delivering critically acclaimed original content, which no doubt has helped draw in new subscribers. It’s questionable whether it can continue to keep up a steady stream of originals flowing to viewers throughout the year, however.

“Content costs go up and more content needs to be acquired,” said Ireland. “This has driven fee hikes for years in the cable sector. The challenge, therefore, for Netflix or other OTT service providers, is to manage consumer expectations while running the risk of alienating segments of the addressable market.

“What happens when Netflix tries a price hike on existing subscribers?” Ireland wondered. “Can they afford to do that in light of what’s happened this week? Can they afford to never do that in light of increased content costs?”

That is the dilemma any service must face when it adds original content development to the mix.

“Pay-TV providers have an advantage here — consumers already expect to pay high fees and expect that those fees will increase each year,” Ireland observed. “Subscribers to OTT services haven’t yet come to that level of acceptance, and given that many seem to feel that a specific benefit of OTT is the lower prices, we may see future stumbles each time a provider moves to increase subscription fees.”