LOS ANGELES--Netflix probably won't get a star on Hollywood's Walk of Fame anytime soon, but the Web's top video-rental service has recently become a blockbuster hit with film-industry chieftains.
Just nine months ago, sources in the film industry told CNET that Netflix's long string of Wall Street wowing earnings reports hadn't gone unnoticed at the studios. With all that money rolling in, many studio decision makers weren't happy with their cut--especially when it came to the company's blossoming streaming-movie service.
Netflix CEO Reed Hastings has apparently solved the problem, at least for now, by writing checks. In the quarter that ended June 30, 2009, Netflix spent $9 million on acquiring films and television shows for its streaming service. Last week, Netflix reported that for the same period this year, it spent $66 million--more than seven times as much.
That wasn't a fluke. For the first six months of 2010, Netflix has paid the studios $116 million for streaming content, compared with $31 million for the same period last year. Some analysts expect those payments to keep going up as the company continues to fill out its film library.
Netflix's ability and willingness to shell out big bucks for higher and higher grades of movies and TV shows was clearly illustrated earlier this month when the company announced it had struck a $100 million deal with film financier Relativity Media to acquire about a dozen movies per year starting in 2011. As part of the agreement, Netflix will offer the upcoming film, "The Fighter," starring Mark Wahlberg, Amy Adams, and Christian Bale.
And don't bother to check if your Netflix charges have shot up. The company has paid these millions to the studios without raising subscription prices one cent. What Netflix did do is boost the number of movies and TV shows in its streaming service, which everybody knows is the company's future. In the past nine months, Netflix seems to have answered a major question, one asked by the likes of Mark Cuban and many others: could the company generate the kind of revenue needed to pay for premium films and TV shows without raising prices?
This appeared to be a real threat to Netflix. Had the studios refused to deal with Netflix, they might have choked off content and hobbled the fledgling streaming service in its infancy (remember, Hollywood tried numerous times to prop up brick-and-mortar rental chains by trying to prevent Netflix from obtaining specific DVDs). What Netflix's recent performance indicates is that the company has the bankroll and the stature in Hollywood to compete for content with the Comcasts and HBO's of the world. This should come as welcome news to consumers who may be looking to dump their cable bill.
So, how did Netflix do it?
First, delivering digital versions of films over the Web is far cheaper than shipping physical discs. As Netflix users have opted to watch more streaming movies and receive fewer DVDs delivered by mail, the company has been able to trim postage and DVD-acquisition costs. For example, Netflix spent $24 million in the June quarter this year on DVDs, compared with $43 million during the same period last year, according to the company's June earnings report.
For the first six months of this year, Netflix spent $61 million on discs, down from $89 million for the same period last year.
Netflix didn't just throw money at the content-acquisition problem. In January, the Los Gatos, Calif., company agreed not to offer any films from Warner Brothers Studios to help protect that shop's DVD sales. The thinking was that if discs weren't available for rent, people would be more inclined to buy them. In exchange, the studio agreed to license more titles for Netflix's streaming service.
Clever horse trading and old-fashioned cash payments are important, because Netflix likely needs the studios more than they need Netflix. Film industry managers aren't going to hand over premium content for less than what they're getting from the cable companies, says Michael Pachter, a financial analyst with Wedbush Morgan Securities.
"The studios have to be thinking, 'We're getting 50 percent of revenue from HBO,'" Pachter said. "Netflix's streaming service is only paying something like 30 percent of revenue. In order for Netflix to continue to thrive, they are going to have to cut the studios a bigger piece of pie."
That, of course, could make investors nervous, because spending bigger with the studios could cut into Netflix's profits. But at some point, the studios may end up courting Netflix as enthusiastically as its executives are now courting them.
None of Netflix's competitors has managed to move Web video content from the PC to subscribers' TV sets as elegantly. Netflix cut numerous deals with set-top makers, such as Roku, Microsoft, LG, Sony and Nintendo, just to name a few. This has apparently made Netflix more attractive to consumers.
Last week, the company reported that subscribers who watched at least 15 minutes of streaming content in the second quarter grew 61 percent, up from 37 percent in the year ago period. From June 2009 to the same month this year, Netflix added nearly 5 million subscribers, a 42 percent increase. By the end of this year, the company says it could possess as many as 18.5 million subscribers.
Sometime next year, Netflix will likely top the 20 million subscriber mark, making it a peer to Comcast, the nation's largest cable company with 24.6 million cable TV subscribers. Comcast, which reported earnings of $3.6 billion for 2009, still dwarfs Netflix, with its $115 million in earnings for last year. But when it comes to eyeballs, there won't be that big of a difference.
"It took Netflix how long to reach 20 million subscribers," asked one film studio executive, who was referring to the 12 or 13 years the company took to reach the mark. "Now look at how long it took Comcast to reach 20 million customers. You don't have to look cause I can tell you: it took like 20 years."
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