After facing threats from other companies, Netflix, Inc. (NFLX) may have a new competitor. The company’s stock price was down almost 2.5% in after-market trading yesterday, following news reported by The Wall Street Journal that Amazon.com, Inc. (AMZN) is considering more profitable options in the online TV industry.
The e-retail giant might change its strategy from linking videos to its Prime subscription service to an advertising-based streaming and music-video service. The company’s bottomline has been pressured recently, despite significant growth in sales due to the investments into new ventures such as grocery delivery and content acquisition.
Amazon now plans to increase its focus on original and exclusive content with its advertising-supported streaming video service. Its new plans pose a direct threat to Netflix, which has so far leveraged on its original and exclusive content and low subscription costs to drive growth. The quality of content will now determine the success of the two companies. Last year, Amazon co-produced a series, Betas, which was about a Silicon Valley startup. The series has a rating of 7.3 out of 10 on IMDB.com, lower compared to the ratings of 9 and 8.5 for Netflix’s top shows, House of Cards and Orange Is the New Black, respectively.
So far, Netflix has been able to produce high-quality TV shows that are loved by its subscribers. However, whether Netflix can continue to produce popular TV series remains up in the air.
Apart from Amazon’s content, its advertising-based model will allow the company to provide online TV streaming services at low to no costs, thus giving tough competition to Netflix. One of the unique selling points for Netflix has been its low-subscription costs. The introduction of a cheaper option by Amazon could severely impact Netflix’s subscriber base.
According to eMarketer, the independent market research company, the US TV advertising industry is estimated to generate about $68.5 billion in revenues in 2014. The large players – such as AOL, Inc. (AOL), Google Inc. (GOOG), and Yahoo! Inc. (YHOO) – are already earning from this segment, and Amazon now plans to benefit from the growing trend of online TV advertising.
Netflix doesn’t use an ad-based model, due to which it is deprived of significant profitable opportunities. It might have to change strategies going forward or introduce some free-of-cost ad-based streaming options to utilize the existing opportunities in the industry. Once the company has established a strong fan base, it will be in a better position to leverage on advertising opportunities with its subscriber base – which is the largest of its industry peers.
Although Netflix’s strategy of relying solely on the subscription-based model deprives it of potentially profitable opportunities, it enables the company to continuously expand its subscriber base by differentiating itself from other video streaming service providers. Netflix continues to function without an ad-based business model, which reflects its preference for customers more so than profits. Netflix is currently in the expansion phase, in which topline growth matters a lot more than profitability. Once it has established a substantial and loyal customer base, the company will be able to capitalize on existing opportunities and explore more profitable segments.
The use of the ad-based model by online streaming providers such as YouTube, and now Amazon, indicates their inability to build a large and dedicated subscriber base that is willing to pay to stream videos online. Amazon’s shifting of strategy toward the ad-based model may also reflect the fact that the company hasn’t been able to produce quality content like Netflix, otherwise the e-retail giant too could make subscribers pay to use its service.
Readers can check out our detailed investment analysis of Netflix.