10 COVER STORY
CO S O JANUARY 31, 2011 | MULTICHANNEL NEWS
Despite Subscriber
Explosion, Upstart Can’t
Quite Conquer Cable The Netflix
N
etfl ix helped drive Blockbust-
er to its doom. Is the pay tele-
vision industry next?
The short answer is “proba-
bly not.”
The rapid rise of Netflix is
undeniably astounding. The
company added 3.1 million
subscribers in the last three months of 2010
to stand at just over 20 million at year-end,
blowing past analyst forecasts. For the full
year, it added 7.7 million net subscribers, up
63% from 12.3 million at the end of 2009.
For many, Netflix represents the poten-
tial end of the traditional cable-TV model by
delivering a cheaper, more user-friendly en-
tertainment package across more than 200
different devices. Its streaming-only pack-
age currently sells for $7.99 per month —
less than two video-on-demand movies from
most major pay TV providers and as little as
half what HBO costs per month.
“We’re not a big threat [to TV Indeed, Netflix’s eye-popping growth and
operators’ video business], but cut-rate plans have prompted pay TV opera-
tors to respond with new marketing tactics
it’s hard to see why it makes and services, such as “TV Everywhere” au-
sense for them to help us grow.” thenticated content, to fight off the insurgent.
“Netflix’s low-cost, subscription streaming
REED HASTINGS, NETFLIX service (with improving content) is our big-
NETFLIX: BY THE NUMBERS
20 million: No. of subscribers as of Dec. 31, 2010, up 63% from 12.3 million a year earlier
$2.16 billion: Revenue for full-year 2010
$1 billion: Amount Netflix will pay Epix over five years for movie streaming rights
More than 200: No. of devices able to access Netflix instant streaming
$4.01: Average monthly gross profit per customer in Q4 2010, versus $4.96 in Q4 2009
$1: Approximate postage and handling cost per DVD for Netflix, versus “pennies” per movie
streamed over the Internet
$7.99: Monthly price of the streaming-only (non-DVD) tier in the U.S.
$1.18 billion: Value of commitments related to streaming content license agreements, as
of Sept. 30, 2010
Sources: Company reports, Multichannel News research
WWW.MULTICHANNEL.COM
by TODD SPANGLER
gest worry and could become ‘good enough’
for consumers with moderate income and TV
usage to use as a substitute for pay TV,” Cred-
it Suisse analyst Spencer Wang and his team
wrote in a September 2010 report downgrad-
ing their rating on the U.S. media sector. A
Credit Suisse survey found 17% of Netflix us-
ers already have cut the cord.
Netflix makes more than 20,000 titles
available for instant streaming and is contin-
ually ramping up that library. Roughly half of
subscribers’ online viewing is made up of TV
shows and the other half are movies.
Despite all its growth and ambition,
though, Netflix’s offerings are too narrow
to shake the foundations of the cable, sat-
ellite and telco TV business. Netfl ix, which
CEO Reed Hastings describes as a technol-
ogy company, doesn’t offer live sports, news
or current primetime TV hits. And its busi-
ness model — an attractively priced alterna-
tive to bricks-and-mortar video-rental stores
— wouldn’t allow it to pay top dollar for that
content anyway.
Moreover, Netflix doesn’t offer a better se-
lection of on-demand content than TV pro-
viders, according to Jeff rey Binder, general
partner with venture-capital fi rm Genova-
tion Capital. It has simply done a better job of
marketing and giving customers tools to find
and manage their entertainment, he said.
“Netfl ix gives the appearance of having a
much deeper and broader library than your
service provider, because the operators have
done a poor job of expressing what’s there
and making it available to consume across
multiple screens,” said Binder, who was the
founder of VOD startup Broadbus Technolo-
gies (now part of Motorola).
Inside a Netflix mail-sorting facility.
WWW.MULTICHANNEL.COM
Niche
Netflix-ready devices include TiVo DVRs.
And in the case of TV shows, Netfl ix typ-
ically offers only episodes of past seasons.
“They don’t have the revenue to buy fresher
content,” said a media executive whose com-
pany licenses some post-syndication shows
to Netfl ix. “If they go that route, they’re go-
ing to compete with DirecTV, Verizon and
Comcast.”
Netflix itself disavows any intent to deliver
a lineup fully comparable to cable TV.
“Netflix values completeness over current
content,” vice president of corporate commu-
nications Steve Swasey said. “We don’t a put
a premium on live.”
Added Swasey: “People like to watch the
Oscars in real time. You don’t get that from
Netflix.”
Hastings, on the company’s earnings call
last week, said that while Netfl ix’s stream-
ing service spurs demand for higher-speed
broadband tiers, cable companies aren’t
thrilled about the Netflix incursion.
“We’re not a big threat [to TV operators’
video business], but it’s hard to see why it
makes sense for them to help us grow,” he
said.
PLAYING DEFENSE
Still, operators are moving to protect VOD
specifically and, more broadly, their video
subscription businesses.
AT&T, for one, this month relabeled its
transactional video-on-demand service
JANUARY 31, 2011 | MULTICHANNEL NEWS
U-verse Movies, emphasizing the availabili-
ty of new releases to fight rental competitors
like Netflix.
The telco, which had previously mar-
keted the service as U-verse On Demand,
is touting that it
of fers t it les up
to 2 8 day s be-
fore Netf lix and
t hat c ustomers
can watch many
t it les on T V, as
wel l as on l i ne,
on mobile devic-
es and with a Mi-
crosoft Xbox 360.
“We know our
customers have
lots of ways to get
movies,” AT&T ex-
ecutive director of
U-verse marketing
John Blinkiewicz
said. “Our compe-
tition has changed
in the on-demand
space, from the
cable space, and
shifted more toward the Netfl ixes and Red-
boxes of the world.”
Similarly, the cable industry last fall re-
prised its VOD campaign, “The Video Store
Just Moved In,” with a four-week run, in part
to try to blunt the Netflix message.
And Comcast, Verizon and Dish Net-
work, among other operators, have stepped
up the TV Everywhere push to deliver on-
demand content — including HBO origi-
nal series — across PCs, tablets and smart
phones.
What’s prompted the reaction is that, be-
sides adding subscribers like crazy, over
the past year, Netfl ix has been stockpiling a
growing amount of TV shows and movies for
streaming.
The company recent ly inked an ex-
panded deal with Disney-ABC Television
Group, reportedly worth $200 million,
which included shows from Disney Chan-
nel and ABC Family. Last summer Netflix,
struck a deal with Epix, the joint movie
venture of Paramount Pictures, Metro-
Goldw y n-Mayer and Lionsgate, wort h
around $1 billion over five years to pro-
vide movies 90 days after they premiere
on linear TV.
“Our interest in telev ision shows is
high,” Hastings, together with newly ap-
pointed chief f ina ncia l of f icer Dav id
Wells, wrote in a letter to shareholders
last week.
COVER STORY 11
As its subscriber base has swelled, Netflix
has become a target for critics complaining
that it is devaluing TV content.
‘200-POUND CHIMP’
Earlier this month, Turner Broadcasting Sys-
tem chairman and CEO Phil Kent warned stu-
dios and other content producers that if they
make shows available through Netflix, Turner
would probably pay less for them or even pass
on them altogether. Time Warner Inc. CEO Jeff
Bewkes, in an interview with CNBC at the In-
ternational Consumer Electronics Show, dis-
missed Netflix as “a 200-pound chimp — it’s
not an 800-pound gorilla.”
“Some consternation about Netflix success
is natural,” Hastings and Wells said, compar-
ing the rise of Netflix to the arrival of the Fox
broadcast network 20 years ago.
“A new entrant bids up the price of con-
tent, and the incumbent aggregators are not
pleased,” the executives wrote in their 2010
shareholder letter. “Netflix is good for con-
sumers, good for content producers, and is
one more competitor for existing aggregators.”
But a backlash in the media business could
starve Netfl ix and its ilk of high-value pro-
gramming. “We aren’t saying that Netfl ix or
other [over-the-top] providers will never get
premium subscription content again, but our
channel checks indicate that willingness to
license such content, especially for any real
length of time, is decreasing dramatically,”
RBC Capital Markets analyst David Bank
wrote in a Jan. 21 research note.
On the other hand, money talks, and
Netfl ix has bragged about its willingness
to “write very large checks,” in the words of
chief content officer Ted Sarandos.
For example, Netflix expects to bid against
HBO for the rights to the pay-TV window
from Warner Bros. when that deal is up in
2014. “We’re a nearly $100 million a year cus-
tomer for Warner Bros., and both of us would
like to expand that, if it makes sense to,”
Hastings told analysts last week.
In the nearer term, Netfl ix is focused on
renewing with Starz Entertainment. Their
previous agreement, struck in 2008 for a re-
ported $30 million over three years, will ex-
pire in the middle of the first quarter of 2012.
“[C]arrying Starz is one of our most important
deals,” Hastings and Wells wrote last week.
Netfl ix has tried to point out that it aug-
ments the content ecosystem, rather than
cannibalizing it.
Since it began streaming Starz Play con-
tent in October 2008, the number of Starz
subscribers through traditional pay TV dis-
See COVER STORY, page 22
22 NEWS & ANALYSIS JANUARY 31, 2011 | MULTICHANNEL NEWS
WWW.MULTICHANNEL.COM

COVER STORY, from page 11

tributors has grown, as HBO’s rolls have de-
Telcos Take TV Share
clined over that time. “In other words, the ev-
idence is pretty clear that content that is also
AT&T, Verizon Also Notch Broadband Gains
licensed to Netflix generates more money for
its owners than content that is withheld from by TODD SPANGLER tinued U-verse growth and scale to drive
Netflix,” Hastings and Wells said. further improvements in our overall wire-
Netflix’s move to streaming is not only Cord-cutting clearly is not a line fi nancials.”
about customer convenience. Just as signif- huge concern for the two biggest U.S. telcos FiOS services are now the majority of Ver-
icantly, the costs of Internet video delivery — which continue to izon’s consumer wireline
are mere pennies versus approximately $1 lure away thousands of segment, accounting
for each DVD mailed and returned. cable-TV customers. for approximately 53%
Netflix last year paid more than $500 mil- AT&T and Verizon of segment revenue in
lion to the U.S. Postal Service to deliver DVDs Communications net- the fourth quarter, com-
by mail. “If we were paying a studio that much, ted a combined 428,000 pared with 50% in the
we’d be their biggest customer,” Swasey said. video subscribers in previous three months.
the last three months AT&T CEO Randall Stephenson: “We’re AT&T’s total wireline
of 2010. “We’re adding adding more pay TV subscribers than revenue for the fourth
LAST-MILE ECONOMICS more pay TV subscrib-
any other U.S. provider.”
quarter 2010 was $15.1
Given Netfl ix’s shift toward Internet deliv- ers than any other U.S. billion, down 3.2%, with
ery, there’s a battle brewing with broad- provider,” AT&T president and CEO Randall voice revenue dropping 12.8%. For Verizon,
band providers over the costs of delivering Stephenson boasted on the telco’s earnings wireline generated revenue of $10.3 billion,
massive quantities of content. call. down 2.8% year-to-year. Wireline margins,
For cable operators or telcos to charge AT&T now has 2.99 million U-verse TV though, improved in the quarter for both
Netf lix or its content deliver y network video subs, putting it neck and neck with AT&T (13.0% vs. 12.3% a year ago) and Veri-
partners “to let in the bits their customers Cablevision Systems (with 3.04 million at zon (2.5% versus 2.4%).
have requested from us… is inappropriate,” last count), while Verizon strengthened its Bright spots for AT&T wireline were U-
Hastings and Wells wrote last week. position as the seventh-largest pay TV pro- verse and broadband gains, “but all other
That’s a reference to the standoff over net- vider with 3.47 million total FiOS TV subs. key operating metrics were weaker than
work-interconnection fees between Comcast The telcos also posted gains on the broad- peer Verizon,” including landline losses
and Level 3 Communications, which landed a band side. AT&T added 210,000 net digital and enterprise, Sanford Bernstein senior
contract to be one of Netflix’s primary CDNs in subscriber line customers. While Verizon analyst Craig Moffett wrote in a report last
November 2010. The MSO said Level 3 should lost 145,000 DSL subs, the net gain of 197,000 week.
pay in order to deliver more than double the FiOS Internet customers more than com- Once again, wireless services proved to
traffic to Comcast’s network, while Level 3 as- pensated for that decline. be far stronger performers.
serted that any fees for delivering content to The companies are relying on broadband AT&T touted its best-ever quarterly wire-
a broadband provider constitute a toll that is and video to shore up their wireline units, less subscriber gain, with 2.8 million net
barred under the Federal Communications which are being dragged down by deterio- adds in the period to reach 95.5 million
Commission’s network neutrality rules (see rating phone line connections. subscribers.
“Level 3 May Test ‘Open Net’ Rules,” Jan. 17, p. 3). “U-verse economics are attractive and Verizon Wireless added 803,000 total re-
However that spat plays out, to Binder, growing,” AT&T chief fi nancial officer Rick tail customers to end the quarter with 94.1
Netflix will always be unable to compete Lindner said, noting the video, Internet million total customers — ahead of the car-
with facilities-based providers on efficient- and voice services now represent a $5 bil- rier offering the iPhone 4, which becomes
ly delivering high-quality content. lion annualized revenue. “We expect con- available to customers Feb. 10. ■
“The providers have the last-mile advan-
tage — it’s the economics of moving content
over a public backbone versus over a private
TELCO SCORECARD
network,” he said. “The question is how long
it takes [service providers] to effectively mar- AT&T VERIZON
ginalize Netflix.” ■ Q4 2010 video net adds 246,000 182,000
Total video subs 2.99 million 3.47 million

More Online Q4 2010 broadband net adds 210,000 197,000

Total broadband subs 14.32 million 8.39 million
Read CEO Reed Hast-
ings’ rebuttal to an in- Home phone lines 24.20 million 14.14 million
vestor short-selling
Netflix’s stock at Home phone YOY decline -11.2% -9.5%
multichannel. SOURCE: Company reports
com/Jan31.
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