Media’s Shift from Growth to Optimization
Why it Was Inevitable and What Happens Next
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Note: After posting this I got a lot of feedback, including pushback. For a summary and my response, see here.
I ran Investor Relations at TimeWarner from 2008–2013, the period when Netflix emerged as a disruptive force in TV. In investor meetings, our CEO Jeff Bewkes was invariably asked about the threat Netflix posed to the TV ecosystem. He would often respond, sometimes in exasperation, “You can’t jam an $80 thing into an $8 thing!” His point was that Netflix, priced at $7.99 at the time, couldn’t replace the entire pay TV bundle because it could never absorb its costs.
He was right, of course. A decade or so later, Netflix’s Premium tier costs $20 and it has not subsumed the entire pay TV bundle. But it fundamentally changed the economics of the TV business. Netflix was always willing to operate at much lower margins than traditional TV networks. Fearful of watching their traditional businesses eroded away, all of the major TV networks companies reluctantly followed Netflix into streaming. That meant they were constrained by Netflix’s price umbrella and beholden to its consumer value proposition and associated cost structure: massive investments in content, product, streaming infrastructure and analytics. They reasoned, correctly, that they had little choice; if they were inevitably going to be cannibalized, they better cannibalize themselves.
In the last six months, however, the consequences of this transition have become clearer. Increasingly, it looks like Netflix’s cost structure — and therefore the cost structure of the entire streaming business — was predicated on a total addressable market (TAM) that was optimistically high and churn that was optimistically low. Changes in these assumptions will have a material adverse effect on the expected profitability of the business.
I’ve written about these topics before, including One Clear Casualty of the Streaming Wars: Profit and Is Streaming a Good Business?. In this follow up, I address three questions: 1) is the slowdown in streaming subs a temporary lull (spoiler: probably not)?; 2) what are the financial implications?; and 3) if you’re a media conglomerate who’s been betting that streaming is a major growth and profit engine, what do you do now?
Tl;dr:
- There is ample evidence that the U.S. streaming market is maturing.
- Streaming penetration of broadband homes is approaching saturation; the number of streaming services per streaming home appears to be topping out around 4; churn has picked up, implying consumers are actively managing their monthly spend; and there is growing willingness by consumers to trade off watching ads for lower bills, also suggesting price sensitivity.
- The chief financial implication of this slowdown is that aggregate TV industry profits probably peaked a few years ago: 1) overall TV revenue is probably near a peak, since the growth in streaming revenue will probably only roughly offset the declines in traditional TV revenue over the next few years; and 2) even after the media conglomerates work through the current period of high startup investment in their streaming businesses, steady-state streaming margins are likely to be much lower than traditional TV.
- This prognosis is even more challenging for most of the media conglomerates. Other than Disney, none are likely to retain the same share of the streaming market that they have in traditional TV.
- What’s a media conglomerate to do? The only choice is to transition back to a focus on optimization and away from subscriber growth.
- This framing helps explain some of the recent industry news and predict what’s likely to happen next.
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