Is Netflix the Next Apple?

The press release passed with hardly a notice by me about halfway through 2008. Apple (AAPL) had surpassed Wal-Mart (WMT) as the world's leading retailer of music. Sure, it was interesting to hear such a success story, but the sheer magnitude of the news didn't really hit me until companies like Amazon (AMZN) and eBay (EBAY) announced their amazing Christmas seasons in 2008. It suddenly hit me. The internet is taking over the retail world.

It crept up on me. The internet has been around a long time. I didn't even really notice that compact disks had become obsolete. Sure, I have my mp3 player just like everyone else, but who bought their shares of AAPL five years ago because of AAPL's expected impact in the music industry?

Looking back, I feel silly for not anticipating such a maneuver. But a person can't catch all of the big movers. However, it stands to reason that the future of retail resides on the internet. The first names that come to mind are EBAY and AMZN. Sure, both of these names look promising. I'm not going to jump on AMZN right now, though. Their balance sheet is hot, with hardly any debt in relation to their cash on hand, but their profit margin is minuscule at just 3%. Plus, their P/E ratio is in extremely speculative territory at a hair over 35. Yes, I love AMZN's business model. I love their user-friendly interface. However, how much can this company grow to justify investment in a P/E that high? Even though I see a lot of potential, especially since they are developing products to compete with the innovative Netflix (NFLX), it seems that AMZN is just a tad overpriced at the moment.

EBAY is a much better deal. Their profit margin is above 20%, and they have no debt. The price is trading at just 9X earnings, and I'll be frank - well over half of my retail purchases are made on EBAY. EBAY seems to me to be more of a value play at the moment compared to AMZN's growth play.

However, we cannot forget about the innovator in this group. NFLX has developed a product that has forced video rental stalwart Blockbuster (BBI) to completely restructure the way it does business in order to compete. NFLX has changed the way people watch movies. Just when people thought that NFLX was about to start giving market share back to BBI once BBI decided they had to compete to stay in business, NFLX is starting to do to the movie industry what AAPL did to the music industry. Can you imagine a future where one can watch any movie one wants to on demand? Can you imagine a future where Blu-ray will be obsolete because HD feeds are available via the internet?

The fundamentals on NFLX don't look so hot at the moment, but keep in mind that NFLX is still developing their product. They've already taken down one big boy in BBI. Now BBI is back, and AMZN is joining the fray. Does NFLX have what it takes to compete? I believe they do. Their innovation has stayed ahead of the game for the past five years, and they have a lot of room to grow. In fact, I envision a future where people are forsaking their $50 a month cable bills in exchange for an internet movie feed like NFLX. Their biggest competitors tomorrow will be cable stalwarts like Charter International (CHTR) and Time Warner Cable (TWC), along with dish providers DirecTV (DTV) and DISH Network (DISH). For right now, though, NFLX has room to grow under the radar before these television giants are likely to even take notice.

Disclosure: Author holds a long position in NFLX

Comments

[Timeline St...:]

One problem - not insurmountable, but a challenge nonetheless - with this idea is distribution. Everyone in the United States has postal service, but not everyone has broadband with enough capacity to deliver a movie quickly.

If I were Netflix I would figure out a very precise way to understand those broadband demographics, and drive them if possible.

By the way, why can't Apple be the next Apple? As you point out, they understand content, they have an increasing number of videos available over iTunes, and you know that their users generally do have the broadband pipe to get them quickly. And, Apple also has the Apple TV product as a media hub.

I say it's unclear who will win but Apple will be in the mix.

Jan 19 08:21 AM

[Bryan Kautzman:]

You make an outstanding point, one that I completely overlooked. The television stalwarts will have their advantage because they also sell broadband, but Apple will have an advantage because most of their subscribers are already broadband users. Plus, Apple will have an additional advantage in that they have been one of the most innovative companies of the last ten years. The possibility of them getting into the foray of using a business model like the one that Netflix offers completely escaped me at the time of the writing of this article.

However, the biggest advantage that Netflix has, along with it's track record in innovation, is its current market share. And you're right, the only thing holding Netflix back is people's access to broadband internet connections. However, this may be yet another Obama infrastructure play, albeit indirectly. I envision a future where the internet surpasses television as the preferred mode of entertainment for Americans, and the ability to watch streaming episodes of one's favorite television shows is only the beginning.

One must also not forget about the potential of google in this market through a venue such as youtube.

Sure, the waters are murky at the moment, but with Netflix's current market share combined with their innovative edge, I do believe that their stock in this bear market has nothing but positive potential. In the long term, they could very well end up being an acquisition target.

Thank you for your response.

Jan 19 08:45 AM

[mollytjm:]

it's an exciting time to be alive and interested in tech! Apple will reign, i think. It already has everything in place and the rest of the pack is playing catch up. Apple has an OS and other products and not a one trick pony, as Netflix is. I use iTunes AND Netflix, but i'm cutting my subscription to Netflix at the end of this month to at least the lowest level and eventually I'll probably drop it. I don't think i'm alone in this. Netflix waited way to long to offer easy downloads, cheap.

Jan 19 09:10 AM

[RK:]

The challenge with any video digital download service is that someone else is controlling the broadband pipe. Music download is no biggie as music is relatively compact. Not so with video. Comcast, AT&T, Verizon, etc are not going to let Netflix steal their customers away without doing something. Perhaps these ISPs would let their customers to download a lot more movies if the customers also subscribe to their cable channels. Netflix is not in the same position as Apple was when it started the iTunes service.

Jan 19 09:38 AM

[Manhook:]

Bryan,
I think you're missing Apple's biz model and infrastructure possibilities: should your blog be "will Apple be the next Netfix?" Consider the following possibility:
Apple introduces this summer a new product with a screen size perhaps 2X the iTouch. Then they transform the book business like they did to music and attack Amazon's business. Imagine downloading a book onto this device (a la Kindle) and being able to read or listen to it, with Apple providing the SW to switch back and forth to written/spoken word at the user's want....and doing so on the word, without missing a beat. Then they expand their digital store to go after the download of all digital products with this new device in concert with Apple TV. Hello movies! Goodbye Blockbuster and Netflix. Both will see declining businesses similar to the decline in music CD sales. Think big!



On Jan 19 08:45 AM Bryan Kautzman wrote:

> You make an outstanding point, one that I completely overlooked.
> The television stalwarts will have their advantage because they also
> sell broadband, but Apple will have an advantage because most of
> their subscribers are already broadband users. Plus, Apple will
> have an additional advantage in that they have been one of the most
> innovative companies of the last ten years. The possibility of them
> getting into the foray of using a business model like the one that
> Netflix offers completely escaped me at the time of the writing of
> this article.
>
> However, the biggest advantage that Netflix has, along with it's
> track record in innovation, is its current market share. And you're
> right, the only thing holding Netflix back is people's access to
> broadband internet connections. However, this may be yet another
> Obama infrastructure play, albeit indirectly. I envision a future
> where the internet surpasses television as the preferred mode of
> entertainment for Americans, and the ability to watch streaming episodes
> of one's favorite television shows is only the beginning.
>
> One must also not forget about the potential of google in this market
> through a venue such as youtube.
>
> Sure, the waters are murky at the moment, but with Netflix's current
> market share combined with their innovative edge, I do believe that
> their stock in this bear market has nothing but positive potential.
> In the long term, they could very well end up being an acquisition
> target.
>
> Thank you for your response.

Jan 19 09:47 AM

[stockdoc06:]

Movies are different than music and AAPL does not have nearly the advantage they had in music. AAPL's music rise was driven by a highly desirable playback device and DRM that forced you to use iTunes to buy music for your iPod. With the movement to eliminate DRM music will be purchased as a commodity through iTunes, Amazon, WalMart, etc where artists will once again be able to control price and demand their terms be met, though the iPod device still seems to be the preferred playback device for now.

Despite the ability to play movies on a 2" iPod screen, the preferred playback device for movies is a TV, a business APPL knows nothing about, has no advantage, and it would foolish to try to enter the TV business unless they come up with 3D without the glasses. The interface may eventually be the TV itself (as LG, I believe, just announced) but there are also established 3rd party players already (Xbox, playstation, Tivo, Nintendo, Apple, etc) where no one has a clear advantage. Netflix has been working to establish relationships with as many of these as possible to capture as many TV's as possible. So rather than Xbox negotiating with Paramount Studios for distribution rights, Netflix does the negotiating and distributes throughout their platform. Time will tell if Netlfix manages the relationships well enough to make a little for themselves but disuade the 3rd parties from going it alone without the Netflix toll road, but I think they will learn from Apple's mistake of dictating to artists and consumers how the relationship will work.

Jan 19 09:48 AM

[Bob C:]

Bryan,
Before you hyped eBay over Amazon, in an Apple vs Netflix article, perhaps you should have visited:

www.comscore.com/press...

Comscore shows that unique visitors to Amazon were up 7% and eBay's were down 4% YOY.

You seem to love buying on eBay, try selling there to get a real feel for the company's future.

Jan 19 09:57 AM

[Tom B:]

AAPL's problems with movies so far stem primarily from the fact that the content OWNER's (particulalrly NBC) are pigheaded, inept idiots. I think AAPL WILL get traction before movie downloading becomes more than a blip on the radar; Apple has the best distribution system. You know XBox won't win; the hardware is unsuitable. AMZN will be a player. But, I agree Netflix is a bit ahead right now. If Netflix starts moving zillions of movies, though, there's no reason Apple can't just buy them, so they have NO durable advantage that I can see.


On Jan 19 09:48 AM stockdoc06 wrote:

> Movies are different than music and AAPL does not have nearly the
advantage
> they had in music. AAPL's music rise was driven by a highly
desirable
> playback device and DRM that forced you to use iTunes to buy
music
> for your iPod. With the movement to eliminate DRM music will be
purchased
> as a commodity through iTunes, Amazon, WalMart, etc where
artists
> will once again be able to control price and demand their terms
be
> met, though the iPod device still seems to be the preferred playback
device
> for now.
>
> Despite the ability to play movies on a 2" iPod screen, the
preferred
> playback device for movies is a TV, a business APPL knows
nothing
> about, has no advantage, and it would foolish to try to enter
the
> TV business unless they come up with 3D without the glasses. The
interface
> may eventually be the TV itself (as LG, I believe, just
announced)
> but there are also established 3rd party players already
(Xbox,
> playstation, Tivo, Nintendo, Apple, etc) where no one has a
clear
> advantage. Netflix has been working to establish relationships
with
> as many of these as possible to capture as many TV's as possible.
So
> rather than Xbox negotiating with Paramount Studios for distribution
rights,
> Netflix does the negotiating and distributes throughout their
platform.
> Time will tell if Netlfix manages the relationships well
enough
> to make a little for themselves but disuade the 3rd parties from
going
> it alone without the Netflix toll road, but I think they will
learn
> from Apple's mistake of dictating to artists and consumers how
the
> relationship will work.

Jan 19 10:00 AM

[Novice6:]

Manhook, You're on to something. There were good MP3 players before the iPod came out (I had one), just like Kindle.

On Jan 19 09:47 AM Manhook wrote:

> Bryan,
> I think you're missing Apple's biz model and infrastructure possibilities:
> should your blog be "will Apple be the next Netfix?" Consider the
> following possibility:
> Apple introduces this summer a new product with a screen size perhaps
> 2X the iTouch. Then they transform the book business like they did
> to music and attack Amazon's business. Imagine downloading a book
> onto this device (a la Kindle) and being able to read or listen to
> it, with Apple providing the SW to switch back and forth to written/spoken
> word at the user's want....and doing so on the word, without missing
> a beat. Then they expand their digital store to go after the download
> of all digital products with this new device in concert with Apple
> TV. Hello movies! Goodbye Blockbuster and Netflix. Both will see
> declining businesses similar to the decline in music CD sales. Think
> big!
>

Jan 19 10:43 AM

[turtledreams:]

With all this increased volume are we going to run out of fiber and wireless capacity anytime soon? If so, who will the winners for the job of adding capacity?

Jan 19 11:16 AM

[2bitRick:]

just to add to Manhood's comments

I am having my Mac read to me know from articles I find on the internet, the jump he talks about is not that far away. The Mac's speak technology is very good and will only get better.
The Future is Bright

Jan 19 11:22 AM

[Et tu, Brute!:]

Dude, some further cluelessness is showing. Ebay may have a healthy spreadsheet (for now is the caveat) but it comes from stepping all over the little guy once having used and abused him and then ruthlessly throwing said little guy to the curb.

There's more to this dead horse story but I'm tired of beating it. To me, I am continually amazed at the ignorance that keeps coming to light.

Even Wall Street gets it now

Wake up!

Jan 19 12:15 PM

[Timeline St...:]

Hey stockdoc06: I suggest that you revisit Apple's efforts to gain control of the living room. They haven't taken off just yet but they will. I think that you are mistaking that Apple ALLOWS use of a small playback device with them REQUIRING use of a small device.

Apple has made a lot of movements toward this with AppleTV, Cinema Displays, using your laptop as a media center, etc. If the content is coming via broadband, I don't know why I would favor anyone from the traditional TV segment, or even Netflix.

It's also hard to call what Apple has done with music a 'mistake'. You may not like it, artists may not like it, labels may not like it - but it speaks for itself with the financial results.


On Jan 19 09:48 AM stockdoc06 wrote:

> Movies are different than music and AAPL does not have nearly the
> advantage they had in music. AAPL's music rise was driven by a highly
> desirable playback device and DRM that forced you to use iTunes to
> buy music for your iPod. With the movement to eliminate DRM music
> will be purchased as a commodity through iTunes, Amazon, WalMart,
> etc where artists will once again be able to control price and demand
> their terms be met, though the iPod device still seems to be the
> preferred playback device for now.
>
> Despite the ability to play movies on a 2" iPod screen, the preferred
> playback device for movies is a TV, a business APPL knows nothing
> about, has no advantage, and it would foolish to try to enter the
> TV business unless they come up with 3D without the glasses. The
> interface may eventually be the TV itself (as LG, I believe, just
> announced) but there are also established 3rd party players already
> (Xbox, playstation, Tivo, Nintendo, Apple, etc) where no one has
> a clear advantage. Netflix has been working to establish relationships
> with as many of these as possible to capture as many TV's as possible.
> So rather than Xbox negotiating with Paramount Studios for distribution
> rights, Netflix does the negotiating and distributes throughout their
> platform. Time will tell if Netlfix manages the relationships well
> enough to make a little for themselves but disuade the 3rd parties
> from going it alone without the Netflix toll road, but I think they
> will learn from Apple's mistake of dictating to artists and consumers
> how the relationship will work.

Jan 19 01:29 PM

[jkk:]

do a search on bandwidth caps and you will see where the industry is going to prevent NFLX streaming video and the like from riding their pipeline to take business. NFLX umlimited download steaming is a crappy selection right now - this is because the studios will not allow all you can eat for the good titles.

I would only buy NFLX if you think that their DVD rental business will last long enough to provide a good ROI (which I do not think it will at current multiples) - i would not bet on it for streaming video as to easy to get into and to much competition already - and the killer being the industry wide conversion to bandwidth caps

I am short NFLX - see my post here for reasons why I think the company will not survive

messages.finance.yahoo...

Jan 19 05:41 PM

[KevinH:]

I won't touch your EBAY comments with a 10 foot pole (their margins will not keep them in business with their current business trajectory). Too much has been said on this topic elsewhere.

But come on man, if you want to be taken seriousely don't misspell names of common technologies like "Blue Ray". FOMCL. (hint: Blu-ray).

Jan 19 08:41 PM

[waf76:]

Right now I have an Xbox 360 and a Netflix account but the streaming content is laggy and won't play correctly. As a result I'm stuck with using the postal service to get my dvds. I live in Long Island so its not like I live in the middle of the woods. I know many others that have experienced the same issue. Bandwidth will be problem for years to come. With that being said Netflix's business model has proven to be very effective and profitable. If and when bandwidth is expanded the real winners will be the cable companies and verizon who offer the bundle packages (i.e. cable, internet, phone)

Jan 20 04:03 AM

[Bryan Kautzman:]

For what it's worth, the editors at seekingalpha can be noted as being responsible for that one.


On Jan 19 08:41 PM KevinH wrote:

> I won't touch your EBAY comments with a 10 foot pole (their margins
> will not keep them in business with their current business trajectory).
> Too much has been said on this topic elsewhere.
>
> But come on man, if you want to be taken seriousely don't misspell
> names of common technologies like "Blue Ray". FOMCL. (hint: Blu-ray).

Jan 20 07:36 AM

[Bryan Kautzman:]

One thing that has been mentioned here, and is a huge deal, is the fact that the cable companies are the ones who primarily control the bandwidth. This is an important factor especially in this era of bandwidth caps. One must note that these bandwidth caps could possibly even be an effort by broadband companies to protect their VOD products against Netflix. There is a good chance that this entire scenario will be challenged in court at some point in the future.

However, many of the objections against Netflix can be refuted in at least an acceptable manner. The reason why I like Netflix better than, say, Apple, Amazon, or even the cable companies at this point is simply because of the structure of Netflix's business model. I don't want to pay for movies on a one-at-a-time basis. The traditional VOD service, at $4 to $5 per flick, is a ripoff compared to Netflix's service. If I watch 4 movies per month, I'm getting my money's worth. Furthermore, I don't want to own movies. With the exception of perhaps one out of a hundred titles, all of the movies I watch are watched only once. This is the common market sentiment, and it is the reason why Apple and Amazon will have to change their market plans in order to compete. Finally, at this point, it's all about market share. Netflix has a huge head start, and in my eyes, their product is still the best one on the market. That may change in the future, but until it does, I like their chances.

Jan 20 07:43 AM

[Bryan Kautzman:]

I have to imagine that the laggy streaming content you are experiencing is a result of a sub-par internet service provider. Of course, such evidence is anecdotal at best, so I can counter it quite easily by saying I watch at least a half dozen movies/shows per week via Netflix's streaming module. I've yet to see it lag once.

The evolution of the internet may stagnate due to the stubborn nature of the broadband providers unwilling to upgrade their networks to allow for continued progress in the industry. That is unfortunate.

On Jan 20 04:03 AM waf76 wrote:

> Right now I have an Xbox 360 and a Netflix account but the streaming
> content is laggy and won't play correctly. As a result I'm stuck
> with using the postal service to get my dvds. I live in Long Island
> so its not like I live in the middle of the woods. I know many others
> that have experienced the same issue. Bandwidth will be problem for
> years to come. With that being said Netflix's business model has
> proven to be very effective and profitable. If and when bandwidth
> is expanded the real winners will be the cable companies and verizon
> who offer the bundle packages (i.e. cable, internet, phone)
>

Jan 20 07:49 AM

[Apple ENthu...:]

Doesn't it really come down to the system you use along with what and where your computing preference lies. Most people that use Netflix are prone to relish in its ability and outlook while the Apple user is constantly astonished by their innovation. An avid Apple user myself and having used Netflix in the past I am more excited to see the future of the Apple product stream than I am to see that of Netflix. My main argument is that the Apple TV, evidenced by its sales, has yet to really catch on. As owner of this product I can't begin to express how much I love it and believe that it has yet to even begin to recognize its true ability. Once studio contracts are re-negotiated wouldn't you think that the library base as well as the availability of new releases will improve. My understanding is that contracts held by the movie studios with the likes of BBI have held back the release schedule on new movies. I do like the feature of the subscription contract Netflix but I also think that AAPL will have to address this. The added bonus of the Apple TV that I think most non-users don't realize is the ability to use the device as a conduit to your itunes MUSIC library. I can't tell you how much I have used this feature through my home system. This combined with, if you're in know how, the storage and stream capability of my dvd collection to my tv. The overwhelming number of itunes users will, I believe, in time realize that for a very small amount you can use this device to stream your entire audio and video library. One thing I keep my eyes open for is the ability to use the device for web use. It currently has Youtube capability but would benefit greatly from additional functionality such as Hulu, etc.

Jan 20 09:35 PM

[zvarvel:]

A recurring revenue stream from a good business model is NFLX. The threats are overwhelming for NFLX, not to mention over 90% of revenue comes from one source.

Its shocking Seeking Alpha didn't know how to spell Blu-Ray, but whats even more disturbing is that they allowed this article. There wasn't one relevant comparison for NFLX to "Being the Next Apple".....

Jan 21 12:57 AM

[SkateNY:]

Sorry Charlie, but it's never going to happen.

We're all entitled to our own opinions; but none of us is entitle to our own facts.

The app store currently has over 15,000 available applications, many less than $4.99, many more for less than $1.99, and many at no cost.

Over $300,000 hundred dollars in revenue each day for Apple; over $700,000 each day for Apple developers. Just don't see it happening even close to this for nominal competitors.

Jan 21 05:21 AM

[svosavvy:]

I doubt nflx is going unnoticed by the cable company, I believe it was about 6 months ago I heard about the cable company doing a pilot program to charge more for people using high amounts of gigs i.e. people watching content not just surfing the net. They stated it was slowing down their service for everyone, I'm no engineer but I doubt it. Cable should be keenly aware of their coming obsolescence if they don't change. They could be relegated to an infrastructure play if they're not careful.

Jan 22 10:52 AM

[Scanio:]

Just recently I read somewhere that AAPL has ordered a very big quantity of large LCD displays from LG. Looks like they are indeed planning to get into TV business.


On Jan 19 09:48 AM stockdoc06 wrote:

> Movies are different than music and AAPL does not have nearly the
> advantage they had in music. AAPL's music rise was driven by a highly
> desirable playback device and DRM that forced you to use iTunes to
> buy music for your iPod. With the movement to eliminate DRM music
> will be purchased as a commodity through iTunes, Amazon, WalMart,
> etc where artists will once again be able to control price and demand
> their terms be met, though the iPod device still seems to be the
> preferred playback device for now.
>
> Despite the ability to play movies on a 2" iPod screen, the preferred
> playback device for movies is a TV, a business APPL knows nothing
> about, has no advantage, and it would foolish to try to enter the
> TV business unless they come up with 3D without the glasses. The
> interface may eventually be the TV itself (as LG, I believe, just
> announced) but there are also established 3rd party players already
> (Xbox, playstation, Tivo, Nintendo, Apple, etc) where no one has
> a clear advantage. Netflix has been working to establish relationships
> with as many of these as possible to capture as many TV's as possible.
> So rather than Xbox negotiating with Paramount Studios for distribution
> rights, Netflix does the negotiating and distributes throughout their
> platform. Time will tell if Netlfix manages the relationships well
> enough to make a little for themselves but disuade the 3rd parties
> from going it alone without the Netflix toll road, but I think they
> will learn from Apple's mistake of dictating to artists and consumers
> how the relationship will work.

Feb 11 08:08 AM

[User 355928:]

In this economy, subscription based businesses are taking a big hit. Digital radio, even cable companies are in trouble. If things continue to tank, you'll see some heavy "churn" this summer.
Netflix's core business will suffer.

Feb 12 02:34 PM