Netflix to Subscribers: Stream This

| About: Netflix, Inc. (NFLX)

Seeking Alpha contributor Karl Denninger stated it nicely earlier in the day: Netflix (NASDAQ:NFLX) Nukes Itself.

Here's the heart of the official blog post from Netflix, announcing that it's reorganizing its DVD and online streaming subscriber plans:

Second, we are separating unlimited DVDs by mail and unlimited streaming into separate plans to better reflect the costs of each and to give our members a choice: a streaming only plan, a DVD only plan or the option to subscribe to both. With this change, we will no longer offer a plan that includes both unlimited streaming and DVDs by mail.

So for instance, our current $9.99 a month membership for unlimited streaming and unlimited DVDs will be split into two distinct plans:

Plan 1: Unlimited Streaming (no DVDs) for $7.99 a month
Plan 2: Unlimited DVDs, 1 out at-a-time (no streaming), for $7.99 a month.

The price for getting both of these plans will be $15.98 a month ($7.99 + $7.99). For new members, these changes are effective immediately; for existing members, the new pricing will start for charges on or after September 1, 2011.

Netflix contends that "treating DVDs as a $2 add on to our unlimited streaming plan neither makes great financial sense nor" does it give consumers who only want DVDs much choice. Speculation abounds as to the real reason for the move. Of course, there's the rose-colored spin that this move just further solidifies Netflix's position as an online streaming company. Maybe this is the case. It sure sounds convincing. As a person who believes in the follow-up question, however, I like to consider alternative scenarios.

Remember the "temporary" removal of Sony (NYSE:SNE) movies from Netflix's streaming service? It's coming up on a month now. One commenter to a recent Seeking Alpha article I wrote offers this explanation:

... this was a plan to move those who don't stream off the streaming plans and their announcement today confirms it.

The commenter contends that by getting users to drop streaming, Netflix will fall under the subscriber threshold it surpassed, prompting Starz (LSTZA) to drop the Sony movies. This, according to the commenter, would prevent Netflix from losing Disney (NYSE:DIS) programming because of similar terms in the Starz deal. As the argument goes, Netflix's streaming subscriber count drops allowing it to get the Sony programming back, not lose the Disney content and work out a new deal with Starz.

This stance flies in the face of what Netflix and the above-referenced Peter Kafka of All Things D (see "the rose-colored spin") appear to be putting forth as the reasoning. Kafka, for one, makes the assumption that, given this conundrum, more (or at least enough) Netflix subscribers will opt for a streaming only plan, which would free up DVD money that the company could use to buy content. Or, if a customer goes for both, Netflix makes more money, which it can also spend on content acquisition.

It's all quite confusing, frankly. Under the most bullish circumstance, Netflix subscribers will go for the combo plan and blow $8 a month just to have the ability to get, but not order many DVDs by mail. This would allow the company to earn more money from its subscriber base and not shell out too much more, if anything more, on DVD delivery. Under the most bearish scenario, more subscribers than we think value the DVD option, but refuse to live without unlimited streaming. These customers do some number crunching and decide to cancel all together, unable to justify a 60% increase.

As usual, what will actually happen probably sits somewhere in between the two extremes. Here's my take - Netflix is going the way of Research in Motion (RIMM). The big differences between the two companies is (a) Netfix has much more competent leadership and (b) the Netflix brand, unlike the BlackBerry brand, is not dead; in fact, it's alive and well.

As with RIM, Netflix appears to be a company with a weak handle on its business. It's still feeling things out between streaming and DVD. That's scary, given the realities of increased competition, rising content acquisition costs and massive international expansion plans. Remember, this is a company that has a "five year plan, at least" to "figure out social." Along with the decision to no longer report key subscriber metrics (now we have a better idea of why the company went that route), taken together, the landscape Netflix finds itself in tells me that this move is one of desperation.

I am not inside the Los Gatos corridors, but I would love to be a fly on the wall. By making such drastic and rather abrupt moves, I hear Netflix screaming, "We need more money to pay existing commitments and for more content." Of course, the Wall Street institutions who own the stock will put out notes telling their clients that this is an excellent revenue driver for the company.

In closing, consider something I have not heard mentioned much, if at all, throughout this debate. By placing a "renewed focus" on DVDs, Netflix might be doing a favor of sorts for the studios who are not quite ready to see their DVD businesses die. Netflix could essentially run its DVD segment as a loss leader. This would make the studios happy, thus making them more likely to offer Netflix digital rights on more affordable and favorable terms. In other words, the studios could indirectly subsidize Netflix's DVD business for their own benefit. Because of Netflix's giant and well-established DVD business, the competition, not even DISH Network (NASDAQ:DISH), can offer such a deal.

If I am Netflix, however, I would strongly consider selling off the DVD business, using the proceeds and a secondary stock offering to focus entirely on streaming and that segment's long-term survival. If Netflix can navigate the rough waters over the next six to 12 months, it might be able to afford to spin off the DVD segment and actually have a true go of it as a an online streaming company.

Disclosure: I am short NFLX, RIMM.