Netflix Will Have To Overcome Rising Content Costs

| About: Netflix, Inc. (NFLX)

On Thursday a Netflix (NASDAQ:NFLX) spokesperson reminded the market that the company does not need new releases to drive its business. Indeed, thanks to Coinstar's (NASDAQ:CSTR) Redbox, and other services, people can get new releases faster and cheaper than from Netflix.

No, the company says, Netflix's model has always been about the long tail of content. It stocks DVDs of classic, art house, cult classics and lesser-known titles that you simply cannot find anywhere else. Indeed, Chris Anderson produced this chart of Netflix's content and its relation to revenue a few years ago:

As I pointed out recently, Netflix was up against three problems that hedge fund manager Whitney Tilson had noted:

  • It can have a weak library and maintain low prices.
  • It can license better content and pass the cost along to its customers, which would crimp growth.
  • It can license better content and eat the cost, which would hurt margins.

I realized that "weak library" meant the long tail of content, which in fact was one of the major reasons why Netflix flourished. Did I make a mistake?

No. The long tail of content via DVD was an important part of Netflix's success. The problem, however, is that the world is moving towards streaming content, and is doing so at a rapid pace. DVDs are going to vanish -- that's something everyone needs to accept, including Netflix. We will be in an all-streaming world.

That means that same long tail of content will become more expensive, since Netflix will have to continue to acquire more expensive streaming content (streaming requires license fees, while anyone can buy a DVD, then rent it out as often as they wish). And now that Amazon (NASDAQ:AMZN) has entered the streaming business and has much deeper pockets, there will be competition for this long tail of content, since the cat is out of the bag regarding its revenue potential. Apple is also a major player, albeit on the pay-per-view side, and you can bet Google will get into the game at some point.

All the more reason to get out of Netflix -- and, I think, to short the stock.

Disclosure: I am short NFLX.