Shareholders of the once high-flyer Netflix (NFLX) have experienced quite a roller-coaster ride. Over the last year, the stock peaked at $300 then dropped as low as $62 before recovering to $110. Netflix, the scrappy competitor, has built its brand through its brilliant disruption of the entertainment distribution business model over the last decade.
Act I: First-Mover in Online Streaming
Over the years, Netflix successfully fended off challenges from brick-and-mortars, such as Blockbuster, and disruptors, such as Red Box, by pairing its DVD-rental business with unlimited streaming. The online streaming model turned out to be a great catalyst for the shares for a number of years. As a pioneer of online streaming, Netflix was able to negotiate good deals with content providers and set-top-box distributors Sony (SNE) and Microsoft (MSFT). The rest is history, as streaming created longer and stickier customers.
Ironically, Netflix's extraordinary success in online streaming has attracted the attention of well-capitalized competitors and, importantly, the content providers themselves. Had it not experienced such explosive growth, Netflix may have been able to secure longer-term content contracts at the teaser rate of $0.15/subscriber that it had earlier negotiated with a number of studios. But Netflix's stock soared from $30 to $300. As a result, the big boys in the online world took notice.
The Problem: Attracting Goliath's Attention
What is Netflix's Act II? There are large-cap competitors from all sides vying for a piece of Netflix's streaming business. Compare Netflix's current $7.99/month online streaming plan to other offerings. Amazon (AMZN) offers free streaming to its Prime customers. The Prime subscription has a compelling value proposition: for a $79 annual subscription, members receive a valuable bundle of free shipping, cloud services, access to Kindle books, and unlimited streaming. On the DVD side, Coinstar (CSTR) has the omni-present and convenient RedBox kiosks which provide the latest rentals for $1 a day.
Recently, the 800-pound gorilla, Comcast (CMCSA), has entered with a Streampix unlimited streaming option; for a mere $4.99/month, subscribers receive unlimited streaming of a wide collection of shows. Comcast's entry is troubling, as they are a well-capitalized volume purchaser that can negotiate much better streaming contracts with content providers than Coinstar. Oh, by the way, recall that Comcast also provides on-demand movies and internet. It owns big-3 content provider NBC. Comcast presents Netflix with its most fierce challenge yet.
Act II: Partner or Merge
The writing is on the wall; the emperor has no clothes. I do not see how Netflix can be viable as a stand-alone company with these large competitors encroaching on its turf. Comcast is to Netflix as Wal-Mart is to a local mom-and-pop store. When it enters town, Wal-Mart is able to offer the lowest prices because it is the largest-volume purchaser. Similarly, Comcast and Amazon have more negotiating leverage with the studios.
While it was dramatically successful in growing its subscriber base, Netflix has been unable to secure long-term streaming contracts at a reasonable price. Netflix will need to partner with a major studio, or perhaps merge with either a content provider or distributor. Netflix has many valuable attributes: a strong brand, loyal subscriber base, and valuable predictive analytics technology. All of these will be valuable to a suitor. To maximize shareholder value, Netflix should consider merging with a content provider or content distributor.
