Streaming Services Is Not A Winner Take All Market

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Includes: AAPL, AMZN, CBS, CMCSA, DIS, NFLX, T
by: Richard Durant
Summary

The streaming services market will be competitive and only companies with a large library, a consistent pipeline of quality content and a close connection with consumers will succeed.

Netflix has a strong position as the first mover in the market and is better positioned for international success but appears overvalued considering the strength of competition.

Disney will be successful in the long term due to the strength of its content and appears to be an attractive investment opportunity.

Streaming services (video-on-demand) is a potentially huge market, which has attracted a range of companies who are attempting to leverage either an existing user base or distribution network or maximize the value of their content library and production capabilities. This market will be much more competitive than many people realize and although there will probably be multiple successful services, there will be consolidation.

Looking at trends in the industry and the capabilities of the competing services, it appears there will be 3 or 4 successful services; most likely Netflix (NFLX), Disney (DIS), Amazon (AMZN) and AT&T (T). CBS (CBS) and Comcast (CMCSA) appear to be torn between protecting their existing businesses and building streaming services for the future, which will make it difficult for them to be successful. Apple (AAPL) brings little to the market besides a large user base and is unlikely to gain significant traction with users.

Industry

The internet has greatly changed the media landscape, from music to news and now television and movies. One of the key elements of the internet which has allowed this disruption is the zero cost of marginal distribution. This has led to lower prices for content (often free) and greatly reduced industry revenues.

Figure 1: Global Music Industry Revenue

(Source: Created by author using data from TechCrunch)

Figure 2: Global Newspaper Industry Revenue

(Source: Created by author using data from journalism.org)

Unlike music and news though, television has traditionally been free with revenue generated by advertising. The shift from an advertising to a subscription-based business model by pay TV companies changed the focus of content creators from appealing to the lowest common denominator to generate the largest audience possible for advertising revenue to creating the highest quality content possible to generate large licensing fees. This has been part of the driving force behind the golden age of television. Movies on the other hand have traditionally been monetized through cinema ticket sales, rentals, sales and licensing. The transition to video-on-demand over the internet is being dominated by subscription business models, with advertising and content sales becoming less important.

Figure 3: Traditional Television Industry Value Chain

(Source: Created by author using data from BCG)

Figure 4: Digital Television Industry Value Chain

(Source: Created by author using data from BCG)

The internet has also caused the services provided by TV and movies to become unbundled, with consumers able to meet their needs from different sources. Traditionally TV and movies met consumers desire for the following:

  • Information
  • Education
  • Live Sports
  • Entertainment
  • Escapism (antidote to boredom)

The biggest differentiator for the internet compared to television is that it has made time irrelevant, consumers can access what they want, when they want. Educational content is now largely being provided by services like YouTube and escapism is being provided by services like Facebook (FB). News and live sports on the other hand have a time-sensitive component which continues to make them suited to the TV advertising model. It therefore appears that the biggest consumer need streaming services will fill is the desire for stories and similar to pay TV, it will be a desire for quality stories.

It is arguable that the pay TV industry foresaw the shift to online streaming with companies like Comcast (NASDAQ:CMCSA) buying internet providers, so they continued to have the infrastructure to provide media to consumers. They have been reluctant to act on this shift though for fear of cannibalizing much of their traditional business. Similarly, content creators have been slow to go direct to consumers through streaming for fear of losing much of the licensing revenue they would have received by selling rights to third-party networks and distributors.

Netflix was the first to recognize the potential for streaming over the internet to meet consumer desire for entertainment and has been able to capture value by controlling distribution. Content producers initially made the mistake of licensing content to Netflix as they didn’t view them as a threat and saw it as a source of revenue with no cost. Traditional media companies have now recognized that their business model has been disrupted and are aggressively moving into streaming themselves. This had placed Netflix in direct competition with the likes of Disney and they are now attempting to integrate backwards into content creation to remain relevant while content creators are integrating forward into streaming to try and retain their market power.

The streaming services market is fragmenting, and it is not clear how many platforms the market can support. One thing that is clear is that consumers will not be subscribing to every platform and there will likely be consolidation at some point. A survey conducted by Magid Research indicated people who abandon traditional pay TV packages are willing to pay for about six different services that cost a total of about $38. Other research has indicated that most consumers will only be willing to subscribe to 2-3 streaming services.

Analysis of the market is further complicated by the fact that some of the major players in the streaming space do not have streaming profits as an end goal. Companies like Disney, AT&T, Comcast, Amazon and Apple, all of whom have deep pockets, are using streaming as part of larger corporate strategies and will be less focused on profits, which could lead to a pricing war.

Netflix

Netflix pioneered the video-on-demand market and is currently the dominant streaming platform, with 60 million subscribers in the U.S. and 150 million subscribers globally. They are trying to reduce reliance on third-party content creators and add value by moving into content creation and have been investing heavily in original content, spending about $15 billion on content in 2019, which dwarfs many of their competitors.

Figure 5: Netflix Original Content Creation

(Source: Created by author using data from Netflix)

Netflix launched an international service in 2016 and appears to be much more internationally focused than competitors, making significant efforts to produce and acquire local content. Netflix also appears to be more focused on quantity of content rather than quality, relative to its competitors. Netflix has faced relatively little genuine competition until recently, which has allowed them to grow rapidly and increase subscription fees. The concern going forward is how they perform against strong competition, particularly as rivals pull content from their platform.

Netflix appears to be the default streaming service for most people, with close to 80% of Netflix’s subscribers only having that one subscription. For other services, most subscribers have more than one subscription, likely so that they can access exclusive content on that service.

Figure 6: Percentage of Streaming Service Users Who Only Have Subscribed to Only One Service

(Source: Created by author using data from TechCrunch)

Netflix also has superior subscriber retention compared to competitors, indicating higher customer satisfaction. Netflix and Hulu both have far superior subscriber retention to CBS All Access and HBO Now, which supports the theory that these services are being used to access specific exclusive content and that users cancel their subscription once they have viewed the content.

Figure 7: Streaming Service Customer Retention

(Source: TechCrunch)

AT&T

AT&T looks set to launch a streaming service combining HBO, sister channel Cinemax and its vast Warner Brothers TV and movie library, costing between $16 and $17 a month. For a niche service like HBO, it is not clear if they would be able to attract a large enough audience to support their own streaming service in the long run. Combined with AT&T’s other assets the service looks like a premium, highly differentiated product, which for many will justify the high price. AT&T’s other advantage is their presence along the entire industry value chain. This gives them the ability to bundle their streaming service with their other services, like pay TV or wireless. AT&T has 21 million pay TV subs, mostly via DirecTV, and 100 million wireless subs, giving them a large potential audience.

Figure 8: Customers Willing to Cancel Their Subscription if a Specific Show Ends

(Source: Created by author using data from TechCrunch)

Research indicates that consumers prefer services with a large library of varied content compared to more niche services with a smaller number of high-quality shows. Many subscribers to HBO only subscribe to watch a specific show like Game of Thrones and then cancel their subscription when the show has finished. HBO will therefore benefit greatly from being bundled with the rest of Time Warner’s content to give it broader appeal. WarnerMedia’s chief has been blunt in his internal conversations with HBO executives that the channel needs to drive more engagement with its subscribers. Going forward I believe we are likely to see greater output from HBO with the goal of increasing subscriber retention as well as attracting new subscribers.

Amazon

Amazon is a relative newcomer to the media industry and is using streaming as part of a broader corporate strategy, but also appears to be genuinely committed to competing in the space. They are offering Amazon Studios, Amazon Channels and Amazon Sports with the goal of drawing users into their Prime service, which has a $199 annual subscription fee and recently topped 100 million members. Amazon Studios is a content creator and will spend about $6 billion on content this year. Initial focus was on potentially award-winning content, but this niche approach was not drawing enough people to Prime.

Under a new CEO, Amazon Studios is now creating films and series with broader appeal for Amazon’s user base. Amazon Channels aggregates content and is a neutral channel, acting as a partner with content creators. Similar to their retail strategy, Amazon are offering content creators access to a huge marketplace and charging for access. Unlike competitors, Amazon is aggressively pursuing sports in the streaming space, which I believe is due to their unique ability to effectively combine a live viewing experience with targeted advertising that connects directly to their commerce business.

Amazon Sports has inked a deal with Ultimate Fighting Championship to air pay-per-view fights and are also pursuing NFL and Baseball. Amazon’s streaming service will offer users free video as well as subscriptions to third-party cable channels, with Amazon taking a cut of revenue from cable subscriptions (approximately 25%). Amazon is putting together a compelling package, but it is questionable if they will achieve enough incremental revenue in the long run to justify the costs of their own content creation and streaming service unless they continue to increase Prime memberships fees as they get users locked in.

Disney

Disney has a number of businesses built around its core of content creation, which are designed to maximize revenue from its intellectual property. This is a business model they have pursued since the early days of the company and are likely to continue with streaming. This differentiates Disney from its competitors, as content creation and distribution are only the first steps in monetizing their content, which can continue to generate significant revenue for decades to come through avenues like merchandising and theme parks. Disney is therefore likely to use their streaming service to strengthen their connection with customers and build intellectual property.

Segment

Revenue (%)

Operating Profit Margin (%)

Media Networks

41.2

27.0

Parks and Resorts

34.1

22.0

Studio Entertainment

16.8

29.8

Consumer Products & Interactive Media

7.8

35.1

Table 1: The Walt Disney Company Segment Performance

(Source: Created by author using data from Disney)

Figure 9: The Walt Disney Company Organizational Structure 1958

(Source: thesynergyexpert)

Hulu is likely to be Disney’s attempt at competing with Netflix, or at least containing Netflix’s market power, ensuring there is competition amongst buyers of content. Hulu is already established, with 28 million subscribers in the U.S. and is growing rapidly. Disney also owns the rights to a significant amount of sporting content and will likely eventually bundle Disney+ with Hulu and ESPN+.

Disney’s content is their competitive advantage and they have been extremely successful in recent years in building properties like the Marvel Cinematic Universe and acquiring properties like Star Wars. Disney are the largest spender on content globally, with an estimated content budget of $24 billion in 2018 and they generally achieve impressive results on their investments with box office revenue alone likely to surpass $10 billion in 2019.

Apple

Similar to Amazon, Apple will offer a subscription streaming service of its own and charge other services to access its platforms and hardware. Apple has not released many details about its service, and it is not clear what their strategic intent is. It is clear Apple is searching for revenue growth in services now they have saturated their core product markets, but they will likely find the streaming services market difficult. Lacking core competencies in content creation and with previous efforts at TV hardware failing, it is not clear what Apple can offer that its competitors can’t.

Apple TV+ will offer exclusive original shows, movies and documentaries produced by Apple as well as content from other providers. Netflix has already stated that its service will not be available through Apple’s service though. It will not include ads, making it likely to be a paid service and will be available in over 100 countries. Apple has a large base of high value consumers and they are probably hoping they can convert a small percentage of these to subscribers. They may have some success with this as a niche service, but Apple does not look like a genuine competitor to the larger players in this space.

CBS

CBS has introduced their All Access and Showtime streaming services, which blend live feeds of CBS programming with original series. They appear to be less concerned with the volume of content and are pursuing a targeted original programming strategy. The company is producing 76 series, up 17% from a year ago, with Showtime expecting a 30% uptick in original hours in 2019. Between the two services, they currently have approximately 8 million subscribers and are targeting 25 million subscribers by 2022.

The majority of CBS All Access subscribers are not cord cutters though and CBS appears concerned about hurting their linear network and other revenue streams. They appear to be hedging their bets between their traditional businesses and their streaming services and this will make it difficult for them to succeed in either area in the long run. The other strategic option is for Viacom (VIA) and CBS to combine their offerings into one service, as they are both under the control of National Amusements.

Comcast

Similar to AT&T, Comcast has a presence in content creation, aggregation and distribution which they are currently leveraging through bundled offerings. They also have a large consumer base to target, with 25 million households in the U.S. getting their internet service from Comcast, a number that rose 5% in 2018. Comcast is offering the Xfinity Flex service which bundles a streaming box, a voice remote and a digital interface aggregating on demand video from subscriptions, free ad supported shows and options to rent or buy content. This service costs $5 per month in addition to the cost of the internet connection.

Comcast also has NBC Universal which it will offer to Comcast and Sky pay TV subscribers for free and will be supported by advertising. In all, NBCU will be available to 52 million subscribers. The service is expected to feature original content as well as third-party content. An ad-free version will also be available for a fee and non-pay TV customers will be able to purchase a subscription separately.

NBC has stated they are concerned about how they can compete effectively against Netflix, given they have a large head start and feel an advertising-based model is a way they can build a competitive service without losing billions of dollars. Comcast/Sky are the second largest spender on content globally, spending $21 billion on content in 2018.

Service

Price

(USD / month)

Subscribers (million)

Content Spend (billion USD)

Original Series

Warner Media (AT&T)

14.99

-

-

-

Netflix

12.99

150

~ 15

~ 700

Prime Video (Amazon)

8.99

100

~ 5

~ 125

Hulu (Disney)

1.99

20

~ 2.5

20-25

Disney+

6.99

-

22

-

CBS All Access

5.99

8

-

-

Apple TV+

-

-

~ 1

-

NBC Universal (Comcast)

-

-

21

-

Table 2: Streaming Service Comparison

(Source: Created by author using data from Variety)

Net Neutrality

AT&T and Comcast’s ownership of distribution networks could also be a strategic advantage given the repeal of net neutrality laws. These companies are able to favor their own services over competitors through throttling and excess data charges, which can increase the cost and detract from the user experience for competing services. While it is not clear to what extent ISPs will be willing to engage in these types of tactics, it is a strategically valuable option which could be used if competition heats up.

Figure 10: Streaming Service Market Positioning

(Source: Created by author)

I believe that control of distribution for TV and movies is becoming largely irrelevant in the internet era as audiences can seek quality content through a plethora of channels. The companies who will succeed in the streaming market will be those with a large library of quality content and those that can produce a consistent stream of new, quality content. The shift to subscription services will increase demand for premium and niche content and decrease the demand for average content. Disney and HBO are likely to benefit from higher demand for cinema quality viewing experiences at home, while Netflix is likely to capture the “long tail” of consumer interest for niche programs. Netflix has built a granular database of consumer preferences which gives them insights into demand for niche content, which competitors do not have.

Figure 11: Changing Consumer Viewing Preferences

(Source: Adapted by author from content by BCG)

Content creation is Disney’s bread and butter and they will be successful in streaming, although this will only be a part of a larger overall corporate strategy. Likewise, with AT&T’s control over HBO and Warner Media, they look to have a compelling offering that should be successful in streaming. To remain a leader in this space Netflix needs to continue rapidly building their library as competitors pull content. I believe Netflix’s focus will be more on niche programming than premium shows, which will make them less of a direct competitor with the other services. Amazon has a track record of successfully entering new markets and I believe this will continue in streaming.

Amazon Studios is successfully building competencies in content creation, Amazon Channels offers competitors a neutral distribution channel with access to a large user base and Amazon Sports can leverage Amazon’s advertising and commerce expertise. Apple has the cash to try and make themselves relevant, but it is not clear what value they add beside a large existing customer base. It is also unclear how dedicated they are to this market and if they are willing to suffer large losses while they build up a competitive offering. If they are genuine about this market it would have made far more sense for them to have made a large acquisition of an existing players several years ago. CBS and Comcast do not appear committed to streaming, which will make it difficult for them to succeed in the long run.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.