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ProjectBlog: Business Lessons for FAANG, from FAANG — Netflix!

Blog: Business Lessons for FAANG, from FAANG — Netflix!


Five of the best-performing stocks in the market, namely Facebook, Amazon, Apple, Netflix, and Google, were clubbed together and the assortment was given the term “FAANG”. The term was coined by CNBC’s very own, Jim Cramer. Together, the FAANGs amount up to 1% of the total S&P list.

In the previous posts, I’ve tried to analyze what businesses can learn from Apple and Google. I suggest you take a look at them in case you haven’t already.

This time we take a look at Netflix — a company which pioneering niche programming with technology. Every time I open Netflix, time flies as it submerges me with its time clusters. Full of immensely entertaining and interesting content, it’s almost like a crazy time hole.

What is Netflix?

Quoting Reed Hastings, “The real problem we’re trying to solve is, How do you transform selection so that consumers can find a steady stream of entertainment they love? We give everyone a platform to broaden their tastes.”

This has been the core ethos of the company where they’re building what they call a technology behemoth whose analytics, algorithms, and digital-streaming innovations have changed how customers watch TV shows and movies.

However, if you broaden your observation lens and scan Netflix again, you would find out them shaping what customers watch and not just how they watch it.

Netflix now has 150 mn users and has collected vast amounts of data on their viewing habits — which movies and shows they’ve liked, which they have liked/disliked, how long they’ve watched an individual episode or how much have binged a particular series.

This treasure trove of data when coupled with their powerful algorithms helps their engineering team strive to get customers to click on a show in the first 10 seconds.

Netflix’s marketing prowess

Such an interface, driven by algorithms which keep on getting better with more new data, helps make Netflix’s home screen earn the designation of the world’s most valuable real estate space in television advertising.

The outcome?

In the final week of 2018, Netflix released “Bird Box” which was watched by 45 million accounts watched in the first week of its release. That’s almost a third of their total user base — a spectacular number even if slightly inflated. (Netflix defined ‘watched’ as getting through 70% of the movie).

They’re hell-bent on viewing optimization, internal promotion and maximizing user engagement. The Black Mirror episode of “Bandersnatch” was a mighty successful experiment in an interactive narrative (which I speculate is purely from the perspective of data harvesting).

With this, users get to choose what happens in the narrative from dozens of options. Netflix can now chart out the narrative choices from the viewer activity helping them in their programming decisions and customizing promotions to each subscriber.

What do you get when you combine interactive narratives and programmatic product placement? Ans — A blatant potential marketing technique.

There were several choices for the users which have minimal impact on the narrative — choosing the cereal (along with its packaging) for instance or choosing which song to play from the cassette while driving.

The true ‘red’ Sillicon Valley disruptor?

If you aim to disrupt an industry, you must be nimble, willing to disrupt yourself. It started off being a new entrant that reshaped the logic of an entire industry. Yet one of the most interesting trajectories over the last two decades has how dramatically it has disrupted itself to keep its skin in the game. It started doing something like Amazon — shipping DVDs by mail and abolishing late fees. Now it has transitioned from mailing content to streaming those digitally. Today, it’s also a noteworthy original content creator getting 112 Emmy nominations.

It also spent over $12 billion cash in making original content in 2018. Aptly put by a cover story in New York magazine, “Netflix is hiring in and out of Hollywood to make more TV shows than any network ever has, and it also knows which one you will like”.

There were only so many ways through which you could pay for entertainment/media — lease a movie seat, watch ads alongside radio or television and/or pay a fat monthly fee to gain access to an array of scheduled programming.

Netflix was a fresh foray, providing ad-free original programming alongside a library of older content for a monthly fee. It has transformed several norms of the TV business — from eliminating pilot episodes to inventing the concept of binge-watching (particularly because of the convenience) to replacing demographics with taste-clusters.

Netflix has always challenged the conventions of the industry and could well be the classical definition of a Sillicon Valley disruptor.

How do the financials hold up!

Netflix purely relies on subscribers whom it pays so much unlimited content for such a low monthly rate averaging around $14/month meaning it earns the same from each household regardless of how much the subscribers watch. And it’s burning through money with $3 billion negative cash flow in 2018 alone.

Pouring money into content might generate hits, not revenues and since it relies so heavily on subscriptions, its entire valuation is centered around the concept of adding and retaining subscribers.

Albeit it posted $1.2 billion in profits, those numbers are based on an accounting model which neglects many costs and debts. This has attracted severe criticism from financial experts like Aswath Damodaran, who believe that the model is unsustainable.

Netflix’s entire valuation is based on hope, hope that it will keep on additing subscribers at a massive pace and economics of scale would kick in sometime.

Netflix wants you to occupy your leisure time

Netflix first communicated its interests in competing with all activities that consumers have at their disposal in their leisure time in late 2013 in its “Long-term plan”. They keep iterating how they currently occupy only a small fraction of their users’ leisure time and money.

What if Netflix was pitting itself against social media companies like Facebook and Google (YouTube)? Netflix might be playing a dangerous game but it ain’t doing that recklessly. The winner will command untold spoils.

Yet their business models remain starkly contrasting — the social media giants have advertising revenues from free user-generated content. Netflix could aim to balance content costs with higher subscription fees but it would only lead to small profit margins.

But what if the parallel isn’t restricted to costs and revenue?

Their competitive advantage (as I already mentioned earlier) has long been their recommendation algorithm. Now if it wants users to binge-watch on its platform (as it’s spending a lot on improving its algorithm), it invariably signals to its intentions to compete with content platforms like Snapchat, Instagram, Facebook, and YouTube.

Imagine it having 300–400 million subscribers (with an average user sharing his/her profile with 2 more), each spending roughly 2 hours on the service, Netflix would have built a platform where paid users have far greater engagement than Facebook. This “reach” (number of users * frequency) is phenomenally powerful.

Add live sports, interactive story-telling or even cloud gaming (for Netflix still has the best at-scale and compression technology in the world) and countless possibilities mushroom up.

How can Netflix live up to its potential?

Netflix could try and become a Multi-sided platform (MSP).

Why?

Many MSPs are more valuable than companies in the same domain providing only products and services. For instance, Airbnb is more valuable than Marriott, the world’s largest hotel chain. And it has incredible reach (150 million subscribers) and content delivery infrastructure would be really attractive to many. In addition to video content providers, cloud gaming services and marketers.

By becoming an MSP, Netflix could tap into a different dimension of growth — selling more to the same set of subscribers.

How could Netflix be a platform?

It would be fairly simple for Netflix to become a platform if it wanted to. It could allow third-parties to sell their products and services with Netflix’s service but outside their subscription, on mutually agreed upon terms.

This way Netflix wouldn’t have to buy or produce new content to grow. It just needs to attract third parties to develop and sell the content. The third-parties benefit from Netflix’s extensive content delivery capabilities while Netflix keeps a share of the revenue or a transaction fee. Moreover, such parties would experiment with new forms of content which would really help consolidate Netflix’s content production and licensing efforts.

This is a page straight out of Amazon’s playbook — build a platform to entice third party sellers, study their transactions and then copy them (Amazon Basics).

The melting pot is that Netflix is struggling in an increasingly crowded space. Netflix might have to switch from being a pure aggregator of content under one single piece of subscription to a hybrid aggregator platform model on which various content providers can tap into its 150 million strong user base.

Does Netflix need to worry about its competition?

The stock dipped ~4.5% the day Disney+ was announced. Of course, the competition is coming & it’s getting crowded with everyone vying for cord-cutter $s. However, I feel it’s their game to lose.

Source: NADAQ:NFLX

Outside the US, it has less competition & a strong competitive advantage. Let’s see how — Only 60 out of its 140 mn subscribers happen to be from the US — almost close to the potential market which means international revenues will outweigh domestic.

Better still, Disney+ wouldn’t be global before ’21 & seems like AppleTV would only be available in a few countries. Hulu & HBO now are in the US only. Even Prime Video doesn’t have country-specific & local language content. It’s ramping up international content & also spending on building for local audiences — giving money to local creators & letting them make great content based on the data they’ve collected about user behavior. HBO wouldn’t make a Hindi GoT. Neither Disney would attempt a German Avengers. It’s this appetite which won them the Oscar for Best Foreign language film.

If it keeps pouring more money into quality international content, it could acquire 300 mn intl. subscribers real quick. Q1 report suggests it’s precisely focussed on international growth & that should deliver results for the stakeholders.

Closing thoughts

The leading streamer of on-demand content has a strong culture and is worth keeping an eye on if you wish to learn business strategies from it. But ultimately, the power of Netflix is to keep you hooked on to its platform for long.

And as it grows, so will this power (and also debt?). It sits at the nerve center of a popular culture thanks to its very millennial-centric demographic. It possesses very powerful algorithms — both compression and recommendation wise — which when combined with its 150 million users gives it a solid value proposition which can directly translate into revenue through a variety of means.

Its primary long-term business goal might well be to become a data-aggregation company and not a media/distribution company. This changes the entire paradigm once we consider this.

This is the third of a series of five articles I’m planning to write over the next few weeks. I hope you enjoyed reading it as much as I did penning it down for you. In case you liked it, please don’t refrain from the appreciation it deserves and give it a few claps and help it reach a wider audience.

You can follow Pratyush Choudhury for breakdowns of the hottest technology trends, translations of the business use cases involving tech buzzwords, and analysis of the business strategies that power the tech industry.

Source: Artificial Intelligence on Medium

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