Who's Afraid of Stale Content?

Everyone, apparently.  The movie industry is running scared of Netflix - even though the movie industry has done everything it can to cripple Netflix.  How does that work?

First, let's be clear.  Netflix's watch-now content is stale.  In the movie industry, about 70-80% of all money is made on a movie in the first 30 days after it's release.  That's true both for the box office and for movie rental.  Netflix has to wait 28 days for physical DVDs and Blu-Ray and they have to wait up to another 90 days for most digital content, if they get it at all.

That's not the fault of Netflix: the movie studios have engineered the release windows to minimize the risk of channel conflict.  First, you watch at the movies, then on a physical DVD or a premium rental, like iTunes for $5, and then lastly on assorted other media from RedBox to Netflix to non-pay-per-view cable.  The result: all of Netflix's content is pretty stale the day it arrives.

I think the impact of stale content shows up in Netflix's business results: churn is high and usage is relatively low.  Churn is much higher than for cable TV or even for premium cable movie channels.  And usage is low - many people do try it out, but few seems to watch over and over again.  Americans watch lots of TV.  Lots and lots of it.  But not too much Netflix.  Even people who have Netflix watch-now are probably only watching 1-2 movies a week.

The actual rate of Netflix watch-now viewing is not publicly released, as far as I can tell.  Netflix says that a high percentage of total subscribers are using the online service but they have never said what the average rate of usage is for this service - and I think there's a reason for that: it's probably quite low.  I've tried to develop costs models and based on that work, it seems like usage is not more than 1-2 full movies a week at the high end and maybe as little as 1-2 movies a month at the low end for online users.

The gap between Netflix usage online and actual TV watching probably comes from several different areas:

1. Fresh Content.  Cable TV and Hulu have fresher content - especially for TV.
2. Ease of Use.  Netflix is ubiquitous but the UI leaves a lot to be desired compared to Hulu or iTunes.
3. Live Content. Online services don't really offer live content like Football games which are still key for ratings in the world of regular TV.

Despite these problems, Netflix has Hollywood running scared.  They run an enormously profitable business and they have the cash to throw around and buy content.  Like old cable TV stations, one day they are buying re-runs, the next day they are commissioning original movies and series.  Netflix has gotten good at offering up alternatives and managing queues - so at least some users don't notice that the content is stale - they have a large queue of movies and TV shows they're catching up on anyway.

If Hollywood is going to build real competition to Netflix and iTunes, it's going to have to do several things to create real competition.  And the longer it waits, the less likely it is that even these strategies will work:

1. License content more widely.  Amazon and others want to offer subscriptions and rumor has it they will have the ability to do so soon.  Good start.
2. Improve Participant Economics.  Apple has set a benchmark that provides 70% of content revenue to partners.  That's great for partners, but it's actually a starvation diet for distributors.  No problem if you're Apple - that's not how you make money.  For other companies, however, making a profit on a 30% gross margin is quite tough to do when transaction sizes are so small.  A $1 transaction can cost about $0.35 to process on PayPal. Even more than pricing and revenue share, studios should embrace more flexible business terms that will allow new providers to experiment with new types of packages.
3. Enable Channel Competition.  Right now, no matter what you pay, channel conflict is not really permitted - the sequencing of releases is established and unbendable.  That's a shame because while nobody is likely to upset the theatre release process, more competition between secondary channels would ultimately be beneficial. With the right amount of money, there's no reason why an HBO can't emerge on the web without any cable infrastructure.

Right now, despite all their problems and shortcomings, Netflix and iTunes are tracking towards very dominant online positions.  With just two online leaders, that won't leave a lot of choice and negotiating power in the hands of the major studios.

Hollywood, by Loop-Oh