Netflix Business Strategy Analysis

Introduction

Netflix, a multi-billion dollar subscription service company, was founded in 1997 by Reed Hastings and Marc Randolph in California, USA. It is said that Reed Hastings was charged a $40 late fine after renting the film Apollo 13 from Blockbusters and that this inspired him to set up Netflix as a DVD-by-mail service. It quickly expanded by introducing steaming media online and is now accessible in over 190 countries worldwide. In 2013 Netflix diversified into the content production industry and this foresight gave them the edge which paved the way to becoming the leader in the Streaming market, more popular than Amazon Price and Hulu. Following on from the success of its first series it is now estimated to have released in excess of 126 original series or films, more than any other network or cable channel. Currently, Netflix are believed to have approx 117 million subscribers worldwide and the company was recently estimated to be worth in excess of $100 billion(2).

Market Structure

Generally you can divide industries into categories according to the degree of competition that exists between the firms within that particular industry; Perfect Competition, Monopoly, Monopolistic Competition and Oligopoly. Perfect competition is where there are many firms competing within the industry and each firm has a very small market share which in turn means none of them have the power to influence the price. Monopoly is where there is just one firm in a given industry so there is no competition which allows the firm to charge what they want. Monopolistic Competition falls in the middle, there is a significant amount of competition and there is the opportunity for new firms to enter and exit the industry quite freely. Finally, Oligopoly is where only a few firms in the industry exist and it can be very difficult for new businesses to break into. This fits the market structure of Netflix Inc. The reason it falls under this market structure is because there are very few companies that provide the same service e.g. Amazon and Hulu. Although the core principle of services provided by three companies may seem the same, they differ slightly in terms of the content they provide. Netflix has moved towards original content created and produced by Netflix themselves while Hulu is aimed more at current TV Shows and films from Hollywood. Another reason why Netflix can be classified as an Oligopoly is that there is a significant barrier to enter this market; capital investment. In order to provide relevant, popular content that will attract customers to subscribe, a huge level of investment in needed to acquire the licence to stream these TV shows and movies. For example in 2011 Netflix successfully secured exclusive streaming rights to The Walking Dead and it is said to have cost the company $1.35 million per episode making the deal worth $25 million at the time (based on the episodes available at the time) [1]

Product Range

Although Netflix’s product range itself may appear to be very small; TV Shows and Movies, they offer a huge variety of genres and use analytics to make the best recommendations for their users. They have created over 75,000 micro-genres in an attempt to understand how people look for movies. They took the genre description, broke them down to their key words, employed people to watch content and tag every aspect of it from director/actor/genre all the way to how it ends and the personality of the main character and categorized each quanta and documented it. This allows them to offer their customers an extremely personalized recommendation service to make their entertainment experience as seamless as possible. It also allows them to attract a hugely diverse customer base because they cover almost all genres. [2]

Pricing Strategy [4]

In an oligopolistic market the organizations have a shared control in the price of the product/service they offer. The largest firm in the industry has the power to set the pricing standard across the market. All other firms within the market will go along with this standard e.g. when Netflix increased their prices by $1 last October, Hulu followed suit by introducing a more expensive ‘ad-free’ subscription package which was more similar to Netflix’s offerings. They did however decrease their standard package price (with adverts) in an attempt to become a stronger competitor in the market. Because of the oligopolistic nature of Netflix Inc.’s, their price elasticity can be said to be relatively inelastic. This has been proven over the years from incremental price increases and the introduction of tiered pricing for additional features. It also allows users to add concurrent streaming on multiple devices. 

Netflix Inc.’s current pricing strategy was first implemented in 2011 when they introduced a standalone streaming subscription (No physical DVDs included). They have three tiers of prices. It starts with their €7.99/month Basic Plan which allows you stream TV shows and movies on one device at a time in standard definition. It also allows you download titles to mobile devices. The next step up is the €10.99 Standard plan, allowing concurrent streaming on two devices in HD (also includes option to download). Finally the €13.99 Premium plan lets you stream on 4 devices at the same time in HD and UltaHD included in the download option. As you can see, each tier offers more features which gives the impression of value for money. On the Basic Plan you’re paying almost €8 for only 1 screen whereas you are offered Ultra HD and 3 additional screens for an additional €6 per month, this leads the customer to choose the higher priced package as it is better value. 

Market

With up to 118 million subscribers globally, Netflix has a huge volume of customer globally. Of these, over 54.75 million are United States customers but as this streaming giant drives forward and increases in size and popularity, their international subscription base is growing. This was evident in April 2017 when Netflix confirmed a licensing deal made in Mainland China for original Netflix content with iQiYi which is a Chinese video streaming platform owned by Baidu [13]

Profitability

According to CNBC, Netflix exceeded expectations by the addition of 8.33 million subscribers globally in the fourth quarter of 2017 which brings the grand total subscribers up to 118 million. The market capitalization of Netflix is now passed the $100 Billion for the first time Monday the 22^nd of January after the release of their Q4 earnings. The EPS was announced as 41 cent which was in line with expectations done by a Thomson Reuter consensus estimate and the revenue reached an impressive $3.29 Billion. These figures have changed dramatically since the Q4 report in 2016; EPS was 15cent and revenue of $2.48 Billion. Although the revenue increase is welcomed, it will be reinjected into future investments on new content for 2018. Netflix says they expect this to cause a negative free cash flow of $3-4 Billion and will continue to “raise capital in high yield market”. [12]

Core Philosophy [6]

Netflix have reinvented the wheel when it comes to Rules of Corporate Culture. They value people over process and believe that their workforce is made up of great people working together as a dream team. This is all to create an environment which is flexible, fun, stimulating, and creative and allows employees to work to the best of their ability. They value integrity, excellence, respect, and collaboration and base their culture around 5 core principles:

1. Encourage independent decision-making by employees
2. Share information openly, broadly and deliberately
3. Are extraordinarily candid with each other
4. Keep only our highly effective people
5. Avoid rules

They also have a unique policy when it comes to parental leave and holidays. They recognize that having a child is one of the most special events in an individual’s life which is why they encourage new parents to take as much time as they need to readjust to their new life as parents. Their policy us: “Take care of your baby and yourself”. This shows that Netflix truly care about the wellbeing of their employees and want their vital team players to be at their best mentally and physically throughout the full course of their career at Netflix. The same rules apply for Holiday leave. They allow employees to take whatever holiday time they feel they need to work to the best of their ability throughout the year, be it one week or four week. The decision is in the hands of the individual employee.

Along with this unique attitude towards creating their employee culture, Netflix recognize that they have the ability to impact the world through their work. “IT TAKES DIVERSITY OF THOUGHT, CULTURE, BACKGROUND, AND PERSPECTIVE TO CREATE A TRULY GLOBAL INTERNET TV NETWORK”. They pride themselves on their belief that we have to work from the inside out to create a space where all employees and voices are heard and appreciated. With almost a 50:50 gender balance and an ethnically diverse work force, Netflix are helping pave the way for equality for all in the workforce. [5]

Advertising/Promotional Strategy of Netflix [14]

Netflix use a very clever technique to determine what their customers want to see, they monitor illegal downloading sites such as BitTorrent and μTorrent for the most popular downloads and use this information to decide which content they should be bringing to their streaming platform. This content joined with ‘Netflix Originals’ are what attract customers to their site instead of the likes of Hulu and Amazon Prime. Amazon’s CEO Reed Hastings said in an interview that they strive to “make the big titles bigger”. TV shows such as Stranger Things or 13 Reasons Why are hot topics of conversation within many friend groups and discussion boards. This pulls in the people who haven’t joined yet because they want to join the discussion. Hasting says that “All their friends are talking about the shows, which is the dominant accelerator”.

Together with this, according to theconversation.com, Netflix Inc. has adopted a ‘conglomerated niche’ strategy; they produce content catering to many different target audiences, for example, action series “Daredevil, horror series “Hemlock Grove” and exclusive films starring popular actors. By doing this, Netflix is able to service different audiences simultaneously and separately [14]. While these techniques are used to initially attracted subscribers to the platform, their unique recommendation algorithm is used to keep their subscribers happy and entertained. Their algorithm also knows what image they should use when making suggestions for example if you have previously watched more comedies than romantics, when suggesting a romantic comedy they will emphasis the comedy aspect through the actors or a snapshot of a funny scene instead of the romantic side of the firm. Their theory is that on a subconscious level you will be more attracted to the image and more likely to select the title.

Share Price Movement

Week 1(11^th September): Netflix begins with a share price of $181.74 according to NASDAQ which is the starting point for this analysis period. It is a slight increase from a weekly high of $179 by the previous week end. This was following a pattern of stead increases over the previous two weeks, increasing by almost 14% by the 21^st of September.

Week 2(18^th September): Following on from week 1, week 2 saw the same pattern of slight increases and decreases in the share price but ultimately increasing overall. 

Week 3(25^th September) [7]: On the 25^th of September there was a sharp dip in price, loosing $9.50 worth of value over the course of the weekend. This was most likely caused by the announcement that 21^st Century Fox was adding more content to their own streaming service. A similar reaction among investors happen earlier in the year when Disney announced it would be removing all their content from Netflix in the lead up to the launch of their own streaming serving which would cater to their own target audience.

Week 4(2^nd October): After seeing another slight decrease over the course of the week due to the Century Fox announcement, Netflix made a comeback by announcing that they would increase the subscription price for customers causing a significant hike in their share price. The statement made on 5^th October resulted in a share price increase of 5% ($10) in a matter of hours, and by the end of the week (Oct 6^th) it has risen to $198. This was an all-time high, according to Variety. This indicated that investors momentary wobble in confident has subsided and were fulling trusting that the hike in price would not impact the amount of subscribers but would instead increase revenue, benefiting them.

Week 5(9^th October): Following the previous week’s announcement, Netflix’s value remained relatively flat line with the exception of a few minor increases and decreases throughout the week. This absence of change was short lived as the momentum began to build again towards the end of the week.

Week 6(16^th October) [8]: This week sees a record high for the stock price. Reaching $202.68 on Monday the 16^th. This comes alongside the news that Netflix are planning to spend up to $8 Billion on programming in 2018. According to CNN Tech, this came at a time when tech leaders such as Apple and Amazon were using their huge availability for resources to find original content to compete with the likes of Netflix Original successes such as Orange is the New Black or Stranger Things. Each of these has brought a huge volume of customers to the site due to its exclusivity and cult following of these shows.

Week 7(23^rd October): This record spike in the share value was short-lived. By the 23^rd of October the share price had dropped below the $200 mark again after it transpired that Netflix were expecting to raise $1.6 Billion in debt to cover the cost of the original content they had planned for 2018. This was cause for concern among the shareholders but luckily it didn’t impact too heavily on the share value which only decreased by 5% or $10.

Week 9(6^th November) [9]: Although Netflix had gained 64% in value over the past year, the shocks lost more than 5% this week after sexual assault allegations were made against Netflix Original Series actor Kevin Spacey. The lead actor in Netflix own House of Cards came under fire which in turn prompted the firm to decide not to continue production of their hit show as the reputation and ethics of the company may come into question if actions weren’t taken.

Week 10 – 16: There is very little significant increase or decrease to report over this period. Although there was slight movement up and down, for the most part the share price remained between $184.04 and $199.18. No major announcements or significant articles were published during this time frame that would have been disruptive to the share price which is why it remained so stable for such a time period.

Week 17(2^nd January): The firm begin to pick up some motion upwards again after a period of relative stability in price of their stock. This could be as a result of the buzz caused by an influx of articles listing the best of what’s to come in 2018. For example “the top 20 new and returning shows to Netflix” according to TV Time

Week 18(8^th January) [10]: Continuing along the pattern of steadily increasing in value day by day, by January 8^th, shares have reached a new high of $212.52. This pattern in causing technical analysts to predict even further increases in the share value. According to CNBC TradingAnalysis.com’s Todd Gordon says “the streaming platform’s run is hardly done”. Gordon predicts, based on the Elliott Wave theory, that Netflix shares are set for another wave up causing their value to soar even higher. This prediction is ahead of January 22^nd, the date on which Netflix are set to report their Q4 earnings which have a massive impact on the share value.

Final Week: The final week in this analysis period is week prior to the release of the Q4 earnings. This week traders are expecting a “big move” according to CNBS. Up to this point in 2018 alone, shares have increased by up to 9.5% going from $201 on January 2^nd all the way up to $220.46 on Friday January 19^th. The release comes on Monday 22nd of January and, although is not included in the requested analysis period, it would be unjust not to report the impact it had on the value of the Netflix share price. Between market close on Monday and market close on Tuesday, shares leaped a massive 10% (rounded up) which amounts to an increased value of $22.71, but this impressive jump didn’t end here. Over the next seven days the share price increased to a staggering $284.59 by market close on Monday 29^th. This amounts to a surge of almost $83 and is equal to a 41.5% leap in value. The Q4 report says that Netflix added 1.98 million U.S. and 6.36 million overseas subscribers which was much higher predicted [11]. This along with fourth-quarter revenue of $3.29 Billion is the likely cause for the surge. Investor confidence has strengthened as a result of exceeding expectations and predictions.

Conclusion

It is evident that Netflix are a very successful streaming platform who have a great team of people behind them to drive the company forward to do bigger and better things. They have expanded and diversified enormously since being founded in 1997. Going from a DVD by mail and online streaming platform to having 118 million users worldwide and producing their own highly successful content. It is clear that this multi-billion dollar company is a game changer in the entertainment industry.

Bibliography

[1] Matthew Byrd, November 2017, 15 TV Shows That Cost Netflix A Ton of Money, screenrant.com https://screenrant.com/netflix-tv-shows-most-expensive-cost/

[2] Alexis C. Madrigal, January 2014, How Netflix Reverse Engineered Hollywood, theatlantic.com http://linkis.com/www.theatlantic.com/Sa5NA

[3] Blog, fusebill.com https://blog.fusebill.com/pricing-strategy-tiered-volume-pricing

[4] Netflix Streaming Plans, Help Center, Netflix.com https://help.netflix.com/en/node/24926

[5] Inclusion and Diversity, Netflix Jobs, Netflix.com https://jobs.netflix.com/diversity

[6] Culture, Netflix Jobs, Netflix.com https://jobs.netflix.com/culture

[7] Michael Sheetz, September 2017, Netflix heads for the worst day since November after Fox spooks investors, cnbc.com https://www.cnbc.com/2017/09/25/netflix-heads-for-worst-day-since-nov-2016-after-fox-spooks-investors.html

[8] Seth Fiegerman, October 2017, Netflix to spend up to $8 Billion on programming next year, cnn.com http://money.cnn.com/2017/10/16/technology/business/netflix-earnings/index.html

[9] Sara Salinas, November 2017, Netflix dropped 5% this week, after rallying all year, cnbc.com https://www.cnbc.com/2017/11/10/netflix-drops-five-percent-this-week.html

[10] Annie Pei, January 2018, Netflix could surge another 20 percent, says technical analyst, cnbc.com https://www.cnbc.com/2018/01/05/netflix-could-surge-another-20-percent-says-technical-analyst.html

[11] Todd Spangler, January 2018, Netflix Blasts Past Q4 Subscribers-Growth expectations, shares soar to all-time high, varierty.com http://variety.com/2018/digital/news/netflix-q4-2017-earnings-stock-1202672341/

[12] Anita Balakrishanna, January 2018, Netflix jumps more than 8% after adding more subscribers than expected, cnbc.com https://www.cnbc.com/2018/01/22/netflix-earnings-q4-2017.html

[13] International Expansion, Netflix, Wikipedia.com https://en.wikipedia.org/wiki/Netflix#International_expansion

[14] Amanda Lotz, April 2017, The unique strategy Netflix deployed to reach over 90 million worldwide subscribers, theconversation.com http://theconversation.com/the-unique-strategy-netflix-deployed-to-reach-90-million-worldwide-subscribers-74885

[15] Netflix, wikipedia https://en.wikipedia.org/wiki/Netflix

[16] John Lynch, October 2017, Netflix stock hits all-time high after price hike for US subscribers, businessinsider.com http://uk.businessinsider.com/netflix-stock-hits-all-time-high-after-price-hike-2017-10?r=US&IR=T