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One of the more notable details of Netflix’s founding story—as told by co-founder Marc Randolph in his memoir “That Will Never Work”—is how early investors were looking past Netflix’s pitch about its mail-order DVD business and towards a future of streaming distribution over the internet. Randolph recalls that in the fall of 1997 DVDs were perceived by people in the distribution business as “a middle step between analog VHS tapes and downloads or streaming.” Streaming as we know it now was not an inevitability, but it was something that the Internet’s architecture would enable in some form or another.
25 years later, Netflix has sunset its DVD business—the meeting quoted above had predicted they would last only until 2002—and has moved into games, live events programming and ad-supported streaming. Wall Street now perceives Netflix to have “won the streaming wars.”
I argued in “Reed Hastings Steps Down (and Up)” that Executive Chairman Reed Hastings stepped down and up from the co-CEO role in large part because “Netflix’s moves into gaming and advertising both fall outside of his skillset (and the latter notoriously falls well outside of his vision).” In its Q4 2023 letter to shareholders, Netflix described how the growth opportunity as “a $600B+ opportunity revenue market across pay TV, film, games and branded advertising — and today Netflix accounts for only roughly 5% of that addressable market.”
Streaming now seems to be a middle step between DVDs and something more advanced involving gaming, advertising and live events programming. Unlike 25 years ago, the question is now, who understands what that “something more advanced?” will be?
The long answer is Netflix management, but the short answer is Co-CEO Greg Peters.
Key Takeaway
The implication from Netflix's Q4 2023 earnings call is that there only so much a single platform can deliver for consumers in this media marketplace. Netflix is gunning to be that platform but what it will ultimately becomes in the long-run is anyone's guess.
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Sarandos & Peters
Sarandos was keen to close the call with a long list of upcoming releases of TV series (returning seasons of “Bridgerton”, “Emily in Paris”, “The Diplomat”, and “Squid Game”) and movies (Millie Bobby Brown in “Damsel”, Jennifer Lopez in “Atlas”, Eddie Murphy in “Beverly Hills Cop 4: Axel Foley”). He was also excited to discuss the acquisition of rights to WWE Raw in a 10-year deal that will expand its live event programming offerings. Sarandos emphasized the WWE deal was distinct from other live sports licensing on the deals as “sports entertainment” and therefore “as close to our core as you can get of that sports storytelling”.
He elaborated on their licensing strategy, noting that “the studios have always been in the business of selling their content to others, including direct competitors for years” and that “sometimes” its “ distribution heft” and “recommendation system” can “uniquely add more value to Studios' IP than they can”.
He is ultimately Netflix's top salesperson for its programming. Whereas Peters has now an increasingly dominant voice on earnings calls, often explaining the evolving technology of the business and particularly within gaming, advertising and paid sharing. He seems to be offering the signals as to what that “something more advanced” is.
The Signals
Peters was asked by an analyst whether “paid sharing will add subscribers for several more quarters”. He responded that Netflix is “going to continue to deliver to new cohorts in 2024” and added this caveat:
“But increasingly, I sort of don't think about it as like going after these certain pools, but more about just finding the most effective way to convert folks who are using the service, the right call to action, the right nudge at the right time. And those might have been historical borrowers or folks that are new to the service as well. And we're going to continue to improve that engine. That will continue to improve our growth for years ahead, not just 2024.”
In one sense, this answer broadly describes Netflix as a business aiming to expand beyond streaming by focusing on different cohorts—effectively, groups of people with a shared characteristic—across paid sharing, gaming, live events and advertising. The implication is that “something more advanced” has been built. Therefore, Netflix’s challenge is to continue to improve the core offering to have “more diversity and more quality from our members' perspective.”
But, in another sense, the added caveat implies Netflix's customers cannot be bucketed into specific cohorts whose needs always can be met by new offerings. Effectively, the value proposition of Netflix is evolving past streaming because its consumers increasingly have expanding entertainment needs that must be met with “the right nudge at the right time”. Those needs are not always streaming movies and TV series.
Netflix is attempting to evolve into that “something more advanced” with a strong core offering of entertainment and a growing variety of services that meet a growing variety of consumer needs. In other words, it is Netflix as is, but also Netflix with the heightened awareness that its core entertainment value proposition is insufficient given that in its “most mature markets” it is only getting about 10% of TV time.
The Lingering Question
One of my 10 predictions for 2024 is that “Netflix will struggle to tell the story of its success” and therefore “Investors will struggle to buy into…a more sophisticated explanation of how the moving pieces drive growth.” I do not foresee this happening until Q4 2024 or Q1 2025. This likely outcome is why it is worth paying closer attention to how Peters explains the business in earnings calls.
It is not in Netflix’s best interests to pivot away from its elegantly stated long-term vision: “streaming entertainment - which is on-demand, personalized, and available on any screen - is replacing linear TV.” But, listening to Peters, that seems like an inevitable outcome. His decision to walk back the business logic of cohorts, above, arguably reflects this concern. Netflix’s business and shareholder value grew under Hastings because the math of cohorts becomes exponentially complex within a user base of 260 million subscribers and over 1 billion target customers. Perhaps that is a problem artificial intelligence helps to solve, and they are not yet ready to tell that story to investors.
Peters is going to great lengths to explain that the Netflix platform is the technological foundation of a more diverse set of entertainment offerings. But, as Netflix stated in the Q4 2023 letter to shareholders, its industry remains highly competitive given: “the franchise strength and programming expertise within traditional entertainment companies; ongoing heavy investment from large tech players like YouTube, Amazon and Apple; and broader competition for people’s time, including gaming and social media (TikTok, Instagram etc.).”
The implication is that there is only so much a single platform can deliver for consumers in this media marketplace. In other words, Netflix is gunning to be that platform but what it ultimately will become in the long-run seems to be anyone's guess.