In Q1 2023, PARQOR will be focusing on four trends. This essay focuses on the trend, "The definition of scarcity is continuously evolving away from linear. What happens next?”
I don’t know if there is any particular take or angle on Co-CEO Reed Hastings’ departure after 25 years at Netflix. I imagine this career move will spur many, or perhaps even infinite takes now that we have ChatGPT to opine.
Last week I included an anecdote from Disney CEO Robert Iger about Hastings having tried to convince him not to launch a streaming service back in 2017:
“Reed Hastings from Netflix tried to convince me that there was no way we could do it. ‘You won't have the platform. You don’t know how to manage things like busted credit cards, all the issues with geotargeting and so many different factors.’ We had no ability to do any of that.”
Hastings’ point, back then, was that the streaming business was always going to be greater than the sum of the parts of commoditized technology available to Disney and other legacy media companies to assemble their streaming services. The little problems would inevitably add up.
Did Disney management believe it could solve for these problems in the long run?
Key Takeaway
What about the market competition makes Netflix Co-CEO Reed Hastings feel comfortable stepping down now? It might be the little failures of Netflix’s competition.
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Notably, Netflix is making the same point today, and in various ways over the past few letters to shareholders: basically, “it's hard” and “not easy” to “build a large and profitable streaming business.” So far, Iger and Disney have proven him both wrong — they are very much a competitor to Netflix globally with over 150MM subscribers (non-duplicated or triplicated)— and right — they lost $1.5B in the last quarter in streaming, alone.
But, the point that Hastings was ultimately making to Iger seemed to be, “I’m not questioning whether you can build a streaming service, I’m questioning whether it will be a viable business in the long term.”
It offered a detailed version of this point in its Q3 2022 letter in October:
our best estimate is that all of these competitors are losing money on streaming, with aggregate annual direct operating losses this year alone that could be well in excess of $10 billion, compared with our +$5-$6 billion of annual operating profit. For incumbent entertainment companies, this high level of investment is understandable given the accelerating decline of linear TV, which currently generates the bulk of their profit.”
Also, as Netflix pointed out last week in its Q4 2022 letter, their competition is anchored to shrinking legacy business models” while Netflix is a “pure-play streaming company”.
Behind the verbiage is a simple message to investors: even if our legacy media competitors do everything right — including solving for busted credit cards and geotargeting — they will never be 100% focused on streaming. And therefore, unlike Netflix, they will not be able to do everything necessary to compete and “lean hard into the big growth opportunity ahead of us”.
My Question
If I could ask Reed Hastings one question it would be this: Did he expect more legacy media executives to stick with the arms dealer model than to build their own streaming services? Or, to put it simply, did he expect more Sonys than Disneys?
Last year Iger described the dynamic of being an arms dealer to Netflix to Kara Swisher:
Disney was licensing movies to Netflix. And they were building— helping to build their platform on the back of our movies, and having the direct relationship with the consumer and building this global subscription business, which they did a brilliant job of, really. They deserve a lot of credit. While they were doing that, they were using some of the circulation that we helped them create and the subscription growth to fund their own television and movie production, directly competitive with us for talent and stories. And I woke up one day and thought, we’re basically selling nuclear weapons technology to a Third World country, and now they’re using it against us.
But, despite these risks, Sony opted for the arms dealer model because it saw “a lack of its own streaming service could be an asset rather than a liability”. As Tom Rothman, chairman and chief executive of Sony Pictures Entertainment’s Motion Picture Group, told The Wall Street Journal two years ago, “It did become clear at a certain point that many companies were going to lose many billions of dollars beating each other’s brains out.”
And, as Leo Lewis wrote in The Financial Times last year, “If we are indeed entering a phase in which cost-conscious households start rationalising their streaming services, then big unattached content providers such as Sony carry more weight."
The flip side of that risk is, as MoffettNathanson analyst Michael Nathanson told the WSJ, “competitors might accumulate big enough war chests from subscription revenue that they could outspend the studio on entertainment production." The music industry is the precedent: "Sony, Warner and Universal Music were always more valuable than Spotify, and this Netflix episode should make clear to investors that content is more valuable than the platform."
But Hastings’ implicit point to Iger back in 2017 was, “It won’t matter how big your war chests are if you can’t retain the consumer relationship, because all those seemingly persnickety little details will add up over time."
We don’t know if Disney lost $1.5B in FY Q4 2022 because it doesn’t know how to manage busted credit cards or geotargeting. The odds are low. But, we do know that it is more now focused on solving for the decline of its linear business and challenges at its theme parks because those drive operating income. It also has two activist investor campaigns to manage.
Hastings foresaw that whatever Disney could do, it would never be enough.
Did the moment pass Hastings?
The image of Reed Hastings from the Q2 2022 earnings call, leaning into the computer screen, wired Apple earphones in place, and passively participating was a stark contrast to his consistent well-lit appearances with a clean, wood background. He spoke only four times, punting questions or answering playfully about the documentary series on “hallucinogenics” from Michael Pollan.
It was a “tell” in Poker terms that he was not much longer for the role of co-CEO. According to his successors Ted Sarandos and newly appointed co-CEO Greg Peters, Hastings only considered stepping up to the Executive Chairman role “a couple weeks ago”. But the writing was obviously on the wall in July.
What about the market competition makes him feel comfortable stepping down now?
There were a number of factors, but my hypothesis is that these competitive dynamics fall beyond Hastings’ original vision for Netflix’s streaming model. There are obvious dynamics: Netflix’s moves into gaming and advertising both fall outside of his skillset (and the latter notoriously falls well outside of his vision). But I wonder whether the mistakes of legacy media betting on building their own streaming services were the kind of competitive dynamic that, like Sony’s Tom Rothman laid out above, requires less of his visionary skillset.
Because at this point it would seem the competition is doing a better job of destroying their own businesses and shareholder value with their bets on streaming than competing with Netflix.