THB #58: Streaming Doesn't Want To Be Free
The internet wasn’t supposed to be like this.
I’m old enough to remember Chris Anderson’s NY Times bestseller, “Free,” which explained, as many were doing in 2009, that information wanted to be free.
About 10 years after “Free,” I cut my family’s cord. The costs and limitations of my provider, DirecTV, had become onerous enough and my fiber optic made my home internet-rich enough to take the leap.
But while I was free of the specific boundaries that my satellite provider (which were very much like I was hearing from friends with cable), there were a whole new set of companies with their hands out, looking for a cut, on the way to providing content to my increasingly giant television.
When Roku started public reporting on their business in 2017, they were doing about $250 million a year selling Rokus and bringing in about $180m a year on platform revenues. Where this was headed was clear, though.
“Although we generate player revenue and gross profit from the sale of streaming players, we optimize this business around growing unit sales and growing active accounts; therefore, we do not focus on maximizing hardware revenue.”
By the end of 2019, the financial statements flipped the hardware revenue line and the “platform” line, with platform on top, as the platform was now pretty much doubling the revenue of the hardware sales. The trend continued and by 2021, platform was bringing in about 4x the hardware.
Simply, Roku is not in the business of selling those little portals that make it easier to stream content. They are primarily in the business of selling spots on those little portals and/or remotes and advertising on the gateway. That is where the money is.
Roku (and FireTV and AppleTV in their ways) has become the new cable box. We all, as consumers, live in the illusion that we have paid for this piece of hardware and that our monthly spend on Netflix, Amazon Prime, HBO Max, Disney+, etc is spent exclusively on the content of our choice. After all, aside from the big streamers, Roku offers 100s, if not 1000s of weird quirky little channels - some free, some pay - that feel like an open bazaar of content.
How much revenue does your household produce for Roku, if you have one? $40 a year... and growing. With 56 million people using their hardware, that’s $2.24 billion a year in revenue from access to you to streamers. And 65% or so is profit or about $1.5 billion.
This is why the stock is hot on Wall Street. And there is nothing illegal about it at all. After all, they learned how to do this from decades of an evolving television business.
When cable was launched, getting a place on the box was a big deal. There were all kinds of rules and structures, including “must carry.” Empires, like Ted Turner’s, were built on getting national cable placement for local stations because they carried, for instance, baseball and wrestling.
Laws changed in 1992, requiring cable companies to get consent from channel owners to have their channels on their boxes. It took about a decade to get rolling, but rolling it got and cable/satellite providers started paying for channels to be on their boxes, including local stations that were just years before legally required to be carried on each city’s cable as part of the cable companies getting and keeping their frachises. These days, the threat of channels falling off of your cable or satellite system is not a rare event. And this has extended to the new streaming cable replacements, like YouTubeTV, Hulu Live and Sling.
On the internet side, Apple provided the first big example.
Apple started reporting their income from sales and their income from services as separate line items in 2019. It was $40 billion a year in services in 2018. As of the last reported quarter (Oct 2021), it’s $68 billion. But it is dwarfed by the $298 billion in sales. Their business is still hardware first.
Still, Apple was using its hardware leverage to get a piece of the action from anyone who wanted to be available to their hardware. Apple is infamous for its strict royalty structure. And this has included AppleTV, which was originally rolled out as a closed ecosystem in which Apple controlled what apps to which you had access. They opened things up a few years ago, but there are still fights over app royalties, including a push and pull over whether you could pay for an app outside of the Apple ecosystem and then use it on AppleTV. (You can’t.)
Google’s ChromeCast, as a hardware business, has kept some distance from that form of pay-to-play, though there is a version with a remote that you can use as a platform for streamers and for their virtual-cable product, YouTube TV.
But speaking of YouTubeTV, Google in calf deep in the content delivery business and it seems to be jumping through the same hoops as cable and satellite have had to since retransmission fees became a thing around 2005. Money is involved with these negotiations, but it’s not just money. It’s about having advantages within the ecosystem and/or pushing the hardware companies to adjust their hardware to the benefit of the streamers.
In recent months, Google’s YouTubeTV - and thus, YouTube - were duking it out with Roku. And Disney was duking it out with YouTubeTV.
At the same time, Comcast and Disney and Viacom are still making money on broadcast and cable networks and their conversion to streaming has been slowed, to various degrees, by the conflict of the goals of each revenue model.
Disney also has Hulu Live, which is a competitor with YouTube TV (and Sling and DirecTV Stream, etc, etc). So they are also negotiating endlessly with other content providers.
Then there is another element of this grand waltz, which is that all these legacy content companies have to navigate their own libraries and the financial expectations of partners on those films and TV shows. Some of the content is old enough to have long-standing control of the content. (This content is generally less valued by the streamers than more current content… which is probably a mistake on various levels.) When HBO Max wants Friends, they have to pay the market rate for Friends, at least as affects the financial partners. New content is being made under new contracts that anticipate the future of these shows. But content made between 1980 and 2020 is a minefield.
And then there is this… we are still in the loss-leader era of streaming, meaning that the price points you are paying today are all at least 30% cheaper than the major streamers will need you to pay in order for them to be profitable.
I expect the spends on content to be cut significantly in the next few years. The scale of spending is not sustainable in the long run. We are in the gold rush period and the spending is insane. There are many bargains in the world… like The Squid Game, which cost “just” $23 million. The challenge is that you never know which of your 10 such spends ends up being the Squid Game… or which of your 20… or 30.
Netflix is still selling the idea of there being an endless amount of content, though their content choices have become more and more predictable. That isn’t an attack… that is the nature of how all this works. For all the bowing at the alter of the algorithm, making more teen dramas and murderous docs and sexy soaps doesn’t require a degree in engineering. Point is, the cost of being ubiquitous is enormous. And the idea that they will grow enough (in subs) to power past that is looking less and less likely. Superstar business… but there is a cap to all things.
Disney+ owns a lot of the IP they are working with, so even though they too overspend, a higher percentage of the money seems to end up on the screen. They aren’t out spending on rights and guessing what will work as much. But their future relies heavily on what we now know as Hulu in America and ESPN as well. For them to get a bigger audience and a more committed audience, more like Netflix’s, they need the whole range of content.
Anyway… you likely know amnd have thought about some of these conflicts out there. I find that it becomes overwhelming when you start to think about the totality of it. Everyone is connected. Everyone is in competition. Everyone is trying to get their piece of the cash pie.
With due respect to those who think theatrical is a dying business… it is all this mess of distractions that make that narrative seem potentially sensible. The math doesn’t make sense. Shortening windows doesn’t really make sense. But all of these companies that have lived under a rigid idea of how to squeeze every last dollar out of every film or show for decades, shifting through all the new variations of home entertainment offerings, are now faced with this being this way FOREVER. Ultimates, as they are called - projections of all revenue that might come into a spacific show or movie - was really a 3 or 4 year projection (later adjusted for successful enough product). Now, if you aren’t looking a decade out, you aren’t really thinking it all the way through. Forever.
Everyone has been in their own little rowboat (or giant yacht) and working their butts off in the bubble. And now they have to think about every angle forever. It’s an impossible ask, really. And really, no one knows what the endgame really is. Because they goal is always to maximize. But no one knows what maximum is going to look like in 5 years, much less 20.
To offer an example, would West Side Story premiering on Disney+ really create a serious impact in terms of their subscription count? How much impact will it have when it finally does land on Disney+ or Hulu? How much value will WSS bring to those services in 2023? Will they decide to license the film to other streamers in 2023 or 2024 and beyond because it is worth more to them in cash money?
No one knows. No one can know.
There is a real chance that the promotional value of releasing a movie in theaters makes a film going to streaming 2 months later MORE valuable than a direct release.
We don’t know. Not enough experience with how this works. Not nearly enough experience outside of the COVID window.
What we do know is that the content companies and the streamers and the agents who create the contracts to protect and enrich the talent, etc, etc, will figure it out. 100%. They do every time. They need a little market stability, but you can be sure that there are some lawyers and accountants out there playing with numbers and hypothesizing about what they can sneak into a contract in 2022 that will shock everyone when it pays off huge in 2024 and beyond.
As for us consumers, it is all overwhelming. But what is unclear is whether there is anything immoral - or moral - with this. So many hands in so many pockets makes the product more expensive for the audience in the end. It can’t not. But maybe that is the built-in cost of the content we want.
We have access now to more filmed content than ever in the history of mankind. And we are paying a fairly modest price for that content. More people are still paying a lot for cable and satellite. But whether you are paying $10 a month or $18 a month for Netflix, you are getting a bargain. It’s a ton of content and a lot of it is really good. $8 for Disney+… or Hulu… or Amazon Prime with free 2-day delivery all year… etc, etc, etc.
We are still early in the transition. But the history of entertainment is that the amount the average household is willing to spend each month for content at home has a cap. We will not soon be in a world where people pay $125 for cable and $100 for streaming apps. Some will. But most will not. So more changes will come. The pie will be cut and fought over.
And in every pocket, there be hands. Free is an illusion.
Then again, it is a business of illusion, isn’t it?