When Chaos Came To Town - Episode I: Everybody Wants To Rule The World

There once was a time in this business when they had the eyes of the whole world in theaters! But that wasn't good enough for them, oh no! They had to have control of the homes of the whole world, too. So they opened their big libraries and out came VHS. DVD! STREAMING!
— apologies to Billy Wilder, Charles Brackett and D.M. Marshman Jr.

I have never heard as many people as confused about where the filming television industry is headed. Of course, you have media out front, full of piss and ignorance as ever, endlessly explaining the most simplistic perspectives possible, shifting in the wind as each exec or agent makes a pronouncement between their salad and portioned gluten-free entree.

Truth be told, my head is spinning. And it's not so easy to spin my head.

There have always been moments of WTF in the early moments of paradigm shifts, which is what we are in right now. But there were also some guard rails... mostly about making money.

So let's get right into the meat of it... Making a nice profit on content is no longer the central goal in Hollywood.

I have been coming at this from many directions over recent weeks and I promise I will show my work... but I don't want to bury the lede.

After considering the actions of players large and small, trying to put a broader motive on the choices being made (aside from the too-easy blaming of COVID), and looking towards the logical outcome of the choices being made, my current conclusion is that Hollywood has become an industry unsatisfied with being in the business of making a profit, year in and year out. The Industry is now in the thrall of the crap shoot of Wall Street, spurred in no small way by Netflix envy (as well as misunderstanding Netflix), and that simply being successful is no longer success enough.

The evolution of streaming is not too much unlike the evolution to sound movies. Back in 1927, a cash-strapped Warner Bros. released The Jazz Singer, pushing forward with the sound technology they had controlled in-house for at least a couple years. They didn't make a leap so much as were pushed into it by fear of bankruptcy. It was a huge hit, making Warner Bros. a ton of money, saving and super-powering the studio. But even more significantly, it put the onus on all the other studios to make the conversion to sound. (See: Singin' In The Rain)

Netflix introduced streaming—then called "Watch Now"—in 2007, a decade into the company's history. It was computers-only and was poor quality. They had about 7 million subscribers to the subscription DVD service and cracked a billion dollars a year in revenue for the first time (as well as shipping their billionth disc). So they should have been ecstatic. But they weren't. They were stuck without a track to a higher level of growth.

Netflix had also started an initiative in 2006, Red Envelope, to develop original programming on DVD... and by 2007, they already knew it wasn't working. Netflix sensed the decline in the domestic DVD business and knew that consistent mail distribution was problematic outside of the U.S. There was no next leap in delivering DVDs in envelopes. It wasn't the only reason they initiated the streaming effort... but it was significant.

Over the next five years, with the combination of delivery and streaming, Netflix quintupled their membership numbers and tripled their revenues. But the company still was not the high flier that it would become. In 2010, Netflix expanded streaming to Canada and then to other regions. By the end of 2012, they had six million international streaming subs.

In 2013, the international streaming subs leapt 62% to 9.7 million. In 2014, 72%. In 2015, 64%. 2016, another 50%. And then, in Q3 2017, Netflix's international paid subs (52.7 million) passed their domestic paid subs (51.4 million) for the first time.

That is when, I propose, the entire filmed entertainment was turned upside down, leading to where we are today.

At that time, in the third quarter of 2017... what was becoming undeniable to the legacy companies on every side of the $200b+ domestic television business was... well... The World.

All of the production companies and major studios license content across the globe, profitably. For decades, everyone was thrilled to fight over the turf that they had worked so hard to develop. But Netflix, the very successful canary in the coal mine, made them realize—proved to them—that they might be limiting their opportunities.

For instance, Comcast (NBC) can't lay cable across France and ABC (Disney) isn't welcome to broadcast their network in any other part of the world. Streaming expands the market in a way that allows these companies to remain in control of their content and the revenues (pending deals in each national territory). Netflix was proving that the world market could not only be bigger than the domestic market, but as theatrical movies had shown, dwarf it.

As of Netflix's last quarterly report (July 2021), they had 74.4 million subs in the US & Canada and 133.3 million in the rest of the world. For the first time in the Netflix streaming era, there was a quarterly loss of domestic subs. Every other region remained up. No one much cared.

Back in 2017, when Netflix tipped towards international. Disney's combined revenues from Media Networks (broadcast & cable) and Studio Entertainment (movies) were $26.8 billion. Netflix's total revenues were $11.7 billion. By 2020, Disney's combined revenues from Media Networks and Studio Entertainment were $38 billion and Netflix's total revenues were $25 billion. This is in spite of, for Disney, a significant impact from COVID.

As internet service gets better, streaming (including, potentially, virtual cable offerings) will continue to eat into the cable/satellite business. But these companies don't have to wait for that process to come to fruition in America. There are more subs overseas than here at home. And the bigger money needed to make this transition will come from there.

This is why I feel the lagging major streamers have years to get their acts together. Comcast and Viacom (And Disney) will all be making more money in domestic legacy cable and satellite than in streaming for at least three-to-five more years (not to mention Parks, in the portfolios of Disney and Comcast). The transition is not going to be quick. It wasn't for Netflix and it will be faster for others... just not fast.

Streaming is a replacement for cable and satellite. The average domestic household in America spends about $90 a month on cable and satellite. With streaming as the delivery mechanism, there is suddenly the real potential of more than a $100 billion a year spent by households for streaming services.

Netflix has been mostly an add-on service, with households willing to expand their spend by $10-$17 a month. But for there to be two or four or six services to be paid for every month, the money needs to come from somewhere… and the only realistic somewhere is the cable and satellite bill.

So let's do the back of the napkin math on the streaming future... at $15 a month, 5.6 million households = $1 billion a year. That puts Disney, for instance, at a revenue breakeven for their filmed entertainment production and distribution businesses in this transition at about 225 million subscribers (not at $8 a month... $15... the bundle).

Clearly, two things are critical... international subscriptions and the price point. (Netflix's Average Revenue Per User last quarter was $11.70. So they too are still below this hypothetical that is, in part, driving this market.)

Those who are still high on Netflix have decided to believe in a 400 million+ household subscriber universe. That's double their current business. They have been growing at around 30 million subs a year, worldwide, in the last five years and will probably be close to that again this year. But the sub train is clearly slowing and the focus for investors is moving to profit, which has not been a strength for Netflix to date.

Then, of course, it all gets much more complicated, because the costs needed to compete successfully in this direct-to-consumer business is a giant, evolving question mark. Netflix has been seen as the standard because of their success on Wall Street, but that Wall Street success has allowed them the indulgence of ever-expanding content spending. This won't work for anyone else. And it seems that we may be at the end of it working so well for Netflix.

But that is another Episode...