Is Netflix on the same edge as of 2007 ?

 

In 2007, JP Morgan's analyst, Barton Crockett put out a statement wherein he said that Netflix is facing tougher competition from blockbusters than originally expected because Netflix in 2007 was facing a very peculiar crunch situation. And after this news came out, the stock price of Netflix went down by 5%, and the market, in general, became extremely skeptical about Netflix's progress. But Netflix was so strategically able to navigate through the situation that in the next 10 years, Netflix went on to become one of the best-performing stocks in the world which gave a return of more than 10,000% from 2007 to 2018. But you know what? Very few retailer investors know that in 2021, Netflix is in the trouble again, and coincidently, this trouble situation is very similar to that of 2007. And how it reacts to this situation will actually go on to determine whether Netflix stock shoots up or it crashes down. So, pay very close attention to what I'm saying and if possible, take some notes because if you do this know of analysis, you can calculatively spot another stock market goldmine. 

This is a story that dates back to 1997 when the very popular Blockbuster failure saga actually started. For those who don't know, Blockbuster back then was a movie rental service that had physical stores of DVDs all across the US. And the general American tradition back then was you rent a movie on Friday and return it back on Monday. Back in 1997, Blockbuster was a Billion dollar company. With more than 6000 stores in the US alone and had a revenue of $3.91 Billion. But the problem was 16% of the revenue came from late fees which were annoying millions of its customers. This is when one of the customers actually got fined an exorbitant amount of $40 in late fees and it annoyed him so much that he went on to start a company of his own. This man was none other than Reed Hastings and the company he founded is what we know as Netflix, today. And he was so pissed that the very tagline of Netflix itself was no late fees. 

In 1997, Netflix started out as a subscription-based DVD in mail service, as if you wanted to watch a movie, instead of going to the Blockbuster store you make a list online and send it to Netflix. They would deliver the DVD within 2-3 days. And when you return the DVD that you had, they would send you another one. All of this was being offered at affordable subscription fees and without any late fees. Over here, the X-factor turned out to be the mindset of the company. While on one hand, Blockbuster was extremely adamant about keeping their late fees and made millions of dollars out of the pain of its own customers. While on the other hand, Netflix leveraged the same undesirable attribute to build a Million dollar business. And by 2004, it had a revenue of $500 Million. This is when there came the first twist in the tale. 

In 2004, Blockbuster understood that DVD in mail-service is a big market and they made a grand announcement and launched their own DVD in mail-service as a direct competition to Netflix. And they started growing as fast as Netflix adding 2.1 Million subscribers in the very first year itself. Now, on paper, Blockbuster was all set to crush Netflix because, on paper, they had such a vast network of stores that 90% of the American population were at an accessible distance to a Blockbuster store and this meant that when Netflix DVDs will take 2-3 days to come from a warehouse that is hundreds of kilometers away from the customer's house Blockbuster could have delivered the same movie within just 2 hours because those movies would come from the nearest Blockbuster store of the customer which was hardly a few kilometers away. But you know what? Blockbuster still failed. Why? Because they did not use their store networks to deliver DVDs and on top of that within just than one year, they cut down on late fees which cost them about $200 Million in revenue, and setting up another DVD in mail-service cost them another $200 Million. So, they were, practically, $400 in debt and this made very very difficult for them to experiment with new methods and systems. But even then, their market share kept growing rapidly. And by 2007, they started eating into Netflix's revenue. And in that year itself, Netflix lost 50,00 subscribers as Blockbuster kept growing steadily. This is the context based on which JP Morgan put out the statement saying that Netflix is facing tougher competition from Blockbusters than originally expected. And this is something where Netflix did something amazing to surprise the world.

They identified two major threats to their business. The first one was obviously Blockbuster entering the DVD in-mail service because considering the huge network of stores they could have delivered much better service than Netflix with very fewer efforts, using their existing supply chain itself. Secondly, they realized that they had a hidden competitor who was strangely eating into the profit of both Netflix and Blockbuster. And this mysterious entity was none other than Walmart. Now the question is - What does Walmart have to do with entertainment and why is it competing with Netflix and Blockbuster? Well, as it turns out Walmart was also eating into the profits of, Netflix and Blockbuster because it was using a pricing model called the loss leader pricing model. For those who don't know it is a type of pricing model wherein you sell a low cost, low margin product just so that you expose/bait your customer into buying a high cost, high margin product. In this case, Walmart was giving away DVDs on rent at a dearth cheap price just so that it could entice its customers to come to the Walmart store. Eventually exposing them to shop other products which gave them more profits. Basically, Walmart did not care about making profits through DVDs which was the core business of Netflix and Blockbuster. And this is where Netflix ventured into online streaming and pivoted to another segment. And they invested heavily into data analytics to build a formidable personal recommendation algorithm and used the Internet to distribute the content instantly and cost-effectively.

This is how Netflix, the streaming service that we know today was born. Meanwhile, Blockbuster being too late to the streaming party actually crippled with debt eventually, filed for bankruptcy and the rest is history. Netflix became an early adopter of the Internet in the environmental space. And the next 10 years, Netflix went on to become one of the most successful companies in the world. BUT, BUT, BUT. Fast forward to 2021, 14 years later Netflix is again facing the same 2 threats that it faced in 2007 and it is practically back to Square 1. These two threats are number one, just like in 2007, Blockbuster already had a profitable network of stores and all it needed to do was to go online, and merely by delivering DVDs, it could have beaten Netflix very easily. Just like that, in 2021 Disney and HBO already have an extremely profitable network. Disney makes a billion dollars through theatre releases itself and before the movies even come to the OTT Platforms they have already made the company a ton of money. And HBO does the same through television networks. And all they need to do is to start pulling out content licenses from Netflix and Prime and launch them all in their own OTT which by the way, is happening very very quickly. And this is something that Netflix identified way back in 2011 itself. They knew that someday or the other these companies will start pulling out content from Netflix and it can't just keep making money merely by reselling movies of other companies. And hence, Netflix ventured into its Third orbit and started making its own content which is what gave us the iconic 'House of Cards' in 2013. And from there onwards, Netflix has invested heavily to become a production company by itself. And of all this is being done just so that they can keep their subscribers from leaving even when everybody else is putting out content from their platform. But then producing content like House of Cards requires a huge budget and if they have to constantly keep doing it they need to bring in more and more revenue. But as of now, the only stream of income that Netflix has is the subscription fees. And this is where the second threat comes in. What Walmart did to Netflix in 2007, is what Amazon Prime Video is doing to Netflix in 2021. That is, it is using the loss leader principle to attract customers at such an ultra-cheap price that it is almost impossible for Netflix to match its prices. The best example of the same is 'Mirzapur' and 'The Family Man'. 

If you take a step back and analyze both these series you will realize that the kind of money they have invested in producing this content. It is nearly impossible that they make money through the meager Prime Video subscription cost. In fact, most of you have must either watched the series with one of your friend's Prime accounts or your friends have watched these seriously through your Prime account. Now, Amazon is doing this because Amazon does not care about making money from Prime Video as long as you remain a Prime subscriber and you use your friend's Prime account to order from Amazon. Because if you've got Prime, you will eventually shop for more expensive products from Amazon which is the profit that they are looking out for. Therefore, just like Walmart in 2007, Amazon is using the core offering of Netflix as a loss leader which makes it impossible for Netflix to match its pricing. Meanwhile, since Disney already a lot of money through theatre releases and TV distributions even Disney can afford to give away their content for free just so that it can entice its viewers to pay for exclusive series like Loki and Wandavision. Eventually, it can turn its free viewers into paid subscribers. So, to put that straight, Netflix has lost its unique selling propositions and most of its best content is disappearing forcing it to keep producing a mammoth amount of content. But at the same time, while competitors have multiple streams of income Netflix is solely dependent on subscription which makes it very very difficult to maintain its profitability. 

Therefore, I say Netflix is in trouble again. Now, I am not saying Netflix will go bankrupt or something. It's just that it might no longer remain the market leader that it is today and once people start opting in for other services. Netflix might just be yet another streaming app that people have opted in for. And this brings us to the 4 very important questions that we have to ponder over which will go on to determine the stock price of Netflix in the future. 

Question 1: How will Netflix build an alternate stream of income? While it runs ads? Or making theatre releases? Or increase its subscription? 

Question 2: Can Netflix match the content production both in terms of quantity and quality with giants like Disney and HBO? 

Question 3: Is it going to leave its market leader position and just yet be another app that people have opted in for? 

And the last Question is, could it partner with a giant like Walmart to serve as a loss leader to help compete Walmart with Amazon. 

And this is what brings us to the most important part of the blog, and that is the lesson from it. There are three lessons that we all need to learn while we project the stock prices of any company. 

Lesson 1: History always repeats itself, so always remember whatever is happening to a particular company today has either happened to the same company before or already happened to some other company in some other domain. In this case, the equation between Netflix and Blockbuster between 2007 is very similar to the equation of Netflix and Disney in 2021. And these kinds of analogies will give you a lot of clarity about the future possibilities of a company. 

Lesson 2: Even companies as big as Netflix will have their own vulnerabilities popping up from time to time. And if you keep a close eye on how they react to it you can project the growth or the downfall of the company, way before it happens. 

And last and most importantly Lesson 3: The business ecosystem of the 21st century is getting more and more complex wherein e-commerce companies are now competing with entertainment companies and strategic partnerships are being formed between potential opponents. But the nature of these strategic partnerships will give rise to new strengths and new vulnerabilities and because all of this information is freely accessible through the Internet it gives you the superpower to look into the intricacies of the market which very few people can understand. And if you play your cards well, maybe you could hit a goldmine but this time it will not be by luck but by calculation and strategy. That's all from my side for today guys, if you learned something valuable please hit the subscribe button above.