Behind Netflix's Price Increase: The Math Still Works In Viewers' Favor

Netflix is still one of the best deals in premium video entertainment. It didn't get more expensive: Netflix just got less cheap.

May 17, 2014 at 10:00AM

The Internet may be the information superhighway, but we can't exactly call it a freeway. Several of the Web's most popular online platforms -- from Pandora to Amazon Prime -- have increased their subscription prices this year. This month it was Netflix (NASDAQ:NFLX) boosting its monthly rate by a buck to $8.99. 

This isn't a move that Netflix took lightly. As recently as a year ago it seemed as if the original $7.99 monthly rate would stick around for a long time. Netflx told investors that it was "very happy with membership growth at this low price point" in last year's first quarter earnings release. However, it changed its tune nine months later, suggesting that it will eventually boost the monthly rate for its digital video smorgasbord to $8.99 or $9.99.

The future got real last month when it said the hike would be go into effect this quarter. It was pushed through this month.

Active subscribers don't need to break a sweat. Netflix is grandfathering its rates for current members at $7.99 a month for the next two years, and there are plenty of grandfathers out there. Netflix closed out its latest quarter with more than 35 million domestic subscribers and more than 48 million members worldwide. The increase and the generous 24-month price break for existing members should be a significant incentive for current subs to stick around, but it's not as if $8.99 a month is going to frighten away the incoming freshmen.

Netflix is still one of the best deals in premium video entertainment. It didn't get more expensive: Netflix just got less cheap.

Value is in the eye of the remote holder
Cutting the cord is easy. It's a breeze to cancel. The challenge is finding cheaper -- legal -- ways to fill the void.

You can cross off cable and satellite television as an alternative. Those bills go up every year -- and that's with providers tacking on more channels that you never watch to your tab. Ratings tracker Nielsen turned heads last week, reporting that families in this country average 189 TV channels in their pay TV plans but only watch 17.5 of those channels. We're watching just 9% of the channels that we pay for, but still shelling out big bucks for the other 91%.

Pay TV is a problem because it's the only way to get the premium channels including Showtime and Time Warner 's (NYSE:TWX) HBO. There's no lack of love for HBO, even if it does cost about twice as much as Netflix. Fans, accolades, and Emmys gravitate to the home of Game of ThronesGirlsVeep, and a rotating slate of fresh home video releases. There's also the convenient HBO Go streaming platform. However, do you really want to pay Time Warner and your cable company bills that routinely pop into the triple digits every month?

Amazon.com (NASDAQ:AMZN) makes for a logical alternative to Netflix, and it's available at no extra cost to members of its Amazon Prime loyalty shopping club. Its growing catalog of content is about to get even better next Wednesday, when several older HBO shows will be available on Amazon Prime Instant. However, if Netflix's 13% increase is a deal-breaker, what does that say about Amazon Prime's 24% increase earlier this year? 

There's also Hulu, of course. Folks can also get by the randomness of YouTube clips. However, it's hard to top the value that one gets out Netflix at $7.99 or $8.99 or perhaps even $9.99 down the line.

Shelling out for even more content
Netflix spends a lot of money on content. We're talking about $7.1 billion tied up in streaming content obligations as of the end of March. That's up sharply from last year's $5.7 billion in commitments. But this is an easy call for Netflix. It has more customers, so it can invest in more content. That's the beauty of this expanding and scalable model. Netflix has committed 25% more in future content over the past year, and it can do that because it's dividing the costs between the 33% more subscribers it has now than it did a year earlier.

It's money well spent. Internet traffic tracker Sandvine reported last week that Netflix accounts for more than 34% of the peak downstream traffic being consumed in North America. Amazon's isn't even close as its nearest rival at less than 2%. 

The math works in Netflix's favor. It also works for viewers. They're getting more content. Everyone benefits when a pool of digital assets expands. Current subscribers are unlikely to bolt. They know they'll come back when the third season of House of Cards comes around next year or when the new season of Orange Is the New Black premieres next month.

As long as the global audience keeps growing and Netflix keeps spending to expand its industry-envying digital catalog it will be more than worth the updated price to folks just discovering or rediscovering the leading streaming video service.

Your cable company is scared, but you can get rich
You know cable's going away. But do you know how to profit? There's $2.2 trillion out there to be had. Currently, cable grabs a big piece of it. That won't last. And when cable falters, three companies are poised to benefit. Click here for their names. Hint: They're not Netflix, Google, and Apple

 

Rick Munarriz owns shares of Netflix. The Motley Fool recommends and owns shares of Amazon.com, Apple, Google (A and C shares), and Netflix. Try any of our Foolish newsletter services free for 30 days. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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