As you know from the NF conference call, NF CEO Reed Hastings has mentioned that starting in 2005 NF intends to get into the market for downloading digital movies. More generally, NF has had a stated strategy to be your Internet movie intermediary regardless of the distribution mechanism. To understand whether downloading movies represents an opportunity or a threat for NF I think it is helpful to examine four different scenarios for how this may come to pass. Become a Complete Fool
Scenario 1: Movies downloaded to computer, played back on computer
This will happen, but will never be more than a niche. Except for students and road warriors, people want to watch movies on their home theaters, not their PCs.
Scenario 2: Movies downloaded to your computer, sent wirelessly from your PC to your home theater
Actually, the wireless part of this scenario is feasible right now. For $62 including shipping you can buy a device (Terk Leapfrog) that takes RCA output and sends it wirelessly over the 2.4 G spectrum throughout your house. I have one installed now to send my TiVo signals up to my bedroom TV. Works like a charm. If your PC is a desktop it would be annoying to have to go to it to hit the pause or rewind button. But if it's a laptop, then you could have it next to you on the couch.
This strikes me as klugy though. Usually I'd rather just get a disk in the mail than bother with this, even if the downloads were instantaneous (which they wouldn't be, see below). So this is another small niche in my opinion.
Scenario 3: Movies downloaded to your computer, dumped on portable devices and carried to your home theater
After downloading you could either burn your own DVD (DVD burners are becoming standard on new PCs) or dump it to some portable device with a 10gb hard drive, basically a video-enabled iPod-like device. Dell has one now that holds 15gb for $225. Doesn't support MPEG but by 2005 it will, and it will cost less than $100.
This would overcome kludge factor somewhat, particularly the burn-to-DVD solution.
The weak link here, as with Option 1, is the download time. On my current connection, which gets a relatively speedy 1.4 megabits/sec, it would take over 10 hours to download a typical DVD (say 7 gb). I doubt that by 2005 broadband throughputs will be 10x better, for the simple reason that for anything but downloading DVDs 1.4 mbps is just fine, and DVD-quality video-on-demand is not worth enough for the entire last mile and the rest of the internet to be upgraded to support reliable 10+ mbps throughput.
So, I don't see this one happening to any significant extent either, not within 10 years anyway.
Scenario 4. Downloaded through digital cable, played back on your home theater
This is here now, in limited form, in some markets. My provider, Comcast, has a service called "On Demand" where you can order a limited number of movies to play whenever you want (only a few of which are in the widescreen format). The cost is for $3-4 each. Once you start the movie you have access to it for 24 hours. You can pause and rewind. I did this once (despite my NetFlix subscription) and the movie looked great�indistinguishable from DVD to my eyes and ears.
The current hitches here are (1) limited selection (roughly equivalent to the "new releases" area of a Blockbuster) and (2) very weak navigation and selection tools. These problems are easily solved if Comcast wants to solve them. Increasing selection is just a matter of scaling their current operation. The barrier of studios perhaps being slow to give rights to content would equally apply to the other scenarios � actually would be worse in the other scenarios due to greater fear of piracy. To fix the navigation problem all Comcast have to do set up a web site to support the selection and ordering process. Since any number of cut-rate NetFlix imitators seem to have managed this, I don't see why a multi-billion dollar cable company can't manage it if they wish to.
So, from purely technical standpoint, this is obviously the leading scenario for how digital downloads will be entering people's homes in the future.
Now let's look at it from a business standpoint. For those people that prefer scenarios 1, 2 and 3, NF could be a dominant player, but I would not count out the studios, Apple or Dell. Apple and Dell will have millions of tech-savvy people that have been using their online music stores and going a further step to support video would not be that difficult, particularly as the same connections and devices would be involved. The studios would have the advantage of total control over access to content. I also wouldn't count out Amazon or Yahoo, two tech-savvy companies with large customer bases that would both view digital downloads as falling within their strategic scope. But, this is sort of besides the point in handicapping NF's prospects, because these will be niche markets for technical reasons anyway.
For scenario 4, I don't see where NetFlix would fit in. While they could serve as a front-end order taker for the cable companies, I don't see any incentives for the cable companies to share the pie with NF. The cable companies have a captive audience of 50+ million households, and they don't need an intermediary to market to them. The only way for this to change would be if the cable companies were required to open up their channels to competition and the content providers were required to make their content openly available as well. Then an intermediary like NF could possibly have a role for content downloaded over cable. But given the political clout of the cable companies, I doubt this will happen.
From the above discussion I draw the conclusion that digital downloads will never be a significant part of NF's business. The download to PC for playback on PCs market will be small, and they will share it with other competitors that certainly "get it" (Apple, Dell, studios, Amazon, Yahoo). The download to PC for playback on home theater will be even smaller, and once again, they will share that market with strong competitors. The download over cable for playback on home theater could be very big (in fact, I think it will eventually become the biggest channel for rentals generally) but it will be dominated by the cable companies in partnership with the studios.
So, what does this mean for the future of NF? It suggests to me that NF's place in the sun will rise and fall with DVDs through the mail. I think this place in the sun will last much longer than the NF bashers assume, possibly as long as 10 years--unless the cable companies get aggressive with their VOD offerings, in which case it will be more like 5 years. I suspect cable companies have not been very aggressive so far because VOD mostly cannibalizes premium channel subscriptions and PPV, which no doubt have higher margins. But, the bigger NF gets, the more the cable companies will be incented to eat-their-own-lunch-before-somebody-else-does with a more robust VOD offering. Reed Hastings has dismissed VOD, saying that it has not hurt growth in the markets where it has been offered. Well, the current VOD offerings, which are lame if what Comcast currently offers is any indication--are not a threat. But a robust offering that has a web interface for selection certainly would be. If I had a NF-like selection available from an NF-like interface for immediate download, I'd take that over disks in the mail if the prices were competitive, and I expect most other people would too.
Comments on or criticisms of this analysis are welcome.
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As you know from the NF conference call, NF CEO Reed Hastings has mentioned that starting in 2005 NF intends to get into the market for downloading digital movies. More generally, NF has had a stated strategy to be your Internet movie intermediary regardless of the distribution mechanism. To understand whether downloading movies represents an opportunity or a threat for NF I think it is helpful to examine four different scenarios for how this may come to pass.
Become a Complete Fool