On this episode of Industry Focus: Tech, host Dylan Lewis is joined by Fool.com contributor Danny Vena to discuss how iQiyi (NASDAQ:IQ) is transitioning freemium customers to paying subscribers.

A full transcript follows the video.

This video was recorded on May 11, 2018.

Danny Vena:​ I think, one of the things that's going to serve them well in the future -- I'm jumping ahead a little bit here -- if you look at the fact that they have more than 400 million monthly active users on PC, they have more than 400 million monthly active users on mobile, and that provides them a big pool of potential paying subscribers.

​Dylan Lewis:​ Right. I think the actual subscriber number is somewhere around 60 million. I think, you can look at this business a lot of the same ways that you would look at a Spotify. You have this free product that's available that gets people in the door. It's an introduction. Then, they have this content wall, and you can pay to see all of this exclusive stuff and these originals. That's been a really successful model for a lot of these content companies, and it proves to be really great for customer acquisition.

Vena:​ And I think that also gives them a funnel, because they have all these people, like you said, they're trying out the free service. But in the meantime, they're still earning advertising dollars off of those customers, even though they're free. Then, when those customers decide they want in on some of that higher-quality original content, they'll pony up the few dollars a month to be able to view that original content.

​Lewis:​ Perhaps not surprisingly for a high-growth business, this is not a profitable company. And I think, for the foreseeable future, this is going to be a business, much like Netflix (NASDAQ:NFLX) was and continues to be, that trades based on what subscriber counts look like. People are going to use that as the baseline for what, long-term, the business can project out to, and so long as they continue to grow that subscriber count and maybe convert some more monthly actives to paid subscribers, then I think they're going to see a lot of success.

Vena:​ That's true, Dylan. Looking at their most recent full fiscal year, and 2017 was probably pretty representative of what you'll see going forward, they generated a loss of $500-600 million, and primarily because they just keep forking over money for more and more new original exclusive content that they're putting behind a paywall. And they've been pretty successful at doing that. They're following the Netflix model in that way, almost to the letter.

Lewis: Yeah, and they've seen a ton of success with this. A lot of their original programming seems to really land with Chinese consumers, very much the same way that a lot of Netflix programming -- your House of Cards, your reboots of Arrested Development, a lot of their movie Originals -- seem to be huge drivers of customer acquisition here in the U.S. and in some of the new territories for Netflix.

Vena: Right. iQiyi, when they started developing this original content, keep in mind that they were still owned by Baidu (NASDAQ:BIDU), which spun them off earlier this year. Now, Baidu has a lot of similarities to Google. They are the major search engine in China. They have a lot of data. They've been at the forefront of artificial intelligence. So, one of the things that iQiyi said in their IPO filing with the SEC is that they view that data and their ability to analyze that data using artificial intelligence as one of their competitive advantages. So, they have used that to generate shows that Chinese consumers just really love.

And I want to read a bit here about one of their shows. Their most successful show to date has been something called The Rap of China. That show debuted last summer, and it's been called the most profitable TV show in China ever. It was a 12-episode music competition, similar to a lot of the reality shows that you've seen here. It had 2.68 billion viewers on the season finale in September. The total cost to develop that program was right around $38 million. They had earned more money than that in advertising in the last 60 seconds of the final season's show. So, all of the rest of the advertising for the whole rest of the season was on top of that. It already had paid for itself many times over.

Lewis: Those are some wild economics when you break them out that way.

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