Last month, Needham analyst Laura Martin estimated Netflix (NASDAQ:NFLX) could lose 4 million U.S. subscribers in 2020 if it doesn't introduce a lower-priced ad-supported version of its service to compete with all the new entrants in the streaming wars.
For the most part, new companies in streaming are introducing services priced considerably lower than Netflix's most popular plan. Disney (NYSE:DIS) offers Disney+ for just $6.99 per month, and you'll pay even less if you're willing to commit to 12 months. Only AT&T's (NYSE:T) HBO Max will launch with a higher price than Netflix, but it plans to introduce an ad-supported version in 2021 to support growth.
But Netflix's management says it has no interest in getting into advertising. "There's not easy money there," CEO Reed Hastings said on the company's fourth-quarter earnings call. He gave a good explanation as to why advertising doesn't make sense for Netflix. Here are the three main reasons.
Going up against industry giants
If Netflix wants to develop a digital advertising business, it's going to have to compete for marketers' budgets with the digital advertising triumvirate: Alphabet's Google, Facebook, and Amazon.
Those three companies have built massive businesses on their ability to attract both sizable audiences and a broad demand from marketers. While Netflix has the audience -- 167 million subscribers -- it'd be starting from zero with marketers. Developing a sales team and an ad buying platform takes time and money, and supporting a digital advertising business has other sales, marketing, and technology costs as well. And there's no guarantee that Netflix will be able to win significant ad budgets to make it worth the investment.
"To grow [a] $5 billion or $10 billion advertising business you have to rip that away from other advertisers," Hastings said. "In this case ... Amazon, Google, and Facebook, which is quite challenging."
While Disney and AT&T have existing products or plans for including digital advertising in their streaming platforms, they also have existing advertising operations for their legacy television businesses and other existing digital products. That puts them in a better position than Netflix, but it's likely they're cannibalizing some of their ad sales from cable and broadcast networks as more viewing shifts to mobile.
Avoiding data controversy
Netflix uses data to make content recommendations, but the extent to which it collects user data is pretty limited, especially compared to Google, Facebook, and Amazon. If it doesn't inform Netflix's content recommendation engine, Netflix isn't collecting it.
"If you want to succeed in online advertising, you can't just have a little data," Hastings said. "To keep up with those giants, you've got to spend very heavily on that and track locations and all kinds of other things that we're not interested in doing."
With the amount of controversy facing Google and Facebook surrounding user privacy and ad targeting on their platforms, it's hard to blame Netflix (or any other company) for wanting to avoid any concerns around data collection. As consumers become more conscious of protecting their data, a move to collect more of it and use it to target advertisements could damage consumer sentiment around the brand and as a result damage subscriber growth much more than a lower-priced plan helps it.
A singular focus makes it a stronger company
Netflix's business is pretty simple: its job is to create, acquire, and license series, films, and other video entertainment its subscribers love. It's really good at that. See The Witcher, which intrigued almost half of Netflix's global subscriber base -- 76 million viewers -- in its first four weeks of release.
"We think with our model that we will actually get to a larger revenue, a larger profit, larger market cap, because we don't have the exposure to something that we're strategically disadvantaged at, which is online advertising against those big three," Hastings noted.
Keeping its focus on great content and customer satisfaction will produce greater long-term benefits for Netflix than trying to expand to digital advertising. The amount of investment to build out advertising capabilities in Netflix -- which requires a sales team to bring on marketers, ad tech to fill the ad inventory, marketing to inform consumers, and an overhaul to its user experience to include advertising -- might be better spent on developing and marketing new series and films. "There is a business cost to that," Hastings reminded investors.
Netflix doesn't need ads to keep growing
Netflix isn't immune to the low-priced competition from companies like Disney. It plainly admitted that the launch of Disney+ in November likely had an impact on its results in the U.S. and Canada last quarter. And the impact from competition could have an impact throughout the year as Disney expands to more markets in 2020 and new competitors like HBO Max enter the U.S. market.
While subscriber growth may slow in 2020 as a result of competition from big media companies and market saturation, moving to an ad-supported model doesn't make long-term sense for Netflix.