Netflix's (NFLX -0.31%) diminishing subscriber count has led to sluggish revenue growth through the first half of 2022. That could all be about to change, though, as Netflix gears up to launch its ad-supported tier.
Advertising could be responsible for reaccelerating the company's revenue growth while enabling it to keep prices stable, reinvigorating subscriber growth as well. What's more, investors could see the benefits of advertising right away.
The massive potential for advertising on Netflix
Netflix is planning to launch the ad-supported tier on Nov. 1. The goal may be to beat rival Disney, which plans to launch an ad-supported version of Disney+ in December. Netflix, the streaming leader, came out of the gate asking for a lot. It's asking for higher ad prices than the Super Bowl, according to several reports.
Many buyers have balked at the high ad prices, but the fact Netflix thinks it can even ask for that much shows the power of its position. Few other platforms can offer the breadth of Netflix's audience on the most immersive screen in the home -- the living room television.
Netflix only plans to show about four minutes of advertisements per hour of programming. Disney is planning a similar ad load for Disney+, but it shows around six minutes of ads per hour on Hulu.
But what Netflix has that its rivals don't is an extremely high rate of engagement. Management said the average subscriber watched over two hours of programming on its service per day in 2019. That number may have changed over the last few years with shifts in viewing habits and increased competition, but estimates have remained high.
What's notable, though, is the average Netflix subscriber watches more Netflix than the average Hulu subscriber watches Hulu. Nielsen's The Gauge report consistently shows Netflix with more than twice the viewing time as Hulu despite only around 1.5 times as many domestic subscribers.
The combination of high ad prices and high engagement should lead to substantial ad revenue per user for Netflix. The company could ultimately generate $26 in ad revenue per subscriber per month, according to Atlantic Equities analyst Hamilton Faber. That number is more than triple the amount Disney generates from ads on Hulu.
The ad-supported tier could provide an immediate boost
Netflix expects to end 2022 with just 500,000 ad-supported subscribers. That's a tiny amount compared to the 220 million subscribers it had at the end of June. Still, the impact could be felt immediately.
Even if Faber's estimate turns out to be overly aggressive, the logic is strong. Higher ad prices and stronger engagement should produce better ad revenue per subscriber numbers than other streaming services. That should make the ad-supported tier more profitable than the ad-free tier.
So, when current subscribers move from ad-free to ad-supported, Netflix should see a bump in revenue per user. A recent survey from Samba TV found that 45% of current subscribers would consider switching to an ad-supported version of Netflix. That could ultimately mean Netflix sees a boost in its average revenue per membership without having to raise its prices again next year.
While there are some additional costs to setting up the ad-supported tier, the boost in revenue ought to more than offset them. Netflix's demands for high ad prices and its strong engagement should fuel an immediate tailwind for its revenue and earnings.