If recent reports are to be believed, Netflix's (NFLX -2.47%) new ad-supported video-on-demand (AVOD) plan is not doing well. The streamer rolled out its $6.99 Basic with Ads tier on Nov. 3, 2022, but according to data from analytics company Antenna, just 9% of Netflix sign-ups last month opted for the offering. The news follows a Digiday piece in which multiple sources say Netflix is returning money to advertisers, because Basic with Ads missed initial projections.

Before Netflix launched Basic with Ads, there were articles suggesting the company was eying 40 million customers for the service by the end of 2023. Many Wall Street analysts were also bullish on the streamer's move into ad-backed content with MoffettNathanson estimating Netflix could see as much as $2.7 billion in ad-based revenue by 2025. So, has Netflix really dropped the ball with its AVOD service? Let's break it down.

A two-part plan

To understand what's going on with Netflix's AVOD venture, it's important to understand how the streaming company arrived at this point.

In April 2022, Netflix published its first-quarter results, and the figures were bad. Netflix had missed Wall Street's revenue expectations, and it had lost customers for the first time in more than a decade. And to make matters worse, the company forecast it would see an even greater subscriber decline in the second quarter before things would turn around. Stakeholders reacted strongly, pulling down the value of Netflix's stock by 25%.

To deal with the attrition, Netflix announced twin strategies: a lower-cost ad-backed offering and a crackdown on account-sharing.

Sharing passwords has a cost

Speaking during the company's first-quarter earnings call, Netflix founder and co-CEO Reed Hastings indicated there were over 100 million Netflix viewers who were using another individual's account to access the service. The executive acknowledged such activity was against the streamer's terms of service, but it hadn't been "high priority" when Netflix was growing. Now that new subscribers were harder to come by, it was time to monetize. "They love the service," Hastings noted. "We [have] just got to get paid."

Starting in July 2022, Netflix began a pilot scheme in several Spanish-language countries, charging users an extra fee if it detected an account was being used by multiple households.

The following month, the company launched another test project -- again in Spanish-speaking markets -- focusing on smart-TV logins tied to a single account. Users who were active at more than one address were billed for "sub-accounts."

Many impacted subscribers pushed back against the trials, with some complaining they were being asked to pay extra (or to "add a home") when working away for extended periods.

Netflix responded to the criticism by ending its practice of charging for sub-accounts in some markets. Instead, the streamer is now encouraging customers to take advantage of its profile transfer tools, which allow secondary users to move their watch lists and viewing histories over to a standalone account.

A convergence of strategies

As things stand, Netflix's Basic with Ads plan is available in just a dozen of its 190 territories. Similarly, Netflix is currently only enforcing its account-sharing rules in a handful of countries. Over time, the streamer plans to expand both strategies to more markets, which means there will be inevitable crossover -- and therefore opportunity for more subscriber growth.

"[W]e sort of landed on an approach toward paid sharing that we think strikes that balance," noted Netflix's Chief Operating Officer and Chief Product Officer Greg Peters during the company's most recent earnings call. He explained:

And a key component of that is the ability for borrowers, people that are using somebody else's account right now to access Netflix, to be able to create their own separate account [...] And we think that sort of separate account path will be especially attractive in countries where we're launching that lower-priced Basic with Ads plan.

Netflix's decision to push users away from account-sharing toward standalone subscriptions is obviously not without its pitfalls. Some customers will likely balk at the idea of the company clamping down on something it has long ignored, while others may decide $6.99 is still too high a price of entry for Netflix content with ads.

But for stakeholders considering whether Netflix is on the right trajectory, Hastings' confidence in ad-supported content as a market driver is worth noting. "Hulu really proved that you could do [ad-supported streaming] at scale and provide consumers lower prices," said the executive during an appearance at The New York Times' DealBook Summit in late November. "I wish we had [introduced an AVOD plan] a few years sooner, but we'll catch up and in a few years we won't remember when we started it."

Netflix is set to discuss its fourth-quarter results on Jan. 19, 2023, so it's likely investors will get some insight into early Basic with Ads adoption. The streamer could also share expansion details for the AVOD plan, which would surely underpin Hastings' confidence.