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Netflix Has an Ace Up Its Sleeve

By Rick Munarriz – Updated Apr 6, 2017 at 10:52PM

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The video rental service could make a bold move into original programming.

If studios are going to keep content out of Netflix's (Nasdaq: NFLX) digital vault, it might just have to make its own.

Deadline Hollywood is reporting that the leading movie rental company has outbid AMC and Time Warner's (NYSE: TWX) HBO for House of Cards, a drama series directed by David Fincher and starring Kevin Spacey.

If it's true, this is pretty substantial. AMC is available in more than 96 million homes. HBO has 28.2 million premium subscribers in this country alone, according to media research firm SNL Kagan. Netflix just started selling $7.99 monthly streaming plans this year, but it's largely seen as a DVD service to its more than 20 million subscribers, with its digital catalog also available at no additional cost.

Netflix is reportedly making a full commitment for 26 episodes across two seasons, a move that Deadline Hollywood estimates will set Netflix back about $100 million.

Is paying $5 per subscriber worth it? Yes. Will Netflix really go it alone here? We'll see.

Full house
Some reporters speculate that Netflix will team up with a friendly cable network or broadcaster to offset the costly production expenses. Every episode would then air first on the channel, before moving on to Netflix as its exclusive online provider.

That's a sound strategy, but does Netflix really have to go that far? The company would get the most value from House of Cards by making its subscription service the only way to see Fincher's first television series.

After all, this would be the ultimate bargaining chip in acquiring non-exclusive content. Liberty Starz (Nasdaq: LSTRZ) is the first major digital deal that Netflix has coming up for renewal. Netflix has made it clear that there is no single content deal it absolutely can't live without. That's an easier argument to believe once Netflix begins stocking up on proprietary content.

HBO can set a couch potato back by as much as $24 a month, on top of a cable or satellite television provider's standard programming charges. HBO has been shedding subscribers lately, but if it can get away with a $10-$24 charge a month with a handful of movies and original shows, why can't Netflix be the next major premium content hub?

There's no other all-you-can-watch digital service even close to Netflix in reach. It's the New York Yankees of streaming video, with a blank check that no one else can match. Can you picture (Nasdaq: AMZN) or Redbox parent Coinstar (Nasdaq: CSTR) ever going this route?

Me neither.

Royal flush
Shelling out $5 per subscriber for two years of a single show may seem like lunacy for a company that already has tens of thousands of streaming options.

Instead, I think it's brilliant. Netflix's most troubling metric is its 3.8% churn rate. That may seem like a small number, but keep in mind that this is a monthly cancellation rate. Every month, Netflix sheds 3.8% of its subscribers (while attracting new ones, of course). Add that up over the course of an entire year, and one begins to realize how Teflon-coated Netflix's model really is. A series that plays out over two years, exclusively to subscribers, could help more of those wayward customers stick around.

Churn won't be the death of Netflix. The company can make up those transient losses in volume. Subscriber acquisition costs are low, down to a freakishly cheap $11.13 in its latest quarter. But on the flipside, a cancellation is never more than a couple of clicks away. This isn't a hardware-driven premium entertainment service like DirecTV (NYSE: DTV) or Sirius XM Radio (Nasdaq: SIRI), where initial investments and subscriber acquisition costs are high, but churn is low.

There is little incentive to join Netflix right now. Its digital catalog relies largely on television shows and older movie titles. Even the new releases that are hitting your local Blockbuster or pay-per-view source aren't likely to be on Netflix, even via DVD. Netflix, and to a lesser extent Redbox, have struck deals with studios for 28 day delays in retail availability.

A hot show, though -- available only on Netflix and served up in installments over a two-year span -- should work wonders for improving the movie service's churn rate.

Netflix won't be seen as a house of cards if it nabs House of Cards -- all for itself.

What do you think of Netflix possibly getting into original programming? Share your thoughts in the comment box below. and Netflix are Motley Fool Stock Advisor selections. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.

Longtime Fool contributor Rick Munarriz has been a Netflix shareholder -- and subscriber -- since 2002. Rick is also part of the Rule Breakers newsletter research team, seeking out tomorrow's ultimate growth stocks a day early. The Fool has a disclosure policy.

Stocks Mentioned

Netflix Stock Quote
$320.41 (1.09%) $3.46
Sirius XM Holdings Inc. Stock Quote
Sirius XM Holdings Inc.
$6.24 (-2.65%) $0.17 Stock Quote
$94.13 (-1.44%) $-1.37
Time Warner Inc. Stock Quote
Time Warner Inc.
Outerwall Inc. Stock Quote
Outerwall Inc.

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