A dramatic headline from the online version of the Daily Mail warns that about 1.25 percent of the entire human race will soon stop receiving free entertainment from Netflix.
Bad news for Netflix freeloaders: Password sharing ‘will be banned’ by late MARCH – and at least 100 million viewers will be impacted
There is some irony in ‘freeloaders’ being badmouthed by the Daily Mail. Newspaper sales have fallen dramatically and the advertising revenues generated by their popular free website cannot halt the overall decline of their business. Netflix and the Daily Mail are both examples of the generic problem faced by media businesses in a world where the internet is the increasingly dominant mechanism for distribution.
If all content is delivered via an internet connection, and everybody has an internet connection, then the only remaining barriers to entry will be network effects (people reading or watching something because somebody they know has already read or watched it) and habit (people can only devote so much time to reading or watching, so they may not seek out new content if they already have enough to satisfy them). With no other market barriers, the only way to compete is on price (which is why both businesses will continue to experiment with how much they give away for free) or on ‘quality’ (which is why both businesses generate their best returns from trash that appeals to the lowest common denominator).
When Netflix produces a so-called documentary about Harry and Meghan, the Daily Mail will respond by writing articles that slam Harry and Meghan’s show, and both companies profit from faux controversies surrounding people who only matter because consumers are entertained by mindless fluff disguised as not-entirely-mindless fluff. This can make money, but any competitor could also attempt to make money by producing similar fluff. The little substance behind the Daily Mail’s story comes from them sensationalizing a letter that Netflix wrote to their shareholders which tells them things that even the most ignorant investor should have anticipated anyway.
Paid sharing is a euphemism for the belief that people who were gifted somebody else’s Netflix password will voluntarily start paying for the service they previously obtained for free. I can almost believe that Netflix has some super-duper technology that will consistently tell the difference between someone who is traveling and someone who is just a different person in a different place, and so avoids annoyance for customers who will not like being disconnected from a service they already paid for. What I cannot believe is that password sharing is a long-term limit on investment in Netflix’s business. The long-term prospects for Netflix are clear, they are bad, and they have little to do with minimizing free use, as demonstrated by many other businesses that have been through the same cycle.
People used to pay for newspapers, but then words were available via the web at zero cost, so people stopped paying for newspapers. People used to pay for vinyl records and cassettes featuring musical acts they liked, but all the fuss those businesses made about Napster and internet piracy soon became irrelevant because Spotify is really cheap when it is not free. People used to buy and rent films on video tape and DVD; Netflix started as a DVD rental service. Economic factors inevitably led to the internet being used for distribution of films, and the same factors will inevitably drive down the price that can be charged for them too. News is not unique. Very few songs are unique, and those songs soon get copied anyway. Films with attractive actors and big explosions are not unique. Even Meghan and Harry are not unique; it will not be long before another semi-celebrity couple will be demanding more privacy whilst also demanding your attention. The uniformity of distribution, and the similarity of lots of competing products means the price of those products must fall.
The economics of making films and other content shown on Netflix has already shifted enormously. Products that used to be made for sale via cinema multiplexes in the USA now must be made for sale on the global internet. This is because global revenues are needed to sustain production budgets. Even the dullest Netflix viewer may have noticed that a lot more big-budget productions involve Asian actors whilst all-American casts have been consigned to history. It used to be that foreigners made films with American actors to sell them in the American market; now Americans make films with foreign actors because they can only make a profit by selling them globally. The internet has made it essential to sell everything everywhere all at once. If the previous sentence reminds you of a film title then the similarity was intentional. It is no coincidence that a film centered on a Chinese character who spends most of the film talking in Mandarin is leading the race for this year’s Academy Awards.
Promising to end free-riding is a topic that executives like to talk about to distract attention from a business model that has peaked and entered decline. The funny thing about Netflix is that its unique selling proposition is the mere fact that it started doing something slightly earlier than a lot of big, powerful, resourceful rivals. Businesses like Disney, Amazon, Apple and Paramount are not going to go away; they will fight to generate profits from their streaming services by increasing their market share at the expense of Netflix. And note how this analysis is curiously US-centric when part of the point of the online business model is to be global. We are only two steps away from a world where businesses like Netflix face growing competition from alternatives that better cater to different regions and other languages than English.
Netflix is going to rely heavily on network effects and habit to hold on to its subscriber base. The only other ways to halt decline involve changing the price paid by customers, by offering cheaper versions of the same thing, and ‘quality’, which has never been a consistent source of competitive advantage in a domain where creative people can sell their output to whichever production and distribution firms will pay the most. Sometimes network effects and habits are enough to sustain a lead over competitors; consider Apple and its smartphones. But usually these are not enough to hold on to a lead. Do you still use Myspace? There was a time when Yahoo had a larger share of the web search market than Google.
These latest ruminations about password sharing remind me of things said by deceitful executives I encountered over the years. Each espoused a ‘long-term’ strategy that started with complaining about consumers finding it too hard to migrate to their grossly subsidized platforms and ended with complaints that consumers find it too easy to leave the platform as the prices are massively jacked up. Cable TV and ISPs have gone through the same cycle, but at least some of those businesses owned physical assets that had intrinsic value. It only takes one scandal for a multi-million-dollar contract with a star actor to be turned into a complete waste of money.
The data from Netflix’s attempts to reduce password sharing in Latin America gives little reason to believe that applying the same strategies more generally will have a material impact on the company’s performance. Netflix revenues have fallen in Latin America just like they fell in every other region. Trying to shift recipients of shared passwords on to paid plans is only likely to have a marginal difference, whether Netflix chooses to aggressively cut viewers off or if they restrict themselves to gently nudging the worst offenders. Per the Daily Mail’s way of reporting this story, the ‘impact’ of Netflix reducing password sharing is unlikely to be impactful. Not a lot of money can be made by denying people access to a service they would never have chosen to pay for.
Writing impartially about Netflix is difficult because the most popular content they have produced is garbage; they would have to pay me to persuade me to watch it. However, making profit from garbage is a valid business model. Netflix has done well at making money from junk. People will pay to feed junk into their eyes just like they will pay to feed junk into their mouths. The problem for Netflix is that junk is plentiful, junk is easily replaced, and junk entertainment goes in and out of fashion even more rapidly than junk foods go in and out of fashion. When consumers lose interest in the novelty of having junk delivered into their homes, at their convenience, many will also start losing their appetite.