Thursday, December 25, 2014

Netflix: Sudden Death

Will Netflix fade away or die suddenly?
Yesterday, the online streaming world changed, forever.

As I noted in an earlier posting, Netflix stock is wildly overpriced.   It is only a matter of time before the other online streaming and PPV services start to take away more and more market share.   And more and more new online streaming services are coming down the pike.  I predicted that Netflix was headed for trouble.

And then, suddenly, something happened yesterday that changed everything.

Sony has either pulled off the biggest marketing scam in the world, or truly is a victim of North Korean aggression.   It doesn't really matter which, the effect is the same.   They've created a hype and a buzz about a movie that according to some critics, is largely forgettable.   And they did this all without having to spend a penny on advertising.

And then they did something very amazing - they decided to release the movie on Youtube for $5.99.   Now, YouTube has been quietly experimenting with Pay-Per-View movies for a little while now.  I first noticed this the other day when I tried to download a movie on my tiny drioid netbook (which is connected to a flat-screen television) and it said that "Your version of Android does not support this movie."  I tried again with my PC and noticed they wanted $1.99 to watch the movie in question.  Suddenly, the world changed.   YouTube was no longer a place to post your funny cat videos, but a serious outlet for Pay-Per-View content.

And the Sony/Interview event is a "coming out party" for YouTube's PPV capabilities - which the public is now fully aware of, thanks to Kim Jong Un.

So what does this mean for Netflix?   Well, as I noted before, their library is shrinking rapidly.   I logged on last night to see if I could watch the Charlie Brown Special or even the stop-motion-animation Rudolph.   No go.  Not even "Christmas Vacation" is available on Netflix.   In fact, their selection of Christmas-themed movies was paltry.  The best I could do was this Charlie Brown Parody video on YouTube.

I stopped subscribing to Netflix's DVD mailing program about a year ago.   I was finding the selection of movies (particularly new releases) to be rather paltry.  If you could find a new release, you'd have to wait a month for their one copy to cycle through the system.    I found I was renting movies that I never watched - which would be sent back after a week, unwatched.  It also seemed they sent me movies I never recall ordering.   Their "hard copy" DVD library was thinning out as well.

Could Netflix die off suddenly?  It is a possibility.  Aereo suddenly shut down service last month when a Supreme Court decision basically said that their entire business model was illegal.  Car-sharing services like Uber and Lyft could find themselves (and are finding themselves) in the same position, as municipality after municipality sends them "cease operating" letters and they are hauled into court for operating illegal taxi services.

Netflix's Achilles' heel isn't legal - well, it is related to Copyright law - but rather a matter of its library.   As more and more studios and networks and other "content providers" pull their content from Netflix in favor of their own outlets, online services, or whatever, Netflix finds itself with less and less to offer.   Even old television shows (like Ironside, Mannix) have evaporated from Netflix, with little or no explanation as to why.

And that is one reason Netflix is scrambling to produce "original content" such as the US-copy of the British series, "House of Cards" (the British version, like most television, is better).  Netflix has to find content - or create it - or die.

And it is funny, when I mention this to other Netflix users, they say the same thing.    "Gee, it seems like lately, all they want us to watch is old Discovery Channel shows or documentaries about Hitler" (anything with Nazis is always listed as "Popular on Netflix").   The selection of shows used to be in the thousands, maybe tens of thousands.  Today, it seems like hundreds.  Maybe a hundred.   Maybe their crappy user interface just makes it seem that way.

And this is the ultimate problem with "dot com" or Internet website-based companies.   Things can change in a real hurry.   The dot-com investors look at Netflix and say, "This is the future of movies!  Look how great it is!  Look how many movies they offer!" - and they buy Netflix stock and assume that it will be "going places" forever.

But, alas, this was all coming apart like, well, a House of Cards.   You see, Netflix's early success was due to an advantageous contract signed with the nearly defunct cable channel STARZ.   STARZ had access to a huge catalog of old movies and television shows, and they licensed this to Netflix for nearly nothing.   Due to some poor wording in STARZ's contract with content providers, the licensing of movies for streaming was not considered to be very lucrative.   STARZ, in turn, licensed this content to Netflix on the cheap, not thinking this would go anywhere.

The rest of Netflix's library?   Well, other than their own content, there really is no guarantee that can't go away as well - as licensing contracts with content providers expire.   Already, Netflix's library is so limited that customers are starting to notice.

Netflix already is no longer the "go to" place for movies.  Where this leaves us, is unclear.  I for one, cannot see spending money for Neflix, and then money for yet another service, and then pay PPV fees on YouTube, and then pay fees to Warner or MGM or other studios.   $8.99 a month will turn to $899 a month in no time.   I will simply choose to watch less, which is probably a good thing.   

It is sad, but the content providers see Netflix making a buck, and figure they can make ten bucks.  It will be the death of Netflix.

So, what will happen to the stock?   With a P/E ratio of 90, people were clearly betting than Netflix would increase in popularity and increase in profitability, over time.   Clearly, neither is going to happen.   Netflix had a monopoly on the market, and the market hates monopolies - in this case, not the consumers (who got a lot of movies for cheap) but the content providers who would prefer to see a more competitive marketplace, in terms of outlet for their content.

So, Netflix stock is going to tank, and tank big-time - at least until the P/E ratio is rationalized.  It is currently trading at $342 a share with a P/E ratio of about 90.  I would think the stock price would be more realistic at $76 a share (yielding a P/E ratio of about 20).   The problem is, as the library shrinks, customers could start to drift off, cutting income.   As content providers demand more in royalties, margins could also shrink - profits would decline and the P/E ratio shrink further.  You see where this leads - to an even smaller stock price.

Of course, it could all turn around tomorrow.  The movie studios and television producers could suddenly decide that it is "Christmas for Netflix" and renew their content contracts with Netflix at really advantageous prices, thus boosting profits by a factor of five, making the stock undervalued, if anything.  And if these contracts were for like, 99 years, well, Netflix would be set.

Funny thing, though, given the track record of the movie studios and television producers, I doubt this would ever happen anyplace other than Bizarro world.   In other words, Netflix is fucked, completely, utterly, big-time, and forever.

And the idiots who bought the stock at $350 a share?   Well, these are the same idiots who bought Facebook, thinking that a website is forever.    Facebook isn't about to crash right away - but their growth has stalled - and is shrinking among the prime teen/20's demographic.   It is only a matter of time.

Time.   A few years back, I wondered what was keeping Sears and Radio Shack in business.   Surely these places would go belly-up any day now?   Well, here it is, 2015, and they are still chugging along.   Clearly I was wrong about Sears and Radio Shack, which are healthy businesses with good cash-flows and cash reserves, increasing sales, and high profit margins, that will stay in business forever, right? (Warning:  Sarcasm light is ON).

Actually, no.   Both Sears and Radio shack keep shedding stores, customers, and CASH.   You can't keep running a business forever, when it is losing money.   It is not a matter of "IF" these companies will go belly-up, but when.   And whether that "when" is 2011 or 2016 is really irrelevant.   It is going to crash, just as housing prices did in the 2000's  (I sold out in 2005, calling it two years too early).

Similarly, Netflix will continue to soldier on for many years.   But the halycon days of Netflix are over - it will be a niche player in the emerging market for streaming television.   Without an extensive film library, the compelling need to subscribe to Netflix no longer exists.   You can't run  whole network based on old British murder mysteries and Hitler documentaries.