Tech

Shira Ovide is a Bloomberg Gadfly columnist covering technology. She previously was a reporter for the Wall Street Journal.

By almost any measure, the rise of Netflix has been amazing. The company changed what it means to watch television and viewing habits. It fueled business school case studies by risking its successful DVD rental strategy to push into streaming Web video. Everyone knows how that decision turned out. Investors who stuck with Netflix have been rewarded with a share price 15 times what it was in early 2010.

Now the bad news: It gets much harder for Netflix from here.

Netflix’s next bet-the-company strategy shift is to become the first global TV network. It made a big splash earlier this month by announcing that its Web video subscription service had surged into more than 130 countries at once, in an expanded number of languages. 

The map of where people are able sign up for Netflix looks like a dream Risk board -- world domination almost everywhere except China, North Korea and Syria. CEO Reed Hastings is trying to stock his service with much of the same TV shows and movies from Afghanistan to Zambia -- including Netflix’s own series like “House of Cards,” TV shows and movies the company buys from conglomerates such as Disney and Fox, plus some local favorites sprinkled in.

Yet selling Netflix in new places -- even to huge countries like India -- may not bring rewards. Netflix's international business is unprofitable, and financial prospects get tougher as rival streaming services and local and global entertainment companies increasingly are motivated to stem Netflix's expansion. 

Costly Trip Abroad
While Netflix's Web video service is profitable in the U.S., international versions are losing money and likely to lose even more as Netflix expands into many more countries.
Source: Netflix filings
These figures are for contribution margins, or revenue minus costs to provide Web streaming and to market the service.

Remember, this is a company whose profits are already meager. Netflix’s peak annual net income in 2014 amounted to $267 million, or less than 5 cents of profit for every dollar of sales. For comparison, Facebook’s revenue is growing more quickly than Netflix’s and its net income last quarter was 20 cents of every dollar in sales.

The losses mean Netflix needs to funnel profits from its money-making businesses – the still-kicking DVDs-by-mail business and its Web-video subscriptions in the U.S. -- into rapidly expanding its pool of subscribers abroad. And Netflix needs to hunt abroad for new subscribers because it has had a rocky time adding more Web video subscribers in the U.S., its biggest video-streaming market. 

In five of the last seven quarters, Netflix's net subscriber additions in the U.S. -- the number of customers it signed up, excluding the ones that dropped off -- dipped from the same period a year earlier, according to Bloomberg data. The company's forecast released Tuesday for the first three months of this year shows the trend continuing. 

Globetrotting
Netflix is relying increasingly on new customer sign-ups in international markets because it has difficulty consistently luring new Web video subscribers in the U.S.
Source: Bloomberg

Investors who made Netflix the best-performing stock in the S&P 500 last year have been content to wait out losses as the global rollout continues. And it has been a bad idea to underestimate Netflix. Not long ago, doubters said Netflix would knuckle under once DVD rentals faded. Hastings was thinking ahead and bet on a business that seemed promising but risky. It turned out to be the future not only for Netflix but for the media business overall. 

Yet Netflix is no longer the scrappy upstart that Time Warner CEO Jeff Bewkes once compared to the Albanian army -- an unthreatening entity that couldn't hope to overthrow the media superpowers. As Netflix has grown more powerful, the array of anti-Netflix crusaders has grown. At least three significant constituencies are now allied at least in part against it: Companies that own and sell TV shows and movies to Netflix, a growing number of Web streaming services, and cable and satellite TV companies. 

The large owners of TV shows and movies helped Netflix grow by stocking it with programming but are now growing wary about selling their content to Netflix. Negotiations will get tougher and programming more expensive, which will eat up even more of Netflix's precious profits. For the last couple of years, TV companies including Sky Deutschland, Canal Plus in France and MediaSet in Italy have been setting up Web video services similar to Netflix ahead of or in response to the company’s launches there. Amazon has global ambitions for its Web video service, too. 

The latest Netflix opponents, as reported by the Wall Street Journal, are TV companies in disparate parts of the globe that are trying to team up to outbid Netflix for programming. Don’t underestimate the inability of companies -- especially media companies -- to coordinate anything. But the attempts to build a counterweight demonstrate that Netflix doesn’t have online video to itself anymore, either for the affection of consumers or for the TV series and movies Netflix needs to keep its service appealing. 

Netflix is also entering a tricky expansion phase that makes it tough to succeed beyond a carefully picked first wave of international markets. Netflix says its streaming service is profitable in areas like Canada and Scandinavia, where it has been for several years. For now, the average monthly subscription fees that Netflix receives are fairly similar in the U.S. and international markets. Hastings said Tuesday that the $8 to $10 monthly subscriber fee was aimed at "elites" in countries such as Russia and Vietnam. 

Streaming Stratosphere
Netflix's share price has soared as the company shifted successfully from renting DVDs by mail to selling streaming video subscriptions.

If Netflix wants to go mainstream globally, that pricing structure can't stay. In a potential illustration of the pricing pressure, HBO’s online subscription service in Vietnam draws 10 cents for each subscriber, while HBO’s Nordics service collects $10 a customer, Bloomberg’s Gerry Smith reported Tuesday in an article about HBO's international expansion.

Netflix also may be ready to take on the world, but much of the world isn't necessarily ready for Netflix. Internet connections have generally been affordable, zippy and reliable in countries where Netflix first branched out, like Spain, Norway, Germany and Australia, but Web access and business models are less of a sure thing in new markets. In India, where Netflix just opened its doors, people love online video but have been reluctant to pay for it, and fewer than one in five people use the Internet

It’s been five years since Bewkes compared Netflix to the Albanian army. Now Netflix is a powerhouse with visions of global domination. It is about to find out whether an alliance of many different forces, Albanian or not, can threaten those ambitions. 

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

  1. HBO has troubles of its own. The company has to balance potential hits to its traditional TV business with its new Web-video strategy. HBO’s parent company, Time Warner, is also the subject of takeover speculation, and a new owner might have different ideas about how to run HBO.

To contact the author of this story:
Shira Ovide in New York at sovide@bloomberg.net

To contact the editor responsible for this story:
Daniel Niemi at dniemi1@bloomberg.net