Netflix (NFLX) - Get Netflix, Inc. (NFLX) Report may end up alienating some of its 42 million U.S. subscribers when the world's largest online streaming service pulls the plug next month on its content agreement with Epix.
The move, which Netflix chief content officer Ted Sarandos announced in a blog post on Sunday, will remove big hits such as The Hunger Games: Catching Fire and Transformers: Edge of Extinction, as well as older classics like the original Rocky and its sequels, from the Netflix catalog.
Epix, which is owned by Paramount, Liongate (LGF) and MGM (MGM) - Get MGM Resorts International (MGM) Report , has will move its content to Hulu, itself a joint venture between 21st Century Fox (FOXA) - Get Fox Corporation Class A Report , Comcast's (CMCSA) - Get Comcast Corporation Class A Report NBCUniversal and Disney (DIS) - Get Walt Disney Company Report , beginning on Oct. 1.
Netflix's decision to cut ties with Epix, a $1 billion content agreement, appears to have been a straightforward move based on costs.
"The Epix deal was expensive, and likely long-term, both of which Netflix likely balked on," said Jimmy Schaeffler, chairman, chairman of media research firm The Carmel Group. "The programming business is changing too fast these days to lock into long-term deals as one might have ten or even five years ago."
In his blog posting, Sarandos said the main reason Netflix made the choice to let go of the Epix content was its members wanting to see newer movies quicker than Epix may have been able to get onto the streaming service.
"Studio licensing practices means it often takes more than a year before consumers can watch a theatrically released movie when and how they want," Sarandos said.
However, Sarandos also noted that Netflix has its work cut out for it in order to meet the demands of its viewers. "It will take time to build a robust slate of original movies, but we're hard at work on it."
That slate includes production deals Netflix has with the likes of Brad Pitt, Ricky Gervais and Adam Sandler. Netflix is also set to become the exclusive U.S. pay-TV outlet for new theatrical releases from the Walt Disney Co. (DIS) - Get Walt Disney Company Report in 2016. That deal also covers films from the Pixar, Lucasfilm and Marvel studios.
But that Disney deal is for films that make their debut next year, meaning that such Disney content might still not show up on Neflix until 2017. Removing the Epix movies presents Netflix with a big hole to fill until the Disney productions become available.
"Walking away from Epix cuts the quantity of new movies to a very small number," said Michael Pachter, media analyst with Wedbush Securities. "This is risky, and I think Netflix is probably underestimating the impact of no "new" movies on its subscriber base."
Pachter said Netflix is no stranger to walking away from content deals. But, when it has in the past, it quickly finalized new agreements to fill its programming gap, as Pachter noted that Netflix gave up its Viacom (VIA) - Get Viacom Inc. Class A Report deal, it signed up Disney, and when it cut off its deal with Starz (STRZA) , it landed Epix. This time, the situation is different.
"There is a lag between the expiration of Epix and the beginning of Disney movie content, so it could be a problem," Pachter said.
But even Pachter said Netflix, which is famous for utilizing subscriber viewing data to determine its programming decisions, has likely made a cost-versus-benefit decision with regards to Epix and determined banking on its own original content is worth the risk of alienating some subscribers by losing movies like World War Z.
Schaeffler, of the Carmel Group, agreed, adding that Netflix's predictive analysis data has likely shown the company the importance of its own original series and movies to its subscribers.
"In short, Netflix subscribers are attracted to original programs, which Netflix controls," Schaeffler said.
This article is commentary by an independent contributor. At the time of publication, the author held TK positions in the stocks mentioned.