|Netflix CEO Reed Hastings|
Netflix's Suddenly Quiet TransitionFirst, Hastings killed DVD too quickly. He took a high-margin business that generated cash and, for all intents and purposes, snuffed it out. Without that source of revenue to fund digital content acquisition, international expansion and marketing expenses, Netflix put itself into a precarious enough financial situation that it had to go to market to raise $400 million towards the end of 2011.
Second, even with a healthy DVD business, there was no way Netflix could sustain the pace of overpaying for content programmers could no longer monetize via advertising. Up against companies with huge cash hoards and massive revenue streams., Netflix stood no chance whatsoever of competing. Never did. Doesn't. Never will. Amazon.com ( AMZN) proves this on a consistent basis, most recently signing an exclusive deal with NBC Universal to stream content via the company's Lovefilm in Europe. I am not sure when he discovered it, but I am convinced Hastings came to realize he was charting an impossible course. Over the last several weeks and months, he has stopped talking strategy very much in public. As confident as he sometimes sounds when doing so, he can come off equally as confused. Gaffes such as comparing Netflix to Time Warner's ( TWX) HBO and challenging superior competitors such as Amazon and Google ( GOOG) to spending sprees only hurt Hastings' cause:
I mean there'll be a lot of competitors out there, but HBO and Netflix both spend between $1 billion and $2 billion a year on content. And if you want to compete with HBO or Netflix, you better commit to multi-year spending of between $1 billion and $2 billion and then your competitor with us. And at this point, none of those guys have chosen to do that.That's cringe-worthy stuff, particularly if you're long Netflix. The days of misguided bravado might be over. If they are, I am not about to bet against a smarter and more refined Reed Hastings. As I noted Thursday on TheStreet when I called NFLX a turnaround play to consider, the company appears to be setting out on what should be a relatively more conservative, sustainable and ultimately profitable strategy. I see that strategy splitting into three soon-to-be distinct parts. Original programming. This is the most obvious and widely publicized direction. Hastings has not hidden his desire to be the next HBO. On its own, this strategy would not end well. As part of a larger plan, however, Netflix can be a serviceable original programmer. Specialty programming. Documentaries. Kids TV. UFC fighting. Live events that it can afford. Find several niches and work to superserve those niches. Netflix has had success in these types of areas. And it's one of the places where the company should be able to strike deals with content providers that work well for both sides. Select other, more opportunistic, licensed content. Herein lies the key to unlock any meaningful potential Netflix might have.
Netflix has picked up several cancelled shows that have cult followings (e.g., "Arrested Development"). Expect to see more of that. Also anticipate more deals like the one Netflix struck with AMC Networks ( AMCX) to air reruns of the series Mad Men. Netflix claims that by airing previous seasons of the show, it deserves credit for the ratings increase experienced by AMC for Mad Men's present run. I buy this argument. And I expect Netflix to go after situations where it can further test and possibly exploit this power. On the flip side, content providers cannot ignore this potential phenomenon. If it's real, it puts both sides in a situation where they can pick and choose content to negotiate as opposed to working out massive deals for a random smorgasbord of programs. With a more streamlined, manageable and sane approach to content acquisition and development, I expect Netflix to return to profitability by the second half of 2012 or the first half of 2013. Despite this optimism, I need another two to four months to allow more dust to settle and to see if Netflix not only charts the course I think it will, but executes effectively.