Netflix ‘Caught in the Middle’ Between Consumer Experience, Bandwidth Constraints

Netflix is “caught in the middle” of trying to provide a long-term positive viewing experience for subscribers with HD and “other high-quality but high-bandwidth uses of entertainment,” while also “being mindful of the environment we're in today,” said Chief Financial Officer David Wells during a Q-and-A webcast from the Morgan Stanley Technology Media & Telecom Conference in San Francisco Monday. Wells was commenting on the deal in which Netflix will pay Comcast an undisclosed amount to ensure that its subscribers receive a faster streaming experience during peak viewing hours (CED Feb 25 p3).

Citing bandwidth “choke points” during peak usage times, Wells said the Comcast agreement gave Netflix an opportunity to “shore up” the consumer experience. The agreement will involve “incremental” cost for Netflix but not so much that Netflix will change its guidance of a 400-basis-point year-over-year margin improvement for the U.S. streaming business, Wells said.

Wells downplayed overlap between the Comcast deal and net neutrality issues, calling the latter “preferentially or not preferentially treating your bits as they stream to the consumer.” That “wasn’t happening” by any ISPs, Wells said. “There was no throttling going on in that sense,” he said, adding that consumers wouldn’t stand for preferential bit allocation. Such behavior on the part of ISPs “really invites government scrutiny, and that’s not in their best interest,” Wells said.

Wells referred to Netflix’s Open Connect content delivery network, which places equipment, paid for by Netflix, in the ISP’s data center to speed content delivery to subscribers. Using Open Connect, less “mileage” has to occur in the cable, he said. The paid peering deal with Comcast, he said, puts Netflix “closer to the network architecture of Comcast” data centers to improve service to subscribers, he said.

Despite the Comcast deal, Netflix believes consumers are “best served” in a climate where content providers don’t pay an ISP, he said. Consumers pay for broadband, “and they should be able to use that broadband,” he said. Wells didn’t rule out Netflix’s signing similar deals with other providers, but said “not all ISPs are created equally.” Netflix won’t be interested in doing something that’s going to “meaningfully change the economics for us,” Wells said, “but we are interested in doing things that for the right set of economics improve that subscriber experience long-term."

On changes to Netflix’s pricing plan alluded to in the company’s Jan. 22 letter to subscribers, Wells said Netflix will grandfather in pricing for existing subscribers, which he called a “lesson learned from 2011,” when fallout from a change in its pricing plan led to an exodus of subscribers. The company will test concepts and apply them when it’s comfortable it has a “good long-term concept,” he said. There’s no general hurry to do so, he said. With a subscriber base of 30 million to 40 million with a potential to grow to 50 million to 60 million, “one size does not fit all” when it comes to pricing plans, he said. A choice in pricing would allow consumers to weigh their ability to pay versus the value of the offering, he said, which would replace an across-the-board dollar increase.

Subscriber growth going forward will come from both retention and bringing in new customers, Wells said. Re-join rates are currently in the 30-40 percent range with the majority of subscribers coming in as new customers, he said. Netflix has seen “retention improvement,” which Wells attributed to improved content, including originals and the “perception” of other classes of content in its offerings. A “much happier customer” translates to better retention, he said.

While original content has driven recent subscriber retention rates, Wells was cautious about the amount of original content Netflix aspires to make. The company will continue to double its investment in content but that’s “starting from zero,” he noted. “We have a commitment” to original content, he said, but whether the ratio eventually grows to as much as 50 or 70 percent of the overall Netflix library “is unknown.” The percentage will likely “never get to 80 percent” he said, noting that HBO, which has been offering original content “a lot longer than we have,” has 40-50 percent original content. From the consumer side, “it would be great to get to a world where we're releasing one or two [titles] every other month,” he said, tossing out an eventual target range of 15-20 titles per year. That number would show a level of engagement to subscribers, he said.