The cost of production for Netflix has increased steadily for the past several years. There was a slightly higher increase in COGS for Netflix in 2015. This is most likely due to its expansion of its original content offerings. Netflix original series are intended to provide unique content to subscribers. The digital streaming market is growing and many competitors such as Hulu, HBO Now, and others have emerged. By providing unique content in the form of original series, Netflix hopes to differentiate itself from its competitors and get its current customers to remain subscribers in the face of growing competition in the digital streaming services market.
In addition, Netflix seeks to constantly add new content to its streaming services. Each additional television show or series offered increases the company’s COGS. However, the company also drops movies and television shows from its lineup. While the company has not reveals specifically why certain movies and shows are dropped, it may be when enough viewers have previously watched such movies and shows, with the demand for such movies and shows declining annually. Thus, the primary reasons that the COGS continue to increase are the increase in original Netflix content and the increase in the availability of television shows and movies, each of which Netflix pays for. Such increases in COGS are expected to continue as long as demand continues to increase.
Netflix’s operating expenses have also growth steadily in the past several years as shown in the figure below. The steady increase in operating costs for Netflix is largely due to its increase in technological capabilities and the pre-determined fees that it pays for content. While Netflix pays royalties every time that it shows particular content to viewers, the company also must pay an agreed-upon flat fee for its content, regardless of whether such content is viewed or not. Such flat fees comprise most of the fixed costs for revenues, while the cost-per-view comprise most of the variable costs for Netflix.
Overall Market
Netflix holds close to 57.5% of the market share in a recent estimation by Investopedia (2014). This is in relationship to its main rivals. Companies like Hulu and Amazon are the main competitors for Netflix. Hulu holds about 10 percent of the market share with Amazon coming in with most of the remainder. Netflix’s market share includes over half of the entire market, giving it the largest share and most dominant position in the competition. This market context has changed dramatically over the last ten years. When Netflix initially came out, it was competing not with other online video providers but with in store rentals like Blockbuster. Now, however, the market share has leveled as it includes these three main competitors in the online marketplace.
Barriers to entry include access, popularity, and content. The first is access. This includes marketing online and how easily or readily a person can access the website from other links. The company’s web presence is the central factor: where they are and how frequently web browsing advertises for the company. Popularity relates directly to this and often is driven by word of mouth recommendations. Hulu actually costs a monthly fee lower than Netflix, by about a dollar. But Netflix still dominates the field. This suggests that price is not the only factor and not the most important factor here. Content also constructs a barrier. A provider must be able to offer a lot of videos, shows, and movies in order to simply be competitive.
The market structure includes the three main firms outlined above. Amazon Instant Video offers a more robust amount of content but costs more while Hulu and Netflix offer largely the same or similar content. Hulu specializes in more shows while Netflix offers more movies. With only two main competitors, Netflix can influence the market by offering something unique.
Other competitors of Netflix include Redbox and now Blockbuster kiosks. Such kiosks provide physical dvds and blu-ray discs, rather than digital content, to viewers and tend to deliver more recently-released content at a much higher per movie or per television show cost. Retails of entertainment television content, including Best Buy and Walmart, can also be considered indirect competitors of Netflix.
Netflix has also emerged as a prominent leader in the cut-the-wires movements, in which viewers are abandoning their cable and satellite subscriptions to view content exclusively through online platforms such as Netflix. This introduces a host of competitors for Netflix, including DirectTV, Dish Network, Comcast, and more. Three years ago, Netflix was considered a complement to these services, but today Netflix now acts as a direct alternative to these services. With so many well-established businesses in Netflix’s market, the barriers to entry seem high. However, Netflix was developed as a disruptor of the television and movie industries. Therefore, a technological innovation, such as that of Netflix several years ago, could overcome such barriers by offering a unique value to customers.
From this perspective, the barriers to entry remain strong but are certainly not impenetrable. In fact, a three-firm concentration ratio of Netflix, Hulu, and Amazon Prime reveals a 93% concentration for these three firms, revealing that in the digital subscription television and movie content market, there is currently an oligopoly.
Recommendation
It seems that Netflix should continue its current scheme: developing its own television shows and movies. It is now not only a provider of videos but a producer of its own content. Shows like “House of Cards” have dominated the online market and drawn viewers in to the other productions of Netflix, like “Orange is the New Black.” Some shows are flops but others continue to increase in popularity. I recommend that Netflix focus on this in its future production.
Neither Hulu nor Amazon Instant Video offers their own shows. That is, they do not produce content in the way that Netflix produces content. Thus the recommended action above, to continue and develop the private production in Netflix, will set the firm apart. It may encounter losses on what it provides in terms of other material, but the gains and uniqueness of its own shows will challenge the current competition.
According to Digital Business Models (2013), the future of Netflix is uncertain. However, “Netflix will have to rely on its role as the incumbent player in a crowded market. Instead of poaching customers from Blockbuster, Netflix finds itself in the position of defending itself from other video streaming companies poaching its customers.” Fixed costs are clearly the way to go online. However, to sustain its success, Netflix will need to account for its main competitors and consider how it might attract viewers who simply want to see the same content provided by Hulu and Amazon.
Netflix should also embrace its role in the cut-the-wires movement. The best way that the company can do this is to continue to increase its content as quickly as possible, especially its original content. In addition, Netflix can offer more recent digital content for premium subscribers. While the cut-the-cord movement is primarily about how affordable Netflix and other online content distributors are compared to satellite and cable contracts, Netflix can expand its offerings substantially without a huge increase in price by offering premium content for only a small additional monthly cost. Such recommendations offer viable means to sustainably fuel financial growth for Netflix.
