The Squid & the Whale
The Squid
Netflix expands and defies expectations, tentacles everywhere
For my money, there are two (large, public) companies that most interest me right now. I find them to be the most fascinating and exciting companies in the broader tech sphere. Amazon and Netflix.¹
Amazon is obviously already an absolute behemoth. It’s the whale. But the terrifyingly awesome reality I see is the company getting far larger. A $400 billion company moving towards a $1 trillion company. I believe that if a few things fall into place, they could beat Apple to that mark. Run by just the person to make that happen…
Anyway, there are a few more things I want to read about Amazon before diving a bit more into it. Notably, this week’s issue of The Economist is all about Amazon. Perfect timing. Stay tuned.
So first, a few thoughts about Netflix. The squid to Amazon’s whale.²
Netflix was actually the first public stock I ever bought. The year was 2004. The company had gone public in 2002, and I was a huge fan. This was the red envelope days. DVDs-by-mail. If there was a plan for streaming over the internet, it seemed lightyears away. It was just a great end-user experience. As the first person I knew to have a DVD player (I was, and am, very into movies) I had been a member since high school.
But having graduated from college, I felt like an adult. And as such, I thought I should own a stock. A regular Warren Buffett, I was. Of course, unlike Buffett, I also had no money to my name. So I bought a laughably small amount of stock in the two companies I loved: Netflix and Apple.
Netflix’s stock, if I recall (and Yahoo Finance confirms), was in sort of a rut. While it had been trading above $70-a-share in 2004, it had fallen below $10-a-share by the fall of that year. Adjusted for splits, this was something like $1 or $2 a share. Sadly, while the performance improved over time, by the time I had to sell my shares (when I entered the world of journalism), that stock wasn’t yet gangbusters. It was something like $25-a-share when I sold (something like $3 today). A nice return for my handful of shares. But.
Today, the stock is trading at $142-a-share. Netflix’s market cap: $60 billion.
Over the intervening years, Netflix has had some stumbles — Qwikster! — but overall, their move from DVD-by-mail to online streaming leader to enabling force of amazing content has been nothing short of breathtaking. It’s one of the most impressive core business pivots the world has ever seen.
Remember Blockbuster? Yeah, Netflix doesn’t either.
Instead, today we get headlines like this one in The Wall Street Journal: Netflix: The Monster That’s Eating Hollywood. The crux of the post is that while Hollywood once viewed Netflix as a nice, small friend that could help to extend the life of some of their content, they’re now scared shitless of it.
And they should be. Netflix is running the Hollywood playbook how you would run it if you were a company (largely) built in the 21st century, not the 20th. The data. The checks. The freedom. Hollywood has no answer for this. None. The only one who might… more on that later.
On the flipside, when you talk to people — smart people — many folks are still unconvinced that Netflix itself isn’t a giant… wait for it… house of cards (lower case). That is, they’re paying so much for content without seeing huge returns to their bottom line. A lot of this is paid for by debt. Can this continue on forever?
It’s a compelling argument. Because you could see how things could easily collapse a number of ways. But Netflix, like Amazon, is one of those companies that continually seems to be able to stay ahead of the curve. They’re thinking about owning internet streaming while Blockbuster is touting their brick-and-mortar strength…
And so it seems folly to bet against Netflix.
Core to this is what you hear time and time again when people-in-the-know talk about the company. That beyond CEO Reed Hastings, it’s Ted Sarandos who is the key to making everything work. Because Netflix’s model wouldn’t work if they didn’t have truly great content. They need someone with taste and the ability to execute on that taste. By all accounts, that’s Sarandos.
At the same time, just as vital to Netflix is the ability to go global. And that seems to be working as well. From a January New York Times check-in:
Netflix added a record 7.05 million streaming members in the three months that ended Dec. 31, up from the 5.59 million net additions in the same period of 2015. That growth, in domestic and international markets, beat its forecast of 5.2 million new members for the quarter. Netflix now has a total of 93.8 million members.
From the same post:
Profits are rising steadily. Net income increased 56 percent to $67 million in the quarter from the same period in 2015. The company projected that profits would reach $165 million in the current quarter, up from $28 million in the period a year ago.
“We don’t really believe in hockey-stick businesses, like suddenly we will turn significantly profitable at 200 million members,” Reed Hastings, the chief executive of Netflix, said during a conference call. “We think it is much smarter to grow into that bit by bit.”
If there is one company I would compare this mentality to, it’s Amazon. While Jeff Bezos would never say such a thing, it’s basically exactly how they operate as well. Why grow fast when you can grow slow and hint at your ability to grow fast one day? Along those lines:
The quarter was the 10th anniversary of Netflix’s streaming service, which began with the vision that internet television would ultimately replace traditional television. But even as Netflix reported its biggest net addition of streaming members in its history, Mr. Hastings was not satisfied standing still. Asked about his ultimate vision for the company during the conference call, he said, “You never want to characterize something as an ultimate vision, because when you get there, there is always more you want to do.”
“Think of us as just continuing to iterate on the basic cycle of more content and better product, that combines at a great service at a great price,” he said. “Hopefully, with that we can attract many more people to join Netflix, and then that fuels the whole cycle. So we are just going to lather, rinse, repeat again and again for the next couple of years.”
This is the perfect mentality to have. This is not a mentality I would bet against — no matter how looney some of Netflix’s content bets seem to be.
Old school Hollywood, meanwhile, is fucked. Don’t get me wrong, there’s still some great content. But there’s a reason why everything is becoming a franchise — their old models are dying. From a WSJ piece in January:
Total revenue from people watching movies at home, which contributes more to studios’ bottom line than the box office, was $12.05 billion in the U.S., down 7% from 2015. In 2015, the total dropped 6% to $12.95 billion, according to the Digital Entertainment Group, an industry trade organization.
The biggest decline came from rentals of DVD and Blu-ray discs, which were down 18% to $2.47 billion, due to a dramatic decline in kiosk rentals, such as Redbox, and continued weakness in the near-extinct retail rental business.
Sales of DVDs and Blu-rays dropped 10% to $5.5 billion, an improvement over 2015’s 12% drop.
Perhaps most worrisome for studios, though, is that digital sales of movies from outlets like iTunes, Amazon, and cable companies totaled just over $2 billion in 2016, up only 5% from 2015. In 2015, the category grew a dramatic 19% and fueled optimism that online film sales could help make up yearslong declines in DVD sales.
It’s because the right model for this, just as with streaming music, is Netflix, not downloads. We’re going to see an uptick when the $30-$50 still-in-theater rentals hit. But it will be a blip.
As crazy as it may sound right now, I believe the only company with a real shot at disrupting the change Netflix has wrought on Hollywood is… Amazon. These are the two most interesting companies thinking about content in the right way for the 21st century. Apple, Google, Hulu, and the like are all starting to come around. But these are the key players here, right now. The squid and the whale…
¹ A third would be Tesla. But seeing as I don’t own a Tesla, I do not interact with the brand on a daily basis. I am interested in a Model 3, as is seemingly everyone. But I’m still not sure it will tempt me to buy my first new car in well over a decade… Anyway, I’m more interested in Tesla the power company, versus Tesla the car company. And I think they’re just now inching into that world.
² By the way, if you haven’t seen Noah Baumbach’s 2005 film The Squid and the Whale, you absolutely should — I still often think about it, 12 years after its release.
