Analysis: Fiction, Theories, and Reality: Netflix Spoilers

The release of Netflix’s first quarter 2022 results, with the loss of 200 thousand subscribers, caused panic in the market, in addition to misinterpretations about characteristics of digital markets, as if all the companies of the acronym FAANG (Facebook, Amazon, Apple, Netflix and Google) were subject to the same dynamics.

At the heart of the matter are “winner-take-all” (or WTA) dynamics, which characterize markets that tend to have a winner-take-all. Analysts advocated “the end of the WTA thesis”, as if (1) it was a thesis and (2) being a thesis, it applied to everything.

Much of our work as teachers and researchers is to create knowledge and share it. Executives are often startled when we talk about “theories,” as if that word opens a black hole for the practice to be ostracized. Then they learn that it is precisely the theories that help to separate the facts and organize the chaos, allowing them to develop strategies and act effectively.

For example, network market theories teach that four factors influence the chances of a network market being served by a single platform: (1) whether the market is a “natural monopoly”, (2) multi-homing costs, (3) strength of network effects, and (4) user preferences for differentiated functionality.

In the case of Netflix, the market is not a natural monopoly, a fact that occurs in the rare cases where the minimum viable scale inhibits competition.

The second aspect addresses consumer costs for using more than one platform. In addition to the financial expense, it includes moving costs and inconvenience. Thinking about smart TVs that cover different platforms and the prices that, even when added together, do not exceed what was used to pay for the TV subscription, we see that there is room for competitors to coexist.

The third point is about network effects, or how much the value of the platform increases the more users connect to it. They can be on the same side (when we migrated from Facebook to Instagram because friends migrated), or between sides (the more users, the more value for advertisers). When very strong, network effects can lead to WTA dynamics because everyone wants to be on the winning platform, and there is little or nothing left for the losers.

This is the case for Google, Amazon and Facebook, but not the case for Netflix. The platform has no advertisers (at least not yet), and the same network effects that make someone subscribe to Netflix to stay on top of the shows their friends are watching are driving them to use other platforms.

Finally, at Netflix, we have a clear preference for differentiated content, a fact that led the company, in 2012, to produce its own content, in the case of hits such as Stranger Things, Black Mirror, among others. Content is not a commodity and the strength of the content makes the user jump between platforms like Netflix, Disney+, HBO Max, etc.

So what does the theory tell us about the future of Netflix? That more competition is expected and the key to success will be in the perception of consumers for the differentiation of the services available. Netflix is ​​not an isolated player and has long mapped in its reports the risk of content producers and television channels entering streaming. However, there is a large world market to be explored and the great challenge for Netflix is ​​to maintain its relevance and centrality in the ecosystem.

The company is also attentive to differentiation. It continually invests in improving features, in addition to creating expansion strategies for different markets (such as more affordable plans in India or mobile-only). It also explores growth strategies: diversifying the portfolio (entering the gaming universe) and exploring new markets and business models (with lower prices enabled by ads).

Although Netflix did not meet its recent forecast expectations, this does not mean the end of the company. Only that she has entered a new moment and that this movie is still far from over.