netflix

Netflix Streaming: How Do They Make Money?

Netflix began all the way back in 1997 in Scotts Valley, California as a modern alternative to Blockbuster.  They offered, at the time, just a mail order DVD rental service that charged $6.00 per rental ($4 for the rental and $2 for shipping), and charged late fees.  The model was scrapped when the managers realized that it was essentially the same model that they loathed from their primary competitor, Blockbuster.  They then moved to a flat rate, subscription based, unlimited rental, no due date, no late fee, no shipping cost business model that they have been known for for more than ten years.

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The Netflix headquarters, currently in Los Gatos, California.

This model was as profitable as Blockbuster because licensing of DVD’s is relatively low.  In 2007, they launched a video-on-demand streaming service in conjunction with their DVD service.  This was a new way to bring in customers, but also led to more licensing fees for content.

This led me to one simple question: With all the content that is available on the streaming side of Netflix, how can they possibly turn a profit?

Obviously, this had to have occurred to someone at some point in the Netflix business department.  How can we afford to pay exorbitant amounts of money to obtain the streaming license for the material we host, store the data, pay for the bandwidth to stream it worldwide, and still turn a profit.

Apparently, it all comes down to what they’ve decided to pay for.

Netflix Business Model

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Arrested Development, now being aired exclusively by Netflix, is only one of their exclusive deals meant to bring in subscribers.

As their business model develops and changes, they constantly sign new license deals, let old ones expire, and recently, develop new, exclusive content like House of Cards and Hemlock Grove, as well as old favorites coming back like Arrested Development.  They only pay for what they can afford to have based on the current income, keeping their revenue and costs close to balanced.  So close, that it can be hard to compare their earnings to others in the market.

Netflix Market Standings

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Netflix stock price nearly doubled in the first quarter of 2013.

 

Netflix, as of the first quarter of 2013, reported a stronger streaming subscriber growth than they expected, and still only managed to gain a profit of $2.7 million.  This seems like a lot to some people, but considering the company had revenue in excess of $1 billion, this profit margin is slim.  They managed only $0.05 per share in profit.  (Compare this to Dell’s reportedly “miserable” 21 cents per share in the same quarter)

The bright spot in this, though, is that their profit margin isn’t hurt by streaming.  As a matter of fact, in the US streaming market, their profit margin was a solid 20.6% (compared to their overall profit margin of .2%).

Could this be why Netflix has begun considering phasing out the DVD rental business?  It’s hard to tell what that might mean for the streaming subscribers.  Could it mean more first-run content, or will they put the gains they make from that straight into their pockets?  With the Netflix has operated in the past, I don’t find it likely they will squander the spending money saved by cutting the DVD business.

Last big question that remains is this:

What happens to all of their DVD’s and Blu-ray disks?

Sources: The Wall Street Journal, Venture Beat, The Next Web



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