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Innovation in the television industry creates uncertainty for content creators and distributorsby Jarrod Hammes
For many U.S. households, it is difficult to imagine a world without television. In fact, 115.9 million homes have at least one television, with an average of two-and-a-half per home. Broadcasters, content producers and distributors seek to satisfy Americans’ 35.6 hours per week consumption habit with an ever-growing array of channels and increasing diversity of programming.
In 2009, TV industry analysts and advertising pundits noted signs of volatility as traditional advertising revenues began to detour to a variety of Internet video providers, including YouTube and Hulu. Prime time TV viewership had dropped and improved online program quality compelled viewers to watch longer content on the Web. The ubiquity of broadband Internet and adaptive streaming technology, a disruptive technology that overcame periodic slowness in broadband, posed a new threat for Multichannel Video Programming Distributors (MVPD) – the FCC’s name for cable, satellite and IPTV providers. With adaptive streaming technology, an Internet video provider could reach quality levels suitable for viewing on high-definition TVs and computer screens.
Enter Netflix, a fast-growing DVD rental-by-mail house and early adopter of adaptive streaming technology. Netflix prepared their recently licensed Starz movies for Internet distribution and executed a strategy to reach as many TVs as possible, engaging in head-to-head competition with MVPDs in the video-on-demand market. They partnered with Blu-ray players, game console manufacturers and Roku, a startup focused on placing inexpensive set-top-boxes in viewers’ living rooms. This strategy provided easy access to homes where high-definition content was a must-have and broadband Internet connections were readily available.
In 2010, Hulu and AppleTV, also adopting varieties of adaptive streaming, combined standard broadcast content with clean, powerful user interfaces. It appeared that “cord-cutting,” or the act of replacing your MVPD with Internet content, was going to shake the foundation of the TV industry, leaving a wake of broken business models and apprehensive content producers, advertisers and distributors.
The Business of Television
TV is available through several mainstream modes. Traditional broadcast TV, known as over-the-air (OTA), is the least expensive and most widely available. With a small antenna and modern TV, most Americans have access to the major broadcast networks: ABC, CBS, NBC and FOX. The large broadcast networks rely on Nielsen ratings to determine program value, which in turn enables them to value advertising time slots. Often a broadcaster's top program commands an audience in excess of 14 million viewers, while a championship football or baseball game may attract nearly 60 million viewers. In addition to advertising revenue, broadcasters receive a small retransmission fee from MVPDs who place these signals on their own networks.
Few people are satisfied by the limited channel lineup or aesthetically unappealing antenna that accompanies the OTA TV model. Many opt for a broader range of content by way of MVPD such as AT&T U-Verse, DirecTV or Time Warner. The combined market share of the top 25 MVPDs is nearly 100 million TV households. These distribution networks offer nearly 500 channels (including the OTA channels) and with the exception of Dish and DirecTV, offer phone and Internet service directly through unified infrastructures.
The business model for these MVPDs is different from that of the OTA. MVPDs rely on cable programming networks, such as ESPN, Discovery Channel and CNN, who often require a significant per-subscriber fee for their content. In turn, all MVPDs charge subscribers for large channel bundles; though many subscribers spend the majority of viewing hours on just a few channels. Satellite and IPTV providers offer telephony, Internet and TV services for less than $100 per month. Many cable operators offer similar “triple play” packages, where average revenue per user is nearly $135 per month. MVPDs also provide large video-on-demand libraries, which are accessible to subscribers on a per-view basis costing approximately five dollars for most new releases.
Finally, the newest and latest models of TV consumption come from online video providers: Apple, Hulu and Netflix. Apple maintains a closed ecosystem, allowing viewers to purchase or rent movies and TV shows through its tightly controlled iTunes store, which delivers content to computers, phones, tablets and most recently, an Internet-enabled set-top box. Netflix rents DVDs by mail and streams content to a wide variety of computers, phones, set-top-boxes and smart TVs.
Infrastructure Differentiates Competitors
The MVPD competitive landscape is shaped by infrastructure advancements and government policy. Cable companies have franchise agreements that ensure their fiber and coaxial cable infrastructures are not shared by other cable companies. For example, Cox cannot compete with Time Warner. Satellite TV providers, Dish and DirecTV, have an FCC-licensed spectrum that allows them to provide vast signals that blanket the U.S. without interference. IPTV providers, leveraging new fiber and DSL technology, fight to shed their telephone company designation as their primary revenue-generating services become television and broadband Internet.
IPTV, satellite and cable compete to offer subscription TV. Broadcasters and cable programming networks behave as arms dealers and offer their content to most MVPDs, regardless of network type. With all providers, churn, an industry metric for periodic subscriber loss, is the enemy.
The Cord Cutter Alternatives
In 2010, the phrase “cord cutter” dominated the TV technology media, as cable lost 710,000 TV subscribers by the third quarter. Many predict the fourth quarter numbers, yet to be announced, will reveal one million lost. However, the loss has often been misinterpreted since competitors to cable like DirecTV, DISH, Verizon and AT&T (satellite and IPTV), added nearly 500,000 subscribers. Despite this shift there was an overall loss of nearly 250,000 subscribers to the industry. Analysts agree: this is unprecedented. Many agree that this loss represents an exodus to the Web for content.
Three main positive growth indicators are cited: Netflix subscribers, Hulu revenue and the AppleTV re-launch.
Netflix charges subscribers between $8 and $14 per month and provides a streaming and DVD-by-mail service for a full library of movies and TV shows. But how did Netflix, a direct video-on-demand competitor of the MVPDs, add 7.7 million subscribers in 2010 to reach a staggering 20 million total? Netflix avoids sports and live content and focuses on monetizing content that MVPDs have been unable to market. Moreover, they take advantage of the latest adaptive streaming technology to reach out over broadband Internet connections to nearly all Blu-ray players, game consoles and inexpensive consumer set-top-boxes, such as AppleTV.
At a recent UBS Media Conference, Time Warner Cable CEO Glenn Britt blamed the cable set-top-box, which Charter Cable’s CEO later referred to as the “Achilles heel of the industry.” More to the point, SlingBox (now DishTV) Founder Blake Krikorian said, “The reason other services have started to crack in is because they (MVPDs) have not provided a great user experience. Netflix should not exist if the cable guys actually did VOD really well.”
Netflix is nearly a $10 billion company; if the National Cable & Telecommunications Association ranked it among MVPDs, it would be ranked second in terms of subscribers, between Comcast (23 million) and DirecTV (19 million).
If Netflix is a cord cutter’s video-on-demand, then Hulu is their version of traditional TV. Hulu is a corporate conglomerate with founders such as NBC Universal, Newscorp and The Walt Disney Company. Hulu operates with two business models: a free, or ad-supported model, similar to that of the aforementioned FTA/broadcast model; and a subscription model, similar to Netflix. Hulu commands a large viewership of 30 million viewers per month. Like Netflix, Hulu maintains a brilliant user interface and leverages the adaptive streaming technologies that allow its quality to rival that of competitive MVPDs.
Finally, AppleTV (version 2) was announced with great fanfare in the middle of 2010. While GoogleTV has pulled back, AppleTV continues to sell strong (over 1 million units). A $99 set-top-box allows users to view Netflix or connect to their iTunes accounts to rent movies and TV shows. Apple uses its own version of adaptive streaming to ensure a quality picture. Unlike Netflix and Hulu, Apple has created some apprehension among content owners and producers. Some have been openly critical of Apple’s demand to rent shows for $0.99, including NBC Universal. At launch time, Steve Jobs stated that ABC and FOX were partners and he thought “the rest will see the light and get on board with us.”
The Active Role of the FCC
Despite decades of regular negotiations, 2010 was perhaps the most tumultuous period in TV history. Broadcasters and other content producers became concerned over the significant loss of advertising revenues in 2009, the lowest since 1995. Negotiations resulted in full-page negative advertising, with each side accusing the other of damaging consumer value.
In one failed deal between FOX and Cablevision, nearly 5 million subscribers lost access to the FOX network for two weeks, causing the FCC to revisit its role in protecting consumers’ rights. Though the FCC hopes to draft regulations to prevent this, TV Analyst Ryan Lawler states, “By the time the process is finished, consumers can expect to see several more contentious negotiations end in blackouts.”
The Past is the Future
MVPDs have 100 million subscribers and remain profitable. IPTV and cable operators possess the infrastructure that connects Netflix, Hulu and AppleTV with subscribers. Should IPTV and satellite continue their growth as a middle tier, above the low price leaders: Netflix, Hulu and Apple? Should cable worry about a loss of subscribers to these services? Many companies have tried to break the TV model and only succeeded in chiseling a corner away, even Netflix is at the mercy of apprehensive content owners who dare not jeopardize their lucrative cable revenues.
Perhaps the new state of TV is change. Disruptive technologies and models will come and go at an unprecedented rate. In the words of billionaire businessman, HDNet Owner and TV evangelist Mark Cuban, “The number of DVR, HDTV and VOD users will continue to expand every year. Every year for the next 10 years we will be discussing the future of Internet video and all the great things that could possibly happen. Remember this. The potential for video over the Internet is huge… and always will be.”
Jarrod Hammes (Rady Full-Time MBA ’08) is a marketer with more than 10 years of experience developing television transmission technology. He is the vice president of marketing for IP Video Networks, a company that specializes in global IP media delivery and quality analytics.