2008 ROY Honorable Mention: Netflix sails in the bit stream

By Danny King -- Video Business, 12/29/2008

Taking its first steps toward building a video-streaming service designed to eventually overtake its DVD-by-mail service, Netflix understood early on that it couldn’t undertake this task alone.

While the 11-year-old company launched the service for PC use last year, Netflix has spent much of this year securing agreements with component makers that will allow a growing portion of its subscribers to rent movie and TV titles from the company’s Web site and watch them directly on their TVs.

Such a strategy has helped Netflix grow sales, earnings and subscribers amid a stumbling U.S. economy this year. The company in October said it expects to boost this year’s net income by about 20% and sales by about 13%.

“The preferred consumer behavior is to consume on the TV set,” Netflix chief financial officer Barry McCarthy said at a conference in New York earlier this month. “Today, it takes a device to get that content off the Internet and on the TV set.”

With that in mind, Netflix in May introduced a set-top box allowing customers to stream from an inventory of what’s now more than 12,000 of its 100,000 titles. Later that month, Netflix CEO Reed Hastings said products such as Netflix Player by Roku, which had to be back-ordered within three weeks of its introduction, would double the company’s subscriber base within a decade.

Since then, Netflix has reached agreements allowing owners of Samsung and LG Electronics Blu-ray Disc players, Microsoft Xbox 360 videogame consoles and TiVo digital-video recorders to video-stream Netflix titles directly to their TVs. The company also secured agreements to carry video-streaming content from the Starz movie channel, Disney Channel and CBS. Hastings has said Netflix will accelerate such agreements next year.

However, the company hasn’t been immune to the effects of a U.S. economy in which DVD spending has stalled. After twice revising its year-end subscriber forecast upward by mid-year, Netflix has since cut its subscriber estimates twice, to a midpoint of 9 million in October from 9.4 million in July.

Still, such a customer base represents a 20% increase from the end of last year, while the likely broadening of video-streaming use—the company doesn’t disclose how many customers stream content—will boost earnings further next year by reducing costly customer turnover, Wedbush Morgan analyst Michael Pachter said in October. Additionally, Netflix has more than 500,000 customers paying an extra $1 a month to have access to Blu-ray titles and expects that number to grow further as studios release more high-definition titles and Blu-ray player prices continue to fall.

“There is a subset of new subscribers who come to the Web site solely for the purpose of enjoying the streaming service,” says McCarthy. “That’s still embryonic and getting better over time.”