Before beginning this Comment, please take a moment today to remember the events of 22 years ago and reflect both on our collective losses and the importance they represent to our future.
Stocks rebounded a bit on Friday but still gave up ground for the week. There was a lot of worrisome news of economic slowdowns overseas from China to Germany, from pockets of weakness here, and from the persistence of inflationary forces likely to keep the threat of further interest rate increases real for at least the next several weeks.
Rather than rehash the economy and interest rates this morning, I want to turn my attention to the streaming wars, and the battle between streamers and traditional cable companies for eyeballs. Obviously, the streamers have been winning to date. But the battle is complicated by the fact that the broadband connections needed to stream content are largely controlled by the same cable companies losing viewers.
The inevitable switch from reliance on the cable box to streaming content whenever and wherever one wants to view it, has been inevitable for some time. The pace at which cable viewers have been disconnecting has accelerated, as the quality of programming offered by traditional linear networks had declined. CBS has begun to advertise that it plans to offer Yellowstone on prime-time Sunday evenings. Think of it. It is offering repeats of a show originally offered on another cable channel for years and still offered on streaming networks, rather than present repeats of its own shows which it can broadcast for free. At least Yellowstone is a better option than Celebrity Beat the Clock, or whatever morning game show that can be shoved into prime time. At the beginning cutting the cord was about price. Now it is about price and content. Traditional TV is in a death spiral.
The decisive battle in the war between cable and the streamers is taking place right now. Spectrum, the network name used by Charter Communications, the second largest cable system, wants to air all the Disney# owned properties it now carries, plus all of Disney’s streaming properties for a price similar to what it previously paid for just the traditional cable products owned by Disney. Disney itself wants to offer key content to streaming services or through its own Disney+ or Hulu networks, including content it now licenses to Spectrum. Without an agreement, Disney has yanked its channels, including ABC, ESPN, and the Disney channel, off of Spectrum’s cable networks. That has meant no US Open tennis or last night’s Giants-Cowboys NFL season opener (which, in hindsight, wasn’t a huge loss if you are a Giants fan). On the surface, this battle seems a lose-lose proposition. Spectrum will undoubtedly lose viewers who have different options (for which they will have to pay) to watch whatever they were offered on Spectrum, while Disney will lose fee income that Spectrum pays Disney for carriage, something on the order of $2 billion per year.
This battle in complicated by industry economics. About a decade ago, cable subscribers paid about $80 per month, of which more than $30 was paid to content providers like ESPN. Today, the cable bundle costs more, over $100 on average, but over $75 goes to content providers. Thus, the cable channel makes about half what it used to make per customer on a base of fewer viewers. On the other hand, whereas a decade ago they charged much less for broadband access, today they offer tiers of access depending on the speed customers need. If only to watch TV, they can pay a relatively small amount, perhaps close to $50. But if they “cut the cord” and use broadband for streaming, interactive gaming, home office applications, and to power smart devices from alarms to doorbells, they have to pay closer to $100. The cable companies still make money offering video, and the linear networks also still make money. But those profits are shrinking. Their future is in broadband and possibly their own streaming services.
As for the content providers, let’s start by looking at Netflix, the first, and today, the only streaming service that makes serious money. Most are still in the red. The playbook for entrepreneurial companies says Rule #1 is to capture massive market share. Most do it by underpricing an appealing product. So, whether it is Uber, Netflix or Door Dash, the original price had to be so overwhelmingly appealing that customers would gravitate quickly, allowing early pioneers to gain critical mass. Eventually (as in NOW) prices would be increased in small increments hoping that the quality of the product itself would retain customers despite the higher ticket. Today, whether it be any of the three companies just mentioned or many others, including Amazon#, prices are rising. Sometimes it’s a direct price increase; sometimes it’s ads. Because Netflix has the largest base and the broadest array of fresh product, the others fail to catch up. They either end up merging or failing.
The fight to get to the finish line isn’t smooth. As one leading analyst, Michael Nathanson, was quoted in this weekend’s Wall Street Journal, “You have this wonderful business known as Pay-TV bundle, where everyone won. And it’s being unintelligently competed away by leaking more and more sports content” to streaming. Sports is a key piece of this puzzle because it is both desirable and live. Look at football. Not too many years ago, the NFC games were on one network and the AFC games were on another. Then, it split out weeknight games and playoff games. Now 4-5 cable networks were involved. Soon everyone wanted in, including many streaming networks. Thus, today, Thursday night is on one network, Friday another, and a few are broadcast on a network only the NFL controls. If you are a serious fan, you need to subscribe to at least three networks plus a linear TV package. That is an “unintelligent” way to divide up the pie, at least from the standpoint of the streamers who have to pay huge prices, and the fans, used to watching sports for free. As prices rise for all sports content and exclusives are doled out to dozens of streamers, the costs to consumers will become overwhelming. The response can only be higher prices for streaming packages. Eventually, consumers will fight back.
So, who wins and loses? Let’s start with the current battle between Spectrum and Disney. Neither side is going to cave 100%. More likely, over time, Disney will allow Spectrum to carry its cable properties in some sort of package that will benefit both. Disney, in return, will get the right to sell its jewel, ESPN, in a streaming format through a partner(s). But it will still end up being lose-lose. Cable customers will exit at a faster pace while Disney will lose all its revenues from cable providers and linear TV advertising. Linear TV is headed for the same cemetery as newspapers. All networks, including all your local channels, now stream content. It isn’t the content that will disappear. It’s just the delivery mechanism. For years, consumers were fed content for free. Now content with value, whether it be Netflix or The New York Times, makes money from digital subscriptions supplemented by digital advertising. Your Sunday paper or traditional way of watching CBS via your cable box will disappear over the next decade.
Complicating matters, there are too many competing streaming companies. The only way any survive is to charge more and control programming costs. Scale matters. It matters a lot. The ultimate winners are going to be the ones controlling the toll road, the broadband providers. Wireless companies will grab a piece at the low end but it will be those providing cable or fiber to the home that stand to win. Our society is more mobile and more dependent on robust networks than ever. Adding content to the network is another way to add value. The broadband providers won’t have to be content creators themselves. Look at how premium cable used to work. You could pay $10 for HBO, Showtime, etc. Or you could buy a bundle for more dollars but less per channel. The cable channel kept some of the money and the network kept some. Eventually, the cable companies offered a bundle for “free” to those who bought expansive video offerings.
Now fast forward. Why won’t broadband companies do the same in the future? Phone companies market in this fashion. If you want an iPhone, you sign up to stay with a wireless provider for a few years, and the phone company will provide the phone for free. That’s where this is all headed. Getting there will take time. A year ago, there were dozens of smartphone options. Today, there are only two or three that matter. As consumers, we don’t want to pay $10-20 for a half-dozen streaming services plus a bundle like YouTube TV or Roku to get local, sports, and news offerings. The real costs related to cable that pushed us to cut the cord were the charges to rent the boxes plus ancillary fees related to product we never watched. Once everything streams, there will be no need for those boxes. Cable companies will lose the very profitable rental income from them, but that will be the price they must bear to reunite with customers. The streamers who offer the most desirable combination of products at lowest costs will survive. Apple# and Amazon#, who offer their streaming services bundled with other offerings will also survive. That leaves very little room for the Netflix pretenders. That includes Disney.
Consolidation takes time. Years. Maybe even more than a decade. In the meantime, consumers get offered less for more. But that will change. In the end, everything will stream and consumers will be offered more efficient bundles to customize what they watch. Today, there is too much content. Think back to how you bought cars years ago. You ordered a basic model and added options from a laundry list of hundreds of items. That became very inefficient for the car companies. Every car was custom. Therefore, they created their bundles. They put those most wanted options into all cars (e.g., radios, power steering and power brakes) and only offered the rest in bundles. The car companies now controlled what you were offered and could manufacture more efficiently. In the not-too-distant future, the broadband companies will do the same, offering broadband service tiered by speed or throughput capacity, plus a few bundles of cable service offerings. Some bundles will be offered at discounted prices, the discounts to be absorbed by both the broadband providers and the streaming services.
It will take some years to get there and lots of consolidation. What you hear in the Disney/Spectrum war is a death rattle. Traditional cable TV and linear TV both have one foot in the grave. The same is true for streaming companies that don’t have scale or a complete package of content. Those will merge or join the others headed to the graveyard.
In the long run, change is generally good. It was nice to have milk delivered to our door every morning along with our newspaper. But we adapted. We’ll adjust to the way we view content as well. In the end, the consumer will be both the arbiter and the winner. The surviving content and broadband providers will win as well. In Hollywood, there are almost always happy endings. The Disney/Spectrum battle is part of a process, not an end game.
Today, Harry Connick Jr. is 56. If you have a long memory, you might remember Marty Liquori, a Villanova track star who ran the mile under 4 minutes when a sub-4:00 mile was a big deal. He actually ran under 4:00 for the first time in high school. Today, he turns 74.
James M. Meyer, CFA 610-260-2220