Investor View: The Netflix advertising dilemma

Netflix’s introduction of ads has been the centre of controversy and caused a division of opinions as of late.

The obvious questions are how much support it gains and whether it brings in a new cohort of consumers and, ultimately, makes profits.

It is the answers to those questions which will have a significant influence on the future fortunes of Netflix and its share price.

With that in mind, Attest has conducted an exclusive quarterly media consumption survey for Liberty Sky Advisors, looking solely at the British public’s views and usage habits of Netflix and, in particular, their attitudes to an advertising offering on the streaming service.

What it finds suggests Netflix’s task, at balancing the wants of its subscriber base and its financial needs may be a tricky proposition.

Firstly, there is the issue of polarisation. A majority of current subscribers have gone for the extremes, with nearly 30% (29.3%) saying they would only use the version with ads if it was free and another one-fifth approximately (21.3%) stating they would not switch to a version with ads.

That suggests these subscribers are likely to stick with the current offering and also that there is a fairly widely held view that Netflix can get its money one way (subscription) or another (advertising) but not both.

For those subscribers who would consider switching to the ad-funded version and would be willing to pay, the findings suggest that Netflix’s planned £4.99 per month with adverts may be slightly more than its average customer is willing to accept.

Approaching 30% of Netflix subscribers said they would either pay only £1-2 per month (9.9%) or £3-4 (17.3%).

However, there was also a cohort of customers who would be willing to pay more. Nearly 15% (14.6%) stated they would pay £5-6 a month and 3.5% stated they would pay £9-10. One wonders what the last category’s rationale is for paying more for adverts.

However, it seems that, unlike Disney+, Netflix’s strategy with the ad-version model is to attract non-subscribers. So what do they think?

The answer is not encouraging. Nearly half (46.5%) said they would only take the ad version if it was free and a further 11.9% said they still would not subscribe.

When combined with those willing to pay only £1-2 per month (12.9%) and £3-4 (11.9%), it does not seem at first sight as though the ad-funded version will attract many.

Finally, there is the issue of those who use a Netflix account paid by someone else, a practice the company is trying to curtail.

First of all, nearly 20% of respondents are in that position. You can either see that as a good or a bad thing - good that it represents a potentially large pool of new customers if Netflix can persuade them to pay, or bad given it shows what is, effectively, widespread piracy.

One thing that is clear though is that, again, the £4.99 per month offer is unlikely to persuade them to pay. Fifty percent said they would only subscribe if it was free (34.1%) or would not at all (16.4%). A further 27% would pay only £1-2 per month (11.3%) or £3-4 (16%).

Netflix’s task in persuading people to pay for an ad-funded service may be complicated by the launch of ITV’s new streaming platform ITVX, which launched last week. Subscribers can choose to either pay for a version without ads or watch for free with the ads included.

ITVX has not had a smooth start, especially given the mixed (to put it mildly) reaction it received from ITV investors earlier in the year. Yet the platform will include exclusive content that won’t be available elsewhere and the announcement of a new agreement with STV gives the new streaming service a timely boost while also cementing the ITV-STV partnership.

More to the point, it will help to reinforce the perception in viewers’ minds that, if you are watching ads, then television should be free.

What all this suggests is that Netflix’s ad version is unlikely to attract much in the way of new customers, although it may gain some at the margins.

There is also the risk that the net effect may be less than expected because some existing subscribers churn down to the ad version - the fact that just over 20% stated they would not switch to a version with adverts suggests there is a high degree of tolerance for adverts on the platform and some more price-sensitive customers may decide to trade down to a cheaper package.

The economics for Netflix are not entirely clear here (at some point, a decent size of advert watching subscribers may offset the revenue loss from trading down) but this does not feel like a major gain for the company at least in the short-term. Let’s see what happens.

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Ian Whittaker is founder and managing director of Liberty Sky Advisors. He writes a regular column for Campaign about the advertising landscape from a financial standpoint. For further insights and articles, subscribe at: https://ianwhittakermedia.com/