Netflix’ Content Network Effects for Acquisition, Retention, Monetization

Netflix announced in August that it had reached $2.8 billion in revenue for its second quarter, representing a 50% jump from Q2 of last year. The company also added over 5 million new subscribers -- per quarter -- in both Q1 and Q2 of this year (after adding 7 million in Q4 of last year), and it now has more subscribers than cable TV.

Today we’ll look at the content-driven network effects behind Netflix’ growth, and why Disney’s move to end the two companies’ partnership may be too little, too late.

More data, better content. Better content, more data.

The TV and movie industries have traditionally relied on simple metrics for measuring performance and deciding on future investments. Movies are judged by numbers like box office receipts, while TV shows utilize ratings based on basic data such as total viewers.

To cope with a lack of in-depth data, studios tend to focus most of their energy on existing brands that have demonstrated their profitability (known as “tent poles”) and use their momentum to compensate for all the losses incurred by more exploratory investments. But, it’s a scattershot approach to hit-making that slows the process of iteration.

The industry has tried to modernize its approach to gathering data by turning to proxies like social media, but those fall short, and traditional entertainment companies continue to rely on box office receipts and other coarse metrics because they don’t currently have a better alternative.

Netflix, on the other hand, has figured out how to solve this problem. Because the platform identifies each user’s content preferences and pays close attention to how they behave, they can utilize that data to make meaningful business decisions at both a micro and macro level.

Here is a partial list of behavioral events they track (more listed here):

  • When you pause, rewind, or fast forward
  • What day you watch content
  • The date you watch
  • What time you watch content
  • Where you watch
  • What device you use to watch
  • When you pause and leave content (and if you ever come back)
  • Ratings
  • Searches
  • Browsing and scrolling behavior

This level of user tracking tells Netflix what their customers do on the platform and what kinds of content they like. Knowing these two things allows them to simultaneously optimize the experience of the platform itself and pinpoint what kinds of content its users want in an efficient way.

Netflix’ Content Network Effect

While traditional studios are grappling with high failure rates due to a lack of useful data about their audiences, Netflix uses their customer insights to generate a competitive advantage in the form of a Content Network Effect.

There are two critical elements of Netflix’s Content Network Effect:
1. Having a large selection of quality content, which draws in customers looking for the biggest library of streaming movies and TV shows.
2. Personalizing the content presented to each user, which is used to retain customers by maximizing the value they receive each time they log in.

Related Lecture: Building Network Effects

They’re currently spending $6bn a year on original content, with results that speak for themselves: their user base increased by 7% in the quarter following the release of House of Cards, allowing them to make back most of their $100m investment in the series. Users have also stated in surveys that they continue to pay for subscriptions because of original content.

More content leads to more users, and it also paves the way for more behavioral data. Launching more original content also allows Netflix to identify opportunities to revive legacy content that traditional studios either can’t or don’t want to pursue.

For example, if Netflix sees that a large number of users are watching a show that was cancelled by a big network, they can purchase the rights and produce a new season. They’ve already done this with cult hits like Arrested Development, which originally aired on Fox for three seasons before it was canceled. Netflix brought the show back for a fourth season six years later.

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Content and data for retention & monetization

Netflix’s key retention edge comes from the all the behavioral data they have access to, which allows them to deliver a personalized experience where the user is only shown content from they’re most likely to derive maximum value.

Because the company already has a substantial base of behavioral data from its existing users, it can present a semi-personalized experience for even brand new users onboarding for the first time.
Strong initial adoption helps the company roll more of those users over to a paid subscription from free trial. Then, a continuous stream of relevant (and new) content keep users coming back until they build a habit.

Related Lecture: Optimizing the Adoption Phase

The last piece of this puzzle is the monetization advantage that Netflix enjoys as a result of their Content Network Effect. Not only does more, and more relevant, content lead to more paying subscribers, it also gives the company greater leverage to negotiate competitive deals for licensing and producing content -- which in turn attracts and retains more subscribers.

Disney’s plans to leave the platform and launch their own streaming service is a sign that Hollywood brands are taking defensive measures against Netflix.

But, pulling one type of content won’t dismantle a network effect that’s been years in the making. Netflix’ competitive moat is based on a diversified combination of owned, bought and licensed, and the exit of a single provider -- no matter how big -- won’t likely be a big enough step to close in on its increasing lead.