Netflix Q2 Earnings: OTT Executive Briefing

BlogJul 21, 2022

A highly anticipated earnings season kicked off with second-quarter results from Netflix, a widely regarded industry bellwether.

Anyone bracing for a sequel to Netflix’s staggering Q1 churn was relieved that subscriber loss of 970,000, short of an expected 2 million. The suspense is over, but it’s also just begun.

What does the Netflix Q2 earnings report say about the state of streaming media in 2022?

For OTT and network executives seeking to understand (without a deep-dive into analyst and investor debates), we’ve broken it down into three critical issues, each with one brief consideration to take into account in your near-future plans.

(1) AVOD and FAST services compete

Executives stockpile data to attract brand budgets

A Netflix ad-supported tier is already being tested in Latin American markets and is expected to launch in the U.S. by early 2023.

On July 13, Netflix announced an exclusive deal to deliver ads with Microsoft (often speculated to be a target buyer in the event of a Netflix acquisition). It was a quick pivot from March 2022, when CFO Spencer Neuman told investors, “Never say never, but [advertising] is not in our plans.” Netflix’s revenue opportunity has been projected between $1 billion and $4 billion, which is significant in an estimated $70 billion AVOD market.

As Netflix makes its grand entrance into advertising, executives are preparing battle pay TV and FAST competitors for ad dollars — perceived as an increasingly precious commodity as fears of a recession loom.

During the Q2 earnings call, Netflix CEO Reed Hastings predicted the definitive “end of linear TV over the next five to 10 years.” Chief operating and product officer Greg Peters said:

We’re optimistic that over a couple of years we can deliver an experience that is fundamentally different than the advertising experience on linear networks.

This echoed his vision of “a premium, better-than-linear TV brand experience for advertisers” in a statement on the Microsoft deal made a week before.

Perhaps not coincidentally, Comcast released its report Free Ad-Supported Streaming TV: Why More Advertisers (and Consumers) Are Going F.A.S.T. the day after Netflix’s Q2 call. According to the report, FAST penetration doubled in 2021 and 60% of CTV households now consume FAST content.

With so many choices, where will brands choose to spend their advertising dollars? While streaming ad budgets are up 22% from 2021, media executives are bracing for the impact of a possible slowdown in the second half of 2022.

Just as consumer spending and subscription fatigue are driving the highest demand ever for ad-supported streaming, economic fears have upped the stakes for OTT services seeking to compensate for SVOD churn and linear TV networks getting into the FAST game. Like any OTT service with an ad tier, Netflix and Comcast have good reason to position their platforms as the superior choice.

But executives can only win by backing up their value propositions with data. Content performance analysis, accurate forecasting, and historic revenue reports are the only way to prove to advertisers that demand for a platform’s content is high enough to warrant investment. However brand budgets shake out, there will be plenty of OTT streaming services to pick from when it comes time to spend them.

(2) OTT content spend plateaus

Executives focus on monetizing content with deeper analytics

Media companies have lived by the law of content-as-king since their inception. For years, streaming companies have steadily splurged on creating original series in an effort to win the streaming wars.

Year-over-year content spend has consistently increased for last decade, with the exception of 2020 (attributed to the COVID-19 pandemic). 2021 saw a record-breaking $220 billion global spend. Excluding sports, that’s an expected $145 billion in 2022 according to Wells Fargo.

For Netflix, the spending spree has come to a definitive halt. CFO Spencer Neumann confirmed during the July 19 earnings call that cash content spend would be “about $17 billion” in 2022, and remain in the same “zip code” for the next few years. That’s a major reversal for a company whose content investments have steadily skyrocketed to date.

The sustainability of Netflix and others’ big-spender approach has been under scrutiny for years. In May 2022, Disney — which, unlike Netflix, has ample cash reserves — announced that it would cut its massive content budget 3%, from $33 billion to $32 billion.

For media companies seeking to scale reach without pouring cash into production, acquisition has traditionally been an appealing alternative. But the recent slowdown in M&A activity among major industry players could signal hesitancy on that front, too. (As PwC notes in its midyear outlook, the 28% year-over-year increase in deal volume seen in 2022 is driven by a higher proportion of private equity investments than in previous reporting periods.)

On the other end of the spectrum, so-called niche OTT services are proliferating. Generally speaking, “niche” refers to content based on affinity such as genre, identity, and language.

Viewers note frustration with the lack of relevant options on mainstream platforms, despite their massive content budgets. DeShuna Spencer, founder and CEO of kweliTV (a streaming service that celebrates Black stories worldwide) told Streaming Media that “relying on the algorithm… was very frustrating to me because I couldn’t see the stories I wanted to see.”

Demographics also factor into the rise of niche OTT; among U.S. Latinx households, 70% are interested in Spanish-language content and 38% now rely exclusively on OTT in lieu of pay TV. On July 21, TelevisaUnivision announced the launch of ViX+, the self-described “first large-scale global streaming service created specifically for the Spanish-speaking world,” on DISH TV and SLING TV; the service was already available on Amazon Prime Video, Roku, and LG.

Looking back, Netflix’s content spend has served it well. Despite losing almost 1 million subscribers in Q2, it has more subscribers than any SVOD service globally — outranking rivals Disney+, Hulu, Amazon Prime Video, Apple TV+, and HBO Max. That could be changing. Despite a record $200 million production budget for Gray Man, the Netflix original film underperformed in the first three days compared to recent, lower-budget predecessors Red Notice and Don’t Look Up.

As The New York Times reminds us:

In the end, though, Netflix’s success will most likely come down to how well it spends its $17 billion content budget.

That’s true of any streaming service, regardless of budget.

In this market, executives need to consider new strategies to fully monetize the content they offer. Understanding how factors like audience, distributor, and pricing impact value are crucial, SymphonyAI Media CEO Mark Moeder recently noted in Streaming Media. Fortunately for companies without Netflix’s deep pockets and deep data expertise, data intelligence tools are more accessible than ever.

(3) Licensing agreements are revamped

Executives negotiate new deals and distribution strategies

Netflix will need to renegotiate terms for licensed content distributed on its AVOD tier. Chief content officer Ted Sarandos’ comment second quarter earnings call drew scrutiny on the matter:

If we launched the product today, members in the ad-tier would have a great experience. We will clear some content but certainly not all of it but don’t think it’s a material holdback for the business.

About 40% of Netflix’s library is licensed. Since the agreement terms that govern distribution are not disclosed, the public has been left guessing: just how much content will be withheld from Netflix’s AVOD tier if negotiations stall or fail?

It’s not out of the ordinary for contracts to expire without renewal, but that hasn’t stopped viewers from reading into the timing of popular show departures like CBS’s NCIS (streaming on Paramount+).

Existing agreements that don’t explicitly address advertising rights leave revenue shares up for renegotiation for Netflix and its distribution partners. Titles that are already available on studios’ own AVOD services could be perceived as a conflict of interest.

Sarandos confirmed that Netflix is already in talks with studios; the Wall Street Journal reports that Warner Bros., Universal and Sony Pictures are among them — and flags another sticking point.

Typically, Netflix shares very little data about how many people watch the service. Studio executives have long complained about the lack of transparency, arguing that it puts them at a disadvantage in negotiating fair value for content.

Time will tell where the deals land, but Netflix is also rumored to be exploring distribution options outside familiar paradigms completely. A Bloomberg article cited insider claims that the company is considering broadcast syndication and theatrical release. That would be a major departure from anything the OTT industry has seen.

Indeed the lines are blurring between licensors and licensees, studios and streaming services, SVOD and AVOD. That makes for extremely complex revenue calculations.

Executives should be careful not to overlook the value of data when negotiating licensing agreements. If Netflix holds its own data close to the vest, it’s with good reason. Understanding how factors like pricing, content affinity, and viewer behavior all factor into revenue is critical to accurately measuring and monetizing content value. Without the data, how can anyone know for sure what it’s worth?

The bottom line

Executives perk up as Netflix reverses a long-held course

Streaming services, consumers, and brands are preparing for what could be an economically challenging year ahead. The market is tough, unpredictable, and crowded with competing SVOD, AVOD, FAST, and other OTT services.

In this environment, three priorities top the executive agenda.

  1. Diversify revenue
  2. Monetize content
  3. Negotiate to win

Executives will be making numerous, rapid, high-stakes decisions in the months ahead. Those with well-managed data and the tools to analyze it should expect to make the best ones possible to protect their revenue.