In the 100 years since the major film studios first settled in Hollywood, audiences have never demanded more video than they do today. In the first quarter of 2014, Americans(1) watched an average of 163 hours of video content per month – 17 hours more than in Q1 2007, the year the Apple introduced the iPhone and Netflix unveiled its streaming service. Yet, despite the proliferation of content, consumption and access, the annual value of the video entertainment ecosystem has fallen in six of the following seven years.
By 2013, American household spending on non-linear recorded video had declined by nearly $5B (18%) – enough to eradicate more than a decade of growth in a category three times the size of the box office. Though the remainder, a still hefty $22B, best represents the consumer spend available to the media industry, it actually obscures the full extent of losses. After all, the US adds nearly 1M new homes a year (with the total up 43% since 1980). If we evaluate spend on a per household basis – a more accurate reflection of industry’s ability to monetize its products – the drop is even more severe. Last year, the average household spent only $183 on recorded video entertainment –$52 less than in 2006, representing a retreat to pre-Y2K levels.
When taking into account inflation (which is more reflective of the media industry’s ability to compete for disposable income), national spend has fallen 32% ($10B) – with the average household spending 36% less (roughly 103 inflation adjusted 2013 dollars) than they did in 2004. Though the death of physical video rentals is the most common explanation for declining consumer spend (and the most obvious), the drop in physical media sales have had a far more profound effect overall (though their 64% and 66% declines are comparable): since 2004, the average US household has reduced physical media rentals by $58 per year, but its purchases by $120.
This reduction is so great that the average home spends less today than they did twenty years ago. The significance of this reversion is hard to overemphasize. In the early 1990s, only 4 in 5 homes had the equipment necessary to watch home video. Today, the average household has nearly a dozen such pieces of equipment, as well as immediate access to tens of thousands of hours of content – no pickup or drop-off required.
There are several possible drivers behind declining spend: digital piracy, the (potential) oversupply of TV and film content, or increasing spend on video games and apps. However, the simultaneous rise in video consumption suggests a significant commoditization of video content in the consumer’s mind. However, the most important may be the rise and commoditizing effect of ‘All You Can Eat’ services such as Netflix(2) and Amazon Instant Video.
Though it’s often praised by both consumers and content owners, the core premise of Netflix’s OTT service is rooted in the commoditization of content. Netflix subscribes aren’t expected to sign up or search for an individual (licensed) title, but for ‘entertainment’. Which specific TV show or film that meets that need isn’t critical so long as it fits the desire to be entertained. Indeed, even the most fanatic movie fan would likely struggle to list which (or how many) of their favorites were on Netflix. When a user does look up specific title on Netflix’s streaming service, the service will provide it whenever possible – but its goal is to pre-empt that behavior. In fact, its success doing so may be key to its ability to manage licensing costs.
This disposition carries over to pricing. A year ago, Netflix announced its subscribers watched more than 4 billion hours in the first quarter – equivalent to more than 30 hours a household. At only $7.99, this represents a deep discount to other entertainment options, including video rentals, purchases or cable TV. Netflix’s online pricing is also largely indifferent to consumption. In its DVD model, Netflix’s pricing scales with consumption(3): one DVD at a time is $9.99/month, two is $11.99, three is $15.99 and so on until one reaches $43.99 for eight (with Blu-ray costing extra). The reason for this was simple: as consumption increased, Netflix needed to buy more disc inventory (which thus increased content owner revenue). Netflix’s online service does have tiers based on the number of simultaneous streams and bitrate ($7.99 for one SD stream, $8.99 for two in HD, and $11.99 for four in HD). However, these tiers are more about Netflix optimizing revenue than it is paying content providers: Netflix (typically) incurs only additional bandwidth costs to support increased consumption per account, rather than additional licensing fees. Amazon’s pricing may be even more commoditizing – as it treats Hollywood entertainment as an added (and essentially free) benefit for Prime customers. Video is a loss leader, not a business.
These ‘All You Can Eat’ models has also significantly undercut (if not destroyed) the value of owned content. Growing up, my parents must have purchased 80% of the Disney animated library (better get it before it goes back into the Disney Vault, anyone?). Today, that same behavior would seem wasteful. Why buy Dumbo for $24.99 (even if it comes with UltraViolet/digital download) when that same movie (and tens of thousands of others – including much of Disney’s animated library) can be watched on Netflix for $7.99? Come 2016, the entire Disney back catalogue, as well as films from Pixar, Marvel and Lucasfilm will also be available on the service. In exchange, Disney will reportedly receive $200-300M for this (exclusive) deal. However, this works out to only $1.70-2.54 per household per year.
Some will argue that OTT-led reductions in spend represents value lost by channel partners (i.e. DVD manufacturers, retailers), rather than content producers/owners. But this simply isn’t the case on either a revenue or profitability basis. Furthermore, these value chain/cost arguments ignore the end-of-the-day fact that consumers have dramatically reduced the amount they’re willing to spend on a ‘unit of entertainment’ (be it film or TV). What’s more, these per-unit savings have not translated into additional purchase volumes – even though total consumption has increased.
Of course, home video isn’t the only way consumer demand for video entertainment is satiated or monetized. The Silver Screen also fights for consumer attention and spend, as does Pay TV. What’s more, each of these channels have continually expanded upon and improved their offerings: Since 1980, the number of theatrically released films has grown from only 125 a year to nearly 700 and the number of cable channels increased from less than five to nearly 200.
When added in, household spend is down ‘only’ 18% or $148/year in real terms (with PayTV’s share of spend growing from 37% to 61% since 1980), but the decline nevertheless persists: inflation adjusted Pay TV prices have been largely stagnant since 2006 (even though it doesn’t feel like it) and per capita box office sales have been falling since 2002. However, considering only end consumer spend misses one more key component in the video ecosystem: advertising.
Advertising represents a critical revenue stream for the content industry, generating roughly $87 for every $100 in household spend on Pay TV service. When this value is included, a household’s “worth” has declined by “only” $119 since 2004, rather than $149. Yet, this same category represents the industry’s second largest challenge. While Netflix has commoditized the value of entertainment to the consumer, changing viewing habits have depressed the value of a video “eyeball” to advertisers. Time-shifted ads (i.e. those playing on DVR, TV Everywhere or VOD programming) typically run at significant discounts to their live counterparts – and video ads running on web-only properties such as CollegeHumor, Crackle and Twitch secure only a fraction of TV CPMs.
Though there’s a widespread belief this imbalance will be corrected, the promise of C3/7 ratings and “hyper-targeted” ads has yet to halt the value erosion (despite the scope and scale of Google’s user database, YouTube grossed less than 25 cents in advertising for every hour of content watched in the United States last year)(4). Consumers may be watching more than ever before, but they’re also cannibalizing high-value consumption for low – and this trend will only continue. Lean, digitally-focused studios such as Maker, Revision3 and CollegeHumor may find today’s economic environment viable, but much of Hollywood will find itself going hungry.
In total, the 110M homes (in 2004) have reduced their annual value (in 2013 dollars) by $13.1B ($16.3B in consumer spending) when it comes to consuming video media. However, the US has added roughly 8M new homes over this same period, which generated an incremental $8.6B in 2013 ($5.4B in consumer spending), so the net effect is roughly $4.5B lost in a $129B ecosystem.
That end result may cause some to shrug, but the implications are profound:
- Roughly a decade of ecosystem-wide growth has been lost, even after accounting for household growth
- The average home today spends less on video entertainment (including Pay TV) than they did in 1998 – even though their consumption has grown considerably
- The value of consumer rentals and purchases, which are critical to profitability for almost all content owners, has eroded by nearly a third. Even when including the box office (thus capturing all direct consumer spend), value is down 25%
In addition, competition for this value has increased immensely over the past decade and a half:
The confluence of these trends makes for a complex and seemingly paradoxical operating environment
- Consumers are consuming more media content than ever before, but the media industry’s ability to monetize this consumption continues to deteriorate
- The proliferation of distributors has made “content king”, but for the vast majority of content owners, their output is now a commodity
- An OTT service lives or dies by its library, but the wealth of licensable content means that it’s not too difficult to build out a tablestakes offering
So, if the ecosystem overall is becoming less lucrative – what’s a content creator, owner or player to do? “De-commoditization” isn’t likely. OTT licensing deals are often 4-6 years long (Disney’s Netflix deal reportedly runs through 2020) and even when they’re renegotiated, SVOD services – such as Hulu, Yahoo and Amazon – will continue to give content away for or near-‘free’. OTT consumption has also become critical to a television show’s linear success (see: Breaking Bad, Walking Dead), which means increasing prices or limiting availability (e.g. no SVOD) would likely have an immediate negative effect on profits. Furthermore, the amount of available content means that even a concerted effort from a few leading studios/distributors would likely be insufficient (and platform oriented studios would likely be too afraidthat higher prices would reduce audience sizes). As result, the content industry needs to find ways to scale-down and de-risk production, drive title-specific home video consumption and establish end-to-end/multi-window views of their audiences.
Most importantly, however, Hollywood must find new ways to engage story lovers. This means more than just repurposing content for a mobile environment, creating “snackable” mobisodes or adding a third dimension. New offerings must be created and invested in. Though the medium faces its own challenges, video gaming offers Tinseltown a logical, underutilized and multi-billion dollar opportunity to extend their storytelling skillset. Virtual reality products, such as Oculus Rift, are particularly promising. A number of start-ups are already looking at ways to use mobile device technology, such as light sensors and gyroscopes, to enrich and fundamentally rethink video storytelling – not just to offer a ‘second screen’.
It’s been said that if Shakespeare were alive today, he’d write for TV. Hollywood needs to ask itself ‘what would he be writing for tomorrow?’