Netflix: State of the Union
Netflix is one of the most influential media platforms in the world, with an audience of over 500m viewers. Netflix has infiltrated every open market in the world and is available in 190 countries. The platform is only unavailable in China, Russia, Crimea, Syria, and North Korea. Despite their gargantuan reach, Netflix commands less than 10% of the TV viewing time in each market they are available. In the U.S., which remains their #1 market based on revenue, they captured only ~8% of TV viewing time last quarter.
In the first quarter of 2024, Netflix grew revenue 15% year over year to $9.4bn and they increased their paid memberships 16% year over year to 270m. In addition, Netflix generated $2.1bn in free cash flow this quarter and an impressive 25% Net Profit Margin. Netflix has produced impressive growth across the board with its industry-leading KPIs over the past few years and shows no sign of stopping.
The 500m viewers of the Netflix platform create a strong competitive advantage, allowing Netflix to drive a powerful top-of-funnel toward the content of their choice. The reach enables Netflix to foster fandom around its IP; recent examples include Squid Game, Lupin, and Society of the Snow. With an annual content budget of $17bn, and its half a billion in reach, they can influence global preferences and trends.
Nearly all fandom-worthy media is now accompanied by games; in fact, we often see a reverse trend of influence with video games being made into shows. Given this trend and the increased desire Millennials and Gen Zers have for interactive entertainment over passive entertainment, Netflix is investing heavily in games, having invested over $1bn to-date in the new division. The goal is to drive deeper hooks into their customer base, create a stickier product, and justify the regular Netflix price hikes.
Netflix has steadily hiked prices for all plans since 2016 while simultaneously cracking down on account sharing. Over that same timeframe, Netflix has increased paid memberships from 78 million to 270 million, representing 346% paid membership growth over the past eight years.
What Is Next for Netflix?
Netflix has stated it will focus on improving the monetization of its current user base rather than prioritize new user growth. Theodore Sarandos, Co-CEO, said on the Q1 earnings call, “why we focus on engagement is because we believe it's the single best indicator of customer satisfaction with our offering, and it is a leading indicator for retention and acquisition over time. So happy members watch more, they stick around longer… which all grows engagement, revenue and profit, our North Stars.” In order to increase engagement, they need to continue staying ahead of their members' insatiable desire for new content and deliver new experiences to attract more of their younger members’ time.
A secular headwind for Netflix is a diminishing interest from 15-44 year olds in the U.S. in watching TV. On average,15-44 year olds watch TV 2.0 hours a day, which is drastically lower than the 45+ year olds who watch 3.7 hours a day. Netflix knows that younger demographics are more demanding and they need to increase their offering options to retain younger users. Gaming is the clear option.
Netflix Gaming Today
A common theme that many investors chased in the second half of the 2010s was to find the “Netflix of Gaming.” Thus far, the only Netflix of Gaming is Netflix itself. Netflix announced in November of 2021 that they would officially be pushing into games and creating a games division. The games on Netflix would be accessible only through a Netflix subscription, eliminating ads, additional fees, and in-app purchases.
It is also important to note that when the service launched it had six games and was only available for adults: no kids content. Today, Netflix has a total of 93 games, 11 of which are tailored for young kids IP like Cocomelon, Teenage Mutant Ninja Turtles, Sonic, and other renowned IPs. It has been estimated that Netflix has invested ~$1bn into gaming content on the platform since the division's inception, and it appears to be paying off.
It is important to note that the majority of games on the platform are built by partners rather than in-house developers; at the end of 2023, 90 games were in development for the platform, with only 10 of those being built internally. We expect to see a similar external/internal ratio going forward.
Compared to 2022, games downloaded via the Netflix platform increased by 180%, and the platform drove over 81m downloads, which is up from 28.7m in 2022 and 5.2m in 2021. While 81m downloads are a lot, it is only 0.15% of the combined 55.6bn App Store and Play Store total game downloads in 2023.
Netflix is conducting a full-court gaming press on its internal platform while simultaneously pursuing the distribution of its IP in off-platform gaming environments. A prime example of this was their recent partnership with Roblox, creating a digital theme park called Nextworld where players can play games from some of Netflix’s popular IPs, such as, Stranger Things: Escape from Hawkins High, One Piece: East Blue Brawls and Rebel Moon: Outskirts Battles. This Roblox initiative is in line with their desire to reach younger audiences, who are less interested in passive entertainment than previous generations, where they are already spending time.
The Future of Netflix Gaming
Our Predictions:
- Netflix will invest over $1bn in gaming content alone in 2024
- Netflix will continue to expand its library of games, both in genres and sheer volume. We expect the total number of games on the platform to be >200 by the end of 2025
- Their partnership with Grand Theft Auto was a large driver of their success, we expect to see more iconic IP partners with the platform for distribution
- Netflix will incorporate ads into their games in 2025
- Netflix will activate in-app purchases (after success with ads) in 2025
- Netflix will drive 200m game downloads in 2024
Takeaway: We are bullish on Netflix’s ability to transition from a purely passive entertainment platform to one that also offers interactive entertainment, which will be a strategic differentiator for the company. They are the best-positioned streaming platform to pull off becoming a relevant player in the gaming ecosystem, commanding a strong position in the streaming wars with a 500m person audience. Their double-digit growth both in revenue and premium memberships is allowing them to explore other avenues to command their members’ time. In this effort, they have quickly expanded their gaming division and, as of 2023, have ~2.2m members playing games daily.
