Netflix Inc. is spending big money to produce or procure prestigious films, but executives seem to be rethinking their approach to Hollywood with an eye on getting an actual return on the investment.
released a somewhat lackluster earnings report Monday, adding fewer subscribers than Wall Street had expected for the video-on-demand company. While shares initially declined, they reversed course later in the after-hours session and rose to prices that would be an intraday record for Netflix, which has already been trading at all-time highs while gaining 10.7% in the past three months and 31.9% in the past year. The S&P 500 index
has gained 2.9% and 11.7% in those same time periods, for comparison.
Netflix has managed those gains despite concerns about free cash flow and debt as the company spends huge amounts on original content. Chief Executive Reed Hastings has seemed comfortable with the level of spending as Netflix tries to maintain the momentum that comes with being a pioneer in direct-to-consumer streaming video services.
But Hastings has apparently decided that one area of Netflix’s original-content business needs to start showing better results: In the company’s first-quarter earnings letter to shareholders, Hastings was quite frank about the company’s original films, while noting the recent hire of veteran studio executive Scott Stuber to run its movie business. The letter mentioned that Netflix has found success with Adam Sandler, whose original films have reportedly been streamed for more than 500 million hours, but also made a rare admission of a flop, “Crouching Tiger, Hidden Dragon: Sword of Destiny,” and said more bang is needed for Netflix’s bucks.
“Scott’s mandate is to increase both the portfolio and the percentage of films that delight many of our members relative to the film’s cost,” the letter read.
Netflix is putting huge bets on prestige films, such as reportedly spending about $90 million to produce the upcoming Will Smith movie “Bright.” But many theater chains refuse to show the films because Netflix demands the right to show them on its own streaming service at the same time, known as “day and date releases.” For example, according to the Hollywood Reporter, only about 10 to 15 IMAX theaters in the U.S. agreed to show the sequel to “Crouching Tiger, Hidden Dragon.”
Netflix’s stance drastically limits any revenue from box-office returns for its films, even though it is spending similarly to the big Hollywood studios that can reap hundreds of millions of dollars through the box office. Hastings used the earnings letter to make a plea to theater chains to change their ways.
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“Since our members are funding these films, they should be the first to see them. But we are also open to supporting the large theater chains, such as AMC and Regal in the U.S., if they want to offer our films, such as our upcoming Will Smith film ‘Bright,’ in theatres simultaneous to Netflix,” the letter read. “Let consumers choose.”
Unless consumers can convince theaters to run Netflix movies in the theater when they are also streaming on their televisions, the economics of making big-budget movies may never add up for Netflix. Netflix said it still expects to see about $2 billion in negative free cash flow this year, due to its big increased spending on original content, and plans to spend about $1 billion in 2017 to market its content.
It would have been nice to hear more from Hastings and other executives about how its movies can ever be profitable, if they think they can establish a truce with theater chains, or for more information on free cash flow and debt. Unfortunately, neither guest host of Netflix’s canned “investor call” asked specifically about these important issues.
If theater chains decline the offer to work with Netflix, the company’s new movie executive may have to dial back ambitions for big-budget original films. Or, at the very least, give investors a more complete explanation of the rationale behind spending Hollywood money on movies with no box-office return.