Tuesday, December 28, 2010

The future of Digital Media: 4 Tiers, Consumers Lose

Much has been written recently about the future of digital content delivery, primarily via opposing camps discussing the unquestionable strength or impending crash of Netflix’s shares; both longs and shorts point to digital delivery of content as the catalyst behind future performance. A tipping point in content delivery is occurring, and the development of the next few years will impact the market as significantly as Netflix’s delivery model did over the past decade.

It will soon become easier for content creators to reach large pools of customers without going through separate distributors. In the past, middlemen such as Blockbuster or retailers were essential in bringing customers together, and Netflix’s success in becoming the major (and basically the only) player in this market over the past decade shows that, as of this moment, it is still very important. However, content creators should soon be able to bypass entities like Netflix if they choose to do so.

If future consumers want to watch media on mobile devices, a content creator needs only to write applications for iOS and Android (and maybe a few others) in order to be able to reach the majority of the market. If customers prefer watching on a computer, making content available through individual websites or aggregation hubs (like Hulu) is even easier. Delivering content for viewing on an actual television is where distributors (cable companies and Netflix) are currently most needed, but internet-enabled TVs are hitting the market and seem likely to become the industry standard in the near future. Then, content providers can reach a customer through a website or application.

Because of the ease of delivery, I see content providers working to gain greater control of content to increase revenue and deliver their best properties straight to consumers. I can see a scenario where four tiers of differing content, availability, pricing and legality exist.

Tier 1: Latest & Best Content, Owners as Distributors, Highest Prices

The Tier 1 offerings will be the studios’ best content delivered to consumers as directly as possible. (For example, a consumer uses an NBC-for-Andriod application to gain access to every episode of The Office). Consumers will have to go straight to the owners (via a website, mobile-device application, etc.) to get the latest films, TV episodes, or classics of either medium. They’ll also likely pay relatively high prices, as the studios have no reason to give away their best content, whether directly to consumers or to other distributors.

Tier 2: Limited but Broadly-Appealing Content, Distribution Partnerships, Medium Prices

Future Tier 2 distribution may look a lot like Hulu or Hulu Plus does today. Content owners may partner together to create some entities that aggregate content to allow less-discerning customers to easily access their content. These portals may simply tease customers with a few available episodes for free or allow a greater library for some cost, but ultimately, the purpose would likely be to point customers to the owner’s own purchasing/viewing platform.

Tier 3: Lots of Acceptable Content, Mass Distribution, Pricing Consumers Love

Tier 3 content providers will attempt to bridge the gap between their customers’ desires for cheap content and the content owners’ resistance to providing attractive properties. Netflix will likely own this sandbox for the foreseeable future, and their main battle may be negotiating with content owners to obtain enough content to keep subscribers from cancelling without having to pay an amount that will decrease margins. Netflix does seem to be comfortable in serving this niche, as Netflix’s own CEO, in open letter published on Seeking Alpha, wrote “…that at $7.99 per month, [Netflix] consumers don’t expect to have everything under the sun.” While a subscriber’s $8 will probably not buy much content from Tier 1 or Tier 2 distributors, subscribing will only remain attractive if content owners are charitable in providing some watchable content to the Tier 3 distributors.

Tier 4: Illegal, but Everything You Could Ever Want and More

While older people may not even be aware of it, almost any digital media ever created is easily available online. Consumers who are willing to ignore the law can easily stream or download pretty much anything. The availability beats anything that any company provides: movies are available while still in theatres, and episodes are uploaded the night they air. While this dark corner of the market may be relatively unimportant now, expensive prices from Tier 1 and Tier 2 providers and lackluster availability from Tier 3 may push more consumers, especially young ones, towards obtaining media through this medium.

Win, Lose, Draw

Content owners seem likely to win, as they will have the power to charge what they choose, whether selling directly to consumers or to third-party distributors.

Consumers seem likely to lose. Prices for media fell as Blockbuster put mom-and-pop rental stores out of business, and Netflix trumped Blockbuster by providing more content in a more efficient way for cheaper prices. Now, all-you-can-watch content seems likely to decline in quality and prices will increase for the most in-demand media.

The future for Netflix and other third-party distributors is less certain. If the best content is too expensive to be attractive, consumers will flock to cheaper content at Netflix. But Netflix will be at the mercy of content owners when negotiating the price and quality of content that they can redistribute. I personally think that the risk of owning shares at this point is not worth the potential reward, though as a consumer, I am rooting for their continued success.

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