The news that Netflix is teaming up with Epix to bolster its online catalog has generally gotten good reception today, with Netflix stock up 8 percent and analysts like J.P. Morgan’s Imran Khan giving the deal a thumbs up. However, there are always dissenters, and in this case, it’s UBS analysts Brian P. Fitzgerald and Brian J. Pitz. The duo published a note today that called the deal “expensive” and wondered whether Netflix will have enough cash to strike or renew other important deals for streaming content.
Netflix and Epix haven’t publicly stated how much money is going to change hands, but the LA Times reported yesterday that the five-year deal is worth “close to $1 billion.” That’s a lot of money, Fitzgerald and Pitz cautioned, especially given the fact that typical pay TV deals go for $200 to $300 million. Netflix also agreed to a 90-day window, which could further reduce the value proposition.
Netflix founder and CEO Reed Hastings has made no secret of his plans to aggressively invest in more streaming content, but the big question raised by Fitzgerald and Pitz is: How much is too much? The company spent $67 million on online content in 2009. It already significant stepped up its online investments this year, spending a total of $107 million in the first half of 2010 alone. Add another $200 million per year to this, and there might not be much left, the duo cautions.
One content partner they’re particularly concerned about is Starz, which has long been the major supplier for mainstream Hollywod fare to Netflix. The deal could be up for renewal as early as next year, and chances are that Starz is now going to want at least as much money as Epix. However, losing Starz would mean that Netflix wouldn’t be able to stream movies from Disney, Warner Bros. (TWX) and others anymore.
Of course, it’s all but certain that Starz would push for more money anyway. Access to the network’s content is currently estimated to cost Netflix $25 to $30 million per year, but those rates were negotiated in 2008. Starz has since been able to secure Disney rights until 2015, and Netflix has seen a significant uptake in both online use and overall subscriber numbers. Adding Epix to the picture could actually be Hastings way of saying: We do have other options, so don’t ask for too much.
So how does Epix compare to Starz? Netflix currently offers online access to some 1,100 more than 2500 Starz titles, which is far less than the originally announced 2500. Epix on the other hand plans to make more than 3,000 titles available online this year, and a Netflix spokesperson confirmed that his company will have access to the entire Epix catalog. He also added that some of these titles will be available in HD “over time.”
It’s also worth pointing to Netflix’s most recent earnings call. Seeking Alpha quotes Hastings saying that the DVD shipment growth has been “less than we thought,” adding: “So, that would imply the peak would be here earlier than we had thought.” In essence, this means that Netflix’ transition to a predominantly online operating service is coming quicker than even the company had anticipated.
Add to that the fact that Netflix could face up to $50 million in additional costs per year through an upcoming Postal Service rate increase alone, and spending $200 million on online content per year that you won’t have to ship to consumers may not sound all that crazy anymore.
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