Netflix (NFLX) is the world's top provider of streaming movies and television, with 193 million paid subscribers in more than 190 countries. Netflix is changing the television industry and leads competitors such as Hulu, Disney+, Amazon Prime Video and HBO.

Online entertainment companies typically rely on advertising or a subscription business model, or some combination thereof, to support their operations. For example, Hulu's basic plan combines advertising with subscription fees, though customers can also pay more for ad-free viewing. Netflix has chosen a business model that relies solely on subscription revenue. It offers three tiers of pricing that gives customers access to exclusive and non-exclusive TV shows and movies which the company has either produced itself or licensed from the content owner.

Fees collected from subscribers, coupled with capital raising through new debt issues, allow Netflix to invest in content, either through in-house production or license agreements with content providers.

Key Takeaways

  • Netflix is the top entertainment streaming service in the world with 193 million paying subscribers.
  • Netflix is constantly negotiating new licensing deals with TV shows, networks and filmmakers.
  • At the end of 2019, Netflix had $14.7 billion worth of licensed content on its books.
  • Content that Netflix produced itself was worth $9.8 billion.

How Netflix Finances Its Content

To keep growing its subscriber base, Netflix is constantly negotiating new licensing deals with TV shows, networks and film producers, or investing in its own content production. Licensing content involves obtaining rights from the owners of a TV show or movie to stream the content through a service such as Netflix. A licensing agreement is established between the content owners and Netflix. Each agreement varies based upon the needs of both parties.

For example, the owner of a TV show could agree to allow Netflix to stream all seasons of its show for one, three or five years. The licensing agreement may limit Netflix to, or exclude it from, specified geographies. A British crime show might be available for online distribution everywhere globally except the U.K., the producer's home market. When the licensing agreement ends, both parties can negotiate a renewal, or Netflix could drop the show from its library if viewer interest doesn't warrant the cost.

A content owner may license programming to multiple streaming platforms, such as Hulu or Amazon Prime Video, making the licensing agreements between parties non-exclusive. Licensing agreements that are non-exclusive are generally less expensive to obtain because the non-exclusivity diminishes the content's value.

As competition continues to saturate the market, streaming service providers recognize the importance of exclusive content. Under an exclusive licensing agreement, the streaming distribution channel (sometimes referred to as a distribution window) is reserved for a single platform. Agreements can be for a set period or into perpetuity.

Exclusive licensing agreements are far more expensive compared with non-exclusive agreements, though they have the potential to drive greater subscriber numbers over time.

The Cost of the Content Business

Securing licensing agreements is one of the biggest expenses for Netflix. At the end of 2019, Netflix had $24.5 billion of content assets on its balance sheet, up from $20.1 billion the year before.

Of this, licensed content accounted for $14.7 billion in 2019 and $14.08 billion in 2018. The company is devoting more of its financial resources to developing its own TV programs and film. It had $9.8 billion in produced content in 2019, up from $6 billion in 2018.

$24.5 billion

The value of content Netflix held on its books at the end of 2019.

Examples of licensed content include second-run movies and shows such as Shameless from Showtime, How to Get Away with Murder from ABC, The Office from Universal and The Godfather from Paramount. Examples of Netflix-branded originals that are nonetheless licensed content include House of Cards from MRC, Orange is the New Black from Lionsgate and The Crown from Sony. Movies and shows that Neflix produced and owns include Stranger Things, Mind Hunter and The Irishman.

Netflix uses consumer data mining to determine which content viewers pay to see and relies heavily on this information to determine the total cost of each licensing agreement. The data is compiled to determine the expected hours of viewing each TV show or movie generates over the course of a licensing agreement—establishing a cost per hour viewed. It compares this metric to similar content arrangements, and it bases final pricing on exclusivity, as well as the time frame of the contract.