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Netflix the ‘New HBO’? Get Real

While both are focusing on high-value original episodic content, two companies have fundamental differences

Robin Wright

Even before Netflix’s historic 14 Emmy nominations, including nine for acclaimed series “House of Cards,” there’s been chatter that Netflix is “the new HBO.”

Well, no. If the suggestion is that Netflix is at parity with HBO in some way, that’s just not the case.

Netflix topper Reed Hastings loves to compare the two, hopeful that some of HBO’s brand equity rubs off. It’s true that both HBO and Netflix are in the market for high-value, original episodic programming. Indeed, HBO was outbid for “House of Cards” by Hastings and crew, who paid a reported $100 million for 26 episodes. And, copying HBO’s historic arc, Netflix is building on a legacy base of library movie titles by adding exclusive content.

But the companies are very different in their business structure, scale and go-to-market strategies. HBO is the more established player — and potentially has more to lose — while comparative upstart Netflix has more potential upside but its own set of uncertainties.

HBO has a studio model that lets it make money on the backend, while Netflix licenses content:

HBO owns and produces about 95% of the original programming carried on its channels. Netflix has said it doesn’t want to adopt the studio model, preferring to be a licensee of content. The studio model lets HBO recoup the investment in original programming through its 114 million subscribers in 65 countries worldwide, as well as via DVD sales. For example, HBO earns $2.6 million in license fees for a single episode of “Game of Thrones” in international territories, according to HBO.

By contrast, Netflix calls itself a “programmer” not a producer. It licensed streaming rights to “House of Cards” from producer Media Rights Capital. MRC, which owns the content, cut a deal with Sony Pictures Television to sell DVD and international TV rights covering non-Netflix countries.

HBO’s studio model does mean it potentially risks losing some of that upside on a flop (something Netflix isn’t exposed to). But not every show on the cable network has to be a hit or even attract a large audience, just as not everything Netflix puts in the queue has to set the world on fire.

HBO produces far more original programming than Netflix licenses:

This year Netflix will spend about $150 million on original programming (again, which it licenses) whereas HBO’s budget for originals is around $1 billion. Netflix expects spending on originals to increase, from about 5% of annual content acquisition costs to 10% to 15% over the next few years, content chief Ted Sarandos said at a recent investor conference.

Netflix’s 2013 lineup comprises six shows: “House of Cards,” Eli Roth’s “Hemlock Grove,” the revival of “Arrested Development,” “Orange is the New Black” from “Weeds” creator Jenji Kohan, “Derek” with Ricky Gervais and season two of “Lilyhammer.”

HBO’s current and recent series and shows are at least triple that. They include “True Blood,” “Game of Thrones,” “Boardwalk Empire,” “The Newsroom,” “Enlightened,” “Hard Knocks,” “Hello Ladies, “Family Tree,” “Getting On,” “Vice,” “Girls,” “Eastbound and Down,” “Veep,” “Real Time with Bill Maher,” “Real Sports with Bryant Gumbel” and “Treme,” plus miniseries “Parade’s End.” HBO also produces a broader scope of original programming that includes movies like “Behind the Candelabra,” around 30 docus per year and 16 scheduled boxing matches (not including pay per view events).

And if you want to talk Emmy nominations, Netflix’s rookie showing — impressive though it is — put it closer to Lifetime (12 nominations) than HBO, which garnered 108 nods, the most of any network this year.

HBO is a mature biz that throws off cash, while Netflix’s model is predicated on future subscriber growth:

In 2012, HBO raked in $1.5 billion in profit on more than $4.5 billion in revenue, according to SNL Kagan. Netflix posted net profit of $17 million with $3.6 billion in revenue (of which $1.1 billion was from the mail-by-DVD business).

The 40-year-old HBO is fully distributed in the U.S. through cable, satellite and telcos and has a significant international presence (73 million subscribers for HBO and Cinemax services).

Netflix is just getting started internationally, and the overseas investment is why it was essentially breakeven last year. But it means Netflix hasn’t had a ton of cash to acquire more exclusive content. Earlier this year, the company raised $500 million in debt, which it used to pay off $225 million in higher-interest notes with the rest for “capital expenditures, investments, working capital and potential acquisitions and strategic transactions.”

Now, with the licensing model, Netflix as of the end of March had $5.7 billion in long-term streaming content obligations, including via big deals like the one it has with Disney. To pay for that, Netflix is betting subscriber growth will continue at a healthy clip — while it maintains a low retail price point. But if those millions of hoped-for streamers do not materialize, the company will face a cash crunch.

For HBO, the question is whether it can continue to build or at least retain its subscriber base given its reliance on pay TV, if or when cord-cutting fever hits in a major way.

Netflix’s service is easier to buy than HBO’s channel, but direct-to-consumer model adds overhead:

Netflix has a lower barrier to entry to a consumer’s pocketbook: $8 per month, unlimited streaming, bring your own broadband and devices. HBO requires customers to have pay TV and charges in the neighborhood of $10 to $15 monthly.

But HBO and other traditional cable networks also don’t have costs associated with the direct-to-consumer distribution model, including huge call centers. Netflix has to maintain a large streaming-video infrastructure; most HBO viewing is still through traditional TV so it pays less per user on streaming costs for HBO Go. HBO works with its distributors, which not only take care of customer support and fulfillment but also help pay for marketing and promotion.

I don’t mean to suggest Netflix can’t continue to fund compelling and interesting shows — I hope it does. And Netflix absolutely deserves its time in the sun by proving it had the mettle to acquire Emmy-caliber content.

Hastings, in a post on his public Facebook page Thursday after the Emmy noms were announced, said, “Albania takes it up a notch” — a reference to Time Warner CEO Jeff Bewkes’ dig in a New York Times 2010 interview. Bewkes, asked about Netflix, had said, “It’s a little bit like, is the Albanian army going to take over the world? I don’t think so.”

Netflix is now at least, say, the Royal Air Force. The company could build its originals footprint in a bigger way, as long as it keeps growing the business. But the “Netflix is the new HBO” meme is off the mark.