The Blockbuster moment for pay-TV operators is fast approaching
Vincent Stevens - Associate Partner
Irish Manipis - Senior Consultant
The rules of the media game are changing, so the identity of pay-TV providers must adapt and evolve
The winds of change are blowing for the pay-TV industry and they are moving fast. It is expected that worldwide pay-TV revenues will decline over the next five years largely due to lower cost and higher convenience content alternatives. Global pay-TV revenues will fall 11% over the next five years to $183 billion1. While pay-TV is still showing moderate growth in some emerging markets, they are on course to decline in the mid-term. Only a handful of pay-TV markets, such as Indonesia, Mexico, Vietnam, have seen double-digit annual subscriber growth over the last two years, with gains slowing over the last year. However, most of this growth is believed to have come from lower value subscriptions2.
Technology has exposed consumers to new entertainment experiences, storytellers and programmes. Customers are spoiled for choice, having the ability to receive content where and when they want while paying less for it, legally or illegally. With millions of households cutting their cords or ditching them fully, the pay-TV industry is struggling to stem the bleeding.
As Blockbuster failed to compete against the internet driven VOD disruption, the time has come for pay-TV providers to re-invent themselves against the likes of Netflix, YouTube or TikTok.
TV transformed: Trends that are shaking up the pay-TV industry
1. Change in video consumption habits
Though linear TV still dominates, media consumption is shifting towards on-demand and smaller screens. In recent years, on-demand viewing represented 42% of active viewing hours versus 58% for scheduled linear TV (global average). In 2010, on-demand viewing accounted for 30%3. Users value the autonomy to choose what they want to watch, when they want to watch. Younger generations are leading the biggest media behaviour changes, spending 37% of viewing time on mobile versus 10% for the older people. Around 55% of younger viewers take-up on short form content against 15% for older generations4.
Figure 1 - Pay-TV macro trends
2. New content formats (e.g. pro-amateur, TikTok) becoming mainstream
The rise of the smartphone and 4G has made new, direct-to-consumer, content platforms mainstream. The digital incumbents are the most popular platforms for online video, not pay-TV incumbents. 44% of polled consumers watch at least five videos online per day5. New content formats keep spawning, some at neck breaking speed. TikTok hits 500 million monthly active users just two years after launch. T-series, an Indian music label, has 140 million subscribers across its multi-channel YouTube network, becoming the most viewed YouTube channel since 2017.
Figure 2 - Overview of new content formats
3. Cord cutting pressures
It is well established that pay-TV penetration is under pressure in established fixed broadband and 4G prone countries. Often expensive, multichannel, linear and advertising fuelled pay-TV packages are gradually being replaced by cheaper on-demand advertising-light SVOD, AVOD or skinny bundles. Emerging markets, however, are not immune to this trend and places such as Malaysia, Philippines, South Africa, Venezuela and Peru, are also showing signs of slowdown indicating the global inertia of the media disruption.
In Asia, Singapore’s pay-TV incumbent suffered a decline in revenues due to a lower number of customers6, Thailand’s pay-TV incumbent saw its subscription revenues soften by 2.3% year-on-year and Malaysia’s pay-TV incumbent suffered a 3.7% year-on-year decline in subscription revenues.
4. Rise in content costs driven by blockbuster investments from OTT players
Disintermediation of the OTT value chain allows OTT players to go directly to the end consumer, bypassing the need to abide by traditional infrastructure intense distribution channels. With more competitors vying for attention from the same consumer, players are differentiating their offerings to survive. For OTT players like Netflix, Amazon and Hulu, their strategies continue to focus on beefing up their content catalogue – with a strong emphasis on original and local content. It’s a strategy that seems to be successful so far. With Netflix beating analyst estimates to add 29 million paid subscribers in 2018, a 33% y-o-y increase7, on the back of an $8 billion content spend8. Tech giants like Amazon and Hulu are also estimated to be spending $4.5 billion and $2.5 billion on content respectively7. Indonesian ride-hailing provider Go-Jek announcing entering the content business with VICE illustrates the remaining disruptive potential of the industry.
As a result, production budgets multiplied drastically in the past few years. Game of Thrones used to be produced at ~$3 million per episode in 2010, compared to a staggering $15 million recently. Amazon’s Lord of the Rings blockbuster is estimated to spend ~$20 million per episode this year9. It is a great time for content, less so for cable.
Costs for scripted content are not the only ones increasing, another major price hike is coming from sports licensing. For example, Facebook’s big leap into live sports, signing off a ~$257 million broadcast rights deal with the Premier League to broadcast live league games exclusively in Thailand, Vietnam and Cambodia.
Figure 3 - Evolution of production costs of super-premium dramas
5. SVoD players face pricing and scaling up challenges
In the quest to win subscribers, SVoD players have sparked a content arms race that is fast becoming a financial burden to them. Netflix’s 2018 reported results shows a 26% year-on-year subscriber growth, reaching 139 million subs10, however, they are still running a $3 billion negative free cash flow11. The scale versus profitability equation seems to have gotten lost or strategically deprioritized. While Netflix reports their investments are producing positive ROI, smaller SVOD players seem to be faring worse, with many high-profile services shutting down or struggling.
Figure 4 - News clippings on the sustainability of selected SVoD players
6. Rampant piracy poses monetisation challenges
Piracy is a looming threat that causes pay-TV operators to lose revenue. It has surpassed basic content theft to provide fierce competition against broadcasters and operators. Pirates use the benefits of the internet – speed, accessibility, convenience and anonymity – to bypass regulation and content rights. Globally, piracy hits yearly industry revenues by around $7 billion (4% of revenues), with Asia Pacific losing ~$1.6 billion (6% of revenues)12. In emerging markets, one can simply buy a whole content catalogue within an USB stick off the streets, while in developed markets, piracy becomes easier due to the abundant availability of set-top boxes, giving rise to signal piracy.
Figure 5 - Pay-TV revenues lost to piracy
7. Decline in TV advertising on an international scale
With eyeballs shifting to online platforms, advertising revenues are moving from TV to digital, adding to additional pressure on pay-TV and channels. In the US alone, TV advertisement spending is estimated to drop by 0.5% to $69.9 billion, as digital ad spending rises by 19% to $108 billion13 in 2018. However, TV advertising in emerging markets, where TV is considered as the only measurable and wide-reaching channel, is still growing in line with general GDP growth. The traditional media industry has yet to transition successfully to an online advertising driven content model.
8. Using analytics to differentiate user experience and ROI
Beyond content, the user experience has become a critical competitive differentiator. Earlier IPTV interfaces left many consumers with a challenging experience, including cumbersome content discovery and few or no interactivity features. A good user experience can drive retention and upselling through sticky content discovery, frictionless browsing, seamless multi-screen experience or receiving pro-active churn reduction offers.
Additionally, advanced analytics can help a content distributor to increase ROI through delivery of highly targeted, higher CPM advertising, increasing the return per content dollar invested through parametrizing content production.
Two-way communication between content provider and consumer opens the door for improved user experience and ROI.
Figure 6 - Examples of how Netflix and Sky use analytics to improve advertising ROI
9. Consolidation as a potential strategy
“To be successful, you either need scale that enables you to compete with the world you are heading into or really unique franchises that enable you to distinguish and build value off those unique strengths,” said 21st Century Fox Vice Chair Chase Carey about 5 months before the Disney acquisition14. Consolidation can mean merging pure-play pay-TV providers to gain greater scale or merging a telecommunications operator and a pay-TV provider to gain access to unique content.
One prominent example is Comcast’s successful bid to take over Sky15. The key advantages from this deal include the addition of Sky’s 27 million subscribers across Europe, access to Sky’s presence in digital media/ OTT entertainment, technological IP consolidation and greater scale in set-top box procurement. Brian Roberts of Comcast relayed with glee, an anecdote about visiting a Sky store in Westfield Shopping Centre in West London, where he saw a demonstration of the Sky Q kit. He was impressed by the user experience, and his gut instinct was to pursue the company16.
The emergence of such media titans would greatly influence the way consumers access content. With the pay-TV market looking set to decline, scale will become a critical driver, as it will become harder to grow subscriber share organically. The increased scale will allow pay-TV operators to gain more clout in content costs negotiation – hello variable contracts, goodbye minimum guarantees. An additional stronger control over fixed and wireless broadband networks could provide greater leverage against OTT – is saying goodbye to net neutrality on the horizon?
Strategic thrusts for the pay-TV operator of the future
Within this fast-changing environment, Delta Partners believes the pay-TV operator of the future must embrace four strategic thrusts.
Figure 7 - Strategic thrusts framework
1. Re-imagine the Pay-TV proposition
Despite the threat posed by SVOD & AVOD players, pay-TV operators can extend their survival by adopting incremental innovation and re-defining their core proposition. Among others: multiscreen capabilities; Anytime/Anywhere proposition; PAYG vs 24-month contracts; skinny bundle; advanced digital recording; and improved user interface/ experience. Making pay-TV less TV-centric is the first step to fending off OTT threats.
Figure 8 - Ways for pay-TV operators to enhance their pay-TV proposition
2. Place bets beyond traditional core
As a hedge against the current industry landscape, pay-TV operators should consider moving into natural adjacent industries. Though we are still in the early days of such diversification, most common adjacencies include advanced advertising, home security, automation and entertainment. While there may be many players exploring the Smart Home market, pay-TV operators have some key advantages:
- Already in the home – pay-TV operators have a central presence in the home via the set-top box. Additional functionalities can be built on top of it to transform it into a “smart” device.
- Customers prefer to deal with a single provider – pay-TV operators hold the billing relationship with and insights on the customer (to be able to target the right customers).
- Relevant experience in managing similar services – pay-TV operators are equipped to address the key issues in subscription management, device management and customer support.
- Relationships with advertisers and a supply of highly segmental info
Figure 9 - Potential bets for pay-TV operators to place beyond their traditional core
3. Become an efficient, analytics-centric future-proof media pipe
Within the mature pay-TV industry, it is essential for players to adopt an ROI state of mind. Using in-depth analytics, pay-TV operators can better understand their customer base, decide on marketing channels, determine which contracts need to be re-negotiated and identify the most effective technology.
Figure 10 - Methods for Pay-TV operators to become more efficient and future-proof
4. Evolve operating model
Pay-TV operators can consider new operating models to address the changing nature of the media landscape. To combat rising costs and to reap economies of scale, pay-TV operators can either collaborate with competitors or with players along the value chain. Among the strategic thrusts, adopting a new business model requires the most extensive efforts, including commercial due diligence, partner evaluation and financial modelling.
Figure 11 - Potential operating models for Pay-TV 2.0 operators
Pay-TV Operators need to revolutionise and prepare for the Blockbuster moment
The pay-TV industry is far from its former status quo. The traditional value chain is being shaken up and value is being re-distributed in the chain with new innovation and content formats arising every day. The pay-TV industry has not yet been the winner in this paradigm. For operators where the downward trends are already in force, action is top priority in order to protect revenues or diversify to hedge against the risks. For operators who are still enjoying growth, be wary and benefit from the time to prepare for the battle ahead.
No matter where you are in the pay-TV industry curve, there is no doubt that the Blockbuster moment is approaching fast, and you need to be ready when it arrives.
1 Digital TV Research – Forecast: Global pay-TV revenues to decline by 2023, subscriptions will riseç
2 Nagra Kudelski, MTM – The global pay-TV innovation landscape
3 Ericsson ConsumerLab, TV & Media, 2017
4 Nielsen Global digital landscape survey
5 Relevance – New report shows consumers prefer to watch content on Facebook vs YouTube
6 3Q 2018
7 CNBC – Netflix beats on subscriber growth, but misses slightly on revenue – stocks fall after hours
8 MoffettNathanson – Netflix spends more on content than anyone else on the internet
9 UBS Research – Production costs of super-premium dramas
10 The Guardian – Netflix adds 8.8 million subscribers as its stock falls over spending fears
11 Motley – Netflix hits 139 million subscribers, negative free cash flow reported
12 Nagra Kudelski, MTM – The global pay-TV innovation landscape
13 eMarketer – TV ad spending to drop by $1 Bn in 2018 as digital rises 19%
14 CNBC – Expect continued media consolidation, because scale matters (October 2018)
15 CNBC – Comcast outbids Fox in a $39 billion takeover of Sky (September 2018)
16 BBC – Why comcast wanted Sky so badly
© 2019 Delta Partners.