CBS' Ad-Free All Access Shows the Value of Netflix

By Markets Fool.com


Image source: CBS.

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If you hate watching ads, CBS (NYSE: CBS) has a deal for you. For $9.99 per month, you can watch most of the content on its All Access service commercial-free. (It still requires you to sit through ads during live broadcasts.) The $4 extra per month over its ad-supported version directly offsets the ad revenue CBS is missing out on, but it will limit its ability to grow revenue per user.

But CBS' new commercial-free offer is priced exactly the same as Netflix (NASDAQ: NFLX). And I'm willing to bet the vast majority of consumers would prefer Netflix over CBS All Access at the same price. That just shows the value Netflix offers its subscribers. At $10 per month, few other services can come close to offering the same value.

The power of scale

There's no television network that spends as much as Netflix on content. The company expects to spend $6 billion on a cash basis on content this year. For reference, CBS spends about $3 billion per year for programming across its broadcast and cable networks (including Showtime) as well as its radio stations.

CBS certainly benefits from scale with millions of viewers of its broadcast television network. In fact, it generates more revenue than Netflix. But where Netflix grew revenue 26% through the first six months of 2016, CBS' revenue grew just 6%.

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Netflix is eyeing much more in scale. It believes that it can attract 60 million to 90 million subscribers in the U.S. alone in the long term. And it's still in the early days of its international growth, having just expanded to 130 new countries at the beginning of the year. It's that potential for scale that's fueling Netflix's content spending.

Netflix's potential scale also allows it to charge less than its competitors. With over 83 million subscribers, Netflix is able to generate significant revenue from its monthly fees. While it's not quite enough to cover its huge content expenses and all of its other operating expenses, Netflix is investing in its growth. If and when it reaches the grand scale its management envisions, it will be producing significant cash flows.

But is Netflix leaving money on the table right now?

There are certainly people willing to pay $9.99 for ad-free CBS All Access despite it offering less value than Netflix. On the flip side, there are people willing to pay more for Netflix.

A recent survey from Digitalsmiths found 71% of respondents willing to spend at least $2 more per month for Netflix. The other 29%, however, said they wouldn't pay a penny more.

Netflix's latest round of price increases didn't go over as well as expected. Management said increased churn during the second quarter led it to miss its forecast for the quarter. It was expecting to add 2.5 million new subscribers during the quarter, but ended up only adding 1.7 million.

But the percentage of subscribers leaving was far less than what was indicated by surveys before the price increase took effect. A UBS survey in April found 41% of respondents unwilling to accept a price increase from Netflix. It's clear from Netflix's results that not nearly that many ditched the service.

Theoretically, Netflix could make another price increase in the near future and not lose out on many more subscribers. Considering the market's reaction to the poor results during the second quarter, however, it's likely to hold off on that, focusing instead on growing the subscriber base as large as possible.

$10 per month makes Netflix a steal compared to other over-the-top services. With Netflix's growing content budget, it's only going to get better for consumers.

While it doesn't yet generate the revenue to cover all of its operating expenses and its huge content bill, the market and management are focused on subscriber growth right now. With the amount of value Netflix is able to provide, that subscriber growth ought to continue coming in as more people opt for streaming video services. The introduction of ad-free CBS All Access for the same price as Netflix only highlights the value Netflix offers.

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Adam Levy has no position in any stocks mentioned. The Motley Fool owns shares of and recommends Netflix. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.