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ACQUISITION AUDITION

Is Netflix’s best hope an acquisition by Microsoft?

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Underpromise and overdeliver appears to have worked this week for Netflix. Its share price is up 11% since July 19, when its second-quarter earnings report was released. Revenue growth slowed way down, but the company lost just 970,000 subscribers in the quarter, versus expectations for a drop of 2 million.

Is that what counts for good news now at Netflix?

As far back as 2019 and up until the first quarter of 2021, the streaming giant regularly logged year-over-year revenue growth between 24% and 30%. But in the last two quarters, revenue growth has plummeted to single digits, with the second quarter yielding just 8.6% growth and Netflix forecasting roughly 5% growth for its third quarter in 2022.

This fall from grace is all happening while Netflix continues to enjoy success related to its original programming. “Our biggest hits have all come out in the last 12 months,” Ted Sarandos, Netflix’s co-CEO, said on an earnings call with investors and analysts.

Squid Game and Stranger Things vs the competition

Despite titles like Squid Game, Stranger Things, and Bridgerton powering the company’s popularity with subscribers, increasing competition from the likes of Disney+, Apple TV+, and Amazon Prime Video has exposed some of Netflix’s weaknesses.

In the new landscape of premium streaming TV, merely offering on-demand content isn’t enough anymore. Disney has its theme parks, in-theater movie franchise business, toys, and myriad brand licensing deals; Apple has its hardware and software tie-ins; and Amazon is not only the leading e-commerce store, it’s also the cloud services provider of some of the biggest companies on Earth, including Netflix.

So while the streaming business is being crowded by tech giants with the ability to add ancillary value to its customers and stock holders, Netflix’s relative lack of diverse business operations has gradually transformed its profile from early tech innovator into a one-note business with an uncertain future.

A Microsoft and Netflix partnership makes sense beyond their new ad deal

Theme parks and computer platforms take many years to develop, so Netflix is unlikely to be able to quickly match the diversified revenue sources of its rivals. However, one quick path to such diversity could be accomplished through a major partnership, or, more likely, the acquisition of Netflix by a larger tech player.

That’s why the announcement of a deal with Microsoft to handle Netflix’s upcoming ad-supported offering has stoked speculation that the collaboration is a precursor to an acquisition. Microsoft could offer everything Netflix needs to survive against its challengers: a robust cloud architecture in Azure, and a widely used desktop and mobile software platform in Windows.

“One of the reasons that we’re partnering with Microsoft, [is that] there’s a bunch of fundamentals. They’ve got a technical capacity, which is complementary to ours, a go-to-market capacity, which we need to leverage,” Greg Peters, Netflix’s chief operating officer, said during the earnings call. “We saw a high degree of strategic alignment in their interest in innovating in the space and really working with us over the next several years.”

Additionally, Microsoft’s long-term interest in gaming entertainment dovetails perfectly with Netflix’s own gaming initiatives. And with Microsoft near to completing its deal to acquire Activision Blizzard for $68.7 billion, moving into the Microsoft family would give Netflix a rapid entryway into the metaverse.

Who else is big enough to buy Netflix?

The recent correction in tech stocks helped bring a play for Netflix into the realm of possibility.

“You go back a year ago with [Netflix’s] valuation, no one would ever think they’re going to be acquired just because it cost so much,” says Jon Christian, founder of tech consulting firm OnPrem. “They’re still not cheap, the valuation would be huge. So it would have to be a giant that would even entertain [acquiring Netflix].”

Meanwhile, he notes, “Microsoft is out there on the sideline. They haven’t done anything [major in streaming TV]. So when you look at acquisition targets, that’s interesting.”

Assuming a major Hollywood studio doesn’t step in as a suitor, the other tech giant that has the cash, cloud platform, and tech to boost Netflix’s fortunes is Google. But its recent pullback from original content on its YouTube platform indicates that it may be more interested in remaining focused on user-generated content and the data it produces.

The acquisition of Netflix seems more like a when than an if 

Marketing historians will note a peculiar branding connection Microsoft and Netflix share. Microsoft’s old slogan, “Be What’s Next” (since abandoned), sounds a lot like Netflix’s catchphrase, “See What’s Next.” So, at least in marketing terms, a pairing of the two brands seems almost meant to be.

Netflix’s leadership is, for now, maintaining the company’s profile as an independent.

“We’ve done other stuff with Microsoft. We continue to do work with them on sort of go-to-market partnerships,” Peters said on the earnings call. “We’ll look for those opportunities as they exist with Microsoft, and with other companies as well.”

Meanwhile, investors seem to be pinning their hopes on Netflix’s plan to mirror Disney+ and roll out an advertiser-supported, lower cost tier, which will arrive in early 2023 and could restore some of the company’s previous growth.

Recent Nielsen data showed that Netflix still commands the most viewing time versus its streaming competitors at 1.33 trillion minutes from Sept. 20, 2021, to May 8, 2022. Netflix is predicting that it will add about 1 million new subscribers in its third quarter, but that’s far below the over 8 million subscribers (pdf) it added in the last quarter of 2019, just before the pandemic hit.

If Netflix’s sluggish subscriber and revenue growth continue, as the headwinds of rising competition increase, the company may have no choice but to seek shelter under the arm of a company that can help it truly compete in the new streaming landscape.

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