Ad-supported Netflix could be around the corner

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Credit: Netflix

Around four years ago we speculated in GroupM's annual Interaction report that a single pre-roll ad ahead of a Netflix show would be among the most desirable items of advertising inventory. It could be targeted addressably as Netflix knows the logged-in account of each user (inference would take care of password sharing) and that, after a bit of harrumphing, the audience would learn to live with it—1 percent would desert in droves.

In the last couple of days there has been a certain brouhaha round Netflix running skippable program promos for Netflix Originals ahead of other selected content. Inevitably this leads to speculation about Netflix prepping its audience for the cherry-popping moment when ads come to the platform. The speculation ranges from the good ship Armageddon hoving into view, to thoughts that introducing ad revenue is the harbinger of a slowing growth narrative, to the anointing of the new challenger to Google, Facebook and Amazon.

An advantage of semi-retirement (I will be sure to let you know of the others as they become obvious) is that you can sit back a little and look for the less dramatic and more likely explanations. Here they are:

Netflix runs promos for programs because:

Program promotion works: The more you do it the more share of total viewing you accrue.

Program promotion for Netflix originals works even better: This is because it increases time spent with owned-and-operated content, which reduces the need to license third-party content at high cost; it increases the confidence of creators in working with the platform; and increases the instances of series renewal which creates value over extended periods.

The Netflix recommendation system is good but...: Its search system is clumsy and annoying, and like everything else in the world people don't know what they don't know and that makes program promotion a useful short-cut.

It's likely that the above is true even if Netflix were to consider developing an advertising revenue stream, so it's worth a moment to comment on that. Running ads ahead of content is hardly new but doing it with restraint newer than we might think. There's almost no show on Netflix that runs less than 30 minutes. There has never been an ad-supported medium that restricts itself to just one ad in that time period. It's an absurdly good value exchange in comparison with broadcast, cable, YouTube, Facebook and others. It could be argued that such a move will involve minimal pain for consumers while significantly increasing the volume of addressable inventory and restoring access to a significant number of high-value households "lost to advertisers" in the cord-cutting era.

In moments of dewy-eyed optimism I also think that the opportunity alongside similar offers from Amazon, Hulu, Sky Now, and the rest of the premium OTT world will lead us to a golden age of targeting and creativity in advertising that has become so evident in program making. Doesn't it just make intrinsic sense that one golden age should beget another?

So, what will actually happen?

Right now we have Hulu running an option game and overtly pricing ad-free versus ad-supported. Roughly half pay the premium and half don't. The great unknown is what percentage of those that do pay would defect if commercials were introduced. Of course, it would all depend on the ad load.

In the case of Netflix, the test could easily come the next time they need to raise the monthly price. The calculus will be simple enough: How many ads would you need to sell in order to forego a $1 per month price increase? Netflix has around 50 million U.S. subscribers, there are 120 million U.S. TV households, the U.S. TV ad market is worth around $70 billion. Clumsy math says Netflix would need to take a 0.85 percent share of the TV ad market to fund the the foregoing of a $1 per month price increase for all its U.S. users; churn is an unknown. It does not seem an implausible number even if Netflix represented just 10 percent of the viewing in subscriber households. It's likely incidentally that the first paid advertisers, if they come, will be promotions for movies and non-Netflix content from studios and networks. The ads will produce revenue but appear native to the user.

As a prospect this ranks as plausible rather than compelling. It may be more attractive in markets with lower per-capita income than the U.S. where penetration is low due to price and the PR optics around an ad-subsidized service are more easily manageable. So, maybe that's the answer, somewhere but probably not here, an ad-supported Netflix option maybe not be too far away.

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