In a recent episode of "Let's Go to the Comments," or whatever you want to call it, the camera looks down as a man opens a bathroom drawer to show off his cologne collection, but never mind that. The real stars of the 56-second production, captured inadvertently in the background, are his wayward, unruly toes. We freeze on a close up of them as the music stirs and the comments appear one by one, sung in a country twang: "Do they make Invisalign for toes?" One toe must have Covid, because "they are all social distancing." "Bros toes are throwing gang signs." "None of the little piggies stayed home."
This isn't a Netflix show, you probably guessed. It's USG, or user generated content, a term used with a whiff of dread these days by show business analysts. In this case, call it USUSGOTJ, or user satires of user-generated content with outsourced toe jokes. But either way, there are no large production budgets or hit risk, only a revenue share for videos that work on social media. There are countless variations on the genre. In one, there's no music, just a woman in the foreground battling wheezy, paralyzing laughter to read comments about, for example, an ostrich inexplicably wearing a sweater. "We have the same posture," she manages, just barely. She has 2.5 million followers. In live television or streaming, numbers that large signify rare hits.
Does regular show business even still work? Netflix stock was recently down 30% for the year. Financial results presented Tuesday reinforced investor worries. A $17 billion show budget bought only a 2% rise in viewing hours in the first half. Management recently announced sweeping layoffs. Now it's taking down guidance for its new advertising business. If the company that all of Old Hollywood is trying to be isn't shining, who can?
This is a little unfair to Netflix. Wall Street puts its free cash flow at more than $12 billion this year, rising to $21 billion by the end of the decade. That beats Walt Disney, and puts Netflix among the top three dozen or so U.S. companies in any industry. Netflix's 31% operating margin is more than 10 points higher than Disney's, even counting those lucrative theme parks. Netflix's profitability recalls the golden age of cable, at a time when legacy operators are replacing cable subscriptions with streaming ones at single-digit margins.
Netflix can outspend legacy media on content, although there's some nuance here that cuts to the heart of the choice facing investors. Include $1 billion or so for Netflix's skimpy sports offerings, and its content budget is around $18 billion. That's dwarfed by nearly $25 billion for Comcast and $35 billion for Disney. But that money includes theater releases, which bring high distribution costs and revenue-sharing with cinemas. And it includes vast sums for sports, where leagues have Hollywood over a barrel. Networks must spend ruinously to keep the games on so remaining cable subscribers don't bolt.
For just streaming content, Disney spends close to $10 billion across all platforms, and Comcast's Peacock, around $4 billion. Netflix spends vastly more, and it does so disproportionately overseas, where content budgets go further. Disney's bastion remains its parks. Comcast's is cable broadband, although that's under threat from telecom fiber.
The new tie-up of Paramount and Warner Bros. by Skydance compares well on brute force, at first. It will spend perhaps $31 billion on content. But $9 billion of this will go for sports. After subtracting for traditional TV and theater releases, streaming content could cost a Disney-like $9 billion. That funds multiple platforms, including HBO Max, Paramount+, and PlutoTV. Netflix has only Netflix. Skydance CEO David Ellison has promised $6 billion in yearly cost savings within three years. Let's hope he finds it. With $80 billion in long-term debt after the deal, he'll be looking at more than $6 billion in yearly interest payments.
Netflix so far is showing signs of maturation, but not decline. When growth investors sell, the old saying goes, they sell to value investors. Is Netflix cheap enough yet at 18 times earnings, versus 21 times for the S&P 500? I'm a bad guesser at such things, and not even reliably bad, which would at least be useful as a contrarian indicator. But I'd be inclined to wait for good news before buying.
We've looked at Old Hollywood, which has it worse, but consider Big Tech, which does show business as a side perk for bundled-services subscribers. Apple has a total content budget of close to $10 billion, and cleans up on awards. Amazon.com spends more than $15 billion, and has a growing appetite for sports.
That brings us to YouTube, which spends around $18 billion -- on revenue sharing, not upfront checks. I'm more than a half-century old, so I still occasionally watch scripted shows and movies on streaming. My teenage daughter dabbles in dramedies but would rather be Instagramming. My preteen son will sit through an episode of S.W.A.T. (I never claimed to be a good parent), but he overwhelmingly prefers YouTube vids of teen boys with alpaca haircuts babbling breathlessly about their videogame exploits.
Don't worry. I strictly limit screen time, and force both kids into suffocating sports schedules. That's a little show I call Reliving Childhood, With Better Ball Handling, and my content budget is Netflixian. But YouTube still enters my home via a Trojan Horse vulnerability -- Alphabet has convinced the school district that kids need tablets filled with its software. Then the principal wants to know why the boy was making diarrhea jokes he heard on YouTube, and I'm outraged to learn that he's getting them from a stranger instead of me.
Where was I? Wayward toes and show business. The model isn't dead, but powerful changes are afoot, and there is only so much viewer attention to go around. I'd rather be Netflix than anyone else in entertainment, unless that someone is Apple, Amazon, or Alphabet.
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