Will Netflix, Inc. (NFLX) Succeed Without Partners In Japan And China?

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Shares of Netflix, Inc. (NASDAQ:NFLX) have witnessed a tremendous bull run this year. The stock surged nearly 37% in the current year so far, though it lost 5.4% in 2014. While it outperformed the broader index in the current year, the stock underperformed last year.

In comparison, S&P 500 recorded an uptick of only 2.05% in the little over two-month period of the current year. The broader index also witnessed 11.4% uptick in the previous year. Now that Netflix, Inc. (NASDAQ:NFLX) has announced its plan to go it alone in China, will the stock continue to witness an uptick potential or will it struggle to hold on to the gains in the little over two-month period?

China Entry

There is no doubt that every company from the Western region of the world wants to get a share of the bustling activities in China. Therefore, it was quite natural that Netflix, Inc. (NASDAQ:NFLX) too wanted to enjoy its pound of flesh from the second biggest economy of the world. However, what surprised many industry experts and analysts’ was the decision to go it alone in China, where the establishment puts several conditions for foreign companies that don’t have local partners.

Most of the companies from the West preferred to have either joint venture or partnership with a Chinese company so that the domestic company could take care of all the regulatory and license issues by themselves. Netflix, Inc. (NASDAQ:NFLX)’s Chief Content Officer, Theodore Sarandos, said last week that a joint venture with local partners was difficult to manage. Netflix would have also thought that a conflict of interest might hurt its relations in a JV. However, it remains to be seen whether it would have a smooth sailing on its own.

Opportunities

The focus on China is undoubtedly a much needed one for any company that wants to expand its presence and explore growth potentials, especially web-related companies. The country provides immense growth opportunities since it was the fastest growing online population in the globe. Its internet users have outnumbered even the biggest economy of the world. China has 649 million users compared to the 280 million in the United States. This meant more than two to one, based on the recent official figures. In terms of the share world population, China represented 19% whereas the Americas accounted for 4.5%. India, which accounted for 17% of population, has total users of 243 million. There is a big gap between third and fourth, which is Japan with 109 million users. Similarly, the smartphone usage is also significantly higher in China with 557 million users.

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Internet users in China are set to grow 20% to reach 777 million by the turn of 2018 from the level of 2014. Not just user’s growth, the percentage in relation to population would be expected to grow to 56.4% in 2018 from 47.5% in 2014. The current users and the future growth have obviously made Netflix decide to go at it alone in China.

internet-users-and-penetration-in-china

This sets well with the objective of Netflix. Its long-term view was very clear. Internet TV would replace the linear televisions. Similarly, apps are going to replace channels with screens are expected to proliferate. The expectation is that with the adoption of smart devices growing at a brisk pace, internet television viewership would turn into billions from the current millions. As a leader, Netflix wants to capture a lion share and build the scale to be a dominant player.

Recent Performance

At the end of the year 2014, Netflix’s total members of domestic streaming advanced 17% to 39.11 million while paid members increased 18.9% to 37.7 million. However, the growth in the International streaming was significant. Its total membership of global streaming jumped 67.2% to 18.28 million. Similarly, paid members at the global streaming climbed 72.6% to 16.78 million from 9.7 million in 2013.

It was quite clear that Netflix focus on international division was yielding significant results given the growth pace. Therefore, it was quite obvious that the company wanted to enter the Chinese market on its own rather than depending on the local partners. However, the company would not likely have smooth sailing. There are quite a number of challenges ahead for it.

Challenges To Face

There are at least five issues that Netflix, Inc. (NASDAQ:NFLX) would have to tackle. The foremost among them is the license issue. China is a place where a license is required to run even a simple website. Therefore, one can imagine the kind of headache a fully-owned foreign company would have to face when it comes to operating a streaming video site. In the case of Netflix, the company’s CTO admitted that it required a minimum of eight different licenses to start its business in China. So far, there has been no precedence to suggest that China would issue or reject. However, the odds are certainly not in favor of the company given the hostility shown by the Chinese rules in the past against the companies from the United States.

The second issue could be censorship. In China, everything that would be available in Chinese Netflix would have to get the approval of Chinese rulers. This runs the risk of getting some movies or shows banned outright without assigning any reason. Similarly, China follows quota rules for domestic streaming sites. It remains to be seen how far this is going to impact Netflix.

Netflix, Inc. (NASDAQ:NFLX) would also have to encounter domestic competition, which would undoubtedly be strong. Recently, Alibaba Group Holding Ltd (NYSE:BABA) acquired a stake in film and TV production firm for $382 million. The competition is already heating up. The final challenge could be the monetization. Netflix’s subscription services are not really doing well in China. Domestic firms seem to be providing popular streaming video for free. Therefore, monetization could be a key issue that the company would have to tackle.

Japan

As far as Japan is concerned, Netflix, Inc. (NASDAQ:NFLX) will not likely to witness any of the issues that it may have to encounter in China. Japan could be considered similar to that of the United States. With 109 million users, there is not as much to gain in Japan compared to China.

Conclusion

While there is no second thought about the opportunities available in China, Netflix, Inc. (NASDAQ:NFLX) would have to first sort out issues in China. There are already doubts expressed in a section of the press about the license. First of all, it must pass the litmus test of getting the license followed by censorship, and quotas. If it was able to pass everything, then it could be entering a long phase of growth areas. On the other hand, if it fails to get a favorable response at first, then it has to sweat it out. Currently, the odds are definitely in favor of the company at least hitting some rocky patches in China like most western companies have.

Viraj Shah

Viraj Shah has completed M.Com (Finance) and is currently pursuing his CFP. He tracks US markets along with other global markets like India very closely. He is very passionate about stocks, real estate, and technology. He also believes that money can always be made in the market.

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