Netflix contract with CBS, FOX may force it to carry shows at great expense
- From: David <dimlan17@xxxxxxxxx>
- Date: Thu, 07 Jun 2012 12:18:40 -0400
Netflix risks studio 'deal tax'
Content costs could rise if CBS, 20th exercise put option
By ANDREW WALLENSTEIN
If "CSI: Miami" shows up on Netflix anytime soon, it probably won't be
because the streaming service asked to carry it.
The drama series, which ended its 10-year run on CBS last month, may
end up on Netflix when the licensing arm of CBS Corp. wants it there,
for licensing fees that are above and beyond the estimated $200
million library content deal they inked last year. Netflix could be on
the hook to carry more than 230 episodes of the show, at a cost of
hundreds of thousands of dollars for each seg -- no small expense for
Netflix, whose content costs are already under scrutiny on Wall
That move would be the result of the so-called "put option" that
Netflix agreed to in its contract with CBS Corp., essentially forcing
Netflix to pick up at additional cost the streaming rights to any of
their canceled series. At least one other studio, 20th Century Fox, is
believed to have a similar arrangement in place.
CBS and 20th declined comment. A spokesman for Netflix declined to
comment but issued a statement: "Our content costs are very
predictable and detailed as future commitments in our public filings.
We do not comment on the specifics of particular deals, but any total
cost variance would be marginal."
Netflix chief content officer Ted Sarandos played down the
significance of the put option at a recent investors conference,
characterizing it as a "deal tax" that would be contained by
unspecified caps that are in place on their deals. Moreover, sources
on both sides acknowledge that the put option could be used as a
bargaining chip for the sellers in order to extract other concessions
at the negotiation table.
That's because the studios have little incentive to squeeze a content
buyer that has padded their parent companies' bottom lines handsomely
in recent quarters and could grow into a major player as it expands
its original programming roster. For the studios, the put option may
simply be an insurance policy of sorts to help offset lost
deficit-financing for recently busted, low-cost series.
But the studios' leverage illustrates just how delicate their dance is
with Netflix, which ultimately doesn't have complete control over the
content it gets or how much it pays for that content.
In February 2011, CBS and Netflix signed a two-year deal with a
two-year option. Series covered under the deal included such classics
as "Cheers," "Frasier" and "Star Trek."
Netflix and 20th Century Fox struck their licensing deal last August,
covering series including Fox's "Glee" and FX's "Sons of Anarchy," as
well as titles from the studio's theatrical arm.
While "CSI: Miami" was a solid piece of CBS' schedule for a decade,
the crime-centric procedural doesn't fit the profile for a valuable
asset on Netflix. The streaming service has proved ideal for
serialized dramas like Fox's "24" that are a far cry from the
self-contained storylines that made "CSI: Miami" so valuable in
Cabler AMC paid an estimated $80 million-$90 million for the rights to
"CSI: Miami" in 2011, but subscription VOD rights were not a part of
CBS Corp. CEO Leslie Moonves alluded to the value of having the put
option in the company's first-quarter conference call. "The
significant thing about that to be remembered is if we take off a hit
show that we own, which there is a good chance of happening, that
automatically goes into the new Netflix deal," he said. "So there will
be an automatic big bump in terms of that."
Nomura Securities analyst Michael Nathanson believes CBS will trigger
its put option on "CSI: Miami" sometime next year, allowing the
company to hold onto a revenue injection it may need to maintain a
favorable earnings comparison with this year when the Eye is raking in
dollars from political advertising.
Last month, UBS analyst John Janedis characterized CBS exercising the
option as "likely" in the second quarter of this year, when he
estimates it could raise CBS' earnings per share by 2 cents.
"This could be pretty expensive for Netflix," said Michael Morris,
analyst at Davenport & Co, who projected the put option could drive a
5-cent earnings-per-share increase for CBS. "They'll have to achieve
the incremental subscriber growth to justify the cost."
With a stock price nowhere near the highs achieved a year ago,
Netflix's content costs are a sensitive subject on Wall Street, where
there's concern about the company's growing bills for streaming rights
in multiple countries. Netflix declared off-balance sheet content
obligations of $3.9 billion at the close of 2011, triple what that sum
was at the end of the previous year. Over that time, Barclays Equity
Research estimated that the amortization of streaming content costs
went from 12% to 50% of its total revenues, and is on pace to exceed
80% by 2015.
The way the put option is said to work is that there are open slots
among the agreed-upon number of series included in the deal, and the
studios get to choose the titles and the timing of their availability
on Netflix. In the amorphous new world of digital content, where it's
too early to arrive at precise valuations, a put option affords
studios some cushion in case they ended up underplaying their hand.
But a put option could also conceivably be horsetraded for deal points
in future agreements or other existing agreements between the
companies. Netflix and CBS also have a separate deal on the
international front that was also struck in 2011 said to be worth an
additional $75 million. CBS also has deals covering Showtime and a
joint pact with CBS and Warner Bros. for the CW. Just last month,
Netflix and 20th inked a second deal to cover Latin America.
But the domestic deal with 20th has yielded signs that carrying a
series chosen by the studio can ultimately be a good thing for
Netflix. Sarandos disclosed at a Nomura conference last week that the
short-lived FX series "Terriers," which was distributed by 20th, has
been an unexpectedly popular addition to Netflix even though it didn't
last more than a season on cable.
Sarandos also believes canceled series can be an undervalued resource
considering that their failure on network TV may be a function of
factors beyond its control like a tough timeslot. Replanted on
Netflix, a canceled series can not only find a new audience, but could
potentially be re-activated with new episodes should Netflix be able
to put a deal together with a series' producers.
Indeed, it was the popularity of "Arrested Development" episodes on
the Netflix platform that spurred its deal with 20th last year to
revive the show, nearly six years after it was canceled by Fox.
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