Netflix's UK Debut Not-So-Easy - Analyst Blog

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Netflix Inc. 's ( NFLX ) planned debut in the U.K. and Ireland in early 2012 may not be a red-carpet entry. Rather, video streaming providers, such as Inc. ( AMZN )'s Lovefilm, Channel 4, the BBC, British Sky Broadcasting Group Plc and ITV Plc. are already well-entrenched.

Meanwhile, Netflix has been strengthening its content library for a triumphant debut. It successfully signed deals with BBC and announced eight shows, including comedy series "Fawlty Towers" and "Little Britain". However, both parties had declined to name the other shows included in the deal. Moreover, Netflix's licensing agreements with Lions Gate Entertainment Corp. ( LGF ) and Metro-Goldwyn-Mayer Studios Inc. for an exclusive streaming in the U.K. and Ireland will also come in handy. Netflix will also stream Miramax films.

Not an Easy Ride

The company will have to battle it out in the U.K. and Ireland to pick up share in the market, as there is no dearth of streaming providers with good and popular content. It seems that the entry would not be as smooth as Netflix's Canadian venture, where it has gained popularity and has built a decent subscriber base.

Incidentally, Amazon's Lovefilm has already signed an exclusive deal with Sony Pictures and Warner Bros. for streaming popular titles including "The Social Network" and "Sex and the City 2", respectively, in the U.K.

Netflix is also slogging it out in the Latin American region with local competitors, such as Telefonica SA's TerraTV and Net Servicos de Comunicacao SA. Other players like Netmovies Entertainment and Net Servicos, which are operational in the Latin American countries, have also geared up with better content and service facilities to compete with Netflix.

The U.K. and Ireland has higher Internet penetration than Latin America and the Caribbean islands. However, execution risks are high. Although Netflix has entered into licensing agreements with big production houses, we believe that competing with the existing players would be a challenge for the company. Moreover, since most of the existing players are local, they definitely have better knowledge about public preferences and the local flavor.

What Netflix Should Do…

For Netflix to gain entry into the market, the company will have resort to aggressive pricing, which would impact its margins. Netflix would be particularly sensitive to the repercussions of incorrect pricing decisions given its fiasco in the domestic market, where there was a huge customer exodus due to the 60% price hike that it implemented in July 2011.

Other Challenges

Another major near-term challenge for the company is cost escalation in the form of license and renewal fees. Analysts predict that the company will have to shell out $2 billion in terms of licensing fees to content providers in 2012, escalating from $180 million in 2010. Netflix said in a regulatory filing that it has impending payments of more than $3.5 billion over the next few years that is to be paid for the content under contract. To keep the company afloat, Netflix has to bank on subscriber growth, both domestic and international.

However, in the longer term, we expect Netflix to account for subscriber growth on the back of more appealing services to its customers and expect to contribute to the top line of the company.

Although Netflix expects to remain profitable on a global basis for the fourth quarter, we prefer to remain 'Neutral' on the stock and wait for significant developments.

We currently have a Zacks #3 Rank for Netflix, which translates into a Hold rating in the short term.

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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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