House of cards (III)

However, in order for price discrimination to work effectively, you must be able to control the availability, quality, and usability of how customers access content. In the analog era, creators had at least a fighting chance of maintaining such control.

In the digital era, control is much more difficult to exert. Now, for example, instead of having to choose between watching a network’s live broadcast via a “high-value” television platform or waiting 1-4 days to watch its digital version via a “low-value” platform, digital consumers have an alluring new option: a “no-value” (to the network) pirated copy that costs nothing, has no commercials, and could be watched in high definition almost immediately after the initial broadcast. In view of this allure, it isn’t surprising that traffic from the popular file-sharing protocol BitTorrent accounted for 31 percent of all North American internet traffic during peak-traffic periods in 2008.

Piracy poses an even greater risk abroad, where a television show can be delayed by several months after its initial broadcast in the United States. These delays are driven by business processes that worked well in a world in which most promotional messages were local and in which international consumers had no other options to view programs. But if you live in Sweden, and your Facebook friends in the United States are talking about the new episode of Under the Dome, it’s hard to wait two months for that show to be broadcast on your local television station, particularly when you know that it’s readily available on piracy networks today.

One way to compete with piracy is by making pirated content harder to find and more legally risky to consume. To do this, studios must send out thousands of notices to search engines and pirate sites asking that their content be removed from webpages and search results. This strategy can be effective, but it requires constant effort and vigilance that some have compared to a non-stop game of Whac-a-Mole.

Netflix, however, was able to pursue a fundamentally different strategy for distributing House of Cards. The company’s business model was based on selling access to a bundled platform of on-demand content. Large-scale bundling was impractical for most physical goods, because of the manufacturing costs required for the individual products. But digitization eliminated manufacturing costs, making large-scale bundling of motion-picture content possible – more than merely possible, in fact: economic research has shown that large-scale bundling can generate more profit for the seller than can be generated with à la carte business models.

Bundling also enables sellers to focus on new ways of delivering value to consumers. Price-discrimination strategies rely on reducing the attractiveness of some products enough that they appeal only to low-value consumers – something Reed Hastings, the CEO of Netflix, has referred to as “managed dissatisfaction.” In place of this managed dissatisfaction, Netflix was able to focus on convenience and accessibility: subscribers in all of the 41 countries the company served in 2013 could watch House of Cards, or any other Netflix program, using a single easy-to-use platform on any of their enabled devices without worrying about the legal, moral, or technical risks of piracy.

Netflix would even keep track of where users were in an episode so they could pick up the series at the same spot if they needed to pause watching or switch devices. By delivering more value from their service than consumers could receive from pirated content, and by charging a reasonable fee for this extra value, Netflix hoped that most customers would find their streaming channel more than what they could find through piracy. And on the surface, this strategy seems to be working.

In 2001, Netflix’s share of peak internet traffic exceeded BitTorrent’s for the first time, with Netflix at 22.2 percent of all North American internet traffic and BitTorrent at 21.6 percent. By 2015 the gap had widened, with Netflix at 36.5 percent and BitTorrent at only 6.3 percent.

In short, Netflix’s platform and business model gave it several distinct advantages over incumbent studios and networks:

1. A new way to green-light content (through detailed observations of audience behavior rather than expensive pilot episodes)

2. A new way to distribute that content (through personalized promotional messages based on individual preferences)

3. A new and less restrictive approach to developing content (by removing the constraints of advertising breaks and 30- or 60-minute broadcast slots)

4. A new level of creative freedom for writers (from on-demand content that can meet the needs of a specific audience)

5. A new way to compete with piracy (by focusing on audience convenience as opposed to control)

A new and more economically efficient way to monetize content (through an on-demand bundled service, as opposed to à la carte sales).