Netflix can seize a massive content opportunity with China deal

Netflix will be earning some extra revenue from licensing its original content to iQiyi, one of China’s top OTT video services.

Netflix, Amazon and others have had trouble with entering the massive market for streaming video in China, but Netflix has found a way in through the back door: by licensing its original content iQiyi, one of China’s top OTT video services.

The deal should give Netflix a massive boost in the largest and most difficult video streaming market. Streaming video is booming in China, and there are three large OTT service providers who provide both SVoD and Advertising VoD services, of which the latter are the most popular.

The top video streaming service, Youku Tudou, is owned by the retail giant Alibaba. Other competitors in the space include Tencent and Sohu TV. To date, no US-based video streaming service has been able to break into China.

Netflix’s global expansion has so far excluded China, along with North Korea and Syria, these two for very different reasons, and executives had since iterated less optimism for launching the service in China in recent months. Amazon operates its online retail business in China, but not its video streaming service. Disney and Apple have both seen their services shuttered after short runs in China due to regulatory concerns; and Google and Facebook have also both pulled out of the country after brief runs. And Netflix rival Mubi also once had aspirations to launch in China but has since abandoned those plans.

iQiyi, which is owned by Baidu, began as an ad-supported OTT service and currently claims to reach 481 million users in China. Earlier this year, the company raised some $1.5 billion to jump start its new venture into the subscription model, and has been busy acquiring original and exclusive content for its new service. Last month, the company acquired a 200-title library of films from Warner Bros, and has in place earlier deals with Lionsgate, Fox and NBCU.

There is huge appetite for American content in China. The Sony Pictures-owned “House of Cards” was the first Netflix original to make it into China, via a licensing deal with iQiyi rival Sohu, but Chinese regulators pulled the series after a few months; and when it was available, the show’s second season shot up the ranks of Sohu’s streaming service. Whatever the terms of the licensing agreement between Netflix and iQiyi, the content will still have to pass muster with regulators and censors, scene by scene.

Little details of the content deal with iQiyi have been released – like whether or not the Netflix originals will keep the Netflix brand at the start of the show, as other studios do. By licensing Netflix’s originals to iQiyi, Netflix might be able to build brand awareness and appetite for its content without needing to do much of anything. No launching products, no billing, no marketing, and no need to worry about being shut down by the government. At the very least, licensing content will open up incremental revenue streams for the company, which may change the Netflix financial equation considerably. So far the company has had to run a tight ship, spending much of its revenue on new content creation, but keeping back some revenues for profit.

Netflix recently announced it’s hoping to raise over $1 billion in debt outside the US to help fund its content acquisition that it says will help drive subscriptions. Netflix said it’ll have a $2 billion negative cash flow in 2017, but thinks it can keep up subscriber growth by throwing more money at content acquisition. China may well end up paying for much of that.

Increasingly, content acquisition has centered on originals for the company. “Our financial preference of course, is to produce it through our studios,” Ted Sarandos, Netflix’s chief content officer, said during an earnings call last year. He said original content production has a bigger pay-off for the brand and the company than licensing shows, though financial analysts frequently criticize Netflix for its content strategy. “We’re able to produce content at a very high-quality and also much more efficiently,” Sarandos said. “So to the extent that we can do that, while it does require more cash up front to fund the development process, versus a studio who’d take that on, we find it’s a great trade-off for cash.”

The company’s new relationship with iQiyi could enable Netflix to execute a strategy that reflects a content owner rather than a service provider. Netflix has created a global content production empire. It’s currently producing originals in 13 countries, including India, Japan and Germany. Those originals, which span films and TV shows, have helped the service gain traction in its non-domestic markets and has helped to build up the company’s global brand as a content king.

“About half of the most searched for shows on television around the world this year were Netflix original shows and that’s the kind of thing we’re really proud of,” Sarandos said in 2016. And the company is also now co-producing shows with local studios. “We’re definitely already building our production capabilities outside of the United States,” he said.

And if Netflix is serious about making a mark on China, the company could begin producing local language originals for the China market, too. That could help drive up demand for its content, and could provide more revenue for the company through licensing deals.