Television has changed a lot in the past two decades.
In 20 years, we’ve gone from having just four channels in the UK, to more than we can be bothered counting, even on the most basic televisions. (There may still never be anything on you want to watch – but the choice is fantastic!)
And where once you had to wait years for cinema releases to come on the BBC or ITV at Christmas time, now you can buy the DVD within months.
That’s a huge amount of change. And it’s not stopping. The big shift now is the rise of streaming services, which deliver film and television over the internet.
Streaming sales last year passed the $1bn mark.
As broadcasters battle for audience share, there’s only one sure way to get an ‘edge’ – stream programmes that people want to watch. That’s very good news for the creators of this content – and for investors who back the right ones…
The one thing all broadcasters need desperately
The pioneer in streaming films is Netflix. Originally, Netflix focused on renting DVDs by mail order, bypassing the need to pop to your local video shop.
But as the availability and quality of broadband continued to expand, Netflix started to focus on delivering films over the internet. So instead of waiting a couple of days for delivery by post, people could watch films instantly.
Meanwhile, the number of people who owned TVs that were hooked up to the internet, either directly or via a games console, was growing too. Two years ago, the web-streaming business had expanded to the point where Netflix could farm out the DVD rental business to a subsidiary, and focus solely on streaming.
Competition is growing rapidly in the sector. Internet retailer Amazon offers video-on-demand in the US, and in the UK, owns Lovefilm, a similar service. Hulu is another fast-growing rival.
There’s not much to choose between these services in terms of cost or streaming quality. So the major battlefield is content. And that’s where these companies face their biggest barrier.
Up until recently, streaming services have been happy to secure rights to content on a film-by-film basis. But this is a slow process. For instance, between them, Lovefilm and Netflix have the rights to just 59 films that were released in 2012. That might sound a lot, but it’s a fraction of the total releases, and only includes a few big hits.
In an attempt to get around this, streaming services have become more aggressive on both the quantity and quality of material that they buy in. The goal is to offer high-quality content that other services can’t provide. An audience might not pay for one film, or re-runs of old series available elsewhere. But they’ll be more eager if there is exclusive, ‘must-see’ content on offer.
Some of this content is produced in-house, such as Netflix’s recent House of Cards remake, starring Kevin Spacey. However, most of it comes from external studios. This involves buying films or TV series in bulk, or contracting to buy a certain number of hours of content.
This is a risky strategy for the streaming services. They have to pay for films and shows that haven’t been made. And that means they risk over-paying.
For example, brokerage Albert Fried & Company likens Netflix to a sports team trying to win the title by spending millions on over-rated star players. And Amazon has been writing out big cheques too, spending $200m on securing rights to shows made by Viacom, including the children’s cartoon Dora the Explorer.
But while this might be risky for the streaming companies, it’s great news for the studios. It gives them some certainty about an important revenue source.
Better yet, demand from streaming services is also affecting more traditional broadcasters, who need content too. For example, Sky is already upping its bid activity, and scrambling to lock up more material.
In other words, it’s a sellers’ market. Good content can command premium prices. So how do investors profit?
One content creator set to do well
One film company to watch is DreamWorks Animation (Nasdaq: DWA). The animation company recently cut a deal to sell Netflix 300 hours of new TV shows, based around successful film franchises such as Shrek. The idea is that the characters will already be well known to audiences, increasing the chance that the spin-offs will be successful.
While the exact value of the deal hasn’t been revealed, it’s reportedly worth far more money than Dreamworks could have expected to raise from doing a similar deal with the cable companies. The first cartoon launches at the start of next year.
The security of this revenue also means that Dreamworks should be able to expand the number of films it makes, says Robert Royle of the Smith & Williamson North American Trust.
For now, the studio only produces a few big films a year. This helps to save on marketing costs, but the downside is that one dud can have a big impact on the bottom line.
Producing a wider slate of films should help prevent a repeat of last year, when the failure of one big release, Rise of the Guardians, saw DreamWorks post its first loss in over five years. By 2016, adjusted earnings are expected to be around 60% above 2012 levels, with shares trading on a price/ earnings ratio of below ten.
• This article is taken from our free daily investment email, Money Morning. Sign up to Money Morning here.
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