Can Netflix Kill Apple?

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We all know that Apple's (NAS: AAPL) iTunes is the undisputed champ in digital music, but did you also know that the Cupertino giant is also the runaway leader when it comes to a la carte video downloads?

Fresh data out of IHS Screen Digest Research shows that iTunes is responsible for nearly two-thirds of the premium video market.

It isn't even close, with Microsoft's (NAS: MSFT) Zune Video Marketplace checking in at a distant second with just 16% of the market. Mr. Softy may be a surprising silver medalist, until one realizes that Zune's virtual storefront is the video-beaming service of choice for Web-tethered Xbox owners.

Let's go over the market share of the five meatiest players during the first six months of the year relative to where they were during the first half of 2010.

Company

H1 2010

H2 2011

iTunes64.9%65.8%
Zune18.5%16.2%
Vudu1.0%5.3%
PlayStation Store8.2%4.4%
Amazon4.0%4.2%

Source: IHS Screen Digest Research.

There are a few interesting gems in the data:

  • The video game platforms -- Microsoft's Zune and Sony's (NYS: SNE) PlayStation Store -- have actually lost market share over the past year.
  • Wal-Mart's (NYS: WMT) Vudu has come out of nowhere to take the bronze, and that should continue to improve now that Vudu has been integrated into Wal-Mart's website.
  • Where art thou, Netflix (NAS: NFLX) ?

The last point really is more of a segue than a surprise. Netflix, after all, doesn't sell premium movie rentals. Just as Netflix hasn't followed Coinstar's (NAS: CSTR) Redbox and Dish Network's (NAS: DISH) Blockbuster into video game rentals, it has no plans to dilute its brand by straying from its core celluloid smorgasbord concept.

Admirers call that focus, but is Netflix leaving money on the coffee table?

Limitless possibilities
At 0% of the digital video market, Netflix is selling as many a la carte downloads as the guy pushing copies of Gigli at the corner.

I can't be the only one that finds this to be at least a little bit surprising. Netflix has spent the past several years promoting its streaming service, integrating it into as many home theater appliances as possible. It's available through all three video game consoles, most Web-ready Blu-ray players, and many DVRs. A smart television is dumb if it doesn't have a built-in Netflix app. Many component makers even include shiny red "Netflix" buttons on their remote controllers!

Building up its installed base is working. Netflix expects 22 million of its 25 million subscribers to be paying $7.99 a month for unlimited streaming access by the end of next month.

Now let's consider the quality of Netflix's digital vault. It's reasonably impressive, but studios have little incentive to offer up their freshest releases when they can sell $20 DVDs or $5 pay-per-view rentals. It would kill their product to be part of a cheap virtual buffet line.

Why isn't Netflix offering its growing base of streaming customers the ability to stream new releases at prevailing pay-per-view rates? It has the delivery medium in place in 22 million homes, apparently. It obviously has the necessary billing information, and even the ratings data to know what its subscribers would like to see. Why lose customers who will have to drive out to the local Redbox or Blockbuster Express kiosk -- or turn to their cable providers for piecemeal pay-per-view transactions -- when it can dramatically boost its revenue by making its streaming service the complete product that it will never otherwise be?

Roadblocks at every turn
Offering premium rentals would turn allies into enemies. After all, Microsoft and Sony had no problem inviting Netflix to stream through its gaming consoles because it wouldn't interfere with their own plans to serve up individual titles. Netflix CEO Reed Hastings has made Apple presentations alongside Steve Jobs -- and he sits on Microsoft's board of directors.

However, isn't it more important at this point for Netflix to turn enemies into allies? The same studios that view Netflix as predatory would have a different perspective if it was selling new releases as streams to 22 million couch potatoes.

There should be little doubt that Netflix selling video would turn it into at least a silver medalist here overnight. Can it overtake iTunes at the top? It won't happen right away, but it's certainly conceivable.

Netflix has already mastered the home theater convergence. The gadgetry is in place. All it needs now is to turn on the spigot, even if rubs some of its hardware pals the wrong way.

They'll understand. It's not personal. It's incremental business.

Should Netflix begin selling premium rentals on its streaming service? Share your thoughts in the comment box below.

At the time this article was published The Motley Fool owns shares of Wal-Mart Stores and Apple.Motley Fool newsletter serviceshave recommended buying shares of Apple, Netflix, Amazon.com, Wal-Mart Stores, and Coinstar. They have also recommended creating a diagonal call position in Wal-Mart Stores, buying puts in Netflix, and creating a bull call spread position in Apple. Try any of our Foolish newsletter servicesfree for 30 days. We Fools may not all hold the same opinions, but we all believe thatconsidering a diverse range of insightsmakes us better investors. The Motley Fool has adisclosure policy.Longtime Fool contributorRick Munarrizhas been a Netflix shareholder -- and subscriber -- since 2002. Rick is also part of theRule Breakersnewsletter research team, seeking out tomorrow's ultimate growth stocks a day early.

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