Netflix: Wake Me Up When September Ends

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There is so much that can go right for Netflix (NAS: NFLX) this month, which in turn also means that so much can go wrong.

Most existing subscribers will see their monthly rates change dramatically in the September billing cycle, with some about to start paying as much as 60% more to continue to stream video and receive optical discs by mail.

There weren't too many couch potatoes pleased with Netflix's decision to split its two delivery platforms into separate plans. Consumers on unlimited disc plans will now begin paying $7.99 for streaming, though they are getting a $2 price cut on their disc-based plans.

Netflix is confident. It expects 22 million of its 25 million subscribers to be paying $7.99 a month to stream from its digital catalog by month's end.

It's a bold prediction. Will 88% of Netflix's subscribers really be premium streaming customers? If we limit ourselves to Netflix's 15 million disc-based customers -- the ones that until this month were largely able to stream at no additional cost -- the company still expects a whopping 80% conversion rate. Is Netflix aiming too high with the 12 million it sees streaming? Is Netflix aiming too low with the 3 million it expects to stick with the cheaper plan of DVDs or Blu-rays alone?

As the world churns
Everyone is jockeying for position. They realize that Netflix will never be as vulnerable as it will be this month. Some subscribers will move ahead of their September billing dates to counter the move. Others will be taken by surprise.

The easiest solution -- and one that will actually save members at least $2 -- is to cut one of the two plans loose. It's not a perfect choice. Streaming offers instant gratification, but the content selection is lacking, especially when it comes to newer releases. Sticking to discs simply turns back to the clock to before streaming was introduced in 2007, yet those that are streaming through their home theaters may very well be hooked.

If subscribers decide to nix one of the two platforms -- or simply downgrade to fewer discs to save money -- the alternatives will be ready to catch them with open nets.

Coinstar's (NAS: CSTR) Redbox and NCR's (NYS: NCR) Blockbuster Express will be there to offer cheap DVD rentals, fulfilling the disc demand of those who decide to only stream through Netflix or trade down to a disc-based plan with fewer DVDs out at a time.

The more interesting migration may take place from those who stick only to Netflix's streaming plan. Netflix sees 10 million of its 25 million accounts in that situation, and this may be the catalyst for piecemeal premium video providers.

Pay-per-few
Netflix may have spearheaded the convergence of streaming video and home theater entertainment when it got all three gaming consoles to serve up its digital library to subscribers, but that is also opening the door for the companies that sell video streams on a stand-alone basis.

Niche tracker IHS Screen Digest Research recently put out market share data for this booming industry. Apple (NAS: AAPL) is at the helm through iTunes, commanding nearly two-thirds of the market. Microsoft's (NAS: MSFT) Zune Video Marketplace is a distant second. Wal-Mart's (NYS: WMT) Vudu and Amazon.com (NAS: AMZN) are gaining market share, but they're still too far away to make a dent.

 H1 2010H1 2011
iTunes64.9%65.8%
Zune18.5%16.2%
Vudu1%5.3%
PlayStation Store8.2%4.4%
Amazon4%4.2%

Source: IHS Screen Digest Research.

Just because a TV can stream Netflix through a set-top box, DVR, Blu-ray player, or console doesn't mean that it has access to any or all of these services. However, that is quickly changing. Since these services specialize in desirable new releases that Netflix usually only has available on DVD, this may very well become the solution of choice for those who are saying goodbye to red mailers.

All of these services are positioned well to grow in this climate, even the console-based providers that have been yielding market share over the past year,

Keep an eye on Amazon in the coming weeks. It is likely to have a cheap tablet on the market well before the holidays, and it should increase the profile of Amazon's fledgling premium video service.

Despite all of these hungry opportunists, things can still work out brilliantly for Netflix. If churn is held reasonably in check, Nexflix's growth will be substantial with margin-widening profitability to boot.

The risk-reward scenarios are off the charts for Netflix this month. Wake me up when September ends.

Will Netflix still be able to grow its user base with this month's pricing moves? Share your thoughts in the comment box below -- and add Netflix to My Watchlist to see how it all plays out.

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

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