Microsoft and Netflix Are Going from Friends to Frenemies

Microsoft (MSFT) and Netflix (NFLX) may have been the best of pals over the years, but that could be about to change. Microsoft is getting ready to introduce original video content for its popular Xbox platform, and it's a move that will very likely lead to butting heads with Netflix's own streaming service.

Nancy Tellem -- the seasoned CBS Television executive who was hired by Microsoft last year to head up its entertainment and digital media division -- is now months away from delivering the first wave of interactive and linear content that will take Microsoft's Xbox to the next level.

Original Sin

Speaking at Variety's Dealmakers Breakfast, Tellem said she hopes to introduce original programming next quarter. At the very latest, Microsoft's foray into Xbox-exclusive content will debut during the June quarter. The goal is simple: Microsoft wants more people to make the Xbox 360 or the new Xbox One the cornerstone of their home theater experiences.

Will this be as ambitious as Netflix's "House of Cards" or its "Arrested Development" revival? No. This isn't likely to even be as brazen as Amazon.com's (AMZN) political comedy "Alpha House," which marked the leading online retailer's push into original content a few weeks ago. However, it's not a move that Netflix can ignore since Microsoft already has tens of millions of Xbox Live members. That's a big audience of Web-savvy gamers that already have their TVs tethered to the Internet through their Xbox consoles.

%VIRTUAL-article-sponsoredlinks%Netflix knows Microsoft. It's been working closely with the company for years. When it introduced streaming in 2007 it went with Microsoft's fledgling Silverlight as the video platform, making the service available exclusively on PCs running windows. When Netflix wanted to allow gamers to have access to its streams, it granted Xbox a year of exclusivity before striking deals for PlayStation and Wii owners to stream along.

It's probably not a coincidence that Netflix CEO Reed Hastings announced that he would be leaving Microsoft's board of directors just weeks after Tellem's hire last year. Yes, Hastings was a board member of the software giant. He saw the writing on the wall. Microsoft was about to go from being a logical tech partner to a potentially problematic competitor.

Xbox Marks the Spot

There is room for more players in the streaming business right now. Netflix has been able to increase its audience -- topping 31 million domestic streaming subscribers in its latest quarter -- despite the growing footprints of Amazon, Hulu, and the digital initiatives of cable and satellite television providers. It may not always remain that way.

A major part of Netflix's winning strategy has been its original or first-run programming. Three of its shows were even up for Emmy nominations this year with "House of Cards" ultimately winning three of the awards.

The high value of proprietary content isn't a surprise. Broadcasters have known it for decades, and it's the secret sauce that has turned HBO and Showtime into more than just premium movie channels. Now that Netflix has validated its place in that niche by drawing in top actors and directors, there's no stopping this revolution.

The challenge has always been and will continue to be the ability to pick winners and bankroll the productions.

Microsoft has the money -- and then some: It has $80.7 billion in cash and short-term investments on its books. So that won't be a sticking point. The question here will be whether the software giant is ready to spend what is required to become a force in video content. It's in the process of transforming itself into a company centered around devices and services, but outside of the Xbox, it hasn't had a lot of success on the hardware end. Let us recall flops that were the Zune portable media player and the Kin smartphone -- and more recently, the tepid sales of the Surface tablet.

It's only natural for Microsoft to want to give its growing army of video-streaming gamers content that they can't find anywhere else, and early next year that will include its arrival in original video. Netflix had better be ready.

Motley Fool contributor Rick Munarriz owns shares of Netflix. The Motley Fool recommends Amazon.com and Netflix. The Motley Fool owns shares of Amazon.com, Microsoft, and Netflix. Try any of our newsletter services free for 30 days.