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Here’s what a Netflix with ads could look like

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Netflix could generate some $1.3 billion in revenue by 2021 if it introduced an ad-supported tier in the US, according to Nomura’s Instinet analysts. Although Netflix execs have continually reiteratedthey would never bring ads to the service, traditional media execs including NBCUniversal ad sales chief Linda Yaccarino and Hulu ad sales chief Peter Naylor recently argued that Netflix would eventually need to offer ads.

Corporate Debt Among The Largest Media CompaniesBusiness Insider Intelligence

If its subscriptions growth slows, Netflix could need to diversify its business to offset growing costs and reduce its debt load. If Netflix sub growth significantly slows, plateaus, or even drops over the course of a few consecutive quarters, Netflix might find itself needing to tweak its subscription-dominated revenue model.

Netflix has a significant — and increasing — debt load, as it borrows to fund rising investment in content: The streaming giant now has $12.3 billion in long-term debt, after raising another $2 billion in April, and its content spend is projected to hit some $15 billion this year.

Netflix has made a few attempts at diversifying so far:

  • Product placement and brand partnerships.The streaming giant has dabbled in product integration on its original shows. That could amount to meaningful additive revenue: Brands pay $50,000 to $500,000 per episode for placement per 2017estimates, and the value of those deals is likely far higher now. Netflix is also increasingly working with brands and retailers to create merchandise around original shows. “Stranger Things” is the biggest recipient of that treatment to date: Netflix struck deals with 75 brands for season 3, including Coca-ColaH&MLevi’s,NikeBurger King, and Baskin Robbins. But Netflix reportedly doesn’t always get money from merch sales its brand drives. In those cases, it views those products as forms of exposureintended to drive consumers back to the subscription offering.
  • Interactive.Netflix’s other foray into consumer products based around its original content are two games developed around “Stranger Things,” including a forthcoming mobile game and a video game, now available on consoles including Nintendo Switch, PS4, and Xbox One. To create the games, Netflix licenses the show’s characters out to game developers, BonusXP and Next Games. If Netflix can apply this to other original series, games could supply an additional revenue stream.
  • Podcasts. Netflix now has seven branded podcasts, with more in development, but none run ads. Though these could theoretically be monetized by Netflix, so far, these are more marketing vehicle than standalone revenue stream.

If Netflix subscriptions revenue slows and other revenue models, like product integration, can’t make up the difference, an ad-supported tier could be an easy backup. To date, Netflix has relied on repeated price hikes to offset rising production costs, and it’s mostly emerged unscathed.

But introducing ads could pose a higher risk: 23% of current Netflix subs in the US indicated that they would “definitely or probably” drop their subscription if Netflix introduced ads at the same price they’re currently paying. However, that risk would drop if the prices did too: If Netflix reduced prices by even just $2 a month, just 14% said they would cancel.

In that case, Netflix could offer a cheaper, ad-supported tier, similar to Hulu: There’s some indication that there’s a market for such an offering, since about 70% of Hulu subs take the ad-supported tier at $6, as opposed to paying $12 for the ad-free version. And a cheaper, ad-supported tier could especially be a boon for Netflix in emerging markets, where even the cheaper subscription tiers it’s introducedcost more than services from local rivals.

In the near term, Netflix is unlikely to introduce ads because it would likely hurt more than it would help. Netflix will hold out as long as possible on rolling out any ads whatsoever: To do so would be to run contra to its entire brand identity, and would represent a significant betrayal of subscriber expectations.

I’ve long been a skeptic of such industry speculation, but if Netflix can’t diversify beyond subscription revenue, a separate ad-supported tier is at least plausible. If Netflix does introduce ads, I think it’s most likely to happen first — or even just — in emerging markets.

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