Jan 25, 2013

The TV Business: A Primer For The Uninformed

It’s a relentless drumbeat: the TV industry is dead. It’s just like the music industry. 20somethings are avoiding the cord.  I want HBO a la carte. YouTube will kill cable. The TV industry is dead.

And yet, if there’s a common thread to all these articles and blog posts, it’s that so many of the people writing them have a limited idea of how the television industry actually works, particularly from a business perspective.

So here’s a little primer on how the US television industry works (there are significant difference in other countries), just to clear the air.

The Players:
This is step one - knowing who is who and what their relationships are. We are going to look at the 7 key players, circa 2013: The Networks, The MVPDs, The Premium Networks, The OTT Networks, Smart TVs, Third Party devices and Social TV.

PLAYER #1: The Networks: The networks (ABC, CBS, MTV, et al) provide content and right now, they are the most powerful force in the industry.
How Do They Make Money?
Networks have two revenue streams:
1.  Ad Sales - networks sell national advertising on their shows; local advertising is sold by the carriers.
2.  Content Deals - networks license their content to the various cable companies, satellite providers and telcos (collectively known in the industry as MVPDs.-- Multichannel Video Programming Distributors) The price is determined by the value of the network (number of viewers, potential revenue from local ad sales) multiplied by the number of subscribers the MVPD has. These deals are renegotiated every few years, which is why you sometimes see battles where say, Verizon is threatening not to show AMC programming because the post-Mad Men/Breaking Bad AMC wants more money than Verizon is prepared to give them. Here’s Where It Gets Tricky: Most of the larger networks own multiple channels. And they sell them to the MVPDs as an airtight package: You want ESPN? Well then you need to take the Badminton Channel and the Dodge Ball Channel and all 30 of ESPN/Disney’s other channels too. Right now, the MVPDs don’t have much wiggle room since they compete with each other and not being able to offer ESPN to potential subscribers would put them at a huge disadvantage. But Wait! There’s More! The networks know that you probably don’t want to watch the Badminton Channel, so they forbid the MVPDs from letting you do things like making your “Favorite Channels” list the default view, lest you leave the Badminton Channel off of that list. Networks also pay to have a good spot in the channel line-up and so they’re not about to give that up and let you, the viewer, start creating your own order... at least not as the default view.
What You Need To Know - Comcast, Verizon, Time-Warner et al are not forcing you to take thousand-channel bundled packages. The networks are more or less forcing them to offer it. The MVPDs would love to be able to sell unbundled packages since they’d make more money by signing up more subscribers while simultaneously cutting their own content acquisition costs.
When Will This Change? So here’s the current thinking: at some point, someone will launch a virtual MVPD (e.g. internet-based) with a beautiful interface and all the bells and whistles of advanced TV systems (any device, any place, any time.) This will be a premium priced system and will be very popular. Popular enough, that it will be in the best interest of an ESPN to allow this new MVPD to break up their bundle. And then the wall will crumble. This is what Apple has been trying to do (the mythical Apple TV) and they are not alone. So far, no one’s gotten any traction-- there’s no compelling business reason for any of the networks to play ball with them, but at some point this will change. (UPDATE: Read The Meteor Cometh for some thoughts on how Cablevision's lawsuit against Viacom may just be what brings about this change.)
“A Beautiful Interface?” The interface is the main pain point in today’s TV viewing experience. That giant, unwieldy grid was designed for about 7 channels and is now being forced to accommodate 700. A new interface would need to be free from the stranglehold of bundled content, which is why you haven’t seen one yet. But look at XBox or Roku for an idea of what’s possible.
What Happens In Asia, Stays In Asia: The networks also have an incredibly lucrative business selling their shows overseas: it's a win-win as those markets have a limited amount of home grown content and economies of scale make it hard for them to rival US production values. What's interesting here is that having licensed the content to a third party, the networks are much less concerned with things like TV Everywhere rights, which is one of the reasons why overseas markets are ahead of the U.S. in that regard.

Comcast, Verizon, DirectTV and the rest.  The United States is the only country where MVPDs --  Multichannel Video Programming Distributors (e.g. the cable, satellite and telcos who bring you your pay TV) are regional rather than national.
How Do They Make Money?
MVPDs have two revenue streams:
         Local Ad Sales on the programming they run
         Subscription fees So here’s the thing to remember here: the vast majority of MVPDs don’t just sell pay TV packages. They sell broadband and landline services too. The old “Triple Play.” It’s an incredibly lucrative system for them and an incredibly bulletproof one too. How Many Cords Can You Cut? It’s bulletproof because what pundits forget when they talk about “cord cutting” is that the cord that brings you television is generally attached to the cord that brings you internet. And if you’re cutting the one, you’re still going to need the other. (To put this in perspective, over 90% of FIOS and Uverse subscribers get TV and broadband from the same provider.) So here’s where the genius of this set-up kicks in: the MVPDs will give you two options - get the pay TV service and get unlimited bandwidth (free unlimited bandwidth, in the case of Google Fiber), or, get broadband only, but face bandwidth caps. If you’re a heavy TV watcher who plans to get content off web-based services like Netflix and iTunes, you probably won’t wind up saving any money. MVPDs Are Not Blind They see where the market is going, understand the effect of Netflix and iTunes. And so they are busy cutting deals to include them in their offering. It’s already happening in Kansas City, where Google Fiber TV has Netflix baked into the program guide with more OTT (broadband) channels to come. Other MVPDs are not far behind. 
What Happened To TV Everywhere? The lawyers squashed it. Not the MVPDs lawyers - they’re the ones trying to get it off the ground. Rather, it’s been the lawyers for the networks and other content providers. They don’t want users watching shows outside the house unless they can get retrans fees from the MVPDs (retransmission fees-- they are claiming that a Comcast subscriber watching a live show on her iPad on the train is watching a different transmission than the one her husband is watching at home and the MVPD should reimburse them accordingly, because there's no way to count the iPad views for ratings (and eventually advertising purposes.) In February 2013, Nielsen announced its intention to begin counting internet views, so this too may change.  But Dish Is Bringing It Back To Life: At CES 2013, Dish unveiled a new set top box called the Sling Hopper that essentially blew TV Everywhere out of the water. The Slinghopper, which is a mash-up of the Slingbox and the Hopper, gives viewers the ability to watch shows off their home set top box anywhere there's an internet connection.That is likely to open up the door for the other MVPDs to roll out their own TV Everywhere systems, lest they lose customers to Dish.
What You Need To Know - Convenience usually trumps price and the MVPDs will soon be offering all the services viewers were cutting the cord for. Add in disincentives like bandwidth caps, and cutting the cord starts to seem like a bad idea.

HBO, Showtime, Red Zone and other sports networks.
How Do They Make Money?
Subscriptions The subscriptions are sold via the MVPDs who collect the money for them and keep a percentage for themselves as a profit. HBO GO The success of HBO GO took the network by surprise: they did not expect it to become such a runaway hit and are still figuring out what to do with it. What they do know is that it’s a great bargaining chip with the MVPDs: give us a bigger share of the subscription fee or we’ll start selling directly to consumers. We’ve already got it up and running in Scandinavia. Why That’s Not Going To Happen Anytime Soon: Ever had to collect money for a co-worker’s birthday party? Remember how painful that was? Multiply that by 29 million and you’ll get a sense of what HBO is going to be up against if they try selling HBO GO on their own. 29 million bills each month. Call centers. Online help. Chasing down the deadbeats. Meanwhile, under the current system, the MVPDs collect the money for them and provide a steady income stream every month. They run specials like “three free months of HBO when you join” that bring even more subscribers on board. They even handle authentication on HBO Go. So why would HBO ever want to give that up? Especially since the MVPDs would drop them like a proverbial hot potato if they ever tried? Bottom line is that HBO is not “leaving money on the table” by not giving you an a la carte subscription. They’re just making sure the money stays on the table.
So No A La Carte, Ever? Not directly through HBO. But probably through your MVPD, who’d love to sell a combo basic cable/HBO subscription to all those recent college grads. It’ll happen at around the same time the bundles get unbundled.

Netflix, Hulu, Amazon, Vudu, iTunes and all the other streaming services. (OTT = Over The Top, a reference to how web-based video is delivered, e.g. without a set top box. Like MVPD, this is another industry term that’s good to know.)
How Do They Make Money?
Subscriptions (Netflix, Hulu and Amazon Prime)
Sales and Rentals (Amazon, Vudu, iTunes)
Subscription services have the edge here. They may not have the selection their counterparts have, especially in terms of new movies, but they have ease of use. Rentals are tough: rights issues limit the rental period to 48 hours and forbid renewals making it a tough sell. So is having to pay $3 or $4 every time you want to see a movie: with a monthly subscription, the viewer is less aware of the financial transaction.
Where Are They Headed: Industry expectation is that the various OTT services will all cut deals with the MVPDs, where they’ll either be just another premium channel (Netflix) or a Pay Per View option. It’s just easier all around, particularly for consumers, who won’t need to add an extra device to watch OTT networks on their main TV. It’s also better for OTT networks as it expands their base of potential viewers.

Samsung, Sony, Panasonic and other manufacturers
How Do They Make Money?
Direct sales to consumers. The additional “smart” features were used to justify higher prices than “dumb” HDTVs, though eventually everything goes on sale
Most Consumers Don’t Hook Them Up While the advantage of a smart TV is the ability to use an app-like button built into the set’s interface as an easy way to connect to Netflix or Facebook, several studies in the US and UK show that most consumers don’t bother hooking up the Smart TVs to the internet. Difficulty of set-up is the most likely reason for that, though lack of interoperability between different brands, and lack of demand for non-TV-centric apps (e.g. Facebook) also figure prominently
Future Prospects Not very bright for the app-based Smart TVs, but the notion of a “connected TV” - a TV that connects to the internet via a second screen device is where the industry is headed. Connected TVs will enable cloud-based systems capable of serving up millions of hours worth of programming. (That's a lot of reruns.)

Roku, Apple TV, Boxee, Google TV
How Do They Make Money?
Direct sales to consumers. Though Roku is moving into Pay-Per-View specials (think 1980s HBO) and they’re all looking for licensing deals with TV manufacturers and MVPDs (similar to the ones Cablevision and TimeWarner inked with Roku this month)  particularly in developing countries, where TV is likely to skip the cable-to-the-house phase.
Long Term Prognosis: Roku recently introduced a device the size of a thumb drive that plugs into the TV’s USB drive and draws power from the TV set. All the more reason to believe that all these third party devices and their operating systems will get snatched up by MVPDs and/or TV manufacturers who will incorporate the technology and interfaces into an all-in-one device.

Zeebox, Viggle, NextGuide, Fanhattan, Twitter, Facebook, et al. “Second Screen apps” is the industry term for what’s also known as Social TV
How Do They Make Money?
They don’t.
Not yet anyway. They don’t even make the networks and MVPDs any kind of demonstrable money beyond a possible viewership boost on a handful of shows and specials. (True Blood, The Grammys, Pretty Little Liars)
Changing The Channel Is The Killer App Time shifting (watching a show via catch-up, DVR or On-Demand) makes chat less relevant and discovery more relevant. The problem with discovery-based apps is that you still need to find the remote in order to change the channel. That’s not a very good user experience and it’s why we’re starting to see apps adding that functionality (Zeebox and Sky in the UK.)
2nd Screen Apps Will Likely Come From The MVPDs The most likely evolution of the second screen app is as a combination remote control-program guide with an overlay of social functionality that lives on a 7 or 8 inch tablet (iPad Mini or Nexus) and is provided by the MVPD. (Full Disclosure: KIT makes such a product, the white-label SPG.) The apps will be able to accommodate a range of second screen content, programming and discovery features,as well as an “ad locker” - a screen where users can do deeper dives into ads they’ve seen on TV at their own convenience. Google Fiber is giving voice-enabled Nexus tablets to users of its Google Fiber TV to use as remote controls and the rest of the industry is expected to follow suit over the next year or two. As current thinking has tablet-based apps replacing set top boxes (tablets are cheaper to provide and apps are easier to update) this is going to happen pretty quickly.
Making Money Off The Second Screen: The second screen is likely to become a major revenue source for the MVPDs. With more content than ever before, discovery will become critical. Unable to rely on on-air promotions to drive interest in new shows, networks will pay to have their properties featured in second screen recommendation engines. That opens the door to brand tie-ins and related ad vehicles. Look for the second screen ad market to eventually rival the first screen one.

Change Happens Gradually And Then All At Once. The TV industry is in the same place the cell phone industry was just before the introduction of the iPhone: all the pieces are there, it’s just no one’s bothered to put them together. There’s no pressure on anyone to innovate because no one’s disrupting the market and so there’s no business reason to be an innovator: it’s risky and most companies are risk-averse. Eventually, someone will toss that bomb into the crowd and blow things up, the way the iPhone blew up the cell phone market. It may be Google or Apple or Intel or someone you’ve never heard of. Whoever it is, it has to be someone who feels their current market position is tenuous enough to make a risky move worth it. And what's important to remember is that right now there's no one in the TV industry who fits that description: profits are up, not down. But it will happen, and once it happens, change will come quickly. And everything you've just read will be completely and hopelessly out-of-date.

Further Reading:

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