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As Netflix’s plot thickens, CEO strives to hone an edge

Netflix CEO Reed Hastings at the Globe and Mail on Monday, September 10, 2012.

Just a year ago, Netflix Inc. was riding high with a stock price hovering around the $300 (U.S.) mark. Today, Netflix shares trade for less than $60, as the company struggles with rising competition and how to make money from Internet-based video streaming.

In a conversation with The Globe and Mail's editorial board on Monday, Netflix CEO Reed Hastings outlined some of the challenges and opportunities facing the world's best-known video subscription service. "If we don't stay on the leading edge, have the best streaming, the highest video quality, the most content, it's just so easy to be left behind," he said.

Mr. Hastings, who is in the country for the Toronto International Film Festival, arrived in Canada the same week that BCE Inc. announced it would go ahead with a Netflix-like service upon approval of its bid to acquire Astral Media Inc. – adding yet another competitor to Netflix's growing list of competitive headaches:

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International growth

Following expansion into Canada from the United States, Netflix targeted England and Ireland for its next regional service. More recently, Netflix announced the expansion of its Web service to almost all countries in Latin America.

While such expansion helps to quickly build Netflix's customer base, it tends to hammer the bottom line. The company's business model relies on paying for content licenses up front, and then slowly making its money back through customer subscription fees. However, that means Netflix is currently losing money in many of its overseas markets – about $100-million a quarter from its United Kingdom and Latin America operations. Even in Canada, where Netflix constitutes the biggest single use of consumer Internet bandwidth, Netflix is only now starting to break even.

Piracy

Asked about pushing the Netflix service into such large markets as India and China, Mr. Hastings said one of the company's biggest concerns about expansion in such regions is the predominance of piracy. He said the general acceptance of downloading licensed content for free makes it less likely that enough customers will agree to pay for a video service.

However the extent to which piracy actually hinders Netflix's business is debatable. Mr. Hastings himself noted that, prior to Netflix's arrival, the biggest use of Internet bandwidth in Canada was BitTorrent, a file-sharing technology often used to distribute pirated movies and TV shows.

Content

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Perhaps the most difficult – and most vital – part of Netflix's business strategy involves buying the rights to movies and TV shows. The process tends to be complicated, with several parties holding rights to various parts of the same piece of content. Essentially, the content acquisition process is an auction, in which Netflix tries to outbid its rivals.

Because rights holders often have various regional divisions all trying to maximize profit on a particular piece of content, Netflix frequently enters into multiple bidding wars in order to secure a movie or show for its different regional services. That's why U.S. and Canadian Netflix users don't see the same selection.

Netflix's partners also tend to have conflicting interests during the bidding process. Some rights holders, for example, want TV shows to be available on Netflix very quickly after a season ends to help build a following for the next season, while others want a longer delay in order to protect DVD sales.

Competition

A slew of large Internet companies, including Google Inc. and Apple Inc., all have paid video services that could be considered Netflix competitors. As such, the company must constantly work at building on the advantages it does have, such as its content selection and its recommendation algorithms, which suggest new movies and shows to subscribers.

Perhaps Netflix's stiffest competition, however, could come from Amazon.com Inc. The online retailer recently signed a deal with distributor EPIX that would give it access to several movies previously exclusive to Netflix. In addition, Amazon can leverage its own branded hardware, the Kindle tablet line, and its massive customer base to push its video-streaming service. With the cost of Internet-based distribution continuing to drop, Netflix can likely expect even more competition in the coming years.

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