High barriers to content production and distribution (think recording studios, television networks, newspaper presses, broadcasting companies) made the world boring. Upfront costs must be recouped and exceeded for content to be worth the investment, which incentivized optimizing for “hits.” Hits need to please the masses — they play to the common denominator, not the margins or the niches that make up the long tail. As a result, we have lived in a world of right-down-the-middle content, but the dynamics of the internet shift the power to the individuals who create content, not the institutions that distribute it.
Recently a new class of distribution channels and their accompanying business models (think YouTube, Substack, Patreon, Instagram, Teachable) have allowed individual creators to bypass the legacy institutions and capture more of the value for themselves. This means they are free to cater to a much smaller audience. If you can establish a direct relationship with your more narrow audience, you don’t have to produce a hit, you just need to please, as Kevin Kelly says, 1,000 true fans, or as Li Jin argues, 100. As the endless niches of human interest are filled by creators, we will find content that is more meaningful and our time spent consuming media will be more fulfilling.
The Passion Economy
Today, this trend manifests itself in the passion economy, which describes a class of passionate individuals exploiting the dynamics described above to provide value for a highly specific niche and the tools, marketplaces, and platforms that support them. And while the passion economy is nascent, it is by no means small. Ninja will draw a stadium’s worth of concurrent viewers on a good day (he averages over 38k), PewDiePie’s YouTube videos each get more views than Fox nightly news (last quarter Fox averaged 3.4m primetime viewers while PewDiePie’s videos averaged 6.3m), and an eight-year-old who makes toy review videos made $26 million last year. Aside from these standout successes, there are countless examples of creators that earn a sustainable living without becoming household names like this family who sails around the world and makes videos of their adventures or this group that teaches science through animated videos.
Most of the action in the passion economy today is very much exploratory. Creators are experimenting to find the right medium and content to reach their audience, and the supporting companies are searching for a business model that balances both freedom and value. There is also an “unlocking” of labor and creativity taking place. New platforms have birthed new media categories for creators to fill, as Twitch has done for video game streaming. Podia and Teachable give rise to otherwise nonexistent labor by offering a scalable outlet for creators to share their expertise.
Eventually, however, we see the passion economy emerging from its current perception as a fringe movement for artists and influencers to become a core element of the future of work. Keep in mind, in the past decade, gig work went from being a frowned-upon concept to employing over a third of the American workforce. With the right tools and business models, it will become commonplace for individuals to earn freedom and value by leveraging what they alone are best at to create more enriching content.
Influence, Authenticity & Proximity
In the pre-passion-economy world, an individual, no matter how talented, was behind the scenes of a media brand. The best journalist still sat at a NYT desk and earned a salary. By taking away the desk and the salary, a creator is more authentic, vulnerable, and free. The attraction to creators has always existed, it has just been obscured behind the high walls of production and distribution.
People crave authenticity—a quality that brands inherently limit but creators emanate. Because creators target specific niche interests that are closer to consumers’ identities, they also achieve a level of proximity to their audience that was previously impossible. In our view, this will make individual creators more influential than the institutions they used to serve. In other words, influence was previously granted to individuals who were close to those with capital and distribution. Now the two are decoupled, and influence must be earned directly by way of authenticity and proximity.
Something extraordinary happens when a creator finds their audience and vice versa. It feels like the way it always should have been. Creators are free to do what they are best at—maybe even something that only they can do; consumers find value in it and can transact with them more directly. By setting creators free to monetize their individuality, the endless barrage of content competing for our attention will give way to more meaningful, personalized consumption.
By setting creators free to monetize their individuality, the endless barrage of content competing for our attention will give way to more meaningful, personalized consumption.
Closing the Gap
If you’re new to the space, it may seem like this trend has already played out: Instagram, YouTube, TikTok, and others are all mainstream platforms dominated by individual creators. Influencers make loads of money all by themselves. The average person consumes plenty of podcasts and blogs. However, there is a massive imbalance between the time spent on individual creators and the dollars that flow to them versus traditional media.
As our media diets shift toward individuals, that imbalance will grow until the monetization catches up. We’re doing more work to quantify this gap because, eventually, time and money will reach equilibrium—they always do. We’ve seen the gap between attention and dollars close several times – cable television in the 60s, early adopters of the internet in the 00s, mobile web several years later, and gaming is underway today. As individuals close the gap with more effective monetization, we anticipate a significant opportunity for companies to support creators and remove the friction between them and their audience further unlocking the passion economy.
Netflix shares are down 8% based on soft subscriber guidance for the September quarter. Keep in mind, even with the pullback, the company has gained $70B in market cap this year. Investors are entering what could be six quarters of noise around Netflix reporting metrics, given the impact of the pandemic on moving subscribers forward this year. This implies Mar-22 will be the next quarter with clean year over year comparisons.
Putting guidance into perspective
For Sep-20, factoring in a typical Netflix beat implies new sub adds of 3.4m, which will be down 50% year over year. That soft guidance should not be a surprise. Back in December of last year, analysts expected Netflix to add about 25m subs in 2020. Incredibly, the company has already met those full-year expectations, pulling 25m new subscribers into the first half of the year. For the full year of 2020, we expect the company will add an additional 35m new subscribers. In other words, while growth is slowing, for the year the company is on target to outperform the Street’s original paid subs add expectations by 40%. Not surprisingly, factoring in the after-hours pullback, NFLX shares are up about 40% year-to-date.
- The company is delivering incredible value to consumers. We estimate Netflix costs a typical user about $0.37 an hour, compared to cable at $1.03, and a movie at $7.11. This value is driving sub growth and retaining customers.
- On the June Quarter Earnings Interview, the company left the door open for price increases next year on a region by region basis. That said, we believe it will become progressively more difficult for Netflix to raise prices. This is because other fast-growing forms of entertainment are even cheaper. We estimate Fortnite costs a typical user $0.18 per hour, TikTok even less. Additionally, Peacock joining Apple and Disney at $5-$7 a month makes it more difficult for Netflix to raise its $9 per month rate.
- Netflix remains more leveraged than a typical tech company with about $16B in debt and $7B in cash. The debt increased by $1B in the quarter and is used to fund content.
- The company also announced Chief Content Officer Ted Sarandos will become a Co-CEO and join the Board of Directors. Reed Hastings, will be C0-CEO, and Chairman. Given the two have worked together for decades, the announcement is not a surprise and likely means little will change with the company’s strategy given Ted has been instrumental in building value over the past decade. This new role also signals Hastings to move to Chairman only in the years to come.
Free-to-play games with SaaS-like models offer the least expensive form of entertainment available today. Not only does gaming offer the lowest cost per hour, but it also provides a highly dynamic set of experiences.
In our most recent study, we quantified the cost per hour of various forms of entertainment. For subscription-based entertainment, we used the monthly subscription price and compared it to the average number of hours per month per user spent on the platform. For non-subscription businesses like a Disney theme park or any of the games on the list, we calculated average revenue per user (ARPU) before looking at the average hours spent on any form of entertainment.
A few takeaways:
SaaS-like gaming offers the cheapest forms of entertainment
Fortnite and League of Legends rank among the cheapest forms of entertainment. While not a free-to-play game, World of Warcraft monetizes at a similar rate to the free-to-play games, as it is offered on a subscription basis. Those three titles average $0.17 per hour in monetization (i.e., players effectively pay $0.17 per hour they spend playing the game). Each of those titles offers low barriers to start playing and consistently iterate on the existing product with new experiences to keep customers engaged, much like good SaaS products.
More traditional games, like GTA and Call of Duty, monetize at much higher hourly rates than SaaS-like games, and they need to given the differences in their models for updating content. We think of traditional games as those that charge a set price up front for the game regardless of after-purchase monetization. Call of Duty launches a new game every year, and GTA launches a new game every five to seven years. These titles sell a new $60 game every year or every few years with some modest incremental content in-between.
As games increasingly become the next social networks, the SaaS-like model makes more sense to achieve greater distribution, enhancing the network and maximizing long-term monetization even if the per hour rates remain below traditional rates.
Gaming is highly dynamic and offers a near-infinite number of unique experiences
Massively scalable and dynamic game worlds enable a far lower per-hour cost than other forms of entertainment. While the core gameplay of Fortnite remains the same, players are free to drop wherever they choose in each instance of the game. The randomized weapons they discover, the opponents they face, and the storm circle are different each time. Unique gameplay experience keeps players coming back for more.
Compared to other forms of entertainment, like movie theaters, theme parks, novels, or Netflix, the ability to provide a unique experience is more difficult. A novel doesn’t change the next time someone reads it. For a theme park to provide a new experience to guests, a massive undertaking is required to create that experience, both financially and temporally. Even Netflix struggles with keeping content experiences fresh. It’s hard to surprise viewers of a movie or film since most stories are just versions of something similar told in the past. Netflix makes up for this with a large volume of content, which they’re required to constantly refresh.
Gaming doesn’t have to refresh content to the same extent, as it is the nature of games to provide a unique experience every time. In addition, it’s much more cost-effective and easier to deploy new content. Game patches can be built without disrupting gameplay and be delivered digitally to players. For almost every other type of entertainment on the list, content expansion is a significant undertaking.
Ultimately, the relatively low hourly cost of SaaS-like gaming gives titles like Fortnite and League of Legends an advantage when it comes to building a massive, long-term audience. We don’t expect these franchises to try to bring their hourly monetization up to the level of traditional games, but we do expect them to build beyond mid-teens as gamers are likely to be willing to pay more provided there are value-add experiences they can purchase.
The bigger opportunity for SaaS-like, free-to-play games lies in optionality around building a digital third place for their audiences where people socialize with their friends and share experiences like concerts or even movies. Games are the future of social and the best chance at creating a metaverse with unknowable monetization potential.