Given the last few years of disruption in Telecom, many analysts have continued regurgitating prophesy on “the death of cable companies”. It has become clear that Netflix, Hulu, and other over-the-top (OTT) content providers are competing for the customers of traditional cable operators, and traditional cable operators are aware of the threat.
What few recognize as commonly, however – is how OTT providers and cable operators need each other to survive right now, due to how their operating models and costs work today. Rather than pontificating about the “death of cable” like many other articles, consider this – the unexpected, but valuable opportunity of strategic friendships between cable companies and OTT providers.
#1: You can’t watch OTT content without connectivity
A majority of OTT customers can’t access streaming content without internet connectivity – and where do they get internet? From cable operators who offer broadband services. So, in essence, OTTs rely on their competition, cable operators – to distribute their services to customers – why haven’t they more effectively found a way out of that reliance?
#2: An OTT’s operating model can’t afford to give customers connectivity – a cable operator’s can
OTT providers don’t have very high capital costs, and their current operating model won’t allow them to. To date, OTT providers like Netflix have been able to operate on EBITDA margins as low as ~5%. The majority of their costs focus on developing content, and high capital costs of distributing content are avoided by leveraging existing broadband infrastructure built out by cable operators such as Comcast, Charter Spectrum, and Cox.
#3: Cable’s operating model can’t afford to develop exclusive, evolving content – OTT’s can
On the other hand, traditional cable operators DO have high capital costs, which continue to grow. Traditional cable operators spend ~30% of margins on capital costs – laying out fiber, building nodes, and maintaining infrastructure. To survive, cable operators have had to keep EBITDA margins of at least ~35% to accommodate high capital costs as well as high programming costs from carriage contract fees.
#4: If the Trump administration rolls back net neutrality, OTTs may need cable companies more – but cable companies will still need to behave
If the FCC’s recent push to roll back net neutrality materializes, domestic cable operators would no longer face the government oversight that has prevented internet providers from throttling, blocking, or favoring certain sites for the last two years. Internet providers could soon begin strategically choosing which sites get higher quality broadband access – aka, who gets better access to internet users. You’ll recall that back in 2014, this scenario played out when Comcast required Netflix to pay for network improvements that would better support customers streaming Netflix content.
Some argue that since the FCC began regulating net neutrality, internet providers have been subsidizing a major operating cost of OTTs by paying the capital costs required to build and maintain the OTTs’ primary distribution channel. It does seem like OTTs would face a new weak spot if net neutrality reverses, but if OTTs don’t like how internet providers respond to the regulatory change, OTTs could explore alternative options such as Google Fiber, which continues to grow and work through kinks. Such a move by OTTs could perhaps even help drive consumer demand away from traditional internet providers – a future, but potential threat that could help balance the power between internet providers and OTTs if net neutrality rollbacks indeed occur.
Cable operators and OTT providers have distinct operating models that result in distinct operating cost limitations – and right now, each of their respective strengths happens to help make up for the other’s key limitations. It seems like Comcast and Netflix have recognized the opportunity to reap synergies from one another by forging a formal partnership – will others begin to follow suit?