Netflix Sees Little Short-Term Change in ISPs’ Net Neutrality Practices

"The most likely scenario, at least in the near term, is that there is no real change” in net neutrality, Sarandos said. That’s because if the major ISPs “were to contemplate blocking Netflix or other services, it will significantly fuel the fire for more regulation, which is not something they are interested in,” he said. As for the long-term implications of net neutrality, “we still need to figure out what it means and how that works out,” Sarandos said. Netflix reported Q4 results after regular U.S. stock markets closed Wednesday (CD Jan 23 p16) that MoffettNathanson analysts told investors the next day “slightly” exceeded the stock research firm’s expectations. Netflix shares soared on Thursday, closing the day 16.5 percent higher at $388.72.

Asked about possibly subtle changes in ISPs’ net neutrality policies that might not be noticeable year to year but could harm Netflix in the long run, CEO Reed Hastings conceded that’s “a legitimate fear, I suppose.” Still, Netflix operates in 41 countries that have varying degrees of net neutrality, and “we never had a significant problem to date,” Hastings said. “It doesn’t mean we won’t, but ISPs generally “have a very profitable business and they want to expand that business,” he said. “Part of delivering and expanding for consumers is having a good Netflix experience and good YouTube experience, things like that. That’s why people get higher-speed broadband. And so I think actually our economic interests are pretty co-aligned, which is how it’s worked so far."

The company expanded in a letter to shareholders Wednesday on why it thinks ISPs won’t likely degrade Netflix traffic. ISPs “have very profitable broadband businesses they want to expand” and “are working closely with us and other streaming video services to enable the ISPs’ subscribers to more consistently get the high-quality streaming video consumers desire,” Netflix said in the letter. Less regulation is necessary if the ISPs adhere to a voluntary code of conduct, but if they “start impeding specific data flows, more regulation would clearly be needed,” Netflix said (http://bit.ly/1dYONap).

Netflix “has to be at least a little concerned with future carrier actions because Netflix is completely dependent on ISPs to run its business,” said Guggenheim Partners analyst Paul Gallant in an interview. “Even if an ISP wanted to get aggressive, Netflix is probably right that there’s likely to be both regulatory and political limits on what carriers could realistically do to forcibly extract new revenue from Netflix. However this unfolds, Netflix is probably the new face of the net neutrality movement.”

The market power in the net neutrality debate “is obviously Netflix, and with every passing season of House of Cards, more and more so,” said Ev Ehrlich, a fellow at the Progressive Policy Institute (PPI) and president of economic consulting firm ESC. The firm’s clients include Verizon, which brought the D.C. Circuit case, while Comcast is a funding source for PPI. Ehrlich was also a former undersecretary of Commerce under President Bill Clinton. “The whole net neutrality debate is premised on the idea that the ISPs are going to look at Netflix and say ‘If you want to reach our customers, it’s going to cost you,'” Ehrlich said. “But the more likely possibility is that Netflix looks at the ISPs and says ‘If you want us on our system, it’s going to cost you.’ It’s awfully hard to imagine that they're worried about the constellation of broadband goods and services."

Public Knowledge Senior Vice President Harold Feld said it’s important to remember that investor disclosures like the Netflix letter are always a “balancing exercise” in which a company must disclose the risks without alienating investors. “I thought Netflix actually hedged it,” he said. Netflix’s hope for a best-case scenario also doesn’t necessarily mean a best-case scenario for consumers, Feld said. “The idea that there’s risk involved but Netflix is so big it might be able to cut its own deals is not exactly an upside for consumers."

The advent of 4K streaming figures to be a real boon to the ISPs, Hastings said. “If you are on the revenue side, you are celebrating,” he said. With 4K streaming, “you have got something to get people to upgrade to the faster plans,” he said. “And so as long as the fast plans are priced appropriately for the ISP, it’s a great interplay. For 20 years, we saw PCs get faster, applications get richer, which was a reason to get faster PCs, which then enabled richer applications. And that ecosystem really grew.” Short term, “not many people” own a 4K TV, and there’s so little native content available, so 4K, as “a percentage of all viewing,” will develop “fairly slowly,” Hastings said. “There is no tidal wave coming in the next 18 months. But it is a great way to work with ISPs, so that their higher-speed plans have more merit.”

Netflix sees itself as “pretty large-screen-centric,” and so is “less driven by mobile trends than, say, a music service would be,” Hastings said when asked why Netflix hasn’t made a bigger play for mobile second-screen viewership. Though Netflix viewership on tablets is growing, and there has been “some” growth in viewership on smartphones, “so much of our viewing is on smart TVs or TVs connected to a Blu-ray player or a game console,” Hastings said.