• Triton

Here's one way to think about iQIYI

What would Netflix look like if it was started today, and didn't evolve from a mail-order DVD rental business?

When it launched the only thing “Net” about Netflix was the ordering interface – the content was distributed in physical form by snail mail. Netflix rented DVDs it didn’t make containing filmed entertainment content it didn’t own in paper mailers that took days to arrive, and again to return. Hard to imagine that idea getting funded today, but in 1998 Netflix was a magnet for capital – and not coincidentally for subscribers.

So what’s changed since Netflix launched?

Broadband internet is ubiquitous and wireless so video content can be streamed anywhere anytime to smart devices carried or otherwise stared at by everyone old enough to walk.

And now that Netflix has grown into the “Net” in its name, the “flix” is seeming more and more anachronistic as short-format scripted series (that we still call TV, though fewer and fewer people watch on a traditional broadcast or cable-connected television set) consume more and more audience viewing time. Starting with House of Cards in 2013, Netflix itself has now produced 591 originals, the great majority of them series.

Shorter formats on smaller screens with no start or end times bingeable in unlimited quantities with no late fees on demand.

What’s also changed is that huge amounts of viewing time is expended on video outlets bundled into mega retail, advertising, and production platforms.

Amazon Prime Video launched in 2006 as a little-noticed value-add to its Prime delivery subscription service, and it too now produces more original film and TV programming than we have space for here. Why does Amazon do this? Jeff Bezos says “when we win a Golden Globe it helps us sell more shoes.” Why does Google own YouTube? Why do Disney, Comcast and Time Warner own Hulu? They have their own “shoes” to sell.

Whatever the bundling or strategic logic of owning a video content distribution platform, one thing is for sure – it takes a ton of capital to produce competitive original content. Amazon’s spending is rumored to run at $5 billion per year. In 2017 Netflix spent $6 billion, and the estimate for 2018 is $8 billion – it’s hard to imagine that idea getting funded de novo today either.

Except iQIYI is giving it a try, raising $2.25 billion in a U.S. IPO with half of the proceeds marked for new content production.

iQIYI is an odd-ball situation. While the large American platforms are leveraging their bundles, iQIYI is being unbundled by its Chinese parent Baidu. Half of iQIYI’s revenue is from advertising, and less than 40% from subscriptions. So it’s not quite Netflix, or Amazon, or Hulu, or YouTube. But it’s a little of all of them – with some King Digital thrown in as well, based on the claim that proprietary technology gives them an edge identifying and producing “blockbuster” content.

And what great content it must be as content costs have driven iQIYI to report a negative gross margin in each of the last three years, vs. Amazon and Netflix with gross margins at 37% and 34%, respectively.

Maybe a rational scaled platform that creates and distributes its own premium content can develop as a stand-alone, with no legacy cashflow or loss-leader rationale in support of a core monetization engine. Maybe if Netflix launched today it would look like this, and iQIYI is the next-generation Chinese semi-ad-supoprted Netflix. We shall see.