Mic Drop #18: Some Rewards for Skeptics of Disney+

The dots new data connects for us about the moving pieces of Disney's streaming Strategy

Investors love a good story told with numbers, and Disney has an extraordinary one in streaming with 146MM subscribers across Disney+, Hulu, and ESPN+. That story has helped Disney shares to rise 60% over the past four months, and break the $200/share price point to an all-time high this past week (before a market slide kicked in).

So why be skeptical of Disney’s streaming strategy in the face of overwhelmingly positive evidence?

I ask partially because this tweet from Hedgeye’s Andrew Freedman reminded me of a conversation he and I had in October 2019:

Now, I wasn’t this bearish - I thought they would announce somewhere closer to 6MM pre-orders at launch, and possibly 10MM, but never imagined anything near the 30MM they ended up announcing for Q1. I was skeptical enough in October 2019 to write:

  1. “More evidence emerges that Disney+ has overpromised and will underdeliver” and

  2. “Disney+'s real challenge will be whether it has the pieces in place to evolve in a way that reduces churn and drives growth.”

Obviously, I was proven wrong on the first quote. My skepticism resulted in a failure to imagine that Disney+ could reach an unprecedented 100MM subscribers in just over 12 months after launch, or 50% of the scale of Netflix in a fraction of the time period.

But, I continue to be proven right with the second quote, as The Information’s Wayne Ma and Tom Dotan reported this past week:

While Disney+ has enjoyed rapid growth in the U.S.—the service signed up more than 10 million subscribers on its first day in November 2019—it has long faced the question of how fast it would grow once it had captured the super-loyal Disney fans. One factor affecting growth is that the programming on Disney+ is narrower than that on other mass-market streaming services. Disney+ puts a heavy emphasis on family shows and franchises like Marvel and Star Wars. Disney has avoided shows that were appropriate only for adult audiences, putting those on its Hulu service. But executives have debated putting a broader range of shows on the service.

Disney has started to reveal its plans to attract more streaming subscribers in Europe. Last week it announced a slate of 10 projects to be made by producers based in countries including France, Italy and Germany. The series will appear both on Disney+ and on Star, the just-launched streaming channel that serves as Disney’s hub for more adult-oriented shows and sports outside the U.S. 

Effectively the challenge for the Disney+ business going forward is that one-third of Disney+ subscribers are in India, and are projected to be one-third of all Disney+ subscribers going forward. These Indian subscribers generate revenue of only about 70 cents a month on average, compared to more than $5 for those in the U.S. and Europe. As Ma and Dotan write:

That means Disney+ may need to generate the vast bulk of its revenues from just two-thirds of its subscribers. And it’s unclear how much more growth it is experiencing in the U.S.

The question for Disney is, does it have the pieces in place to evolve in a way that reduces churn and drives growth?

Four Takeaways from Last Q1 2020

Last February, I wrote about four takeaways I had after Disney’s extraordinary Q1 earnings call (free download with Coupon Code SUBSTACK):

  1. Takeaway #1: Disney+ nailed the Conversion stage of their sales funnel: 

  2. Takeaway #2: The content value proposition is mixed. 

  3. Takeaway #3: How to reconcile Disney's data about growth and churn and its international ambitions 

  4. Takeaway #4: A big question remains, how does a streaming business with scale across two different platforms scale further?

Takeaways #2 through #4 are worth revisiting here.

Takeaway #2: The content value proposition is mixed.

The core of Takeaway #2 was that nostalgia for an old library had not been proven to be enough to drive scale for other streaming apps:

I truly believe old movies are for niche audiences who actively seek them after watching apps like Filmstruck and even HBO Now and Showtime Anytime bury famous Hollywood movies into the long tail of a movie-filled User Experience and User Interface. And, in turn, [we have seen] those apps perform better for their original content (e.g., HBO and Game of Thrones) than for their legacy content. So, I find it hard to believe that old titles Sleeping Beauty and Snow White attract 60-90MM users in the long run. 

First, The Information’s reporting confirms that Disney+ needs more growth beyond “the super-loyal Disney fans” who love its old library.

Second, the “shock and awe” presentation of Disney+’s upcoming slate of original content on Disney’s Investor Day confirmed that Disney+ will need to rely unusually heavily on original content to do so.

In the case of Marvel, Marvel’s Kevin Feige told the Television Critics Association press tour (TCA) just how heavily Disney+ plans to rely on Marvel:

Going forward, we hope to continue what we set out to do which is follow characters from series that then interact with features and some will go back into series with everything eventually on Disney+ where all of the Phases are right on Disney+. I love having that arena for fans and particularly for newcomers.

There is no reason to be skeptical of its original content strategy, but as I wrote on Monday, an early MCU show like WandaVision:

tells us just how rabid, or inelastic, demand is worldwide for MCU content. But, it still doesn’t feel like a reliable signal for what’s to come for Disney+.

Takeaway #3: How to reconcile Disney's data about growth and churn and its international ambitions

A question I had last February was about how Disney+ would scale internationally based on existing data:

Bernstein analyst Todd Juenger noted that the early growth of 350K subs per day "has slowed to 64,000 subs/day in FQ1-to-date", even with the 28.6MM announcement. Iger also noted that "churn rates were much better than we expected they would be". Both data points suggest that, as a rule of thumb, when when Disney+ launches internationally next month, and when Hulu launches internationally in 2021, precedent tells us to expect growth to slow by 80% or more three months after launch, and churn to remain low.

The Information article offers some helpful math here on the international aspect of the 95MM Disney+ just announced:

  1. 30% of subscribers are Hotstar (India and Indonesia), or just under 30MM;

  2. Just under 40MM are U.S.; and,

  3. Leaving Europe and Latin America accounting for less than a third of the 95MM

Ma and Dotan conclude from this data that “Signing up more people in Europe and Latin America is key to Disney’s hopes of turning Disney+ into a profitable business” because “about half of Netflix’s subscribers come from those markets”.

What they don’t mention is how much Disney+’s need for profitability will also rely on capturing the near 30MM Netflix subscribers it has not captured yet in the U.S. (~67MM Netflix subscribers less ~37.5MM Disney+ subscribers). The bet is that a mix of the “shock and awe” content strategy and bundling in the U.S. will help to drive capturing those audiences, and more profitability.

Takeaway #4: A big question remains, how does a streaming business with scale across two different platforms scale further?

One answer for why Disney+ is scaling in the U.S. is because of a discount bundle offering with Hulu and ESPN+.

But, the deeper question here is how Disney could operate three different services across two different back-ends. This question was based on reporting from The Information last year about Disney debating whether to continue to build ESPN+ and Disney+ off of BAMTech, and have Hulu remain separate as a back-end; or, to opt to have only one back-end, and shift all streaming businesses to either BAMTech or Hulu's back-end.

I described the debate as “performing the technology equivalent of upgrading an airplane's engine mid-flight”, and “an unusual risk for Disney to be taking with this success story already in the books.”

At this point, it has effectively picked BAMTech for its worldwide technology, but keeping Hulu’s back-end exclusive to the U.S. instead of scaling it internationally (likely to avoid having to pay Comcast a higher buyout fee for its share of Hulu in 2024).

What’s notable here is something The Information piece did not pick up on:Disney seems to be running an A/B/C/D test of different models. Specifically:

  • Test A (U.S. only): Bundle of Disney+, Sports (ESPN+), and vMVPD (Hulu + Live) and/or adult audience content (Hulu)

  • Test B (Latin America): Bundle of Disney+ and Star+ (ESPN and adult audience content)

  • Test C (Europe, Canada, ANZ, Singapore): Disney+ app with Star Branded Tile (adult audience content)

  • Test D (India, Indonesia): Disney + Hotstar (Disney+, adult audience content, and sports)

If I were to guess what Disney is testing here, at least two of the test objectives relate to the value proposition of Disney+:

  1. How much does sports drive growth of engagement within the Disney+ app (Test D)? And, how much does sports drive bundle growth, retention and engagement across multiple apps (Test A, Test B)

  2. Do existing and target subscribers prefer adult audience content and/or sports content within the Disney+ app (Test C, Test D), or outside of the Disney+ app (Test A, Test B)?

My guess is across both tests, the results will point to more regional-specific decisions for Disney+ UI/UX: Latin Americans may simply prefer the local religion of fútbol to be in Star+ and not within the Disney+ app. That said, I think the tests of Star and Star+ have an eye to the future of Hulu in the U.S. (I wrote about Star and Star+ last December for Members)

So, why be skeptical of Disney’s streaming strategy?

My preference for being a skeptic has almost nothing to do with predicting numbers. There are research analysts backed by strong market research and quantitative analysis who are unusually good at those types of estimates and predictions. Rather, it is summarized in this current description of PARQOR:

PARQOR’s market analyses of OTT streaming connect the dots between macro trends on one hand, and, strategic, operational, and financial consequences for individual companies and the industry as a whole, on the other hand.

Skeptical questions like the ones above help to highlight the moving pieces we are not seeing, so that we can ask logical questions and connect the dots to better understand rationales for recent business decisions.

The Disney data in The Information article tells a different story than the one shared on Investor Day in December, and mirrors concerns I shared about Disney last February. In order to grow, Disney+ will need to rely unusually heavily on:

  1. original content, both within its owned IP, and new original content locally produced;

  2. Europe and Latin America regions; and

  3. identifying the optimal mix of Disney+, sports, and adult oriented content on the Disney+ app in each region

Disney+’s extraordinary library of older IP no longer appears to be able to solve for growth anymore. I was right in October 2019 in wondering about the limitations of this older library after “the super-loyal Disney fans” had been captured. I was wrong about when the plateau would kick in after they had been captured.

The data in The Information piece tells us that the optics of Disney+ Hotstar’s 30MM+ subscribers has helped to disguise a growth plateau in the U.S,, and underperformance of the app relative to Netflix in Europe and Latin America. This is true despite Disney+ reaching 50% of Netflix’s scale in 14 months.

So, as much as Disney’s recent moves in streaming are solving for additional growth, it also has been solving for growth plateaus its extraordinary first year was hiding. Ma and Dotan opted to focus on the valid question of profitability in their article for The Information, but the data they share also sheds light on whether the moving pieces of Disney’s streaming strategy can solve for these plateaus.

What we have been seeing in original content announcements, and in A/B/C/D market tests of UI and UX in different global regions, is Disney confronting some more sophisticated outgrowths of its original strategy. In other words, its real challenge is indeed whether it has the pieces in place to evolve in a way that reduces churn and drives continued growth.