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There's little doubt that Netflix (NASDAQ: NFLX) has been the biggest winner in the ongoing transition from broadcast television to streaming video. Even as competitors like Amazon.com (NASDAQ: AMZN) and Hulu -- now controlled by Walt Disney (NYSE: DIS) have built thriving business in the wake of Netflix's success, no challenger has yet to achieve its massive customer rolls.
The streaming pioneer continues to increase its subscriber base: It has put up more than 25% year-over-year growth in each of the previous four quarters. This adds up to nearly 150 million subscribers, and its worldwide growth shows little signs of slowing.
Yet even in light of these stellar increases, Amazon and Hulu have been able to carve out profitable niches in an area that Netflix has thus far ignored: ad-supported streaming. That opportunity could be worth billions of dollars to Netflix.
Netflix could make billions offering an ad-supported tier. Image source: Getty Images.
Leaving money on the table?
Instinet analyst Mark Kelley posits that Netflix is missing out on a lucrative opportunity by not introducing an ad-supported tier. Kelley has run the numbers and conservatively estimates that if Netflix were to introduce a free option supported by advertising, the company would produce more than $1 billion per year in additional revenue. Most of that would drop directly to the bottom line, generating nearly $700 million in additional net income.
"An ad-supported tier could [also] provide a lift to free cash flow, reducing the need for Netflix to raise debt frequently, especially beyond 2021 into a potentially rising rate environment," Kelley wrote in a note to clients.
Some believe that the opportunity will soon become too difficult to resist. There are a number of ways Netflix could approach advertising. While maintaining its existing service, the company could offer a completely free tier, entirely supported by ads. Netflix could also take a page from Hulu's successful playbook and offer a lower-priced level ($5.99) that is partially supported by ads.
The evidence is clear
Advertising is an idea Netflix has long resisted, but the demand for such an option is undeniable. Hulu recently reported that its subscriber base now exceeds 28 million. The company added 3.8 million in the first quarter alone, continuing its torrid growth from 2018, when the number of subscribers grew 48% year over year. The company offers an ad-free tier, but more than 70% of its viewers are on its ad-supported plan.
While Amazon is best known in streaming video circles for its Prime Video -- which is included as part of its Prime membership -- the company also offers a free tier, via its IMDb TV (formerly IMDb Freedive). The e-commerce leader recently signaled its growing interest in the space by significantly increasing its selection of programming, saying it will triple the content on its platform, adding thousands of new titles. The company will also launch the service in Europe later this year, the clearest sign yet that it sees strong interest for a free, ad-supported offering.