Sony Content Still Missing On Netflix Streaming; Starz-Sony Dispute Continues

Sony Corp. (NYSE: SNE) initially pulled its content down from Netflix Inc. (NASDAQ: NFLX) streaming service on June 17, resulting from a temporary contract issue between Sony and Starz, according to Netflix’ blog.

Sony content is still down on Netflix' streaming service owing to contract issues between Sony and Starz. A deal clause in the Sony-Starz contract was reportedly triggered once Netflix subscriber numbers crossed a threshold, according to news reports.

We believe a resolution will result in better monetization for Sony (from Starz), and will likely put upward pressure on price for a Netflix-Starz renewal when the deal is up in first quarter of 2012, said Youssef Squali, an analyst at Jefferies.

A deal clause in the Starz-Sony agreement was triggered once Netflix hit 22.8 million subscribers in the U.S., allowing Sony to ask Starz for better financial terms, according to a Reuters report. As such, Sony’s content is expected to remain off of Netflix until Starz and Sony work out a new pay TV/streaming agreement.

Sony Pictures and Starz previously extended their multi-year agreement for exclusive pay TV rights at the very beginning of 2009, and while the contract term was not disclosed, the arrangement was said to go well into the next decade.

Given the exclusive nature of the arrangement, Squali doesn't believe Netflix could negotiate directly with Sony to acquire the studio’s output. However, this all depends on on-going Starz-Sony negotiations, specific wording in the Starz-Sony agreement, and various unknowns with regard to streaming clauses.

Squali said given that Netflix gains access to Sony and Disney studio output through the Starz deal (scheduled to terminate/renew in first quarter of 2012), Netflix is currently missing out on content from a significant studio (Sony had about 12 percent of box office market share in 2010).

Squali said new Sony-Starz negotiations likely puts upward pressure on cost to re-up Netflix-Starz deal. Netflix streaming deal with Starz is up for termination/renewal in first quarter of 2012, and he is currently modeling in about $200 million per year (from about $30 million) beginning in 2012.

However, given that Sony is now in a position to extract more value from its relationship with Starz, Squali sees upward pressure on the price Netflix will have to pay in order to keep these important streaming rights.

If a Netflix-Starz deal results in $300 million per year payment (versus Squali's $200 million estimate), he sees about $0.40 impact to his 2012 EPS estimate of $6.27. In early June, Ted Sarandos, Chief Content Officer, noted that Netflix was in active talks with Starz, and the range noted in the media (about $200 million to $350 million) was wide, but all very plausible.

Starz-Disney contract, for example, reportedly allows 20 million streaming content users, according to a source from LA Times. Once this threshold is hit, Starz would have to pay Disney an additional $0.20 per subscriber (about $3.5 million per month).

Squali said Netflix suffered 3rd outage last Sunday June 19. Netflix confirmed this was a technical issue (versus hackers)), and the service started to come back online at about 3 am ET.

While any individual outage shouldn’t materially impact user experience or subscriber growth, to the extent these outages occur more frequently, get to be lengthier or occur during peak movie watching times, satisfaction and churn could be adversely impacted. We are not concerned about these outages (yet), but we will be keeping track, see below, said Squali.

Netflix stock closed Friday's regular trading up 0.48 percent at $256.96 on the NASDAQ Stock Market.