Netflix will succeed in Japan, but China is a whole other ballgame

As the market rolls into August and well into the third quarter, over-the-top video players and analysts are closely watching the next move that Netflix makes: officially launching in Japan. Slated to take place on Sept. 2, Netflix Japan will be the company's most significant international entry this year, and even CEO Reed Hastings expects a tough slog.

What repercussions could slow growth in Japan (and China, which we'll get to as well) have for U.S. customers? A subscription price hike is one possibility.

"Japan is a unique market because it's very brand sensitive," Hastings told analysts and investors on the company's most recent earnings call. He added that it may be Netflix's slowest market in terms of subscriber penetration.

But even with the cautious expectation of the market and the SVOD provider alike, Netflix is very likely to succeed in Japan. Here's why.

First, Hastings and crew have studied the heck out of the last SVOD provider to try and crack the Japanese market: Hulu. The broadcaster-backed streaming service launched in Japan in 2011, but gained very little traction with the market. It ultimately sold off its unit to Nippon Television Network Corp. in 2014.

Hastings said that Hulu's early missteps were significant. "Pricing was too high; it was about ¥2,000, or about $20 at that time, a month, had no local content."

Hulu also didn't do enough to push its brand in front of Japanese consumers, he said. Things like putting a Hulu button on manufacturers' remotes, or getting a more visible position with the TV and cable companies it partnered with in Japan.

"In contrast, our pricing will be more aggressive than theirs was. We'll have a local content, we may have some local originals. We're really focused on doing a great job. We've got more experience than they had at that time," Hastings said. The company signed a content deal with Fuji Media at the end of June, for example.

Further, Netflix is putting plenty of weight on catering to a different consumer culture. "Japan will probably be our slowest market to get to certain penetration threshold, but it may be one of our best markets in the long-term because when the Japanese society embraces a brand, it's a very deep connection, very long-term," he said.

The company will face much more competition than Hulu initially did. "There are at least 10 major TV networks that have launched SVOD platforms, including NHK On Demand, FujiTV On Demand and TBS On Demand. Another, a joint venture of 29 content owners called Bonobo, will launch this fall," analyst Colin Dixon of nScreenMedia said. With Hulu (which still has a presence in Japan) and two other providers in the mix, about 7 million people already subscribe to OTT services in the country. Dixon also said that five Tokyo-based TV networks will launch an AVOD (ad-supported video on demand) service this fall as well.

Despite all this, Japan's SVOD penetration rate is less than 20 percent among its 36 million broadband households, Dixon said.

And then comes China.

Netflix, like many U.S. companies, definitely wants to get into the hearts and wallets of China's growing OTT audience, which has about 450 million viewers already and is a potential $14.5 billion market. But any official presence in the country will be circuitous. The company has to partner with one of seven licensed OTT video providers, for example, rather than directly offer SVOD services.

The company is currently scouting out the territory, licensing some of its original content to online video providers in China like Sohu.com. It's a strategy that enables Netflix to build business relationships in the country prior to deciding on a media partner; and it also gives it some insight into the government's tight censorship of media. (For example, its third season of House of Cards was held up for weeks because the country's media regulator, the State Administration of Press, Publication, Radio, Film and Television, had to view every episode before deeming it acceptable for the public.)

David Wells, Netflix's chief financial officer, underscored the company's cautious plans for China. "I would say China continues to be sort of its own entity in terms of the challenges and the particular characteristics of the market," he said. "We're taking our time and being deliberate in finding a path and the right model to work."

Another potential issue facing not just Netflix but any foreign company going into China: According to Axel Merk, president and CIO of Merk Investments, a slowdown in overall global markets means increased difficulty operating in an already challenging country. "In our analysis, China is slowing down; many firms that have tried to sell to the ever more affluent Chinese middle class may be facing headwinds," he said in a blog post Tuesday.

So, what do struggles in China mean for U.S. subscribers? Potentially, another hike in the subscription price.

There's a fairly clear case for a price rise. Netflix's only source of revenue is its subscribers. And while it's prepared to absorb a good deal of the impact of slow growth in Asia-Pac and China, that can only go on for so long.

Other options, like scaling back its original content commitment or slowing its international expansion, are also possible, but there's nothing like revenue when it comes to continued, long-term growth. In fact, while emphasizing that no price hike is on the near horizon, Hastings said that the company will try to push U.S. customers toward buying its higher-priced plans. Its 2-device, $9 per month mid-level plan is currently the most popular among customers.

And Netflix can rely on its subscribers: A new Parks Associates study shows that its level of churn, about 9 percent of its U.S. subscriber base, is much lower than that of its closest competitors, who see as much as 50 percent of their subs jump off the boat after trying their SVOD services.

Challenged by rising content costs and a commitment to continued global expansion--as well as pursuing global content rights for all of its titles--Netflix will eventually need to jack up monthly prices again. The only question is when it will do so, and how far the price will rise. --Sam

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