With the growing number of knives and cables, Comcast (NASDAQ: CMCS.A) had to change his video strategy over the years. And while the cable TV business used to be at the center of its operations, this has shifted drastically to its broadband business. At this point, Comcast has reached a state of indifference as to whether the customer gets their premium X1 pay-TV product or their free Flex streaming device. And that’s a relatively strong position for Comcast in the industry.
Why the CEO doesn’t care
At this year’s Goldman Sachs Communacopia conference, Comcast CEO Brian Roberts was asked how he thinks about the video business. “We would like to get to a place where we are indifferent … to be honest, we are there,”
Roberts says 2 million households have taken the Flex device, which comes free with Comcast’s broadband service. One million of these households use the device regularly.
This is still a small consumer base compared to connected TV giants like Amazon and Yearwhich number about 40 million active users. But compared to the number of customers who have turned down Comcast’s video service in the last three quarters – 948,000 – this shows a strong ability to make up for these subscriber losses.
As part of its business strategy, Flex is able to achieve the same as Comcast’s full pay-TV package. It attracts households to Comcast’s services and keeps them subscribed for longer. The challenge to be overcome by offering Flex for free against attracting subscription revenue from pay-TV customers is the profit of the equation. But Roberts says he actually has it.
“Get to this point of financial indifference, then you see that EBITDA margins are going in the right direction and continue to rise,” he said. “And our EBITDA growth, even more important, continues[s] to have a continuous ability to grow every year. So this is a strong, sustainable model and hopefully years and years to come. “
What drives Flex to achieve financial balance with the X1?
There are several factors that make Flex more valuable than Comcast’s paid TV service.
On the side of pay TV are the rising costs of content. Media companies increase transportation fees each year for their contracts with distributors. Comcast, meanwhile, is not raising the prices of its packages at the same rate, although it imposed a price increase late last year. Programming as a percentage of video revenue has increased by about 1 percentage point from 2018 to 2019. As a result, its gross margin has been squeezed.
On the Flex side, Comcast is able to enter into distribution agreements with media companies for their streaming services, such as Amazon and Roku. And while it may not have the same price power as the two giants, it can take part of the streaming economy to offset hardware costs.
The recent introduction of Peacock, now available with a pre-loaded Flex device, has improved Comcast’s economy. Roberts says Peacock is Flex’s second most popular app and has 15 million registrations. High engagement with Flex can further improve customer relationship margins. It is worth noting that Peacock is not currently offered to Roku or Amazon, as companies cannot agree on a revenue-sharing agreement.
What does it mean to move forward
As Comcast increases its penetration rate with Flex and improves its monetization on the platform, it will virtually force its hand to raise prices for its premium pay-TV service. As it sees margin improvements for Flex, it will need to make similar improvements in a customer’s absolute EBITDA for its pay-TV service. Of course, the two services can create different subscriber retention profiles, so the value of customers’ lives is also key. However, the general trend should be more frequent and larger price increases for Comcast’s pay-TV service.
When Comcast raises its prices, it should see an increase in cable cutting. And while this is a risk of losing all customer relationships, the company has so far managed to continue to increase its broadband subscribers and Flex users to compensate for these defects.
Investors should not worry if cable cutting speeds up, but they will want to pay attention to Flex broadband rates and EBITDA.