August 21, 2006

Go Netflix Go! Part One

Netflix recently received attention for increases in the cost to acquire new customers. Over the course of the next few evenings, I will explore some of the customer file dynamics that make Netflix such a fascinating case study.

Netflix released quarterly financial performance on August 9. Subscriber acquisition costs increased from $38.13 last year to $43.95 this year. This means it is becoming harder and harder for Netflix to acquire new customers.

Netflix also announced a monthly churn rate of 4.3%. If we apply some algebra to this churn rate (1-0.043)^12, we find that Netflix has an approximate annual customer retention rate of 59%. In other words, Netflix retains 59 out of every 100 subscribers, on an annual basis. In order for Netflix to maintain flat sales, they must recruit another 41 new subscribers to replace those lost. In order for Netflix to grow, they have to recruit far more subscribers. In order for Netflix to grow fast, they must focus their marketing activities almost entirely on customer acquisition, because no reasonable increase in annual retention rate can generate enough sales to grow fast.

Over the next few evenings, I will explore how fast Netflix can grow, given the constraints of their cost per new customer metric. I will estimate how expensive it could be for Netflix to grow rapidly, and illustrate the long-term financial impact of short-term growth via customer acquisition. In other words, get ready to sit back and enjoy some good 'ole fashioned Customer File Dynamics, applied to Netflix!!

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