March 2012 Adrian Drury, Lead Analyst, Media & Broadcast Adrian.drury@ovum

1. Cloud TV : the 3 pillars of the Netflix model & way it matters to your Asia Pacific network & content business March 2012 Adrian Drury, Lead Analyst, Media & Broadcast Adrian.drury@ovum.com Twitter : @adriandrury +44 7860 925724

2. New models of video consumption vs. traditional broadcast:US usage in perspective 12-17 & 18-24 aggregate mobile + PC video usage > TV timeshift (inc. DVR) 7% growth to q3 2011 YoY in web video viewing (linear & non-linear) US TV homes in Nielsen base set to decline in 2012 to 114.7M from 115.9M driven by youth market Source: Nielsen / Ovum

3. Re-architecting the industry?

4. Netflix: Strategic success factors • Netflix used a DVD rental-by-post model to build a subscriber base, brand awareness, and content licensor relationships while it waited for consumer broadband penetration and client device sophistication to reach a point at which it could support a streaming model. • The company has a device integration model that has enabled it to go to market with a broad range of consumer electronics device manufacturers and application platforms without subsidizing its own CPE. • Netflix is a true “Cloud TV” platform in that rather than providing services from its own data center assets, it has transitioned its platform to Amazon Web Services, which enables it to scale to meet the uneven capacity requirement challenges of providing premium HD video services in volume. • As Netflix continues to gain customers, the marginal cost per subscriber for content acquisition reduces within the rights cycle, and Netflix has the market power to acquire valuable content earlier in its viewing window.

5. Netflix subscriber growth and cost-per-user fundamentals • Netflix is seeing a rapidly growing subscriber base against a falling ARPU as users move to AYCE (All You Can Eat) streaming plans. • CDN (variable) and technology costs (fixed) sum to <8% of ARPU. • There is material risk in increasing cost of streaming content per subscriber.

6. Ways to play: IP TV vs. cloud TV B2B supply chain Partner, embed & broker CDN estate (telco + pure-play) Play-out operations & headend Media hub for post-production assets and business process outsourcing linear multicast services for ISP IPTV linear multicast for future hybrid DTT platform On-demand tVOD, sVOD, network PVR, +7 day Channel, OEM or acquire OVP with service configuration for LCN customer requirements Aggregate, channel (and host?) for fragmented service platform and companion app dev market

7. Netflix cloud application platform: The new architecture of broadcast?

8. Supply side strategic priorities: cutting operational costs, advanced audience measurement, social integration and multi-platform distribution The Asia-Pacific View: “Please rate the following strategic activities that are critical to your broadcast media business” 3D production & channel launch low strategic priority, plus diversification into new pay models also a relatively low priority thanks to strength of Asian broadcast ad markets Source: / Ovum (n=150)

9. In Asia-Pacific, centralizing operations in line with market consolidation is the operational priority followed by production and business management system integration The Asia-Pacific View: “Please rate the following operational issues that are business-critical to the future of your organization” Upgrading IP distribution and transmission systems and enhancing production systems rank as the third and fourth operational investment priorities for Asia-Pacific broadcasters. Source: / Ovum (n=150)

10. “Cloud TV” technology strategy • Netflix is a pathfinder for cloud computing across all industries, not just video entertainment services. • Netflix has moved its entire 24×7×365 video on-demand service from its own DC infrastructure to Amazon Web Services. • It exploits commodity computing for scale and open source for agility. • The company observed that capacity growth rate was accelerating and unpredictable, with spikes at product launch (iPhone, Wii, Ps3, Xbox). Data centers represented a large, inflexible capital commitment. • Why AWS: AWS investment in tooling and automation; AWS zones for high availability, scalability; AWS development skills are increasingly easy to find. • Benefits: • Faster – lower latency than equivalent data center web pages and API calls. • Scalable – no data center capacity constraint as subscriber count increases. • Availability – greater robustness and availability (no downtime). • Agility – availability of a large developer pool and elimination of the need for complex self-tooled data center code.

11. Agile procurement of low-cost, high-performance CDN capacity • Netflix distributes video streams to end customers via carrier/CDN agreements with Level3 and Limelight. • November 2010 began a move of Netflix’s traffic away from Akamai due to competitive bidding from both Limelight and Level3, and alleged performance deficiencies of video on the Akamai network (albeit publicly denied by Akamai). • This follows a shift of Netflix traffic from Level3 to Akamai in February 2010, and before that, from Limelight to Level3. • Netflix, like other providers using public IP infrastructure, is able to exploit competitive dynamics within the CDN market to drive cost down and select the highest-performance networks for a given application class (namely video streaming). • However, Netflix is seeing some growth in CDN cost per subscriber due to increased streams per user, although this is marginalas a percentage of content licensing costs.

12. Netflix legal dispute between Level3 and Comcast • In November 2010, news emerged that Comcast was threatening to block Level3, given that Level3 had secured the contract to act as a backbone for Netflix traffic. • The detail of the dispute is a commercial disagreement between Level3 and Comcast regarding relative traffic levels contravening thresholds in their peering arrangement. • Comcast is not explicitly throttling Netflix traffic, but seeking to offset inbound traffic costs by raising a levy on Level3 as a Netflix carrier. • If the FCC sanctions this activity by Comcast, it may increase Netflix’s wholesale carrier costs. However, price competition in the CDN/carrier market may in fact push any incremental cost back to the wholesale provider.

13. International expansion – Canada demonstrates that Netflix can rapidly exploit latent demand in new markets • Netflix has issued guidance that by the end of 1Q11, it expects to have secured 700,000–950,000 subscribers in Canada. • Initial analyst consensus estimates were 300,000 by 4Q11. • As it moves into new markets, Netflix has the strategic advantage of being pre-integrated with a large installed base of CE platforms, as well as having strong word of mouth among early technology adopters. • The international footprint of AWS infrastructure will also enable Netflix to scale into new markets with little capex overhead. This is being tested with its pending entry of Latin America (est. Q4 2011). • The primary challenge for the company’s international expansion is content licensing for streaming in local markets at a cost that does not have material impact on its profitability – this is proving highly challenging. • However, when Netflix is able to secure content licensing terms for streaming in Europe (est. 1H 2012), it will introduce a major new competitive aggregator into this market, with potential long-term material impact for FTA broadcast and Pay-TV models. • We note that there is little material effect on cable operators in the US or opportunity for strategic response.

14. Disruptive threats to the broadcast supply chain

15. Non-TV applications still most popular for multi-tasking audiences The applications used whilst watching TV can be split into two camps: general applications that are unrelated to the content that is currently on the TV, and TV-related applications where the user is communicating about or interacting with the TV content in some way. General Internet-related applications TV-related applications % of people that use second-screen devices As can be expected, general Internet applications are more popular than those that are linked to TV content. This is bad news for content producers as such applications steal viewers’ attention away from the TV screen. Having said that, the second-screen device is becoming a useful TV companion for finding out more information, and networking, about the TV content.

16. Crossing the ratings panel divide & breaking barriers to transformation: the forces morphing audience relationship into a customer relationship

17. Smartphones driving multi-platform service usage: 67% YoY mobile TV growth in 2010 in Europe (over WiFi/WCDMA/HSPA) Source: Ovum / Comscore

18. Multi-tasking behaviour in Japan is strong, but not out of line with Western markets Over the past year there has been an increase in press coverage on the use of second-screen devices. However, in reality the concept as a whole is not a new phenomenon. The act of using a device to access Internet services while watching TV on another (i.e. the main TV) is already well established in connected households. According to Ovum’s Consumer Insights survey, across the eight countries surveyed by Ovum, more than 70% of people claim to at least occasionally use a second-screen device while watching TV, with 37% doing so on a regular basis. The trend is particularly strong in emerging markets such as India, although the universe of connected households in such countries tends to be still weighted by at least the early majority. All countries show high usage. Germany is the most conservative, but even here 27% of people are regular second-screen users. Do you use a second device to access Internet applications while watching TV?

19. What’s on the TV screen when using the second screen? Which of the following types of shows would you most likely be watching while also using another device? In the UK, news programs are the most common TV content genre to be playing on the large screen while companion devices are being used. Drama ranks as the second most frequent category, followed by documentary or factual programming. Game show and reality show a similar second screen usage profile. Audiences will be engaging with second screen devices both because of lack engagement with content on the TV screen and for a sub set, to engage with content and services on screen.

20. Major challenge for broadcast is audience multi-tasking – a greater threat to spot engagement than DVR?

21. Strategic framework hypothesis for broadcast • Near Term: • Defend a your existing channels of distribution and limit the impact of IP on your existing DTT. DTH, DTC platforms • Exploit new low cost distribution channels for diaspora reach (IP delivery of live & non-live into secondary app platforms and primary hybrid DTT platforms) to primary & secondary set • Extend reach of live and non-live to growing non DTT/DTC/DTH device base & audience – particularly for secondary set viewing • Exploit social media to tactically drive ratings • Establish companion screen position & application framework strategy • Potential near term discontinuity event changing TV UI model – Apple TV as “MegaiPad” • Mid-term: • Create NHK as a global portal for media localised Japanese content – fast follow the BBC Worldwide strategy • NHK technology strategy: will DTT have another technology iteration? Or will 8K be distributed via IP multicast? (fixed or wireless) • Long term: • Will the audience share of linear broadcast platforms (DTT, DTH and DTC) decline to the level that the infrastructure costs can no longer be supported? • If yes – what is the timing?

22. Operational pain-points

23. Supply side strategic priorities: cutting operational costs, advanced audience measurement, social integration and multi-platform distribution Source: / Ovum (n=150)

24. In Europe upgrading IP distribution & transmission capabilities, and upgrade to HD operations is a priority in line with the global trend Source: / Ovum (n=150) In Europe enhancing production systems, enhancing content asset management for multiplatform distribution and integrating IT and business management systems trend relatively above the global mean. Investment in upgrade to 3D operations in a weak priority.

25. Consumer media consumption trends

26. Smartphones driving multi-platform service usage: 67% YoY mobile TV growth in 2010 in Europe (over WiFi/WCDMA/HSPA) Source: Ovum / Comscore

27. Major challenge for broadcast is audience multi-tasking – a greater threat to spot engagement than DVR?

28. Multi-tasking doesn’t just mean social, it also means alternative video services, gaming and app usage Source: Ovum Social media – the perfect water-cooler but also the first significant substitute for broadcast ad spend.”

29. Ovum pay-TV consumer demand behaviour insights • Penetration of multi-channel TV services is high across all platforms, exceeding 100% of broadband-equipped households in all countries. Free-to-air (FTA) digital terrestrial television (DTT) has been a key driver of multi-channel TV uptake in markets such as Australia, France, Spain, and the UK by virtue of its low adoption costs, while subscription-based cable and/or satellite pay-TV platforms have led growth in Brazil, India, and the US, as well as to some extent the UK. Adoption of multi-room digital TV services is also prevalent in most homes, accounting for nearly half of all cable and DTT installations as well as around 40% of satellite subscriptions. Uptake of pay-TV versus FTA services varies widely between countries and is largely determined by the success of DTT relative to other platforms within a given market. • The public Internet is rapidly gaining traction as a credible distribution platform for a range of content that includes broadcasters’ catch-up TV, premium TV shows, and movies, as well as short-form clips, which remains the biggest online video category. Internet TV and video is finding its way to connected TVs, games, consoles, set-top boxes, smartphones, and tablets, with content types and use cases varying according to the nature and capabilities of each type of device. Despite the industry hype, however, penetration of both tablets and Internet-connected TV sets remains low, with consumption of popular online content services such as BBC iPlayer, Hulu, and Netflix still taking place mostly via PCs and laptops. • The use of personal computers, mobile phones, and portable media players (still predominantly comprising of Apple’s iPad and iPod Touch) as companion devices for viewing video content while simultaneously watching TV remains at a nascent stage, although usage levels indicated in the survey aren’t insignificant and will only grow as consumer behavior continues to evolve. We are already seeing substantial usage of social media concurrent with TV viewing, with a proportion of consumers showing a propensity for social TV by engaging in contextually relevant social interactions. Although it’s still early days, tablets are showing almost equal appeal across all age bands, whereas the use of personal computers and mobile phones for activities such as companion viewing and social media is lower among older users.

30. Relative scale of TV service platform adoption DTT is the most widely deployed TV distribution platform in most developed markets apart from the US and Germany, where cable and satellite continue to dominate the multi-channel landscape. Satellite remains a strong pay-TV platform in the both UK and US, as well as enjoying rapid growth in later-developing markets such as Brazil and India. The continuing popularity of retail free-to-air equipment accounts for satellite’s continuing strength in Germany. IPTV remains an underdog within the competitive landscape of TV distribution platforms in all countries except France, where a weak cable sector and a stagnant satellite pay-TV market created openings for both IPTV and DTT, which have grown in tandem, with many households using hybrid set-top boxes (STBs) that combine both technologies. In all countries, multi-channel TV installations exceeded the number of respondents, indicating an average 145% household penetration of multi-channel TV installations. Penetration of multi-channel TV platforms

31. Multi-room TV penetration TV platform installed base: single room vs. multi-room The availability of low-cost retail STBs and free access to content have driven DTT penetration, making it a major multi-room digital TV platform. But multi-room subscriptions are also a key value-added enhancement and revenue generator for multi-channel pay-TV providers such as BSkyB, ComCast, DIRECTV, and Verizon. As of 1Q11, BSkyB had 2.2 million multi-room subscriptions (equal to around 22% of its TV customer base), for which it charges an additional £10.25 per month. Multi-room TV penetration by platform 90% 80% 70% 60% IPTV Although single-room multi-channel TV installations are proportionally higher than multi-room in most countries, the US is a major exception, with multi-room exceeding single-room across all platforms – by a factor of three in the case of cable and satellite and two in the case of IPTV. DTT installations in the UK are equally split between single and multi-room while multi-room DTH in Spain is double that of single-room. Satellite 50% Cable Digital terrestrial 40% 30% 20% 10% 0% UK US India Brazil Spain Japan France Australia Germany Grand Total

32. Multi-channel TV adoption: pay-TV versus free-to-air Our sample is broadly split 50/50 between FTA and pay-TV, although service adoption varies widely between countries. The US and UK have the highest pay-TV penetration levels across their total base of consumer households, driven by the strong established presence of cable and satellite operators. Pay-TV is also making headway among the higher-income segments in Brazil and India (to which our samples are biased). Australia, France, Japan, and Spain, each with strong terrestrial TV markets, are more typical of the global pay-TV/FTA split, while Germany’s low propensity towards paid services reflects the country’s continuing preponderance of both FTA satellite and utility cable services. Spread of TV service types Grand total US UK Spain Japan India Germany France Brazil Australia 0% 20% 40% 60% 80% 100% Free TV channels only Extended basic package Basic pay-TV package Full premium

33. What keeps consumers paying for TV services? Content choice and quality are the most important pay-TV purchasing decision criteria, with little variation between countries in the proportion of consumers citing these two factors. One exception is Japan, where 70% of consumers valued the range of content available from pay-TV services. The prevalence of triple-play bundling varies markedly between different multi-channel markets. Those dominated by pure-play satellite services (e.g. Germany and India) have fewer bundled service customers, while those with well-established cable or IPTV operations that offer discounted multi-service packages (e.g. France, Spain, the US) have more. Perhaps surprisingly, QoS isn’t what keeps the majority of customers paying for their TV services. This, along with an almost unanimously low ranking of perceived value for money as a pay-TV driver, suggests untapped opportunities for service providers to differentiate more aggressively on user experience rather than simply focusing on content. Why do you continue to pay for a monthly TV subscription? It offers a better range of content than any 40% other single provider It offers the best quality of content 28% My TV service is bundled with my broadband and/or fixed telephone service at 25% a reduced subscription I believe my TV service provider provides a higher quality of service than 23% subscription-free alternatives I believe my TV service provider offers better value for money than subscription- 15% free alternatives 10% 20% 30% 40% 0% % of respondents taking pay-TV services

34. Internet TV The PC/laptop is still the most widely used device for consuming Internet-sourced content. Despite the booming popularity and increasing video-related capabilities of smartphones, they are still being used by only a minority of consumers for video consumption and most if this is video clips. Short-form video (as distributed via sites such as YouTube) remains the most common video content category being consumed online, although consumption of TV shows is growing with the success of services such as Hulu in the US and the various broadcasters’ catch-up TV services in markets such as France and the UK. Still, with just 10% of consumers actually subscribing to paid TV or movie services online, there’s still plenty of room for growth in this area. The proportion of responses indicating consumption of long-form video via a TV connected to the Internet shouldn’t be underestimated, given the still-low penetration of both directly connected sets and Internet-enabled STBs. Consumption of TV-related content on connected devices 90% 80% PC/laptop 70% 60% Mobile phone 50% 40% Portable media device 30% such as an iPad/iPod Touch 20% TV connected to the 10% Internet 0% Access Watch short Watch TV Watch full- Don’t use that application news videos from episodes length films headlines/ sites such from sites content as YouTube such as Hulu Consumption of TV-related content on secondary devices is high with 87%, 84%, 51%, and 47% of consumers accessing news, video clips, TV shows, and movies respectively on their PCs, phones, portable media devices, or connected TV sets. Respondents saying they consumed these content types on a TV connected to the Internet include those using Internet-enabled set-top boxes and games consoles as well as directly connected TV sets. It should be noted that the indicator for the news content category above includes all types of media and not only video.

35. Ovum : Multi-tasking insights • The use of connected devices while also watching the TV (second-screen activity) is on the increase. According to Ovum’s survey, more than 70% of people in connected households (i.e. those living in a household that has broadband access of some kind) claim to at least occasionally use a second-screen device while watching TV, with 37% doing so on a regular basis. People living in Germany tend to be slightly more conservative with regards second-screen usage, but overall the trend is fairly consistent across all countries. • Most of the activity consists of simply accessing the Internet on a connected device, with the TV also happening to be on in the background. Standard Internet trends therefore apply – the main one being that younger age groups are the most active users. This weighting towards the younger segment of the population impacts the demographics of the typical second-screen user. For example, they are more likely to be single or living with a partner, and if single, still living at home with their parents or with friends. There is no significant difference between the genders though – females are as likely to be regular second-screen users as males. • Smartphones and tablets are increasing in popularity as a way of connecting to Internet services and applications, and make ideal second-screen devices. However, although device adoption is rapidly increasing, only a percentage of mobile handsets are currently connected to Internet services and applications, and tablets still have a low market penetration. The PC/laptop remains the most popular connected device and is therefore also the most popular second-screen device, even among the young. Ovum expects second-screen usage to swing in favour of the smartphone over time as overall device penetration increases. The use of tablets (which are not as heavily weighted towards the young) as companion devices will also increase, although at a slower rate than the smartphone. • As can be expected, standard Internet usage habits don’t change simply because the user is also watching TV. However, there are a growing range of TV-related applications and activities that are starting to gain popularity - especially those providing access to further information / news and social interactions about the TV content. In terms of social media, the general social networking platforms remain more popular among regular consumers than the specialist social TV platforms such as GetGlue. • News is the most likely TV genre to be on the main TV when people are using a second-screen device. This is also true when the second-screen activity is linked to the TV content. Gameshows, reality TV, and TV dramas are also popular TV genres for this type of activity. • Watching alternative TV/video content on the second screen is a significantly popular activity, especially among the young. A lot of such viewing is not related to the TV content on the main TV screen, suggesting that, at least while watching certain content genres, the user may have lost interest in what is happening on the main screen. Although most alternative video viewed on companion devices is short-form content, nearly a third of users are watching second-screen video content for more than five minutes at a time.

36. Over 70% of connected people access the Internet while watching TV Over the past year there has been an increase in press coverage on the use of second-screen devices. However, in reality the concept as a whole is not a new phenomenon. The act of using a device to access Internet services while watching TV on another (i.e. the main TV) is already well established in connected households. According to Ovum’s Consumer Insights survey, across the eight countries surveyed by Ovum, more than 70% of people claim to at least occasionally use a second-screen device while watching TV, with 37% doing so on a regular basis. The trend is particularly strong in emerging markets such as India, although the universe of connected households in such countries tends to be still weighted by at least the early majority. All countries show high usage. Germany is the most conservative, but even here 27% of people are regular second-screen users. Do you use a second device to access Internet applications while watching TV?

37. Multi-tasking is a habit of the young especially …by age At a high level, second-screen usage consists of accessing Internet applications, but simply doing so while watching TV. It is therefore unsurprising that this activity follows the same trends as standard Internet access when it comes to demographic indicators, the most important of which are those based on age. As with most things to do with the Internet, the younger population tends to lead the way. Nearly 85% of 16–24 year-olds in connected households use devices in this way at least occasionally, 45% on a regular basis. The trend drops off as we move into the older segments. Even here, over 55% of 55 year-olds are at least occasional users. This weighting towards the younger segments of the population does impact the typical second-screen user demographic. For example, people who are single or living with a partner are more likely to use second-screen devices than those who are married, separated or widowed. Similarly, people living with friends or with their parents are heavier users than those that live alone – largely because these are all traits of the younger generation. There is no significant difference in second- screen usage between genders, either for occasional or regular users. Females are as likely to use second-screen devices as males. …by gender

38. The PC/laptop remains popular as a multi-tasking device Do you use the following connected devices to access Internet applications whilst also watching TV? The PC/laptop is still the most widely used connected device. According to Ovum’s survey, over 99% of people that have access to a connected PC/laptop use it for popular Internet applications such as search, email, social networking etc. This compares to 74% of people that own a connected mobile phone. It follows therefore, as shown in the top chart, that the PC/laptop remains the most popular second-screen device among the overall consumer population. Mobile phones and tablet devices generate similar levels of second-screen usage, but with the handset proving more popular with younger age groups. However, this is not a fare reflection of the market, as as stated above, not all smartphones are yet used for accessing Internet services and applications. As a percentage of only connected devices by device type therefore, as shown opposite, the mobile phone becomes the most popular second screen device. This suggests that as mobile handsets become more connected, and therefore more widely used for Internet applications, they will take over the PC/laptop as the most used second-screen device overall. Laptop Laptop

39. Non-TV applications still most popular for multi-tasking audiences The applications used whilst watching TV can be split into two camps: general applications that are unrelated to the content that is currently on the TV, and TV-related applications where the user is communicating about or interacting with the TV content in some way. General Internet-related applications TV-related applications % of people that use second-screen devices As can be expected, general Internet applications are more popular than those that are linked to TV content. This is bad news for content producers as such applications steal viewers’ attention away from the TV screen. Having said that, the second-screen device is becoming a useful TV companion for finding out more information, and networking, about the TV content.

40. Smartphones and tablets increasingly used for social networking Personal connected devices such as smartphones and tablets will increasingly be used as second-screen devices. It is important therefore to track trends on these devices to assess whether they will change user behaviour. As shown in the chart, current trends across the different device types are not too dissimilar. A common trend across all devices is the increased use of social networking platforms for communication – including interactions about content. Smartphones and tablets are more convenient than PCs or laptops and are ‘always-on’ by nature. They are becoming popular devices for social networking as they sit well with the bursty nature of social traffic. Therefore although PCs and laptops remain popular today, smartphones (especially given their market penetration), followed by tablets, are likely to become the second-screen TV companion devices of the future.

41. What’s on the UK TV screen when using the second screen? Which of the following types of shows would you most likely be watching while also using another device? In the UK, news programs are the most common TV content genre to be playing on the large screen while companion devices are being used. Drama ranks as the second most frequent category, followed by documentary or factual programming. Game show and reality show a similar second screen usage profile. Audiences will be engaging with second screen devices both because of lack engagement with content on the TV screen and for a sub set, to engage with content and services on screen.

42. What people do via social networks while watching TV Social networking in general continues to increase in popularity and is a regular activity for second-screen users. Social networking can provide a powerful tool for stimulating interactivity and debate both between producers and viewers – and among the viewers themselves. However, the majority of social media interactions running concurrently with TV viewing remain totally unrelated to the content and consist mainly of people updating their own status or communicating with friends.

43. Second-screen video consumption while multi-tasking Does this video viewing session on your second screen tend to be related to what you're watching on TV? Watching alternative video is an increasingly popular activity among second-screen users and in most cases indicates a lack of attention towards the main TV screen. More than 75% of people stated that the video content viewed on their companion devices was unrelated to the programme running on the main TV screen. Most viewing via companion devices still tends to be of short-form video – with sessions lasting on average between 1 and 5 minutes, although almost a third (32%) of second-screen video viewers are turning their attention away from the TV for periods greater than this. How long do you watch videos for on the second screen while also watching TV?

44. Q&A