Much has been said about MoviePass, its business model, and its impact on theaters and Hollywood. Entrenched competitors like AMC have said that MoviePass is simply unsustainable. We all know the company is investing a lot of money to grow their subscriber base which now stands at over 3 Million. In SEC filings the company estimates it will lose $45 Million Dollars in June of 2018 and “at least” $45 Millon Dollars in July – attributed to increasing subscriber numbers and the hot summer box office season.
Wall Street has been spooked by these numbers, and HMNY has been shorted down to all-time lows again this week, now trading at around $.10 a share.
At the moment, MoviePass and its holding company HMNY are finding it hard to find any constituent group who really loves them.
Hollywood and Theater owners are either indifferent or outright negative on MoviePass and its business model, primarily because they fear MoviePass is inserting themselves in between them and “their” customers. Theaters and Hollywood have found a way to work together, even if it has meant higher prices and less interesting movie choices for consumers, they are at least comfortable with the status quo, and they don’t fancy a new company coming in and changing the game on them.
Customers, on the other hand, have grown suspicious of MoviePass as they have adjusted their plans to reduce fraudulent usage and initiate Peak Pricing to encourage subscribers to view movies other than the big blockbusters on opening weekends. Customers, of course, liked the old deal they had better, and they are not running to the defense of MoviePass.
Investors have viewed all of this with a very skeptical eye. As they say, the only certainty on Wall Street is that they HATE uncertainty. And as MoviePass has burned through cash, declared that it may not be sustainable, and monkeyed around with its core offering, it is keeping the big Wall Street money at bay, and keeping the stock in the toilet.
As I was reading the latest rounds of negative press on the company I ran by this video from the Verge, done by their Entertainment Editor Bryan Ishop.
In the video, Ishop reasons that MoviePass is actually bad for consumers because MoviePass puts downward pressure on pricing that theater owners can’t defend against. Ishop goes on to argue that theaters can’t differentiate by showing different films, and the only way they can differentiate is by offering more premium experiences, things like Laser display, better sound, 3D, IMAX, reclining seats etc. He believes that MoviePass will hurt theaters ability to keep investing in innovation of the theater experience should they not have more direct control over their pricing. In the video, he interviews an executive from a local theater owner in Portland Oregon who says he does not want to give MoviePass a cut of their revenue and feels like MoviePass has inserted themselves as an unwanted middleman.
All of this got me to thinking more and more about if MoviePass is really a disruptive innovator in the classical Clayton Christensen definition, or if it is really just a low-end discounter trying wedge its way into the uninvited territory of theaters and Hollywood. Spoiler! As it turns out, I think both are true.
For those who are not familiar with Clay Christensen, he is really the father of the concept of disruptive innovation, and he wrote the book “The Innovator’s Dilemma” that describes fully the concept of disruptive innovation. It is important to know who this person is, as his impact on American business has been massive, and his models have proven to be universally accepted by business leaders around the world.
Why am I talking about Bryan Ishop and Clay Christensen in the same post here? Because Bryan actually does an incredible job of demonstrating exactly why MoviePass is a disruptive innovator. Bryan is the textbook definition of the “most demanding customer” that Christensen says incumbents will almost always maximize toward. And it is logical because those customers tend to be the most profitable customers.
When Christensen is asked what exactly is a disruptive innovation, he starts by saying what it IS NOT. He says “a disruptive innovation is not a breakthrough that makes good products a lot better” he goes on to say a disruptive innovation “is a product that transforms a product that was historically expensive and complicated that only a few people had access to it” … “makes it affordable so a much larger part of the population has access to it”.
You can watch the entire video here – if you invest in HMNY – I highly highly recommend you watch this video. Clay Christensen was one of Reed Hastings most valued advisors at Netflix, and as most investors in HMNY know, Mitch Lowe the CEO of MoviePass has twice before used disruptive innovation to build Redbox and Netflix in the past.
MoviePass, I believe is taking a disruptive innovators approach, where they are essentially coming into the market on the low end, and by doing so, they are making movies a lot more affordable and available to a lot more people. The low end of movie theater exhibition, in this case, is 2D only, no IMAX, seat reservations only with partner theaters, and some restrictions on premium showings. With MoviePass Peak Pricing, the low end also means that you have to wait to see a new release until after the first or second weekend or pay extra to see it on opening weekend.
As described by Clayton “Characteristics of disruptive businesses, at least in their initial stages, can include: lower gross margins, smaller target markets, and simpler products and services that may not appear as attractive as existing solutions when compared against traditional performance metrics. Because these lower tiers of the market offer lower gross margins, they are unattractive to other firms moving upward in the market, creating space at the bottom of the market for new disruptive competitors to emerge.”
Interestingly, as Christensen well explains in the Innovators Dilemma, the response from the incumbent player is both predictable and logical. AMC almost perfectly demonstrated the response. AMC has logically pursued sustaining innovations, these include improved theater seating, better food, 3D offerings, Imax, reserved seating, & rewards programs targeted at heavy moviegoers. All of this has been logical in pursuing more profitable frequent customers. As AMC pursued the higher end market with more frills, they essentially left an opening for a competitor like MoviePass to enter.
As Christensen puts it “Companies pursue these “sustaining innovations” at the higher tiers of their markets because this is what has historically helped them succeed: by charging the highest prices to their most demanding and sophisticated customers at the top of the market, companies will achieve the greatest profitability. However, by doing so, companies unwittingly open the door to “disruptive innovations” at the bottom of the market. An innovation that is disruptive allows a whole new population of consumers at the bottom of a market access to a product or service that was historically only accessible to consumers with a lot of money or a lot of skill.” Wow! – that sounds like AMC and MoviePass to me!
What’s wonderful for HMNY investors is new entrants almost always win in the marketplace. Across all industries, the basic theory and formula laid out by Christensen has proven again and again to accurately predict how companies will be overcome by innovative disruptors.
So why then has the stock of HMNY and the press on MoviePass been so negative? Well, this too is actually quite common for disruptors. Amazon, Netflix, and many others were first met with a TON of skepticism before being totally accepted by Wall Street.
There are of course other important differences between MoviePass and Amazon, Netflix.
One problem in particular for MoviePass is that its initial customer base was really a lot of heavy users, who were traditionally served as high-end customers at the theater chains. MoviePass, I believe, gave too much to these customers early on. The deal was really too good to be true, and those customers were very vocal in spreading the word how great it was. Unfortunately, they have been equally vocal as the deal was made more low end, so many of those heavy users are now displeased and they are grumbling on social media, and complaining to the press. For the casual moviegoer, however, MoviePass remains an excellent bargain and will bring many people back to the movies who had given up on it because of the expense, and often that disappointment brought on by paying a high price to a see a movie that was really not very good. MoviePass is definitely expanding the market by bringing people back to the movies, and their data proves it.
There are a lot of other examples of disruptive innovators you can study as well. American Automobile companies were disrupted by the Japanese who came in low and took over the sub-compact market, the steel industry is a great example where mini-mills like Nucor came in at the low-end steel rebar market and slowly moved up higher and higher. Nucor is now the largest steel manufacturer in the world.
So yes – MoviePass is a disruptor, and it is also a middleman, both are true. If MoviePass can survive, and cross the chasm, it will overtake AMC and other competitors in the market, and it will likely grow to a point where it soon has to find a way to defend itself from the next innovator.