The Looming Costs to Rebuild: California’s Wildfires Illuminate Long-Standing Problems with the Construction Labor Market

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In the aftermath of California’s most deadly wildfire season, in which 88 people were killed and over 18,000 structures destroyed, tens of thousands of displaced residents looking to return and rebuild are faced with yet another costly obstacle: a severe construction labor shortage.

In Butte County, where the deadly Camp Fire had decimated nearly 14,000 homes (around 18% of total homes built on an average year in California), the shortage could exacerbate the already tight housing market.

“Nobody’s gone into construction as a career for twenty to thirty years,” said Kate Leyden, executive director of the Chico Builders Association. “So we had a problem to begin with. We didn’t have workers and we had a very tight housing market even in Butte County.”

Leyden said that the labor shortage is pervasive all through Northern California and that builders often have to bring in workers from other counties to come in to work. But this then leaves a shortage of workers in the county of origin.

“Even if they come from Sacramento, that hurts Sacramento. In our area, we have these circles of fires—Santa Rosa, then Redding, and now Paradise—with each one of them, like with Santa Rosa, we see our trades go to Santa Rosa,” said Leyden. “To the north of us—Redding lost a thousand homes in July— we were concerned that we’d lose our trades to Redding, but they’re still cleaning up lots.”

In addition, around 1500 of the construction workforce in Butte County lost their homes, over a third of the 4500 workers the county had to begin with, according to Leyden.

Scott Littlehale, a senior research-analyst for the Northern California Carpenters Regional Council, said that much of the labor shortages are occurring in the residential construction labor pool, as opposed to the non-residential pool.

According to Littlehale, for decades residential developers have been relying on cheaper, more “unskilled” labor, as opposed to the more unionized laborer force in non-residential construction.

“The residential construction labor market was heavily influenced by immigration. It became a critical element. And immigration flows are way down.” Littlehale said.

“I think what the fires do is reveal that the residential industry has come to a dead end with a kind of ad-hoc, low road workforce strategy of relying on the cheapest labor that builders can find.”

He also cites the uneven keel of power between laborers and developers as another major factor, which have been driving down wages.

“It used to be that housing builders negotiated over terms and conditions with the unions. That has for the most part not been the case for decades because they left the collective bargaining table,” said Littlehale.

Low wages combined with the high injury rate in construction, he said, are the reason why many of the local young are discouraged about entering into the trade. You either take less pay and risk falling through a hole or roof or go into less stressful work.

According to Peter Phillips, a labor economist from the University of Utah, in more rural regions like Butte County, even raising wages won’t always guarantee a burgeoning construction labor force.

“Even if contractors do raise wages, that doesn’t necessarily bring new workers into the labor market if the labor market is isolated, such as rural labor markets around Northern California like Chico and Paradise,” said Phillips. “All construction is local. In places like Chico and Paradise, the construction industry has evolved to fit the size of that community. So there’s a hand-in-glove element where the construction industry comes to fit the size of the local community.”

For those on limited incomes, the costs to rebuild will be close to impossible to afford, especially for the uninsured and underinsured.

“We’ve been in Samona County after the North Bay fires in October in 2017 and when we surveyed the people we worked with six months after the fire, 66 percent of them were underinsured by some amount,” said Sandra Watts, project coordinator for United Policy Holders, a non-profit insurance consumer advocacy group. “Because of the location of Paradise, we anticipate it’s going to be quite a bit worse because there’s already fewer resources up there,” she said.

“We have something like 300 houses on the market for sale (before the fires). Now there are 61. Thirty of them were over a million dollars,” said Leyden. “So the people who could buy houses fast, bought houses right away. Then, the apartments got snapped up.”

With FEMA coming into Butte County to bring temporary trailer homes for displaced families, the first major step will be in the lengthy cleanup process that is to come.

“There’s never been anything like this. We’re sort of making it up as we go along,” said Leyden. “When this fire broke out, Chico Builders Associaton called an emergency meeting on how we can keep our construction labor force. The last thing we want is to lose what little workers we have.”

 

Labor Trends and Consumer Preferences: McDonald’s Reimagines Fast Food

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The grip that McDonald’s has on the fast food industry is currently being challenged—not by a competitor, but instead by a labor crunch. The company is adding new technology in its restaurants to adapt, and as long as these renovations are successful, competitors will likely follow suit.

In recent years, McDonald’s has been unable to meet consumer demands, in large part because of the current labor landscape. First, there’s the rise of the gig economy, where workers can spend the day putting together someone else’s IKEA furniture through TaskRabbit instead of working a cash register. Second, minimum wage is increasing across the country, which means it’s harder for companies to afford enough employees to make their businesses run.

Plus, due to low unemployment, the labor market has changed dramatically. While a high employment rate is typically considered positive since it increases our country’s capacity to produce, it also means that businesses looking for workers will have a harder time finding them. This trend hurts fast food companies in particular, since jobs in the industry are often seen as less desirable compared to other options that offer higher pay and better benefits. The current economy favors workers, who can pick and choose where to work—and fast food restaurants often aren’t their first choice.

Source: The Wall Street Journal

In addition, less teenagers are working, which hurts the fast food industry in particular. In 2000, 45 percent of young adults aged 16 to 19 had jobs, whereas today, only around 30 percent do because more students are focused on their education. Teenagers historically provided cheap labor that fast food relied on, but now that source of labor has decreased drastically.

Source: The New York Times | Bureau of Labor Statistics

There were 898,000 open jobs in the accommodation and food services industry in August 2018, which was 20 percent higher than August 2017, according to the Bureau of Labor Statistics. If unemployment says low, we can expect the number of vacant positions in fast food to continue growing.

This market also means it’s harder for fast food chains to retain workers. Workers are quitting at the highest rate in over a dozen years, and the turnover rate in the restaurant industry at large was 133 percent last year, according to TDn2k, a restaurant research firm.

To address the changing labor landscape, some companies have raised their wages. In 2014, fast food wages began to increase and have risen at a higher pace than overall wages in the U.S. ever since. In May 2018, the owner of one Chick-fil-A store made headlines when he decided to increase pay of his workers from $12-$13 to $17-$18.

Instead of increasing wages—which McDonald’s promised to do in 2015 at company-operated stores but has failed to deliver on—the fast food giant has found other ways to entice employees. In October, the company announced an innovative career advising program. According to Stephanie Chan, who oversees the company’s Brand Reputation in California, Arizona, and Nevada, McDonald’s has also grown its career services department so that assistance “isn’t just being offered to employees themselves—it’s open to their immediate family as well.” Earlier this year, the company also announced that it was allocating $150 million to its education program and lowering the eligibility requirements, allowing an additional 400,000 employees to be eligible for tuition assistance and high school diploma programs.


Archways to Opportunity, the company’s education opportunities program, provides a variety of benefits to McDonald’s employees. Source: Archways to Opportunity.

In the long run, the trouble that companies are having hiring and retaining workers hurts customers, since new workers or fewer employees means that the quality of service worsens. According to the American Consumer Satisfaction Index’s national measure of consumer happiness, on a sale of 1 to 100, consumer moods have slid from 77 in the first quarter of 2017 to 76.7, where it has sat for all of 2018. The Index reports that this is “the longest period of stagnation since 1993.”

As a result of growing dissatisfaction, American fast food restaurants have less foot traffic and have become less profitable. In September 2018, there were 2.6 percent less people visiting fast food stores than a year ago, which means fewer opportunities to sell food. At McDonald’s, revenue was 7.32 percent less in 2017 than in 2016, which followed a 3.11 percent decrease from 2015.

This decline in customer satisfaction is partially an outcome of higher expectations. Recent growth in the restaurant industry means customers have more choices when deciding where to eat, which has led to fierce competition. In a recent survey, 26 percent of U.S. consumers said that because they have so many dining options, they have higher expectations than they did two years ago.

Customers also have higher expectations in terms of the food production process. As a result of demands for better ingredient quality and less animal cruelty, companies have already been forced to adapt. After Panera Bread and Chipotle Mexican Grill led the way, chains like Chick-fil-A, Burger King, Taco Bell, McDonald’s, and KFC instituted policies that would limit antibiotic use in poultry. Plus, McDonald’s announced a few years ago that it would use 100 percent cage-free eggs in the U.S. and Canada by 2025.

Source: The Center for Food Integrity

The company also announced earlier this year that it would start making fresh beef quarter-pounders rather than relying on frozen meat. Evette Gonzales, a McDonald’s store manager in Los Angeles, said that her location in Century City is “selling more quarter-pound beef since we changed over.” In fact, sales at her location are up 5 percent this year, which she largely credits to the introduction of fresh patties.

Consumers are also requesting lower prices, causing many stores to offer discounts and deals. At McDonald’s, this has taken shape in the revamped Dollar Menu, which launched in early 2018 and features $1, $2, and $3 options. Plus, back in 2015, McDonald’s started offering breakfast all day after years of pressure from customers.

All of these tactics to meet consumer needs seem to be paying off. In the company’s most recent earnings report, which came out at the end of September, same-sales stores growth went up in the U.S. and internationally, although the 2.4 percent increase in same-store sales in the U.S. was actually fueled by higher prices, driven by increased commodity costs. Additionally, the earnings report shows a 7 percent decrease in revenue and a 13 percent decrease in net income compared to a year ago. Despite these seemingly-negative figures, the company largely beat expectations from analysts, who assumed that the company’s earnings per share would be at $1.99 but instead came in at $2.10, and that revenue would be around $5.32 billion instead of $5.37 billion. Therefore, while McDonald’s is still not performing as well as it has in the past, the fact that the company outperformed some projections shows that their tactics may be working.

Quarter 3 expectations and results from 2017 and 2018 for revenue and earnings per share. Source: Terifs

This largely positive quarter stands in strong contrast with how McDonald’s was viewed by investors earlier this year. In June, the company was on its way to becoming the worst performing in the DOW in 2018, in large part because shares dropped dramatically in March after the Dollar Menu brought in uninspired results. Since then, the company has rebounded.

Stock price of McDonald’s Corporation over the course of 2018. The company took a hit after lackluster sales from its Dollar Menu, but has managed to recover ahead of 2019. Source: Google Finance

Despite these tactics to appease customers, and the steps taken to attract and retain employees, larger trends have weighed heavily on McDonald’s. As a result, the company has separated itself from competitors by taking more drastic action.

It’s called “The Experience of the Future,” a remodeling plan that was supposed to be completed by 2020, but was just pushed back to 2022 because franchises believed the previous timetable was unrealistic. The remodels will include self-order kiosks, new systems for delivering orders, and extra drive-thru lanes. Additionally, over 12,000 stores will have digital menu boards, more parking spots for pick-up, and expanded counters and display cases. Beyond this initiative, McDonald’s has already invested in its mobile ordering and payment system, which is currently operating in 20,000 stores, and introduced delivery through a partnership with UberEats.

A customer using a self-order kiosk at McDonald’s. Source: Bloomberg

The price tag for the project is big —in August, the company announced that in addition to what it had already set aside, another $6 billion would be put toward the modernization process. While the technological advancements are certainly costly, McDonald’s sees them as an investment that will pay off. Although few stores have received their makeovers, given how much McDonald’s is devoting to renovations, investors are bullish about the stock heading into 2019.

However, opinions diverge on exactly what is the driving force behind the massive renovation project.

According to Shon Hiatt, a Professor of Business Administration at the University of Southern California and expert in the world of fast food, investmenting in technology “is a fantastic way to address the labor cost issue—they don’t need nearly as many people.” With greater technology integrated throughout the restaurants, Hiatt predicts that McDonald’s will reduce the number of employees. This makes sense given the current labor market—right now, it’s hard to find workers, plus thanks to the rise of minimum wage, companies are devoting more and more money to afford their staff. Through technology, McDonald’s can put that revenue to use elsewhere.

However, this change will likely have dramatic implications in the long-run. If companies cut employees as the move toward automation, Hiatt cautions that will increasingly “displace those who are the least qualified in terms of having a job,” taking away their minimum-wage position and throwing them into the job market with the subpar skills one learns flipping burgers. At the same time, Hiatt notes that a low-paying job like one at McDonald’s at least provides an opportunity to learn transferable skills like customer service and sales. Without that possibility, many individuals will have even less of a chance to dig themselves out of systemic poverty.

Those inside McDonald’s tell a different tale. Chan said the move toward innovation is focused on “meeting customers where they are at” and listening to their preferences, not a labor crunch. She said that the focus of the innovations is on “putting more choice in the hands of guests—evolving what they order, how they order, how they’re paying, and how they’re served.” While many believe that self-serve kiosks will take away jobs, Chan says the opposite is true—stores will have to “increase jobs because with the introduction of the kiosk, it introduces several new positions into the restaurants” including a team member to show customers how to work the technology. In Century City, Gonzales agrees that “the technology actually calls for more employees, because customers are afraid of how to use the screens.”

Despite these arguments, employing technology instead of people seems to be the way the industry is moving, given comments made last year by Yum brands CEO Greg Reed. Even if the argument made by Chan is true now, one is still left to wonder whether the positions created by the technology will last. Once customers learn how to use the ordering devices—which most people know how to do already—that job could easily vanish, along with others that are no longer necessary in the redesigned stores.

Whether the main driver behind the investments is rising labor costs—which, given the evidence, seems likely—or changing consumer demands, or some combination of both, McDonald’s is forging ahead with technology in hand to do what it has deemed necessary to save its business.

This McDonald’s in Sydney, Australia is an example of what renovated stores may look like across the U.S. Source: Fast Company 

While it’s unclear how customers will respond to the renovations and if McDonald’s will turn higher profits as a result of them, one thing is for sure: if any fast food company is suited to address the challenges headed their way, it’s McDonald’s.

Although competitors are starting to invest in automation, and have begun offering greater employee benefits and discounts for consumers, no other company is investing as heavily in its future as McDonald’s is right now. In her past year working for McDonald’s, Chan has seen that “there’s innovation happening constantly throughout the company—whether that’s with technology, the food, what we are doing with our people. There’s a constant forward movement.” As a result, she believes that whatever comes next, the company is well-suited to face it head on.

China’s Major Cities May Welcome Migrant Workers, But Not Their Children_Final Project

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a hukou book’s photo (photo by Chengdu Living)

A Chinese migrant worker couple Jianhong Fang and Zhou Wang have worked in Suzhou, one of wealthiest cities in China with high GDP per capita 145,205 CNY (21,868 USD), for the past 15 years. They work at the same electronic factory, earn money to support their daily lives and send the rest of the earnings to their parents and eight-year-old son Ming Wang.

Ming Wang has studied at his hometown Yancheng with his grandparents for the past eight years. Although in the same province, Yancheng’s economic development is much slower than Suzhou does. The city’s GDP per capita was 58,299 CNY (8,780 USD) in 2015, 0.4 times of Suzhou’s GDP per capita.

What has distinguished Ming Wang and his parents is the hukou system, a household registration system that the government has implemented to allow each citizen to only enjoy their social benefits in the registration place and then control population imbalance within big cities.

According to the China Labour Bulletin, there were more than 287 million rural migrant workers in 2017, making up 36 percent of the entire working population in China. Because of the natural drive of the economy, workers who were born in an urban area tend to search for a job in a metropolitan area. China’s economic rise has relied on these rural migrants.

Although some workers may access the healthcare and social benefits of their working cities by having their employers paid accumulation funds for them, their children usually cannot go to school in their working cities.

Ming Wang’s hukou is in Yancheng. So, without giving up their satisfying jobs in Suzhou, Fang and Wang may never live together with their little son.

Children like Ming Wang have been called “left-behind children,” which means migrant workers have left their children with family members, usually children’s grandparents, in their hometown.

At the end of 2015, Fang and Wang decided to have a second child after the Chinese Communist Party announced the new two-children policy, which allows Chinese couples to have two children without paying extra fees, would replace the old one-child policy.

After one year, their second son Jin Wang was born. Fang and Wang said because of the revision of the hukou policy in 2014, they may be able to let their second son to be educated in Suzhou.

 

The History & Revision of the Education Hukou Policy

 

The vast population of China requires its government to control labor distributions within each region more effectively. Therefore, since 1949, the Chinese government has used the hukou system to assign each citizen a household registration identity. Each citizen has a hukou that demonstrates his or her name, date of birth, citizen identity number and, most importantly, birthplace. This is a pass for everyone to access education, healthcare, housing and other social benefits locally.

In 1949, due to the lack of transportation and slow-development of the economy, most Chinese citizens tended to stay where they were born.

The hukou system had its first revision in 1958 that set a rural and urban divide. Specifically, children were required to stay at their hukou registration places to achieve an education. However, more migrant workers wanted their children to go to school in the city they worked. For example, although Ming Wang was born in Suzhou, he was still defined by the policy as a migrant child and should go back to his parents’ household registration place to achieve an education. In 2001, 20 percent of the youth population in China were migrant children.

Therefore, hukou policy had its second revision in 2014, which allows migrant children to go to school in cities. This is why Jianhong Fang and Zhou Wang couple immediately had their second child after the new hukou policy and the two-child policy was published.

The Chinese central government and the education department have designed to allow migrant children to receive education in cities. Based on the Chinese Ministry of Education policy, all migrant children are encouraged to complete nine-year compulsory education (six-year elementary school and three-year middle school) in the city that their parents work. According to China’s mandatory education policy, public school usually charge a small fee, which is about 700 CNY (100 USD) per semester.

Zhou Wang said they would keep their second son with them this time.

 

Where Can Migrant Worker’s Children Get Educated In The Cities Now?

 

Public School

Based on the education policy, the education cost of a public school should have no significant difference with a migrant school. Therefore, if given a fair chance, most migrant parents would choose a public school for their children due to the experienced teachers and good-quality equipment there.

However, discrimination among migrant students is still alive at most public schools in the cities, according to the new analysis in the Global Education Monitoring Report.

Reputable public schools in the cities have the right to fill up local students first and usually leave no space for migrant students. Even when some public schools open some seats, local governments and schools request burdensome paperwork to each migrant applicant. For example, in Suzhou, migrant parents need to present at least five supporting documents, which can be proof of residence, temporary resident permit, work permit, income report, place of origin certificate, etc. Human Rights Watch reported that over 90 percent of migrant families could not obtain these documents.

Although public schools are not allowed to charge extra fees to migrant students, some public schools may still request different kinds of renamed fees such as school selection fees, miscellaneous fees or out-of-district fees.

Additionally, transportation is another extra cost for migrant parents who live on the border of the urban and rural area. In Shanghai and Beijing, migrant workers need to reach certain social credits to purchase a car. However, even the point system application process is overwhelming for most migrant workers. Also, the Chinese government has imposed heavy taxes on automotive goods. Therefore, it usually costs a migrant student more than two hours to reach his or her school by public transportation.

These obstacles have forced migrant students to either choose migrant schools or return to their hukou registration places.

Migrant School

Migrant schools, which usually run privately, are a type of schools designed for migrant students who are not accepted by public schools.

For most migrant parents, migrant schools are always their second option. Unlike well-equipped public schools, migrant schools lack teachers, nutritious food supply, facilities and sometimes even licenses.

Some teachers in migrant schools are retired teachers or volunteers or young graduates. According to the 2013 China Labour Bulletin report, the turnover rate among migrant school teachers was about 51 percent in Beijing because most young teachers treated migrant school positions as their stepping stone to public schools.

The overcrowded public facilities and unqualified lunch is another serious issue. Because migrant parents often busier and pay no attention to children’s dinner food, the limited access to drinking water and poor nutrition food at school make children’s health problems worse.

More importantly, the old migrant education policy didn’t allow any private migrant schools; therefore, most current migrant schools are still illegal or have no teaching licenses. In 2011, the Beijing government closed more than 20 local migrant schools.

According to a recent NPR report, a Beijing migrant school’s volunteer said that her students and their parents feel like being kicked out by the city if the government closes their school.

Although the new migrant education policy was published in 2014, it hasn’t spurred some local governments to build more legal migrant schools. So, the plan has not reached out the majority of the migrant population.

 

What Has Caused Returned Students?

 

Migrant workers’ children have made up one of the third student population in China. The new hukou policy has planned to solve their education difficulties. Nine-year compulsory education is one of the most important strategies.

However, discrimination in migrant education cannot be eradicated overnight. ‘Returned children’ refer to the students who have to return to their province of origin after finishing the nine-year compulsory education in the cities.

Furthermore, they have to achieve higher education and take the college entrance examinations, also called gaokao, where their hukou is registered.

The gaokao policy is another invisible disadvantage coming from these children’s hukou. For students who have a hukou of big cities such as Shanghai and Beijing, their college entrance examination is usually designed relatively easy.

In China, most parents have a higher expectation on their children to go to an ideal college because they believe that gaokao is a fair game for every student. If a student wins this game, he or she may have a better chance to enter the middle class. However, the Chinese government still wants to control the population imbalance within a large country. When migrant students pass the scoreline of universities in big cities, they can temporarily hold a city hukou based on their school certificates. The local governments and universities have set score barriers preventing a large number of other provinces’ students from entering their ideal universities.

For example, in 2016, Tsinghua University and Peking University, the top 2 universities in China that located in Beijing, accepted 84 students out of every 10,000 Beijing students and less than three students out of every 10,000 students from other provinces.

Without achieving good-quality education, Ming Wang may never be able to compete with students who have a city hukou. When asked Jianhong Fang and Zhou Wang what kind of future they want for their second son, they said they don’t want Jin Wang to follow Ming Wang’s road.

 

Netflix: The Economic Impacts of the Growing Disruptor – Final Project

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With 130 million subscribers, reaching an estimated 300 million people worldwide, Netflix has become an international phenomenon that has millions of people now binge-watching a variety of TV shows and movies. Netflix has completely disrupted and changed the distribution and content creating landscape in the entertainment industry. What started as a DVD rental delivery service has transformed into a streaming service spending over $11 billion a year on creating original, exclusive content. Netflix has effectively put Blockbuster out of business, is shrinking cable companies by the quarter and has studios scrambling to innovate to avoid being the company’s next casualty. The enormous effect the streaming giant has had on entertainment has led people in the industry to coin the term, “the Netflix effect.”

After Reed Hastings walked into a Blockbuster in 1997 and paid $40 in late fees after returning his VHS copy of Apollo 13, he came up with the idea of Netflix. Blockbuster operated 10,000 stores at its peak and had a market value of $5 billion in 2002 (Harvard Business Review). A company that once seemed unbeatable was being disrupted by a company that offered a more convenient business model and was significantly less expensive – especially without the dreaded late fees. At its beginnings, Netflix was a competitor of Blockbuster but not yet close to putting it out of business. Ironically, in the early 2000s, CEO Reed Hastings wanted Netflix to be bought by Blockbuster. When a deal wasn’t met, Netflix continued to grow on its own. Hastings clearly saw the opportunities the internet offered, and he invested in streaming. In 2007, Netflix launched its streaming service – they were no longer offering the same service as Blockbuster, they were offering more, and at a cheaper price. By 2010, Blockbuster filed bankruptcy and four years later all Blockbuster stores were closed.

Netflix has continued to expand its business, launching its first piece of original content in 2013 with House of Cards. At this point, their stock (NFLX) began to sky-rocket and their number of subscribers domestically and internationally were growing rapidly.

The vast amount of content Netflix was offering – from people’s favorite old TV shows to movie classics to fresh, original content – was extremely valuable to customers, at a still very low monthly fee. Studios and networks were benefiting off of Netflix as well; they were now able to sell Netflix TV shows and movies that had been collecting dust in their archives for years, and begin to make money off of that property again. It is cable companies who began to see “the Netflix effect” after the launch of original content in 2013, and have suffered tremendously ever since.

Netflix subscribers doubled from 2012 to 2017 while cable subscriptions were simultaneously declining quarter after quarter. In 2017, total Netflix subscribers surpassed total cable subscribers in the United States (Forbes).

More and more people started to see the value in cutting their expensive cable subscriptions for cheaper, commercial-free content. This had led cable providers, like Xfinity, to launch their own streaming services. But these have not been successful – live sports are the only thing keeping cable companies afloat at the moment.

As of December 2016, Netflix had a 75 percent market share in the streaming services market. YouTube was closest behind, at 53 percent, while Hulu, Amazon and HBOGo were all competing closely for market share (TechCrunch). While Netflix still maintains its dominance in the market, the landscape of competitors is about to drastically change, with traditional studios entering the market.

Netflix is now heavily spending on original content and this has studios, who were once working harmoniously with the company, trying to compete directly with them through launches of their own streaming services. Disney pulled all of their content off of Netflix earlier this year in preparation for the launch of their direct-to-consumer service, Disney+. Similarly, WarnerMedia has announced they are launching a streaming service, using their library of 7,000 films and 5,000 TV shows in order to attract customers.  Additionally, there have been massive moves towards consolidation in the industry – most recently with Disney purchasing 21st Century Fox, effectively eliminating an entire studio. Disney now has more content at their disposal, and one less competitor trying to edge out Netflix.

Netflix has been challenging the studio system for a few years now, forcing them to modify their traditional practices. They have lured some of the most coveted industry talent away from their long-time studio homes with enormous contracts. Ryan Murphy, creator of Glee and American Horror Story, signed a $300 million deal with Netflix, leaving 21st Century Fox. Creator of Grey’s Anatomy, Scandal and How to Get Away with Murder, Shonda Rhimes, left ABC (Walt Disney Co.) after over a decade for a $150 million deal. These deals have not only increased hostility between Netflix and studios, but they have changed the entire economic system of the industry. Producers used to own a piece of their shows outright, potentially earning hundreds of millions of dollars by selling the rights to reruns. Tom Werner, for instance, made enough money from The Cosby Show and Roseanne to buy a sports team. Friends creators and talent are still earning residuals every time an episode is aired on Nick At Night or TBS – or sold to Netflix. There’s no back end on Netflix. “You get more upfront with less risk, but potentially less upside in success,” explains Chris Silbermann, Rhimes’s agent at ICM Partners. Rhimes now is working on developing and producing several shows at once through Netflix, something she would not have been able to do at ABC.

In order for studios and networks to maintain their top talent, they must now offer extremely competitive contracts to their employees. Warner Bros. recently offered one of their star producers, Greg Berlanti, a contract worth $400 million to stay at Warner Bros. until 2024. Berlanti currently has fifteen shows on the air, the most of any TV producer in history. Warner Bros. cannot afford to lose him and his success, so they must pay the extremely high price that Netflix has set for them. Lionsgate and Disney have made similar deals with their top executives. Traditional studios are tired of Netflix, and they are beginning to fight back relentlessly. A talent agent at Creative Arts Agency, Joe Cohen, has noted how harsh of an environment this has become in the industry, “There is a lot of crazy stuff happening in the market today, and there is an aggressive dividing line between what is now considered old media companies and new media companies.” This is a line that old media companies are trying to blur as much as they can, and have put an enormous amount of their efforts and money into doing so.

All of these major changes in the entertainment industry prompted by Netflix’s disruption are so significant, and have gained so much media attention, because the industry has not shifted this much and this dramatically since 1948. Then, the supreme court hearing, United States v. Paramount, ended studios being able to own theaters and exclusively show their own movies at those theaters. The studio system completely collapsed and studios were forced to adjust. Now, the old media companies, which now encompass the studios, must adjust to the disruptions caused by Netflix and begin to innovate themselves. The result is an aggressive environment, with no signs of the growing disruptor slowing down. For reference, AT&T shares have sunk 15 percent in five years compared to a 480 percent rise for Netflix.  (The Hollywood Reporter)

With all of Netflix’s massive successes – unbelievable subscription numbers, huge international reach and 112 Emmy nominations in 2018 – it is easy to overlook their massive debt problem. They spent $11.7 billion on new content in the last year, but only brought in $14 billion in revenue. The reality is, Netflix is a barely profitable company that has approximately $10 billion in outstanding debt, with no signs of slowing down on their spending. Steven Birenberg, founder of Northlake Capital Management, notes, “Netflix seems to have proved that a model of all types of content, all genres for all people, can be successful — at least if success is measured by subscribers.”

With more players entering the direct-to-consumer market, many industry professionals are wondering how sustainable Netflix’s business model is. Many financial analysists already believe that Netflix stock is overvalued, but when their market share soon begins to be eaten into by streamers with a library of premium content, they will no longer have such a unique business. Big tech companies like Amazon and Apple, who have a lot of money to spend, are also working for their share of the pie in the streaming space. With the potential of Netflix being disrupted itself in future years, investors will likely take notice to the change in landscape and urge Netflix to cut back its spending in order to maintain long-term success. Already in the last six months, NFLX stock has declined dramatically – a perceived correction of an over-evaluation by analysts and investors.

Not only are all of these changes affecting companies internally, and within the Company Town of Los Angeles, but navigating this new landscape poses a potential challenge for consumers. It will be a battle among marketing and public relations professionals to communicate to them in the future. Will a single household be subscribing to Netflix, Hulu, HBOGo, a Disney service and a Warner Bros. service? Or will there be even more consolidation?

 

Sources:

https://www.hollywoodreporter.com/news/netflix-effect-can-rivals-compete-by-bulking-up-content-1162416

https://www.hollywoodreporter.com/features/welcome-hollywoods-new-age-anxiety-1127792

https://www.forbes.com/sites/ianmorris/2017/06/13/netflix-is-now-bigger-than-cable-tv/#217b95cf158b

https://hbr.org/2013/11/blockbuster-becomes-a-casualty-of-big-bang-disruption

https://www.latimes.com/business/hollywood/la-fi-ct-att-streaming-service-20181010-story.html

https://www.bloomberg.com/news/articles/2018-10-04/netflix-is-forcing-hollywood-into-a-talent-war

Netflix reaches 75% of US streaming service viewers, but YouTube is catching up