The audiovisual industry has experienced an extraordinary transformation over the past few years, led by the development of multiple content distribution platforms. Audiovisual platforms – whether owned by traditional distributors and programmers such as Disney+ or HBOMax, or digital natives from the world leader Netflix, or big-tech owned as Google´s YouTube or Apple´s iTunes –have grown well and fast as broadband connections became more widely available. With the COVID-19 outbreak, the relevance and value of platforms became greater. As recently reported by the Financial Times, the top streaming platforms will invest globally 140 billion dollars in 2022 in new content (films, series, documentaries), and sports rights.

These transformations are driven and are driving changes on consumer patterns, with some segments – mainly the younger generations – perceiving OTT audiovisual platforms as an alternative to traditional pay TV services (cable or satellite). Changes in consumer patterns gave place to cord-cutters, cord-savers, and cord-nevers, as consumers gradually substitute traditional pay TV services in favor of audiovisual OTT choices, either because they cancel their subscription, or directly have never used them in the case of younger generations.

In Latin America, Digital TV Research data projects that by the mid-2020s streaming penetration might surpass that of Pay TV.

In terms of public policy, it is key to determine whether these OTT services compete in the same relevant market with the more traditional pay TV alternatives (cable and satellite), in order to update its regulation and competition policy.

In the US, empirical evidence – albeit not very deep and based on ad-hoc databases – tends to confirm this competition and substitution processes (see Banerjee et al, 2014; Prince and Greenstein, 2017; Fuduric et al, 2018; or Maloney et al, 2021), explained by younger cohorts, similar content, and multiple device availability among other factors.

Evidence for Latin American markets is much more limited. The telecommunications association think tank Cet.la (2019) qualitatively stated that both types of service are close substitutes. In contrast, the Colombian telecommunications and media regulator CRC (2019) estimated that OTT and Pay TV options are complementary. In a similar line, the consulting firm Altman Solon (2021) argued that there are specific dynamics in the regional markets that help traditional Pay TV providers retain customers, namely exclusive programming (live sports and news), and the limited penetration of debit and credit cards.

Our paper Is your Netflix a substitute for your Telefunken? Evidence on the dynamics of traditional Pay TV and OTT in Latin America aims to contribute to this literature shedding light on 17 Latin American markets during 2011-2020. Our database, originally built for this paper is representative of over 90% of GDP and population, and covers the main options of OTTs (Subscription video-on-demand, SVOD) and Pay TV (cable and satellite).

The theoretical model relies on basic consumer theory and uses a CES utility function to model an economy in which households consume two services: OTT platforms and Pay TV. The demand function for both services are as follow:

Our empirical strategy focuses on how Pay TV and OTT consumption reacts to changes on the price of the other service; i.e. whether these audiovisual services are complementary, independent or substitutes:

We apply Non-Linear Least Squares due to non-linearities, and simultaneous estimations, as adoption decisions occur at the same time.

Our baseline results show that during 2011-2020 audiovisual services would not be substitutes (the null hypothesis of is not rejected). This means that considering the full sample –17 Latin American economies from 2011 to 2020-, Pay TV and OTT audiovisual services can be considered independent services. However, during 2015-2020, estimates suggest there is gross substitution, as . In other words, in the eyes of consumers these services are not identical (they clearly perceive a difference in prices, content, experience) but became close.

In order to test the robustness of our results, we re-estimated the demand functions for the period 2015-2020, adding the control variables suggested in the literature as drivers of cord-cutting trends: age, education, IT access, and debit card penetration (as OTTs rely on digital payments). Our main results hold, confirming a gross substitution of the different audiovisual services.

This empirical strategy allows estimating price elasticities as well. Focusing on the cross-elasticities, i.e., the sensitivity of each demand with respect to the other service price, in Latin America Pay TV demand looks inelastic to OTT prices (0.001), while OTT penetration responds much more to Pay TV prices (0.500). Simply put, a 1% increase in Pay TV prices generates a 0.5% increase in OTT penetration, again in line with the hypothesis of cord-cutting, while increases in the OTT prices are not driving any migration of users towards Pay TV.

To conclude, our results suggest that no significant substitution of Pay TV and OTT audiovisual services is verified in Latin America if we consider the whole period (2011-2020), as prices for the alternative audiovisual service did not impact their penetration. However, for the last part of the period (2015-2020), we find evidence of certain substitution between Pay TV and OTT (the so-called cord-cutting and cord-shaving phenomena), probably due to the expansion of fast internet and the richer OTT offers, and still their relatively lower prices. However, the link between both services is of gross (not perfect) substitutes.

These results are relevant from the perspective of policymakers, recommending further analysis on the country level before extrapolating decisions on the regulatory front regarding how to regulate OTT services.

For future research, we plan to expand the sample over time - to find out if this gross substitution relation shifts into a perfect substitution, or, conversely, if traditional Pay TV can counteract these tendencies based on new commercial strategies (prices, contents, strategic partnerships) - and regions, adding emerging Europe and emerging Asia. Two specific aspects in which we should go deeper is in studying the incidence of regulation on the substitution process and enriching the OTT sample beyond SVOD.

Note for millennials and generation Z readers: The first commercially made electronic television sets with cathode ray tubes were manufactured by Telefunken in Berlin (Germany) in 1932. The opinions expressed in this publication are those of the authors, and should not be attributed to Universidad Pontificia Comillas, Telecom Advisory Services, or VRIO Latin America.

References:

Altman Solon (2021), Curbing cord cutting? How sports and streamers can help Latin American pay TV providers keep more customers amid global streaming boom. Boston and Mexico City.

Banerjee A., P.N. Rappoport P.N., and Alleman J. (2014), “Forecasting video cord-cutting: the Bypass of Traditional Pay Television”, in Alleman J., Ní-Shúilleabháin Á., Rappoport P. (eds), Demand for communications services – insights and perspectives. The economics of information, communication, and entertainment. Springer, Boston, MA.

Cet.la (2019), Nuevo marco regulatorio para la convergencia. Centro de Estudios de Telecomunicaciones de América Latina (cet.la) and Analysis Mason. Madrid and London.

CRC (2019), El rol de los servicios OTT en el sector de las comunicaciones en Colombia. Bogota.

Fuduric, M., E. Malthouse y V. Viswanathan (2018), "Keep it, shave it, cut it: A closer look into consumers’ video viewing behavior," Business Horizons, vol. 61(1), pp 85-93.

Jung, J. and A. Melguizo (2021), Is your Netflix a substitute for your Telefunken? Evidence on the dynamics of traditional Pay TV and OTT in Latin America. Available here: https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3959317

Maloney, J.B., A. Nevoz, Z. Nolanx and J.W. Williams (2021), “Is OTT Video a substitute for TV? Policy insights from cord-cutting”, forthcoming in The Review of Economics and Statistics.

Prince, J. and S. Greenstein (2017), “Measuring Consumer Preferences for Video Content Provision via Cord-Cutting Behavior”, Journal of Economics & Management Strategy, vol 26(2), pp.  293-317.