Disney to offer two streaming services and end its movie distribution agreement with Netflix

Walt Disney Co. will launch two Netflix-like streaming services — one for sports and another for films and television shows — in one of the boldest moves by an entertainment company to address the changing media landscape.

The stand-alone subscription services would appeal to younger audiences who are turning away from traditional media and flocking to Netflix and other digital platforms. The ESPN service, which would be available next year, is expected to feature 10,000 sporting events annually, among them Major League Baseball games.

The Disney-branded film and TV offering, set to debut in 2019, would include original content developed by Walt Disney Studios.

The move comes at a time of growing unease in Hollywood about the rising clout of Netflix, which has siphoned viewers from linear television and changed consumer habits — threatening conventional business models. Until recently, studios have been happy to license their television shows and movies to Netflix, reaping big checks. A few have taken relatively modest steps to challenge Netflix by withholding certain films and shows.

Some established media companies have taken a more aggressive approach, launching their own streaming services. HBO, CBS, Showtime, Starz — even the Tennis Channel — each has its own digital channels offered directly to consumers. At the same time, streamers such as Amazon.com are looking to get deeper into the live television business and have been on the hunt for sports rights.

But Disney’s actions, announced on the same day it delivered weak fiscal third-quarter earnings, go much further, and represent a major shift in strategy. The company said Tuesday that it would end its distribution agreement with Netflix for new films, beginning with the 2019 calendar year theatrical slate. Instead, viewers would have to go to the Disney service to stream those movies. Shows currently produced by Disney’s Marvel Studios such as “Jessica Jones” would still be available on Netflix.

“This is a declaration of independence by Disney, and now you have a direct competition between these two behemoth players,” said Peter Csathy, founder of the advisory firm Creatv Media. “Netflix has a huge head start, but Disney thinks it can win. And Disney can feature the most valuable content library in the world.”

As part of its effort to create the new services, Disney is paying $1.58 billion for a greater stake in Bamtech, a streaming video company that is developing both products. Disney previously disclosed it was working on the ESPN service when it acquired a 33% interest in the company, which was created by Major League Baseball, in August 2016. Disney will now own 75% of Bamtech.

“No one is better positioned to lead the industry into this dynamic new era, and we’re accelerating our strategy to be at the forefront of this transformation,” Disney Chief Executive Robert Iger said during a conference call with analysts.

Disney’s third-quarter earnings report underscored the reasoning for the tactical realignment. For the quarter that ended July 1, Disney reported a profit of $2.37 billion, down 9% from a year earlier. It delivered adjusted earnings per share of $1.58 and revenue of $14.2 billion, which was essentially flat compared with a year earlier. Analysts had predicted earnings per share of $1.55 on revenue of $14.5 billion, according to Factset.

Disney’s media networks unit, which houses ESPN and ABC, had a tough quarter, reporting segment operating income of $1.84 billion, which was down 22% from a year earlier. The unit’s operating income declined on a year-over-year basis for the fifth quarter in a row. Within the cable networks group, which includes ESPN, segment operating income was down 23% to $1.46 billion. Disney attributed the drop-off, in part, to higher programming costs because of a new NBA TV contract, and lower advertising revenue at ESPN.

ESPN has long been the profit engine for Disney. But ESPN has been squeezed by rising sports rights costs at a time when pay-TV revenue has been under threat because of cord-cutting. ESPN has lost more than 10 million subscribers since 2010, according to Nielsen data.

Robin Diedrich, an analyst with Edward Jones Research, said that the subscriber losses probably drove Disney’s decision to launch the new platforms.

“We continue to see more erosion of general subscribers in the traditional business,” she said. “That is the concern and probably what was pushing them to do this sooner rather than later.”

Iger said that “monetization possibilities are extraordinary” for Disney once it launches the new streaming services, whose prices have not been disclosed.

He said that the Disney-branded product would include exclusive films and TV shows — a prospect that could make it a must-have for some consumers because of the many popular brands in Disney’s stable. Over the last decade or so, Disney’s multibillion-dollar acquisitions of Pixar Animation Studios, Marvel Entertainment and Lucasfilm have given it a trove of valuable intellectual property. Disney’s lucrative franchises include “Star Wars,” “The Avengers” and “Toy Story.”

“It’s been clear to us for a while [that] the future of this industry will be forged by direct relationships between content creators and consumers,” Iger said.

Disney has worked with Netflix for years to distribute its content — including hit films and original television shows. In a statement, the Los Gatos, Calif., company affirmed its business relationship with Disney, noting the two companies continue to work together on Marvel TV projects. Both Disney’s and Netflix’s stock lost more than 3% at one point in after-hours trading Tuesday. Shares of Disney had closed up about half a percent to $106.98 in regular trading.

Netflix has been riding a wave of enthusiastic investor sentiment after it posted strong growth for the second quarter that ended in June, surpassing 100 million subscribers worldwide during the recent three-month period. The company has attributed the growth to its strong content slate, which includes new seasons of popular series including “House of Cards,” “Orange Is the New Black” and “Master of None.” This week, it acquired comic book publisher Millarworld and signed a deal to do a six-episode talk show with David Letterman.

Despite Netflix’s increased emphasis on original shows such as “Stranger Things,” most of the content viewed by its subscribers remains programming that Netflix licenses from other studios, including Disney. Netflix is expected to spend at least $6 billion this year on content, up from $5 billion last year.

Some analysts have speculated that it would make sense for Disney to purchase Netflix to inoculate itself from audiences’ shift to streaming video. Now Netflix finds itself more directly competing with the $167-billion titan.

“Disney chose to fight,” Csathy said. “The hit on Netflix is real.”

Disney’s decision is sure to ripple across the media and entertainment business. Pay-TV operators, for example, have dreaded the prospect of a stand-alone ESPN service because it would give some consumers more reason to ditch their TV subscriptions.

However, many of these cable companies provide high-speed Internet service, which has become the most profitable part of their business. Consumers use more data as they stream hundreds of hours of television shows and movies.

Times staff writer David Ng contributed to this report.

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Twitter: @DanielNMiller

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UPDATES:

6:50 p.m.: This article was updated throughout.

3:10 p.m.: This article was updated with additional details.

2 p.m.: This article was updated with a statement from Netflix and other details.

This article was originally published at 1:23 p.m.