Hulu IPO: Major test for Internet TV business

NEW YORK (CNNMoney.com) -- A possible initial public offering of Internet TV service Hulu would be a significant test for the success of the online streaming video business.

Hulu executives have begun to prepare for an IPO this fall, according to a report in the New York Times. The online service is co-owned by News Corp.'s (NWS, Fortune 500) Fox, General Electric Co.'s (GE, Fortune 500) NBC Universal, Walt Disney Co.'s (DIS, Fortune 500) ABC and a private equity firm. The offering of shares would reportedly value the company at about $2 billion.

A Hulu spokesman declined to comment on the report.

If its IPO fares well, it could give content providers hope that watching TV online has the potential to grow beyond its current niche status.

"It is unquestionably good news that Hulu appears to be accomplishing an IPO," said Kaleil Isaza Tuzman, CEO of Internet-based broadcast software company KIT Digital. "It will shine a light on the opportunity around Internet-based premium content delivery."

There are many questions about the viability of Hulu's business, but they have little to do with whether or not people will watch: Hulu has attracted an impressive user base in its first three years, more than quadrupling its viewership in the past year.

U.S. viewers watched nearly 1.2 billion free TV programs or movies on Hulu in May, up from about 250 million a year earlier, according to comScore. That's 27 videos per viewer, up from under 15 videos last year.

What's more telling is how much Hulu people watch. Viewers tuned into Hulu for an average of 2.7 hours in May, up a full hour from a year earlier. Those numbers were all down in June, as TV shows went into their summer hiatuses.

But that impressive viewership hasn't yet translated into significant profits. Hulu attracts more advertisers than any other online platform, according to comScore, but it reportedly only brought in $100 million in revenue last year, and the service has barely been profitable for a few quarters. Compared to sales and income from the traditional distribution channels, Hulu's financials still represent a relative drop in the bucket for content providers.

One potential remedy is a new subscription-based service, called Hulu Plus. The premium service, which will be released to the public in the coming months, will cost $10 per month and allow subscribers to view the entire current season's episodes as well as all of the past seasons of many hit shows. But skeptics wonder whether users will pay for a service they can largely get online for free.

Other questions include whether the content providers will continue to support Hulu once it goes public: Comcast (CMCSA, Fortune 500) is awaiting regulatory approval to buy NBC, and Hulu's service would likely conflict with Comcast's cable business. The content companies are already walking a thin line with Hulu, since it gives users a way to bypass cable and satellite TV providers, and several analysts said they wondered whether they'll stay on board after the IPO.

Competition is also rising around Hulu, and it's unclear which service or services will eventually win out. Hulu Plus will be available on certain Internet-ready Samsung TVs, but Apple inked distribution deals with Disney and CBS late last year for Apple TV, Wal-Mart bought streaming TV service Vudu in February, Google announced its plans for a its own online TV service in June, and Netflix has proven to be a more than viable competitor.

Naysayers argue that too many questions surround Hulu's business model for the IPO to make sense for investors.

"It's way too early. The jury isn't back yet on their model, they haven't proven people will pay, and their owners have major conflicts," said Todd Dagres, general partner at venture capital firm Spark Capital, which has invested in Boxee, a platform that allows users to watch Hulu programming on their TVs.

"The IPO is a way for the strategic owners to cash out and for the company to go independent," he added. "This is not about making money for public investors -- I wouldn't touch it."

But others believe that the trend is clear, and services such as Hulu could eventually be the way most people get their entertainment - and a lucrative business for content companies.

"Hulu has the potential to be an important source of revenue for its partners to monetize the content they create," said Christopher Marangi, analyst at Gabelli & Co. "They have a front-row seat to the changes in the industry, and they understand more and more video content is moving online."

Meanwhile, Hulu is fast growing and a potential game-changer.

"It's important to distinguish between Hulu's current market share and value, and its future growth," said Tuzman. "Hulu has proven to skeptics that there is money to be made in streaming video with a subscription or advertising-based model."