In the fast-changing world of technology, the ability to change is preached as the highest virtue, still organisations face great difficulties doing it. After all, we are human beings with a fundamental appeal for maintaining status quo. However, while the process of change is hard, choosing the right direction is even harder. In few other modern business stories is this more obvious than the one about Netflix and Blockbuster. On top of this, this story has everything you could ask for in any Hollywood drama.
During his famous Golden Globe introduction speech in January 2020, Ricky Gervias commented on the disruption in the entertainment industry:
“No one cares about movies anymore, no one goes to the cinema, no one really watches network tv – everyone is watching Netflix! This show should just be me coming out going ´well done Netflix, you win everything, good night!´”
The new kid in town
I guess very few people saw this coming back in 1998 when Reed Hastings and Marc Randolph founded a mail-order DVD business.
For long Blockbuster had been the king of film distribution in the US – and with a substantial global operation – and at the peak of their success, Blockbuster employed 84000 people in 9000 stores. The market cap peaked at $5 billion.
As the general story goes, Blockbuster refused to see the threat of Netflix and the new business model with mail order followed by online streaming. It’s the story of the fast-moving challenger and the rigid incumbent we all love to hear. In this case however, the story is not that simple.
First of all Netflix was not the straight line success that one might imagine. The first years they struggled with financial losses and actually offered Blockbuster to acquire the company. Blockbuster turned down the $50 million offering. It may seem as a really bad move today when Netflix is valued $169 billion. But as we shall see, predicting the future is not a walk in the park.
Luck counts too
Netflix found their way out of the struggles partly by a strategy change and partly by luck. The smart move was to drop the single rate fees and introduce a flat fee for unlimited rentals. This aimed straight at Blockbuster´s weak spot which was the late fees, that made up a substantial part of their revenue, but which also annoyed customers. Netflix also got lucky that the sale of DVD-players finally took off in 2002. Blockbuster could rely on VHS rentals alongside DVD´s, while Netflix had made a bold bet on DVD as the medium of the future.
After a few years Blockbuster started to feel the heat from Netflix and here is the crucial part of this story. They did not sit back and relax and arrogantly laugh at the challenger, like for example Ericsson did when Apple introduced the smartphone. “It´s a shitty telephone that no one will buy”, was an infamous quote from one of Ericssons top managers. Blockbuster acted very firmly.
Fighting back
By the initiative of the CEO John Antioco, Blockbuster launched a counter attack against Netflix. No more late fees and a big investment in online operations. With the Total Access offering, Blockbuster heavily countered the Netflix threat offering their customers an equally strong mail-order and online proposition in addition to their brick and mortar stores that still attracted millions of customers. Total Access grew faster than Netflix and Blockbuster had a membership base of 43 million customers. It certainly looked like David was being knocked out by Goliath.
So how come Netflix today is the world’s largest film distribution company and Blockbuster filed for bankruptcy in 2010? It certainly was not due to lack of change on the part of Blockbuster. Ironically it was too much change, but in the wrong direction.
The Total Access launch was huge success, but it wasn’t a free lunch. It accumulated losses at $400 million annually, but John Antioco considered this as an investment in building a user base and moats to competition. It is quite a straightforward and well used strategy for many tech companies in a winner takes all market. So Antioco not only transformed the product, he took it all the way and fundamentally transformed the business strategy of Blockbuster.
The change within
The hardest things to change are sometimes not related to external factors. The real problem Antioco was facing was internal. One of the major shareholders and board member Carl Ichan failed to see the opportunity Antioco was creating with the change of strategy, he could only see the huge losses. At least that´s the offical story and as we´ll see, Ichan turned out to be on of the biggest winners in the end. Anyway, Antioco was fired in 2007 and was replaced by former 7 Eleven CEO James W. Keyes.
Keyes rapidly put an end to the new direction, he raised the price of the online DVD rentals and killed the attractive offerings launched by Antioco. The huge growth of Blockbusters Total Access business rapidly came to a halt.
Betting on the wrong horse
To his credit Keyes saw the emerging business of streaming by acquiring Movielink as one of his first moves. At this time Netflix had just launched their own streaming service so the game could have gone into a second round here. However, Keyes lacked the ability to see the big picture, or had the ability to predict the future if you want to put it that way. He was still stuck in the world of physical retail and saw Walmart´s low price DVD sales as the main threat. Instead of making a bold bet on streaming, he made the big bet on more retail stores, acquiring a large retail chain in the UK and made a bid for $1 billion to buy Circuit City, an electronic retailer on the downfall that eventually went bankrupt in 2009 without any deal materializing.
Keyes obviously bet on the wrong horse and the landscape of film distribution rapidly changed, with plummeting DVD rentals and a boom for online distribution. As a final act of desperation to rectify the revenue streams, Blockbuster re-introduced the late fees disguised as a concept called Additional Daily Rates. This obviously pushed even more customers to the more convenient and less costly online way of consuming film. Such a self-destructive behavior can only be explained by pure madness, or someone having the agenda to put Blockbuster out of business.
Hindsight is always easy
Blockbuster filed for bankruptcy in 2010 and spiraled towards its extinction for a few years. Now it´s just a historical curiosity of the past. Netflix has 150 million users and consumes 15% of all internet bandwidth in the world. As we´ve seen this could have been the other way around, if the Blockbuster management had chosen to go all in on digital.
Of course, it is easy to sit here ten years after and point out the path that should have been chosen by Blockbuster. It´s obvious, isn’t it! But identifying a shift in the market and predicting what impact it will have on the future are two very different things. The hard facts of life are that most big decision for change needs to be based on unknown factors. To a large extent it is a guessing game.
Human beings are profoundly bad at predicting the future, for the simple reason that it is extremely difficult. The combination with our love of status quo is very toxic in business, especially in the fast-moving tech world of today. As a former Blockbuster employee put it: “Digital would have changed Blockbuster´s future, for sure, but it wasn´t its killer. That credit belongs to Blockbuster itself.”
Epilogue with a twist
As mentioned, despite the Blockbuster crash, Carl Icahn came out as the winner in this feude. Estimates say he lost around $200 millon on his Blockbuster investment and called it his worst investment ever. Interestingly enough, he took a 10% stake in Netflix in 2012, soon after the Blockbuster meltdown. He made an exit a couple of years later with a $1,9 billion profit. The only way Carl Icahn could be remotely defined as a loser in this story is the fact that if he´d kept the Netflix investment today the value would have been close to $17 billion.
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