Reinventing Video Rentals
Netflix
Netflix is one of the web's business models created out of the web's lowered transaction costs. Not yet profitable, the company has taken on a gargantuan task — weaning Americans from video store aggregator Blockbuster by providing subscription based video memberships.
During the 1980s and 1990s, Blockbuster grew to more than 40% market share by rolling up local video store chains into a single large enterprise. Teetering on the brink of a failed business model, the company made one of the decade's shrewdest business moves and began a revenue sharing program with film studios. The unique arrangement ensured that Blockbuster always had current videos on its shelves and solved numerous cash flow problems. The mom and pop shops that relied on membership fees and smaller inventory couldn't compete with the 8,000 store behemoth.
Now web entrepreneur Reed Hastings has once again reinvented the video rental business with Netflix, a company that embraces technology to provide convenience for customers. The pricing model has changed, though, and Netflix customers pay a flat monthly fee that starts at about $20. The company then mails three DVDs to customers in special envelopes that can be used to return the videos. Return one and the next video on your list is shipped. There are no due dates, late fees or postage costs. Think of it as a $240 annual subscription for a video service. Even if you only watch one DVD a week, you're paying $4.61 for the convenience of not driving to the video store both ways and the rental itself.
That is a tremendous deal, but the site, and its service continues improving.
Netflix Makes Good Sense If You Watch Videos
My family first began using Netflix after a colleague raved about the service during the summer of 2001. We signed up and quickly received our three DVDs. We watched one each night for the next three nights, returning one each morning. Within days, DVD number four arrived and the cycle continued.
Then we got lazy and let them stack up.
A quick glance at our Netflix calendar showed that we had one video out for almost two months. Another was out for almost a month. The lesson is that using Netflix doesn't make sense for a casual viewer. Average simply one program a week, and you are doing fine. More, and you have dropped your effective cost to below market rates. But let them stack up and you may be behind the curve.
The site lets you easily track how much activity you're generating. Our family has rented 11 videos since May 1. We've paid $80 in that time so we're clearly beyond the cost-effective part of the system and now paying a convenience premium. We realized that a month ago and have rented five since then. One secret: do not simply rent something that everyone in the household wants to watch. Even the basic Netflix plan allows three DVDs out at any one time, so there can be one that everyone enjoys, one for the kids or one that interests a single family member. Keep churning those and you'll find that you're getting a heckuva value.
A second colleague who is a road warrior tells me that he uses Netflix simply because he does not want to pay late charges, a predicament that founder Hastings would appreciate since corporate legend holds that he started the company after getting socked with a hefty late fee himself.
The company positively reacted to charges that turnaround times were too long by opening ten regional distribution centers near major metro areas. Now, for example, customers in the Washington, D.C. metropolitan area send their discs to suburban Maryland and receive the next item in only several days.
I Know What You Watched Last Summer
One of Netflix's biggest advantages is the product recommendation feature. By rating DVDs between one and five stars, the company is able to make recommendations for rentals you may not have thought of or known about. At its core, the ratings system assumes that if I assign 4 stars to three movies that someone else assigns 4 stars to, and that person has also rented another movie they rated as four stars, I'm more apt to like that movie.
My explanation is a horrible oversimplification. Netflix officials told The Washington Post that they have more than 100 million ratings among their 670,000 subscribers. That many data points can lead to some highly targeted recommendations.
Customers can rate movies without renting them in order to provide more data points so their recommendations are appropriate. Shortly after joining, my wife and I spent an hour or so and rated several hundred movies - either those we already owned or had no intention of renting again. Armed with this data, Netflix's software can make recommendations based on genre or across all genres.
This is very similar to the recommendation module Amazon uses, which was derivative of a long-forgotten web service called Firefly. We've watched several movies solely based on recommendations and found them to be offbeat, unfamiliar and enjoyable. I am sure we will find the occasional stinker in the lot, but that many movie recommendations certainly helps filter out the chaff.
Simplicity Itself — The Rental Process
Credit card deductions are made monthly, and customers can cancel at any time. Customers keep a rental queue on line and are shipped the next movie in the queue as soon as one is returned. The queue can be re-ordered at the click of a button, which means that if you're really in the mood for a drama, comedy, concert or television show, you can quickly sort your list. Doing so enabled us to bring a mix of DVDs into the house at any given time. And remember that churn rate — watch 'em and send 'em back.
When you do, be careful not to damage the prepaid mailing envelope. You can get another by contacting the company, but the thing you don't want to lose is the simple disc sleeve that contains a scannable inventory item number. Again, losing that means contacting customer service.
Meanwhile, discs can get lost in the mails and the company has taken what I think is a tremendously positive step in addressing the issue. Simply report the disc as lost and a duplicate is shipped. But be warned: report too many as lost (the company declines to specify how many) and you're apt to be charged for at least one of them as well as lose your account.
Our rental queue currently has 98 DVDs in it — about two years worth of viewing at our current pace. With our new mix philosophy, we expect that to go faster since many of the DVDs we've selected will be watched quickly (e.g., the kids want to see a movie so they may watch it one night when my wife and I are otherwise busy). Since the mailer is prepaid, nothing is simpler than dropping the return in a mailbox and receiving a fresh video in several days.
The selection is also outstanding. The company claims to stock more than 11,000 titles including movies, concerts and television shows. My wife and I used the service to run through the first two seasons of The Sopranos and get caught up just as HBO was preparing to run season three again. And because there was no due date, we could keep the Sopranos discs (which held 4 episodes) out for a week or two and fit the viewing around our schedules.
Remember The Last Time A Company Shattered A Business Model?
I'm not talking about companies who used the web to invent business models like PayPal or Netscape. I mean the last time that a company threw conventional wisdom to the wind and changed the industry using the web? The one that readily appears on analysts' lips is AOL. Like Netflix, they had early distribution, fulfillment and service problems when they shifted their pricing model to a flat rate. But they also became a worldwide media company in the process.
Netflix, which recently launched an $80 million IPO, isn't a threat to do anything similar in the near future. The company's market capitalization is just over $225 million as of this writing, and despite a fiery IPO and lots of good press, the company has yet to turn a profit. Still, three analysts tracking the company rate the stock as a buy.
Suffice it to say that Netflix enjoys terrific word of mouth and has created something radically new in its marketspace. I wholeheartedly recommend the service to anyone who regularly watches pre-recorded DVDs. At worst, you lose $20 and cancel the service. But you just may find that paying $240 a year to have your choice of programs delivered is a bargain.
Five Things To Remember From This Review
1. Remember that you will gain maximum efficiency by renting and quickly returning discs.
2. Spend some time rating movies. You will find some gems among your recommendations after you reach a critical mass.
3. Do not lose the prepaid envelope and especially do not lose the sleeve with your inventory number.
4. Think of the cost as $5 a week. If you are not spending that much on videos, Netflix may not be for you.
5. With no annual contract, becoming a Netflix customer has a very low entry point and no exit costs.
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