Technology
Misc 06/07/2021

The chequered history of Netflix (with the day it almost sold out)

The platform wants to expand the business with the licensing of its productions

6 min
Netflix's chequered history (with the day it almost sold out)

"I got the idea for Netflix after I was bought out of the company. They gave me a penalty for late delivery on Apollo 13. I was six weeks late and owed $40 to the video store. It was my fault and I didn't want to tell my wife, and I asked myself, 'Do I want to put my marriage at risk for a penalty?" explained company co-founder Reed Hastings years ago in an article in the New York Times. "Later, I went to the gym and realized they had a much better business model, because by paying $30 or $40 a month I could go as much as I wanted", Hastings added in the same article.

Netflix is a success story, but as usual, marked by real ups and downs and business model changes that have taken the company from a US-centric business to a multinational giant of the digital age. Netflix has come close to being swallowed up by its competitors or having to close on more than one occasion, but the ability to readapt has been its great virtue. Today we live in a world where, to sum up a quiet evening, the younger generations simply talk about "Netflix and chill".

Let's set ourselves in Northern California in 1997. Two entrepreneurs, the aforementioned Hastings and Marc Randolph, who had had a successful career in Silicon Valley, the business epicentre of the technological world in the United States, are trying to create a company that will improve the service provided by video rentals. We are still in the VHS era, and DVD is just starting to poke its head out, at high prices. Movie consumption is channeled through video stores, which both in the U.S. and worldwide was a market dominated by the Blockbuster chain.

Hastings and Randolph's new company, which they named Netflix ("net" stands for network and "flick" is an informal synonym for movie ), consisted of mailing videotapes that customers would rent through an online catalog. The main problem they initially encountered, however, was that VHS, still dominant, was too fragile and could not withstand shipping. This limited the company's options to DVDs, which were much sturdier, smaller and lighter and therefore cheaper to ship in a single envelope.

Netflix

This was the company's business model at the time of its founding: send DVD discs to subscribers by mail, who had to return them. The main stumbling block, however, was that in 1997 a DVD player was still a small luxury for most families, so the number of potential customers was much smaller than that of Blockbuster, which also offered VHS rentals. Despite this, it slowly grew, although at no point did it make a profit.

The business didn't quite work despite offering a very attractive differentiating element: the flat rate. Unlike video stores, where you paid per tape rented, from 1999 Netflix offered a subscription price with an unlimited number of movies.

In 2000, Netflix closed the year with a loss of $57 million, but with 300,000 subscribers in the US. Against this backdrop, Hastings and Randolph asked for a meeting with John Antioco, CEO of Blockbuster, in which they offered to sell Netflix for $50 million. The operation was attractive: "Blockbuster would have controlled the physical home entertainment " and, at the same time, the incipient online market, explains Elena Neira, professor of communication at the UOC and author of Streaming wars a book on the new audiovisual platforms. The Blockbuster executive, however, declined the offer. The two entrepreneurs left the meeting with empty pockets, but despite the problems they continued with the business.

The Netflix founders' gamble paid off two years after the meeting with Antioco. Specifically on Black Friday 2002, when the star product of that day of discounts in the US was the DVD player. It was only a matter of time before the devices, which initially cost over $700, dropped in price, and that year they were close to $200, marking the end of VHS. All American households switched to DVD and Netflix expanded the field for growth. That same year the company went public.

Despite this, the digitization that DVD brought meant that films could be saved on a computer as files (just like music), which led to the birth of online piracy. First Napster, and later other platforms, made it possible to share films among thousands of people. The wave of downloads, declared illegal by the pressure of the audiovisual industry on the administrations, meant that Blockbuster and Netflix started to suffer a lot.

Blockbuster launched a system of legal downloads, a program that allowed its customers to download films to their computers during the night. Netflix considered doing the same, but in 2005 cancelled the project. After DVD and downloads, a new technology would once again revolutionize the audiovisual market.

"We're here with the elephants and what's cool is that they have a very, very long... Trunk". Jawed Karim, a 25-year-old computer scientist, recorded himself on video making this comment in front of the elephant cage at the San Diego Zoo in 2005. The recording was the first video posted on the website Karim had created with two co-workers: YouTube. In 2005 the platform was a small, unimportant site, but it quickly showed that the future of audiovisuals was not DVD, but rather streaming. In other words, to watch a film you only needed an internet connection, not to download files. Netflix made a big bet on streaming and combined it with DVD delivery. As the broadband that reached homes improved, the service of streaming service became hegemonic. Online viewing was the future and Netflix controlled it unchallenged. In 2011, it was the great dominator of the sector in the United States.

The next step was a double leap: internationalization and content production, which it did in 2013. Until then, Netflix offered third-party content, but when it expanded to other countries it saw that negotiating broadcast licenses "territory by territory was unsustainable", so it opted to produce its own series and films.

The company was a pioneer in the world of streaming content, but now it is far from alone. Being the first to get this business off the ground both in the U.S. and internationally gave it the advantage of controlling the entry-level market, but at the same time it woke up some of its competitors who, until then, had been suppliers. "When in 2013 it scaled internationally, there was no one else", Neira recalls.

Today, however, Netflix continues to be "the most consolidated platform", but with the disadvantage that "the rest of the competitors are dedicated to other things or offer other content", that is, they are more diversified. Amazon Video is part of an e-commerce giant while HBO is owned by Warner, an entertainment conglomerate that includes movie studios, TV channels, amusement parks and publishers; something similar happens with Disney, which has launched Disney+. AppleTV is owned by a mobile phone and apps manufacturer.

Netflix's specialization is based on two "supervaluable" pillars that for the moment have cemented the company's global leadership. The first is that, by being the first, they achieved a very high market share. The second is that "it is light years ahead" of the competition in "customer retention", says Neira. "It has the highest audiences", she adds. These factors have allowed the company to get ahead despite having had net losses every year until 2020. In 2021 it expects to record a profit for the first time.

In fact, the two factors are related. "Netflix has been monitoring a generation of customers since 2007", says the UOC professor. In other words, what makes Netflix's business tick is subscriber data: what content each user profile watches, when they watch it and how (on TV, on their mobile) and where (at home, on the subway). Data perfectly profiled by age, gender, location and all possible variables. It knows what customers want and is able to anticipate their preferences, which is why it has a lower churn rate than any other platform. When it comes to creating a new series, the chances of success with all these figures in hand are much higher and, from House of Cards the company's first in-house production, Netflix has put data at the heart of production.

In this sense, then, the company is more of a technology company than an audiovisual one. Its origins in Silicon Valley explain why it opted for this way of doing business, a model that traditional entertainment companies had not even sniffed. And the rest of the competitors have other priorities. Amazon Video, for example, boasts some 200 million subscribers, but Neira considers that misleading, because the subscription includes Amazon's free and fast shipping service. The streaming is "just another excuse" to attract more customers to the core business, which is online commerce. In contrast, "Netflix doesn't have a plan B", she says.

With competition growing, where will Netflix go next? "Consolidating intellectual property is the seed to make the business broader", says Neira. That is, the merchandising and squeezing not only movies, but also related products, is management's main bet. Just as the entertainment giants have followed Netflix in creating their audiovisual platforms, Netflix has to do the reverse journey and copy with its series what Disney does with Mickey Mouse and Star Wars or Warner with Game of Thrones and Harry Potter: making T-shirts, toys, video games and theme parks. "The licensing was invented by Disney. If Netflix gets it right, it's a very interesting business", says Neira.

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