Tuesday, April 28, 2015


Blockbuster totally ignored Netflix as it penetrated the DVD rental market by offering DVD-by-mail made possible by the internet. But eventually, Blockbuster had to do something, so it allocated part of its budget to a new office staffed by young, ambitious types who understood the Netflix threat and wanted to take it on. The new guys at Blockbuster came out with a product that had a user interface pretty much identical to that of Netflix. They eventually found a formula that combined rentals by mail along with in-store coupons that Netflix could not match. Netflix's subscriber numbers began to drop as users shifted to Blockbuster.

In Netflixed, Gina Keating tells the inside story of how Netflix got started, the challenges it faced a long the way (including the one above), and the people that have made it what it is today. It is a fantastic read.

You see a lot of successful entrepreneurs start businesses because they see the potential for capitalizing on an immediate opportunity. But Reed Hastings and his partner thought much more about sustainable competitive advantages over the long-term than most other entrepreneurs whose stories I have read. They worked hard from the start at ensuring they had a competitive advantage, from proprietary algorithms that analyzed user behaviour such that they understood the customer better than anybody else, to low-cost distribution models in partnership with USPS that put competitors at a disadvantage.

Netflix management understood the power of cheap experiments, as they used their website to test a multitude of different looks, products and prices in order to finally hone in on a model that could make sense in the long-term. The competition (including Amazon, Walmart and Blockbuster at various points along the way) struggled to match Netflix's prowess in wringing profits out of its customers.

To cite one example, Netflix managed to improve on the traditional way movies were marketed to customers: instead of offering titles with the same actors/directors and genres as other movies a customer had seen, Netflix's algorithm grouped customers by what they viewed or liked. In this way, they could identify titles that customers had not seen but that their like-minded peers had enjoyed. Taking it a step further, Netflix could then couple this process with its own inventory data to suggest titles not only that users would like but also that were available and/or slow-moving, in order to maximize inventory turns.

In a huge gaffe, Walmart's attempt to match this process fell flat: its website suggested Planet of the Apes to shoppers who were looking for films related to Black History Month.

What's incredible is that even though Netflix did so many things right, it was at the mercy of Blockbuster at some points because of its sheer market power as the incumbent. Fortunately for Netflix, Blockbuster management made errors at various points, and was perhaps ultimately done in by the involvement of Carl Icahn, who is never shy when it comes to changing a company's direction.

Interestingly, the idea for Redbox (now called Outerwall), which is a company in which I used to own shares, was spawned out of Netflix. Reed Hastings did not see the potential in it, and so some employees took the idea and left to start their own company.

One thing I appreciated about the book is that it did not seek to go into excruciating detail about every character's childhood upbringing, parents and home life. It stuck instead to the story of the company rather than the life stories of some of its key players.

What I didn't love about the book is that it just so happens that the insiders who participated in providing information to the author just happen to be the ones that end up looking the best, while some of the key people that didn't help come off looking the worst. This suggests that while you can get the general gist of how things went in getting Netflix to where it is, it's much harder to determine where exactly the credit is due.

I highly recommend the book to anyone interested in this topic.

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