Digital A-List 2010

How Netflix Stays Ahead of Shifting Consumer Behavior

DVD-Rental Company Expands Streaming Beyond Just PCs as Customer Base Explodes

By Published on .

YORK, Pa. (AdAge.com) -- When Apple announced its much-anticipated iPad last month, one of the resounding complaints was "What, no Netflix?" While that's not surprising given Apple's penchant for keeping users locked into its iTunes ecosystem, it does say a lot about Netflix's proliferation on tech devices over the past two years.

Netflix is now available on Samsung, LG, Sony and Insignia Blu-ray players; Roku and TiVo set top boxes; TVs from Sony, LG and Vizio; and on the Xbox 360 and PlayStation 3 gaming consoles. And this spring, Netflix is coming to the Nintendo Wii, a big statement considering that the best-selling system is known for being notoriously insular.

Now, the content-streaming brand that remade the DVD rental model is poised to be a major disrupter in the entertainment landscape. Netflix is forcing movie studios, which are wary of digital distribution, to make deals. Netflix insists it's not trying to harm the studios, but rather offering them an opportunity, yet it is still handling them carefully. For instance, via its recent renegotiated deal with Warner Bros., Netflix gets access to more Warner content to stream; in return the studio gets a 28-day blackout period on rentals of new DVD releases.

"Netflix has entered a 'virtuous cycle,'" said Will Richmond, online video analyst and editor of VideoNuze.com. "They have rapid growth of subscribers, rapid growth of devices, and they have more clout than ever with the Hollywood studios to gain new titles."

Solid streaming growth
Netflix's most recent financial report showed a subscriber increase of 31% to 12.3 million (1 million in the fourth quarter alone), but even more importantly, the company also reported solid streaming growth. Netflix said 48% of its subscribers watched streamed content in the fourth quarter of 2009, up from 41% in the third quarter.

It is the rare case of a company that has out-innovated competitors rather than hanging onto an entrenched business model. When it viewed digital streaming as a viable substitute for its movie-by-mail business model, it launched "Watch Instantly," which let people with high-speed internet connections view movies on demand. The next step, of course, was embedding the capabilities into TVs and off-the-shelf devices.

The number of Netflix-enabled devices will also continue to grow with deals such as the Wii, as well as Philips Blu-ray players and TVs and a Boxee set-top box, which have all been announced for 2010.

"The Netflix deal is a win-win case," said Mark Kroese, general manager of the advertising business for Microsoft's entertainment and devices division, which includes Xbox. "Netflix is adding users, and we're adding subscribers." Xbox 360 was one of the first devices to add Netflix 18 months ago, and within three months had 1 million Xbox Live subscribers streaming Netflix content.

Mr. Kroese said his family recently changed his Netflix plan because they were using the "Watch Instantly" movies more often than playing discs.

Payment options
That's a key advantage to Netflix's strategy. The ability to offer a payment plan -- a hybrid between pay-as-you-go and subscription, with different levels of use -- that not only fits with consumers' sensibility to pay only for what they watch, but can also evolve as customers become streaming users.

The other key to Netflix's success is its attention to customer service, even -- or maybe especially -- as it moves from a physical delivery system to a virtual one. The company spends enormous amounts to perfect its suggestion engine, for instance, holding $1 million prize contests for software wizards who can do it better.

Netflix CEO Reed Hastings
Netflix CEO Reed Hastings
"They had built-in subscriber relationships with a database, and they leveraged those relationships and made it as painless and seamless as it could be" to stream content, said Paul Sweeting, editor of the Media Wonk blog. "They were not the first to attempt that strategy, but they've certainly done it most effectively."

"Everyone was so focused on the digitization of the content, [but] Netflix started by digitizing the relationship with customer. No one else understood that," said Forrester Research analyst James McQuivey. "In a way, it's what Amazon copied [with Kindle]. They didn't focus on digitizing books. Instead they worked on leveraging their customers who already had Amazon wish lists and search lists and purchase lists."

Which returns us to the Netflix/Apple iPad question. Netflix CEO Reed Hastings told analysts in a fourth-quarter earnings discussion that the company has not submitted an iPhone app (which would also work on the iPad) and that it's not a "huge priority" in the near term. But then he added: "It's something we will get around to."

Netflix keys to success

Three things you can learn from Netflix.

BE FLUID (AND BUDGET-FRIENDLY) WITH PRICING.
  • Netflix offers a payment plan -- a hybrid between pay-as-you-go and subscription, with different levels of use -- that not only fits with consumer's sensibility to pay only for what they watch, but it can also evolve as customers become streaming users.

  • PUT THE CUSTOMER FIRST.
  • As people began to watch more digital content, via the rise of YouTube and more ubiquitous broadband, Netflix took a calculated risk and added streaming videos to its already thriving DVD rental business. Some financial analysts warned it could cannibalize its own business, but Netflix pointed to the future upside.

  • BE OPEN AND FLEXIBLE IN DEALING WITH RETICENT PARTNERS.
  • The movie studios are not happy about the migration to digitized content, however, they are beginning to get that it's inevitable. Netflix's open and even accommodating dealings with Warner Bros., for instance, pave the way for future negotiations.
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