A $3 Billion Strategic Mistake
The True Story of a Notorious Failure
It's time for the 'Strategic story' column.
While reading about the epic battle between Netflix and Blockbuster, we might get the impression that Netflix's leaders were visionary geniuses and great managers, while Blockbuster's executives were stodgy, backward-thinking dinosaurs.
This is not true.
Armchair commentators love to savor the tales of how Blockbuster refused to buy Netflix for $50 million and completely missed the online streaming revolution.
However, Blockbuster’s leaders clearly understood the situation and recognized opportunities. They had a strategy.
But it didn’t help.
Episode one
A former Netflix chief financial officer, Barry McCarthy, said in a 2008 interview that Blockbuster “laughed them out of their office” when they offered to buy Netflix for $50 million in 2002.
But John F. Antioco, a former Blockbuster CEO, told another story in 2022:
“Some have wanted to walk down memory lane to revisit the oft-told tale of Blockbuster’s alleged refusal to purchase Netflix for $50 million in 2002 – and no, that didn’t happen. While I was not present at any meeting with Netflix where the subject came up, Netflix executives did visit Blockbuster to pitch a licensing deal and, supposedly at an impasse in those discussions, made an off-the-cuff offer to sell their company. However, and more importantly, I can say with certainty there were no serious conversations about our buying the nascent Netflix business twenty years ago.”
And it sounds pretty logical. Netflix’s net loss in 2000 was $57,363 million; in 2001, it was $36,618 million.
So, although the proposal to purchase Netflix was made in one of the conversations, there were no serious negotiations.
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Episode two
Marc Randolph, a co-founder of Netflix, admits that in the early 2000s, Blockbuster was a big, strong competitor. But it had its flaws.
“To start, everyone hated Blockbuster,” Randolph wrote in his 2019 book “That Will Never Work.” For instance, in 2000, Blockbuster collected $800 million in late fees from customers.
Netflix took advantage of this. Many subscribers fed up with Blockbuster charging $1 per day for late returns turned to Netflix, which gained 6 million subscribers by the end of 2006.
Blockbuster and its CEO Antioco didn't just observe the rival's development. In 2004, Blockbuster presented its own online DVD subscription service, Blockbuster Online.
It gained over 1 million subscribers less than a year after launching, and 2 million by the end of 2006. Netflix’s victory didn’t look that obvious at the time.
In 2006, Blockbuster launched Blockbuster Total Access, a blended in-store and by-mail DVD rental program. It allowed online subscribers to return DVDs to Blockbuster’s brick-and-mortar locations and exchange them for another DVD for free. Customers loved it: in one quarter of 2007, Netflix even lost 55,000 subscribers compared to the previous quarter, while Blockbuster’s subscriber base continued its growth.
John F. Antioco quotes Marc Randolph:
“As Marc Randolph, co-founder of Netflix, eloquently summarized it in an April 2022 TikTok: “Blockbuster “…launched Version 1 of their copycat service, which sucked. They launched Version 2, which sucked a little less. They finally launched Version 3, and it was good. It was really good….It was killing us. They were getting all the new subscribers.”
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Episode three: three problems
Problem #1
Launching an online subscription business was expensive for Blockbuster. Every time a Blockbuster customer exchanged a DVD at one of its stores through the Total Access plan, the company lost about $2.
Netflix had stumbled upon the same problem – it took the company six years to post its first profit.
Problem #2
Another Blockbuster’s problem was its debt.
Quote: “Blockbuster was already carrying roughly $1 billion in debt when the company launched its online business, as its former parent company, Viacom, saddled its subsidiary with debt while spinning off Blockbuster into its own public company in 2004.”
Netflix’s Reed Hastings told reporter Gina Keating about Blockbuster in 2009: “If it hadn’t been for their debt, they could have killed us.”
Problem #3
Problem #3 was Carl Icahn. By 2005, the activist investor had acquired a nearly 10% stake in Blockbuster and received three seats on the company’s board. He began battling Antioco for control of the company to quickly boost its stock price.
Icahn and the other board members he installed opposed Antioco’s plans to build Blockbuster’s online business and his idea to ditch the company’s lucrative late fees. Icahn began pushing for Antioco’s ouster, and the CEO agreed to step away in March 2007.
A new CEO, James Keyes, who had previously been CEO of 7-Eleven, had little experience in digital business. He tried to increase short-term profits to reduce the debt at the cost of long-term investments in the company’s development.
The financial crisis in 2008 didn’t make the task easier. In 2010, Blockbuster was forced to file for bankruptcy. The loss for shareholders and other stakeholders is estimated to be $3 billion.
Antioco sold his shares in Blockbuster after leaving the company in 2007 and invested that money in Netflix.
Conclusion
1. Not all that you can read about someone’s success or failure is true.
2. What seems obvious today might look totally illogical or weird at the time it happened. For instance, the surge of online streaming didn’t seem the only future scenario in 2002.
3. A CEO is not the one who makes all decisions. Shareholders and board members are often very influential figures.
4. Sometimes, one needs a great deal of luck to succeed in business.
But the main strategic lesson we can learn from the story is the following:
Never focus only on short-term profits, look into the future.
If you need a strategy coach, a facilitator, or a consultant to help you with your business strategy, do not hesitate to contact me.
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Read also: Know Your Non-Customers. How do you choose your non-customers properly?
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Taking a step back, aside from heavy debt and boardroom politics, Blockbuster's mistake seems to be ignoring its strategic assets (e.g. brick and mortar setup, leadership without digital business experience) and instead choosing to copy Netflix's digital business for the sake of competing.
Do you think Blockbuster could have explored a better business model or offering that used their assets better? (vs Total Access)
(e.g. movie cinema)