Netflix vs. Naysayers CEO Hastings Keeps Growth Strong; Plans for Future After Death of DVDs By NICK WINGFIELD March 27, 2007; Page B1 In the decade since Netflix Inc. began renting DVDs online, CEO Reed Hastings has faced down a murderers' row of rivals. Wal-Mart Stores Inc., Amazon.com Inc. and Blockbuster Inc. have all piled into the market with services that mail DVDs to consumers who've ordered them over the Web. But Wal-Mart threw in the towel in 2005 after two years, while Amazon has so far limited its service to the United Kingdom and Germany. Meanwhile, Blockbuster's chief executive, John Antioco, last week abruptly resigned from the company after a long battle with shareholder Carl Icahn, who wants the company to be more aggressive on the Internet. Through it all, Mr. Hastings, a 46-year-old Silicon Valley veteran, has defied naysayers by keeping growth strong. The Los Gatos, Calif., company finished last year with 6.3 million subscribers, up 51% from 2005. Its revenue also grew 46% to nearly $1 billion in its most recent fiscal year. Today, Netflix rents out 1.5 million DVDs a day. Mr. Hastings, who was appointed to Microsoft Corp.'s board of directors yesterday, recently discussed the company's future. Excerpts: WSJ: Why does Netflix face a lot of questions from analysts about the sustainability of its business even though you're showing strong growth? Hastings: That's easy. We're sure that we're going to be buying cars in 25 years, whereas renting DVDs through the mail in 25 years? For sure that's not going to exist. That's what creates the overhang -- there's a known obsolescence. Now we can argue about whether that's 10 years or 25 years [away]. Some people probably think it's five. I think they're wrong. It's probably more like 20. WSJ: So it's a question of when, not if, DVD rentals will go away. Hastings: That's exactly right. If one thinks of Netflix as a DVD rental business, one is right to be scared. If one thinks of Netflix as an online movie service with multiple different delivery models, then one's a lot less scared. We're only now starting to deliver the proof points behind that second vision. WSJ: You've started letting some of your subscribers watch movies from your Web site. How seriously are you pushing into Internet-delivery of movies? Hastings: We're taking it pretty aggressively. We're investing about $40 million into it this year. We feel that that's the appropriate size investment, given the size of the market. If you overinvest in a market, of course, a lot of the money is wasted. If you underinvest, then someone else can get ahead of you. We'll be up to 5,000 films by the end of the year, open to all of our subscribers. WSJ: Five thousand movies is still a lot less than the 75,000 you offer Netflix subscribers on DVD. Hastings: Remember when DVD launched in 1997, and then we launched in 1999, we only had a thousand titles. It grew as the ecosystem grew. WSJ: Blockbuster was once dismissive of Netflix, but now they're taking you very seriously. Did their initial attitude affect the way you view potential threats to Netflix? Hastings: Absolutely. We have to recognize that now there are tens and maybe hundreds of start-ups who think that they're going to eat Netflix's lunch. The challenge for a management team is to figure out which are real threats and which aren't. During the Internet bubble, Blockbuster was very disciplined. Their primary competitor, Hollywood Video, bought a video sales company for $100 million -- Reel.com -- and then plunged another $200 million of losses into it and ultimately cratered Hollywood's balance sheet on a business selling VHS online. It's conventional to say, "only the paranoid survive" but that's not true. The paranoid die because the paranoid take all threats as serious and get very distracted. WSJ: What are some examples of how you were choosy in reacting to potential threats to Netflix? Hastings: There are markets that aren't going to get very big, and then there are markets that are going to get big, but they're not directly in our path. In the first camp we have small companies like Movielink -- a well-run company but not an attractive model for consumers, sort of a $4-download to watch a movie. We correctly guessed when it launched four years ago that this was not a threat and didn't react to it. The other case I brought up is markets that are going to be very large markets, but we're just not the natural leader. Advertising supported online video, whether that's at CBS.com or YouTube -- great market, kind of next door to us. But we don't do advertising-supported video, we do subscription, so it would be a huge competence expansion for us. And it's not a threat to movies. WSJ: In November, Blockbuster launched their Total Access service, which gives their online renters the option of returning DVDs in stores. They now have more than two million online subscribers. How do you see your rivalry with them playing out? Hastings: We're forecasting around two million this year in net additions [of subscribers]. They're forecasting around two million net additions. The amazing thing is that that's four million net additions total, that the market is growing that fast. While we're competing hard and that can be challenging, it's absolutely having the effect of growing the market faster than either one of us could have grown it on our own. WSJ: What is Netflix doing to get its movies from its Internet service onto television sets? Hastings: Our view is we should get to every Internet-connected screen over the next two years, as we also grow the title selection. That includes cellphones, laptops, where of course we are today, and television. At this point we haven't made any further announcements on that. WSJ: Is Netflix developing its own device for connecting to televisions? Hastings: We've prototyped lots of things, but we haven't made any decisions or announcements about what we're going to do in the long term. WSJ: Apple Inc.'s new AppleTV device for getting movies from the Internet to televisions primarily works with video purchased through their iTunes Store. Are you worried Netflix will get squeezed out of the picture if Apple and others make hardware that works only with their Internet services? Hastings: Obviously cable and satellite have been very large closed systems, as is the Apple system, as are games. On the other hand, PCs have been very open. There's a whole continuum. We're big believers in the power of the open Internet to get to the television. Our view is it's certain that, from the television, consumers will be able to browse online video from millions of Web sites because the demand is there. WSJ: How important is renting HD-DVD and Blu-ray movies, the two new high-definition disc formats, for Netflix? Hastings: Tragically small. We have all the titles on HD-DVD and Blu-ray. They're running neck-and-neck, but the total volume is less than 1% of our volume. Consumers want high-def, but the perception of a format war is freezing consumers out. Until that perception stops, very few consumers will try the new high-def discs. WSJ: Do you think there's still a strong mutual mistrust between the technology and entertainment industries? Hastings: It's certainly less now than five years ago, but so far technology -- Silicon Valley technology -- has only hurt the content companies, as opposed to consumer electronics technology, like DVD players and televisions, which have hugely grown the market. The copy-protection systems for high-definition DVD and Blu-ray formats have been cracked, and they've been cracked on PCs, not movie players from traditional electronics companies. The problem is the PC is an open platform. People can say things like, "Well, the consumer gets what the consumer wants." But that's kind of trite because really that leads to complete freedom and no payment. WSJ: But the openness of PCs and the Web is what allows Netflix to have a business. Hastings: You were asking what about the tension between the two industries, and that's why the tension exists. I don't say it's bad. It's unavoidable. It's fashionable to say the record companies are awful. But they're no better or worse than any other company. They're trying to grow and make money, and there are going to be less artists that get signed to their deals now because they have less revenue. Fortunately, that hasn't happened in the movie business. Now, to have it grow, it's not extorting consumers. It's giving consumers such a good experience that they feel good about paying. That's what's hard in online video -- making the consumer happy and making the studio happy.