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Netflix CEO Throws Down Online Gauntlet

25 Jul, 2002 By: Joan Villa

NetFlix issued a dare of sorts to competitors to boost the “credibility” of the online DVD rental service by adopting NetFlix's subscription model.

In the etailer's second quarter conference call and its first as a publicly traded company, CEO Reed Hastings said the lack of major competition was “disappointing.”

“We firmly believe that if Blockbuster or another major company were to enter, the increase in credibility of subscription rental would propel our company and our model forward faster,” Hastings said. “If they train millions of consumers to think subscription when they think rental, this will help us tremendously. Store-based subscription rental will be a good choice for some people and online subscription rental will be good for other people, such as those who value free home delivery, those who don't want to drive or can't drive to a Blockbuster and those who want the vast selection that online can offer.”

The online retailer doubled quarterly revenue to $36 million from last year's second quarter on a record subscriber base of 670,000, and reported $12,000 in pro forma operating profit. Including stock-based compensation and a one-time $10.7 million charge for retiring debt, NetFlix posted a net loss of $13.4 million for the quarter ended June 30 versus a net loss of $8 million a year ago.

Customer retention trended slightly upward, with 6.7 percent leaving the service during the quarter versus 7.2 percent in the first quarter. However, NetFlix expects customer acquisition costs to lead to pro forma operating losses in the third and fourth quarters. It takes the company two to three months to absorb some $35 per subscriber incurred from offering free trials and a “pay per performance” partnership with Best Buy to sign new members, Hastings said.

So far, NetFlix's rental mix is 25 percent new releases to 75 percent catalog titles, but software that matches customer tastes to independent product boosted returns on specific movies such as Fox's Donnie Darko and Lion Gates' Lantana, he said.

“We were able to selectively promote these films to the right subset of our subscribers so instead of out typical 1 percent to 2 percent of the national domestic market we will do over 10 percent of the national DVD rentals on these titles, according to VidTrac,” he explained.

Although NetFlix believes competition will benefit their service, a store-based retailer such as Blockbuster is better positioned to leverage a subscription customer for incremental sales, observes research director Greg Durkin of Alexander & Associates.

“Blockbuster can come at you with 100 different things — candy, movies, used VHS,” he said.

“That's why grocers put tuna fish on sale, to get customers in the door and they're bound to pick up a gallon of milk. NetFlix doesn't have that option.”

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