Will Netflix Survive the Death of DVDs?

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Netflix (Nasdaq: NFLX  ) is rocking today. Will it still be rolling tomorrow?

This morning's Wall Street Journal checked in on CEO Reed Hastings, to see what the company will do once optical discs are no longer the delivery vehicle of choice for watching movies at home.

That day will come. Hastings expects to still be delivering movies by mail 20 years from now, but even he sees the industry peaking in as little as four years.

The signs are already there. Even though Netflix closed out its latest quarter with 920,000 more subscribers than it started with, the movie-rental industry itself is stagnant. Data from Adams Media Research shows movie rentals of approximately $8.2 billion last year, flat with 2007's showing. DVD sales were even worse, falling by 9% to $14.5 billion last year.

Movie studios are bellyaching. Retail DVD lenders such as Blockbuster (NYSE: BBI  ) are feeling the pinch of cheap kiosks, led by Coinstar's (Nasdaq: CSTR  ) Redbox, which offers machine-dispensed rentals for just a buck a day.

Hastings is threatened by Redbox, but he's not going there. Blockbuster is. It's teaming up with NCR (NYSE: NCR  ) to offer an automated renting solution, but Netflix has no plans to open kiosks.

There may be some international opportunities to expand, but for now Hastings appears more than happy to keep sending out discs in rectangular mailers as he expands the company's online streaming service.

There wasn't a lot of excitement behind the company's PC-based streaming service when it launched two years ago. It didn't work on Apple (Nasdaq: AAPL  ) computers. The title selection was slim. And couch potatoes aren't inclined to watch long-form video on their computers and often lack the tech knowhow to stream online video through their home theaters.

Netflix has made inroads there. It beefed up the selection, even though it still houses just about an eighth of Netflix's entire library. It also teamed up with networked set-top devices such as TiVo (Nasdaq: TIVO  ) and Microsoft's (Nasdaq: MSFT  ) Xbox 360 to make home-theater connectivity seamless.

But that may not be enough. More than 20% of Netflix members regularly use the streaming service, and that's with Netflix including it at no additional cost. What about the other 80% of Netflix subscribers?

Netflix should be happy, one would think. If the vast majority of its members are perfectly happy to use the service exclusively for its mail-delivered DVDs, the original model may have a longer life expectancy than even Hastings is banking on.

However, the digital future will come, and it will be a blessing for Netflix in some ways. It costs Netflix a nickel to stream a regular two-hour movie, compared with nearly a buck to package and pay roundtrip postage on a rented DVD.

The downside is that the moat that Netflix currently enjoys -- its network of regional distribution centers that provide speedy DVD deliveries -- will be irrelevant if discs ever do bite the dust. Netflix will be competing against anyone willing to spend to license studio content for digital distribution. But even there, Netflix will have advantages. It has an established -- and growing -- base of 10.3 million subscribers. Those users have also blessed Netflix with movie ratings and reviews, helping Netflix get to know its subscribers in a way that no upstart can duplicate.

So, yes, Netflix is ready for tomorrow, and it doesn't need to eulogize the DVD just yet.

Other Netflix-ish headlines:

Apple and Netflix are Motley Fool Stock Advisor selections. Microsoft is a Motley Fool Inside Value recommendation. Try any of our Foolish newsletter services free for 30 days.

Longtime Fool contributor Rick Munarriz has been a Netflix shareholder -- and subscriber -- since 2002. He also owns shares in TiVo and is part of the Rule Breakers newsletter research team, seeking out tomorrow's ultimate growth stocks a day early. The Fool has a disclosure policy.

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Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On July 23, 2009, at 3:44 PM, raider1234 wrote:

    Netflix will go down with DVDs. Free content is the future.

    The fact that people were spending so much on media/entertainment to begin with was a result of the consumer/credit bubble that has still not deflated.

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