Netflix Isn't as Stupid as You Think

Has there ever been a domain name purchase as worrying as Netflix (Nasdaq: NFLX  ) recently securing the DVD.com address?

We don't know how much the video-service giant had to shell out for that juicy piece of dot-com real estate. All we have is Domain Name Wire unearthing the change in registration on Friday and Netflix confirming the new ownership of DVD.com.

Naturally there's a fair degree of speculation taking place far outside of CEO Reed Hastings' noggin. Some fear that Netflix is about to repeat its Qwikster mistake, shuttling off disc-based plan members to DVD.com so it can concentrate on making Netflix.com entirely about Net flicks.

It's not just harmless conjecture; Netflix shares are trading lower in an otherwise buoyant market today.

The ghost of Qwikster strikes again!

The DVD is dead -- long live DVD.com
Netflix isn't suddenly a fresh believer in the future of optical discs. With every passing quarter, you see Netflix embracing digital delivery harder as it softens the promotion of its disc-based plans.

Whether it's the marketing shift to digital or simply couch potatoes dictating the evolutionary move, disc-based renters are bidding adieu to Netflix. The company lost 2.7 million of its 13.9 million DVD customers during the last three months of the year, and the number of movie buffs who are still receiving red envelopes in the mail will continue to shrink.

"We expect DVD plans to decline every quarter," Hastings mentioned during the company's fourth-quarter conference call. "Forever."

Now, "forever" is a long time, even for a company that has had a few change-of-heart moments lately.

This certainly wouldn't seem to be a business in which Netflix would invest six figures (if not seven figures) for a valuable DVD.com domain -- unless it had a master plan.

And why DVD.com? Aren't most of the people in the market for an optical disc player trading up to Blu-ray? Maybe Netflix should have bought Betamax.com, LaserDisc.com, or VHS.com while it was on this retro shopping spree.

Instead of planning to shuttle DVD plan subscribers to a dedicated domain, what if Netflix is actually about to ramp up its disc-based promotional efforts?

Fade to black
The problem with a declining model isn't just the cascading revenue and cash flow that result from the slide. Let's take a closer look at the DVD portion of the Netflix model itself.

In times of growth, Netflix could just order up a ton of new releases. Over time, some discs get scratched or go missing, but counting on a larger base of members down the line means healthy demand even for older movies.

What happens when the audiences are shrinking? Netflix will have to sell more discs after the first few months of brisk demand. Why can't DVD.com be a hub for Netflix as it gears up to sell a lot more of its pre-owned disc-based inventory than it used to?

There is still a market for DVDs at the right price. DISH Network's (Nasdaq: DISH  ) Blockbuster may be closing down stores, but Coinstar's (Nasdaq: CSTR  ) Redbox is still booming.

Redbox saw its revenue soar 40% in its latest quarter, and the company proudly announced last month that it has now rented out more than 2 billion discs. It even bought out the Blockbuster Express kiosk business, though that may just be a shrewd move to rub out its nearest rival in this niche that everybody else seems to be avoiding.

The DVD isn't going away without a fight, and even in Netflix's case I think that DVD subscriber bloodletting will begin to shrink. After all, nearly everything is on optical disc. If I asked you to name the 10 retail releases that you wanted to see the most right now, it'd be a surprise if even one of them was in Netflix's digital catalog.

Until Netflix introduces pay-per-view pricing on the movies that aren't available in its digital smorgasbord, it can't get rid of DVDs altogether.

Wait. What did I just say?

A better way
Amazon.com (Nasdaq: AMZN  ) and Blockbuster now offer piecemeal rentals digitally of new releases as well as unlimited streaming of limited libraries. Netflix only offers one of those two services, though its digital vault for unlimited streaming is much larger than Amazon's 17,000 titles. Blockbuster only offers its unlimited streaming service to DISH Network satellite customers.

Netflix can definitely make some serious waves here. It already has 21.7 million domestic streaming customers -- and nearly 1.9 million more overseas -- that are paying for Netflix streams. If Netflix can also offer up newer releases or popular older titles digitally at attractive per-rental prices, will Netflix even care about its DVD customers? There will be fewer reasons for streaming customers to keep forcing Netflix into round-trip mailing costs, freeing the company to spin the service off as DVD.com.

Then again, that's the only way that I can see Netflix pulling off a split between DVD and streaming customers without bringing on another Qwikster crash.

We'll have to see Netflix's master plan here. It's not saying enough now, but Netflix was always smarter than last year's poorly received moves.

Give Netflix time to think things through -- and I'm sure it has -- and it will come to the best business conclusion.

Stream on
Motley Fool co-founder David Gardner has been a fan of Netflix as a disruptor for nearly a decade, but there's a new rule-breaking multibagger that's getting him excited these days. Learn more in a free report that you can check out right now.

The Motley Fool owns shares of Amazon.com. Motley Fool newsletter services have recommended buying shares of Amazon.com and Netflix. The Motley Fool has a disclosure policy. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days.

Longtime Fool contributor Rick Munarriz has been a Netflix subscriber and shareholder since 2002. He does not own shares in any of the other stocks in this story. Rick is also part of the Rule Breakers newsletter research team, seeking out tomorrow's ultimate growth stocks a day early.


Read/Post Comments (4) | Recommend This Article (7)

Comments from our Foolish Readers

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 April 02, 2012, at 4:00 PM, tom2727 wrote:

    "Pay per view" is something they should have been doing from day 1 with streaming. Even if only one person downloads a rental, that's money you didn't have before. And the cost to deliver a pay per view movie is essentially zero if you are already offering a non-premium catalog with unlimited streaming. This is the biggest no-brainer ever, yet they haven't implemented it. Why?

    The fact that Netflix management "might possibly be considering" doing this right now (instead of 3 years ago) just goes to show that Netflix management is indeed as stupid as I thought. If not stupider.

  • Report this Comment On April 02, 2012, at 4:44 PM, lucasmonger wrote:

    What about a different take on the dvd.com domain name? I seriously think that the Quikster move was to partition the company into two distinct pieces to make it easy to sell Quikster to someone to make Netflix completely streaming. The user fall-out surprised them causing them to backpedal, but everyone sees the problem... rising postal costs, antiquated medium replaced by BluRay, and dropping subscriber base. Had Netflix been able to sell Quikster, they would have gotten at least something for it. Now, they might not get anything at all and end up letting that portion of the business attrit away

  • Report this Comment On April 03, 2012, at 1:52 AM, funspirit wrote:

    good comments above. One thing, Coinstar's 40% increase in sales is due to decreased competition in the field, not DVD's going down without a fight.

    We'll wait it see Netflix's master plan and all, but in my opinion they are in seriously choppy water.

    There is an excellent article about the competition they face here.

    http://www.richmakesyourich.com/2012/03/can-netflix-swim-pas...

  • Report this Comment On April 03, 2012, at 10:45 PM, tom2727 wrote:

    I think Netflix's DVD biz is the only thing they have to give them a leg up against the competition. They should be leveraging it instead of blowing it off as a liability. This is why I think their management is full of idiots.

    They will never be able to offer an unlimited streaming library to rival the DVD selection. Not in 100 years. And neither will any competitor. As such the DVD business will be around for a LONG time. I'm talking decades.

    They should be using it. Every DVD customer should automatically have access to a Pay-Per-View streaming library.

    You have the option to get a movie in 2 days through the mail or pay $2 to watch it now, I guarantee some will pay to watch now. Netflix already has their credit card. Just click the button and watch the show. It's so easy. Easier than going to the Redbox kiosk.

    I don't see any advantage in splitting these businesses. It will be the last nail in their coffin if they ever do.

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