Netflix messed with perfection, stock down ~36%

Netflix used to be a company that was an innovator. Its first idea was to offer DVDs as a monthly subscription service with people able to get one or more DVDs at a time with one monthly fee and no late fees. This business model was dismissed by many at first but it caught on with the public. The result was that Netflix's service managed to crush the once mighty brick-and-mortar video and DVD rental store chains; that included Blockbuster, who filed for bankruptcy earlier this year and was later bought by Dish Network.

Later Netflix decided to launch a streaming video service, offering movies and TV shows that could be played nearly instantly from a PC, again for one monthly fee. Other movie download services stuck with the typical one time rental or purchase model for each movie or TV show; think iTunes. Netflix's all-you-can-watch model, however, became popular and as it added more content it started to gain subscribers. It also helped that Netflix expanded the number of devices that could run the streaming service to products like game consoles, smartphones and tablets and others.

Netflix at first added streaming video subscriptions as an extra for its DVD mail order customers. Later, Netflix offered up a streaming only plan that caused its subscriber base to jump to huge numbers, which also caused its stock price to climb higher and higher. By the summer of 2011, it seemed like Netflix could do no wrong.

And then Netflix made The Decision.

That decision, announced in mid-July, was to separate the streaming plans from the DVD mail order subscriptions completely. That meant that customers who wanted both would see a huge increase in its fees. If you want both streaming video service and one DVD at a time per month, you now have to pay $15.98 a month, which is a 60 percent increase from its previous price.

Netflix claimed that it was prepared for backlash from its customers in regards to this sudden price increase but that didn't turn out to be true at all. Netflix customers flooded the company's customer service department with complaints and others turned to the Internet, via message boards, Facebook and Twitter, to express their outrage on this decision. In the end, Netflix admitted on Monday that it lost over 800,000 subscribers as a result of this decision in the third quarter of 2011, much more than what was expected.

Netflix's stock price, which had already taken a huge dip since the summer, took a massive 27 percent jump downward in after hours trading on Monday. Investors clearly saw that Netflix and its management, lead by CEO Reed Hastings, had lost its way.

And yet, in many ways, Netflix still hasn't learned from its mistakes. It continues to defend the move to separate the DVD and streaming plans, saying that the real problem was that they did a poor job in communicating this move to its customers; consumers got the message loud and clear. That message was that prices for many of them would be going up and that a lot of them would have to choose from either the DVD mail order plan or the streaming plan. Some even dumped Netflix completely.

In its letter to shareholders on Monday, Netflix claims that just 7 percent of their new customers choose to pay $15.98 a month to get both streaming and DVD subscription plans. They seem to realize that those numbers would increase if they lowered their price but added, " ... if we were going to lower prices, we would do it on streaming."

Look, there's no question that in the future, physical media for movies will disappear for the most part and that downloads and cloud-based streaming services will take over. But we are not there yet; not by a long shot. DVDs and Blu-Ray disks are going to be around for a long time. At the very least, those products continue to have features like commentaries, extra behind-the-scenes content and more that Netflix simply cannot provide for their streaming only customers.

Also, there's the issue of content. Netflix has made huge strides in adding new and better content to its streaming service. But the fact is that customers get access to a lot more content from its DVD mail order service. Is it slower to get DVDs from Netflix than with the streaming video service? Sure. But you can still find and watch everything from new releases to obscure documentaries via the DVD business. That's not even mentioning the fact that Netflix can actually lose the rights to stream certain movies and TV shows. Want to watch Babylon 5 via Netflix streaming? You used to be able to, but not anymore. However you can still get DVDs of the show sent to you by Netflix in the mail.

Ultimately, Netflix needs to realize that even though its DVD business may be in decline, a lot of its customers still want to access the vast content that it provides compared to the streaming video side of its business. More importantly, they would rather not have to pay a lot of money to have access to both.

Restoring some kind of lower hybrid plan will have immediate benefits for Netflix. A lot of old customers will come back and it might actually gain some new ones. It goes without saying that Netflix's stock price will begin to recover instead of being in freefall. Finally, and most importantly, it will realize that even though the DVD business will eventually disappear it's still an important part of Netflix's plans and shouldn't just be regulated to the equivalent of the old folks home.

Netflix customers have given its message to the company. They want both streaming and DVD plans at a reasonable hybrid price. Netflix should man up, admit it made a mistake in this area, and give customers what they want. In business, it doesn't get much simpler than that.

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