Netflix's Classic Mistake Is Irreversible And Life-Threatening

Oct. 26, 2011 10:11 PM ETNetflix, Inc. (NFLX)BLOAQ, IP15 Comments
John Tobey, CFA profile picture
John Tobey, CFA
1.25K Followers

Netflix (NASDAQ:NFLX) management tried to do the right thing, but they implemented their strategy incorrectly. Unfortunately, their classic mistake cannot be rectified. Worse, because Netflix is non-diversified, the costly error could put it on a course similar to Blockbuster (OTC:BLOAQ).

Blockbuster stock chart

(Stock charts courtesy of StockCharts.com)

Photo of jump off cliffHere’s how they botched the company’s fabulous opportunity. (I am using a case example I know well to illustrate what went wrong.)

The problem/opportunity: A market shift from physical to electronic

In the mid-1970s, paper companies were trying to strategize how they would fit into the coming “paperless” economy. Electronic data storage was spreading, computer time-sharing was popular and Xerox Palo Alto Research Center (PARC) was developing the Ethernet. It was only a matter of time (it was thought) that paper usage in offices would decline.

For Netflix, the shift is similar: from physical video DVDs to electronic video streaming. With increasing broadband/speed, improved software and expanding content, it is only a matter of time (it is thought) that DVD usage in homes will decline.

The need: A company shift in direction

At International Paper (IP), where I was working, a major consulting firm was aiding management and developing a picture of where the company was and where it needed to head. The approach was twofold: First, to modernize by focusing on profitable growth areas (more about that later); and, second, to diversify (IP created IP Credit, which would become a major leasing firm, and they acquired General Crude as a non-paper, natural resource holding).

Netflix management responded quickly to its market shift, expanding its DVD rental business model to include video streaming. It makes sense: The same customer base dealing with the same firm, fulfilling the same need, but in a different format. (Blockbuster, with its physical retail locations, did not have the flexibility to make such market shift moves.)

This article was written by

John Tobey, CFA profile picture
1.25K Followers
I am the founder and editor of Investment Directions. My career has been managing and consulting to multi-billion dollar funds. Using the widely accepted “multi-manager” approach, I have worked with top investment managers throughout the country, gaining a high level of expertise. My career has spanned many market environments, and I have hands-on experience searching out opportunities and avoiding risks in all of them. I now devote my time to Investment Directions, with the goal of helping investors further their understanding and improve their investing skills. I am currently serving on: The AAUW Investment Advisers Committee and The City of Vista Investment Advisory Committee.

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