Success of Netflix catches the eye of big retailers

KNIGHT RIDDER NEWSPAPERS
Theresa Chidester, a self-described film fanatic, would rather rent DVD movies through the mail than trek to a video store near her home in Altamonte Springs, Fla.
Since joining the Internet-based rental company Netflix Inc. six months ago, Chidester, a 28-year-old Sprint employee, has received DVDs from distribution centers in Atlanta, Fort Lauderdale and, in recent weeks, Lakeland, Fla.
They arrive in her mailbox inside red envelopes, sandwiched between the bills and bank statements. "American Wedding." "The Original Kings of Comedy." "Dave Matthews Band: Listener Supported."
Chidester, who has rented dozens of movies this way, is among a growing number of people using online DVD services, lured by the convenience and absence of late fees.
They're also a bargain for movie buffs, who otherwise have to spend upward of $5 a movie at a video store. Netflix, for example, costs $19.95 a month for unlimited rentals with no due dates or late fees. Customers are limited to three DVDs at a time but have the option of getting more for an added fee.
"I'm anti-video-store now," Chidester said. "Renting from Netflix is so easy. It takes no effort on my part."
Pioneer
Los Gatos, Calif.-based Netflix, whose Web site is www.netflix.com, is considered the pioneer of the online video/DVD business. With 1.5 million subscribers -- a figure the company says could grow to 5 million in as little as three years -- Netflix is also the biggest.
But the company's success -- its stock, which went public in May 2002, is already up more than 300 percent -- has drawn the attention of other retailers, including some heavyweights.
Wal-Mart Stores Inc., the world's biggest retailer, began offering DVD rentals on its Web site in mid-2002. Blockbuster, the world's largest video-rental chain, launched www.filmcaddy.com that same year. Hollywood Video, the No. 2 chain, is said to be considering an online unit.
Although Netflix has been compared to such online monsters as Amazon, eBay and Expedia, it's not yet in their league. And critics warn that the online movie-rental business is still a niche market and soon could face stiff competition from cable-TV companies' fledgling video-on-demand services.
But industry analysts and online experts acknowledge that Netflix has altered the movie-rental landscape and is siphoning customers from mainstream video stores.
"The company's success to date has been extraordinary and speaks volumes about the inherent value ... they deliver to consumers," said Derek Brown, senior analyst at Pacific Growth Equities. "... When it's all said and done, Netflix has only begun to scratch the surface."
Started in 1997
Netflix's chief executive, Reed Hastings, developed the idea of an all-you-can-rent, online movie business in 1997, frustrated with the recurring late fees he was paying to rent videos.
Netflix began offering subscriptions in 1999, and membership surged. Subscriber revenue totaled $81.2 million in the most recent quarter, up from $45.2 million only a year ago.
The company also reported a fourth-quarter profit last month of $2.3 million, or 7 cents a share, compared with a loss of $2.3 million, or 10 cents a share, a year earlier. It was its third consecutive quarterly profit.
Hastings told investors at the time that the company hopes to launch a mail-order service in Canada and the United Kingdom by 2005.
Netflix works like this: Once customers sign up, they can browse movie titles and compile a "rental queue." Netflix mails out the first available titles with prepaid return envelopes. As a subscriber watches each DVD and mails it back, another title from the queue replaces it.
Across the country
Distribution centers spread across the country process the requests from their region to ensure speedy delivery. Netflix says that nearly 80 percent of its customers receive their DVDs within one or two days of placing an order.
Analysts are quick to say that Netflix isn't going to kill the neighborhood video store. Still, the company now controls an estimated $270 million, or roughly 3 percent, of the $10 billion-a-year movie-rental business.
Because Dallas-based Blockbuster alone controls about half the business, it stands to lose the biggest chunk of customers to Netflix, said Michael Prachter, an analyst at Wedbush Morgan Securities Inc.
"Where did the Netflix customers come from?" Prachter said. "It's safe to assume that roughly half of Netflix's 1.5 million users were once Blockbuster customers. That's 750,000 customers they've lost. Blockbuster can't afford to lose another 2 million."
It doesn't intend to. Randy Hargrove, a Blockbuster spokesman, notes that online rentals are still a relatively small part of the business -- and Blockbuster plans to put up a fight.
New service scheduled
Later this year, it will introduce an in-store subscription service; customers will pay a monthly fee for an unlimited number of movies. Next, the company plans to launch an online rental site under the Blockbuster brand. At some point, Hargrove said, the two operations would be integrated. Conceivably, a customer could order a movie online from work, pick it up on the way home, and drop it in the mail after watching it.
"Blockbuster has a built-in advantage when it comes to the videos," said Prachter, the analyst. "Not to knock Netflix, but the Blockbuster name is huge in this business."
So far, the presence of another huge name -- Wal-Mart -- hasn't slowed Netflix's progress.
Wal-Mart quietly launched its online-rental service in October 2002, looking for a piece of the action. Even though Wal-Mart's version is cheaper -- just $15.54 a month for two movies at a time, or $18.76 for three -- Hastings said Netflix's membership growth hasn't taken a hit.
Analysts warn, however, that Wal-Mart's brand name, in-store marketing and world-famous distribution system could eventually loom large. For instance, the giant discount chain could promote special online memberships for those who buy DVDs or DVD players in its stores.
For now, though, Netflix leads the online-rental market.