Netflix spooks Hollywood more than ever

The name of the game in Hollywood right now is to spark ownership of digital movies, and Netflix's streaming rental service undermines that strategy. Moreover, Netflix may be hurting the major studios in ways that few expected.

Greg Sandoval Former Staff writer
Greg Sandoval covers media and digital entertainment for CNET News. Based in New York, Sandoval is a former reporter for The Washington Post and the Los Angeles Times. E-mail Greg, or follow him on Twitter at @sandoCNET.
Greg Sandoval
5 min read

LOS ANGELES--Hollywood film executives want you to know that they are not at war with Netflix or the Internet.

Greg Sandoval/CNET

Some of them told me over the past week that they have every intention to continue to distribute films and TV shows over the Web and at attractive prices to boot. They plan to provide viewers with a multitude of ways to access Internet content: on Web-connected handhelds and TVs, video game consoles, and iPads.

Only, don't ask them to do all this at the expense of the long-term health of their business. The general feeling with the studio executives I spoke with is that they cannot and will not throw in with Netflix and imperil other more lucrative revenue streams, such as pay TV or traditional broadcast services. They don't believe it is a forgone conclusion the Internet will become the dominant means of video distribution or that Netflix has already conquered the category.

The winds have once again changed direction in Hollywood. At a time when Netflix, the Web's top video-rental service, continues to report big growth in the number of subscribers and revenue, more and more studio decision makers are concluding that Netflix represents a serious threat if not kept in check.

On previous trips to Hollywood over the past two years, most of the studio executives I spoke with seemed to have a love-hate attitude towards Netflix. Many said they wanted to wait and see how Netflix's streaming service fared. Some were skeptical that the service could ever draw a large audience without hit films and shows, which they doubted Netflix could afford. At the same time, even Netflix's biggest critics at the studios were glad to have the company help bid up prices for content.

But since then, Netflix has proven it can acquire both sought-after content as well as a large audience. Netflix's rapid rise stunned many at the studios and now even former supporters there are wary of Netflix's growing influence. To make matters worse, Netflix is having some unanticipated impacts on the studio's businesses. Here are a few of the reasons why some film-industry execs said Netflix is raising red flags:

•  Netflix siphons off sales from other important areas, such as the airlines. Since more airlines are offering in-flight Internet access, a Netflix account means that movies may be less valuable to the carriers.

• There is evidence that Netflix's streaming service discourages users from purchasing newly released DVDs. The studios see indications that for even hit films, which likely won't appear on Netflix's streaming service for years, some Netflix subscribers are satisfied to wait until they do.

•  Films offered on Netflix lose value rapidly. Some cable and traditional broadcasters won't go near a title once Netflix begins streaming it. Netflix takes the scarcity out of the equation, one film industry insider said. People can watch any of the service's commercial-free films and shows anytime they want.

The prevailing feeling among the studio managers I spoke with is that Netflix's streaming service will be a good outlet for the least-valuable material. If they have their way, Netflix will be the Internet equivalent of a swap meet, where only the most dated and least popular titles are available. The studios are betting that eventually people will get bored with the service.

Netflix as disruptor
All this hand wringing about Netflix can be traced to the company's recent success. Netflix streaming has become too big too fast. The video-rental service, founded in 1997, surpassed the 20 million-subscriber mark in the quarter ended December 31. That represents a 66 percent jump in subscribers from the 12 million the company possessed a year before.

The service is also out to a big lead when it comes to building an online distribution network. Netflix is available on more than 200 Internet-enabled devices and platforms, including Xbox, PlayStation 3 and iTunes.

The studios don't want to see any service running away with Internet distribution and accumulating the kind of power that could enable it to one day dictate terms. That's how iTunes dominated the music industry during the past decade.

The Hollywood executives I spoke with said they have nothing but the highest regard for the abilities of Netflix CEO Reed Hastings and his management team. Indeed, perhaps Hastings should be flattered by the roadblocks Hollywood is building for his company. The film studios and TV networks have already watched his management team grind other distribution powerhouses into dust. In the past two years, rental chains Blockbuster and Movie Gallery have each filed for bankruptcy protection.

The studios don't want to help a discounter like Netflix do the same to cable.

But at this point, you might be saying to yourself, "Too late." Consumers want to watch what they want when they want and they want it all cheap. Web services like Netflix provide that. What could big media companies possibly come up with that matches the value Netflix offers?

Collecting DVDs
For starters, the studios want to foster more competition. To do this, Hollywood is counting on UltraViolet, the name given to a set of technology standards that will enable consumers to play digital video across a large range of devices and platforms--just like the DVD can. The standards will also enable services to come along and offer consumers a way to store their digital media on their servers. The film industry wants to see new business models grow out of UltraViolet.

The studios don't want to say goodbye just yet to physical discs but it's important to remember what their goals are and why Netflix may not fit into their plans.

Studio chiefs are eager to get consumers buying and collecting movies again. The home-video category is in decline. Disc sales are tumbling every quarter. One exec told me that 30 to 50 percent of DVDs are still in their original shrink wrap.

There are lots of different theories about why consumers have stopped collecting DVDs. Eric Garland, CEO of Big Champagne, a company that tracks digital-media consumption, says that the huge growth in disc sales was driven by the public's temporary gee-whiz reaction to what was then a nifty new technology.

"The medium was creating this false impression that we had a real need to curate libraries of films," Garland said. "People built film libraries because they had never been able to own movies before. Even then, most of the movies only got watched once."

The DVD helped the film industry generate huge profits for years and that's why the stakes are very high. "If we find out that people won't collect feature films anymore," Garland said, "than the business as we know it is broken beyond repair."

Netflix's streaming service, of course, provides an excellent alternative to buying movies. If Hollywood is serious about freezing the company out when it comes to popular shows and films, then it will be interesting to see whether Netflix can keep up its white-hot subscriber growth.

Keeping score will be easy. For starters, just log on to Netflix's streaming service and decide whether there's anything worth watching.