Is Netflix killing DVDs like Apple killed floppies? (Q&A)

Big Champagne CEO Eric Garland has seen Netflix's price hike in many different forms over many years.

Industry leaders change directions with a product or service and stunned customers revolt. It's a scenario that played out when Facebook overhauled the social network's interface and in 1998 when Apple released the iMac G3 without a 3.5-inch floppy-disc drive. People called Steve Jobs crazy. But Netflix CEO Reed Hastings, like Jobs before him, is now trying to move the market into the future, says Garland. Netflix's library of streaming movies and TV shows are often dated or obscure titles. It's obvious Netflix is struggling to acquire more sought-after content.

For over a decade, Garland's Los Angeles-based company has tracked digital-media consumption over the Web and much of the data he collects he sells to the major film studios and record companies. He's in the catbird seat to watch events unfolding at Netflix and he's convinced that Hastings designed the price hike to rouse the studios and his audience out of their complacency regarding the DVD. Garland says the format was already dying but the price increase is meant to perform a mercy killing on the highest order; so consumers can begin to acquire movies in the more efficient way that benefits them--and Netflix--the most.

Q: What was your reaction to Netflix's price increase?
Eric Garland: I was surprised by how unsurprised I was by all of it. I was reminded of so many precedents: Facebook revamping its user interface, the introduction of the first Blueberry iMac, the one with the conspicuously missing 3.5-inch floppy drive on the front. All of these were moments when there was a paradigm shift that led to an immediate public outcry. People made a lot of noise and had a lot of complaints. People were very upset about these shifts...until they weren't. In the news cycle, the outcry is significant and it is problematic, but it's also important to note how quickly these things are forgotten.

What does Reed Hasting see that a lot of people complaining or us in the media can't see?
Garland: Reed Hastings has an unfair advantage and that is near-perfect access to near-perfect customer data. Not to be cute about it but what he sees is everything, and what you and I and everybody else are seeing is very little. He is looking at not just what his customer is doing but he's virtually looking at what his customer is going to be doing, meaning that within certain segments of his database he has access to information about what we're all going to do and what we don't even know we're going to do. The early adopters and the leading edge is an identifiable constituency within his customer base. He can say authoritatively, a year from now, three years from now, five years from now, this is the way you will enjoy filmed entertainment. He can say this because there are already elements of his marketplace that are enjoying the entertainment that way today. So he really can see the future. Specifically, what he can see is that increasingly the younger Netflix customer is watching on the little screen, on the mobile device, on the laptop and that they are watching on the Netflix streaming service and not the DVD.

That's not what's likely to happen tomorrow. That is happening today. As you know there are a lot of us still watching DVDs and specifically those first-run titles on our relatively big-screen TV but that's a lagging indicator. That's like the person who so vociferously and so vocally objected to the introduction of that first iMac that came without a 3.5 inch floppy drive. "What am I supposed to do," that person asked? "My whole life is on 3.5 floppy. I finally migrated off the 5-inch drive and now your marketing a computer that has no 3.5inch drive." It was outrageous, until it wasn't. Remarkably what people found in a very short period of time was directionally it was where we were already going and Steve Jobs just recognized that a few minutes before the rest of us recognized that. I would say that in this case, that's the comparison. Reed is acting like a visionary and sometimes visionaries, at inflection points, are incredibly unpopular and make unpopular decisions. To be blunt, make no mistake this announcement signifies Reed Hastings' intent to kill the DVD. For sure, the DVD doesn't need Reed Hastings to kill it. It's dying anyway. He's just helping it along on its preordained course.

But Netflix's streaming selection is thin. It's too unsatisfying an experience too often. The discs helped me ignore some of the bald spots?
Garland: Reed is deliberately creating dissatisfaction. He's creating dissonance precisely because that title availability, those first-run titles, needs to be available more immediately and more widely as a (video on demand) or as a streamed offering. So this is a leverage play. This is Reed saying you can't bifurcate. You're going to have to make all of your content available in a way that your customer has clearly indicated that he or she wants. Netflix is wagering that if all parties are dissatisfied; if Netflix is unhappy because Netflix customers are unhappy and if Hollywood is unhappy and if everyone is unhappy then we're going to speed the clock on new solutions. You know that theory of vine economics, you let go of the last vine (like Tarzan) and reach for the next one. If he takes away that last vine then everyone is really going to reach for the next one. That's what he's trying to do here. He's trying to remove the complacency that comes from an easy dependency on that legacy product. If you take the comfort of that DVD away that dissonance is going to demand remedy.

You ask, what about all those DVD titles? You want those movies. So does Reed Hastings. And so does every other customer and movie fan. And now the pressure under which Hollywood finds itself has been ratcheted up.

I hate to keep drawing the parallel to Jobs but he knew exactly what he was doing when he introduced a new computer for the home that did not have a floppy drive. That disappointed virtually everyone in the market. What it forced us all to do was to reconsider the format. That is exactly what Netflix is trying to do, to make us ask: Do I really need DVD by mail or do I just need access to all those first-run movies. Wouldn't I rather just stream them than wait for them to come into the mail?

This is a gamble right? The studios don't want Netflix to amass too much power. Won't they be falling into Netflix's hands if they provide streaming rights and potentially give Hastings control of the market?
Garland: Keep in mind that Netflix's lead as a platform for streaming entertainment is solidified. There's no one, including Apple, in a great position to take on Netflix on their home court. If for no other reason that Apple is very focused on the Apple ecosystem. And as you know Netflix is on every TV and every set-top box. Strictly speaking, Netflix is not competing with Apple. Apple is focused on its ecosystem and Netflix is focused on the rest of the world.

Hollywood is in a difficult position. Now you have to weigh your tactical approach to a specific partner, in this case Netflix, against your strategic approach to the very future of your business. To draw a music industry parallel, many times along the way its' been suggested to me by an analyst or journalist [that] the music industry is never going to cave in to Apple on X, Y, or Z because they simply can't. It would make Apple too powerful or give them too much leverage. And then time and time again the music industry does blink, and the reason is that as concerned as they are about Apple getting too powerful or acquiring too much power, they're more concerned in the end about securing their own future. What Netflix is wagering here is that curbing Netflix power is less important to Hollywood than building their business and satisfying their youngest customers because their youngest customers are the future of their business.

These are the best customers and the future and if they abandon Netflix in favor of something more generous (read: pirate sites) they will abandon Netflix in favor of something less lucrative for Hollywood. If the youngest customers abandon Netflix, they're going to the gray market. Hollywood can't have that. It's astonishing that Netflix has won the commitment it has from these youngest customers. They are the hardest to get, the entitled ones who think everything should be free or discounted and they want everything everywhere all the time. So Hollywood can't jeopardize that segment. That segment is everything, the future of the business.

Why is this segment so powerful?
The arc of the customer is you start out great customers, then we get disinterested, then we get homebound, and then we die. The youngest customer is always your most important customer cause he's the one that's going to live the longest. You can't alienate your youngest and most active customer particularly if you're a brand or lifestyle marketing or in this case a content company. You have to have them. Remember how lucky we are to have them as customers. A few years ago, I would have been guilty of telling you you're never going to have them. They're tuned out. They get everything for free. The Internet is an infinite pool of content and young people will simply never be good customers again. Reed Hastings has proved me, in one sense, utterly wrong about them.

He's got tremendous buy-in from young customers. Kids love Netflix more than they love cable. I would have told you that could never happen. I would have said no, kids are going to be fickle and noncommittal, and they're never going to pay for a content platform, and Netflix has proved me wrong on that. And now Hollywood has recognized how fortunate they are to have that customer locked into a long-term subscription relationship and they're not going to let that customer go easily. So when Netflix effectively forces that customer to choose and then shows just how many of those kids have chosen streaming only, Hollywood is going to have to super serve those kids on a streaming platform. The customer has spoken.

This dissatisfaction is going to provide Netflix with tremendous leverage in their content licensing going forward. The question for Hollywood will be do you or don't you want to sell premium entertainment to the largest and most active subscribed base of young film and TV customers in the country.

Will there be a pinch? Will there be an online petition? Will people jam the phone lines? Yes. Will that leave a mark six months from now, a year from now? Netflix doesn't have to gamble. It already looks at the data and it gives them confidence that the DVD is a product that is being abandoned organically. All Netflix is doing is taking a real proactive step to bring attention to it and heat to the issue. That's what I mean that Netflix is forcing the conversation--ironically not the conversation between Netflix and its audience. They're forcing the conversation between Hollywood and the audience. Netflix is merely a facilitator or moderator in this conversation. Because the audience is saying to Hollywood the younger we are the less likely we are to want that disc. Now Hollywood has to respond.