How Blockbuster Nearly Killed Netflix, and then Stole Defeat from the Jaws of Victory

On the afternoon of January 21, 2007, Netflix CEO and cofounder Reed Hastings was alone in his Park City, Utah home. Netflix was, at the time, known as an online DVD rental company — customers would visit the website, place their orders for DVDs, and have the DVDs shipped in the mail to them. In order to get their next rentals, customers would then have to ship their previously loaned DVDs back to the company. This was a win-win — Netflix had no physical presence, and customers paid only a monthly subscription fee for access to the entire library.

Sitting inside his residence, Hastings could hear jovial cinephiles skipping down the snow-lined streets outside the red-brick chalet, which had once been a church. The crowds were en route to the Sundance Film Festival. Sundance — then and now — was America’s top showcase for independent feature films, documentaries, series, and short films. It had become Netflix’s top marketing event. The festival, founded by big-screen icon Robert Redford, embodied the company’s sophisticated yet anti-establishment image. Anyone who was anyone in Hollywood was there. Hastings had made a practice of flying his employees out to the mountain resort community every year during Netflix’s early years. It gave them a chance to rub elbows with the best up-and-coming filmmakers, producers, studio chiefs, and all other manner of industry bigwigs. It also projected an air of inevitability for Netflix. 

In 2007, the company was hosting an invite-only party paying homage to Little Miss Sunshine. A low-budget tragicomedy that debuted at Sundance the year before, the film was nominated for four Academy Awards. Netflix’s marketing team decorated a rented warehouse with cheap patterned tablecloths and buckets of fried chicken, evoking the “suburban desolation” depicted in the hit film about a dysfunctional family road trip. There was even a battered Yellow VW bus, the movie’s enduring image, kitty-cornered in the room. Celebrities strutted down the red carpet before entering a labyrinth of open bars beside a dance floor, where they cut loose. According to business author Gina Keating: “The party was designed to echo the ironic cool that appealed to consumers about Netflix, and that the now ten-year-old company had carefully cultivated.”

Across Park City, young Netflix employees strolled the affluent avenues sporting red parkas emblazoned with the company’s red-and-white logo. Swag bags and hospitality suites were packed full of Netflix caps, scarves, and bean bag chairs. The whole town seemed to be awash in Netflix red. And why not? The company had taken the entertainment industry by storm. What began as a startup with eight employees, beset later by a launch-day website crash, was now an industry leader boasting more than 6 million monthly subscribers. Netflix was winning. Or so it seemed. 

Reed Hastings, solitary on that grey Sunday afternoon, wasn’t so sure. A trained mathematician, Hastings and his analysts had run the numbers. What they found was concerning. A serious competitor had emerged. Blockbuster Online, the giant retailer’s web-based rental service, was suddenly signing up far more new subscribers than Netflix was. Before this, in the two and a half years since Blockbuster Online had entered the market, Netflix was consistently capturing about 70% of new online-rental subscribers to Blockbuster’s 30%. Now, in the span of just two months, that split had flipped. By the end of January, Netflix stock would tumble almost 12%. As Reed Hastings later told Shane Evangelist, the architect of Blockbuster Online: “You had us in checkmate.”

It’s difficult to convey just how close Blockbuster came to winning in its fight against Netflix. In an alternate universe, Blockbuster would have become king-maker; Netflix would have been a has-been. When Hastings spoke to Evangelist, he wasn’t exaggerating. Blockbuster stole defeat from the jaws of victory. This is the story of how that happened.

Threat Taken Seriously 

One day in 2002, Blockbuster’s VP of business development Sam Bloom was thumbing through a report he had just been handed. Blockbuster was the incumbent to Netflix’s challenger. It operated a chain of home video rental stores throughout the country. Originally this was VHS tapes; in 2002 it was DVDs. Customers came in, paid for each DVD they took home, and then returned them. If they were late, they paid a fee.

Bloom’s boss, Blockbuster’s abrasive general counsel Ed Stead, had recently purchased DVD Rental Central, an Arizona-based business, for $1 million. Bloom was fascinated with emerging entertainment tech. He spent most of his time identifying technology startups with the potential to help Blockbuster achieve its digital growth goals. 

After handing the report to Bloom, Stead said: “We just bought this company, and you’re going to run it. Tell me what you need to make this beat Netflix.” A small father-son-run online DVD rental service, DVD Rental Central had amassed a respectable, albeit unspectacular, 10,000 subscribers. As Bloom clicked through the company’s website, he began to feel increasingly distressed. The site was functional, but it could never accommodate more than a few thousand users. He told Stead: “Ed, this is never going to beat Netflix. You need to use this as an experiment to learn about the business: about turnaround time; customer behaviour; and costs to acquire customers. That should be the ultimate goal of this.” Agreeing, the elder, less tech-savvy Stead left him to it. 

Bloom partnered up with Shane Evangelist, Blockbuster’s VP of strategy. The pair spent a year analyzing data from DVD Rental Central, which they had renamed Film Caddy, comparing the figures with Blockbuster’s in-store numbers. The idea was to paint a clearer picture of how consumers shifted between the two forms of rental. Initially, it appeared customers who rented online also liked to rent in-store. Bloom and Evangelist deduced that film buffs would often go online to rent older, mor ...

The rest of this article is for members only.