The Truth About Blockbuster Turning Down Purchasing Netflix and What Seemingly Everyone Gets Wrong

Considering the near total market-dominance and unparalleled level of brand recognition Netflix enjoys in today’s entertainment landscape, it’s hard to believe that at one point in time the company was considered a “niche” service. In fact, it is in part for this reason that in 2000 the then CEO of Blockbuster almost literally laughed in the face of Netflix’s co-founders when given the option to buy the fledgling company for $50 million (about $81 million today). While this decision has been called everything from “one of the worst in business history” to simply an “epic fail”, at the time, the decision to not buy Netflix was lauded as a shrewd display of business acumen and, indeed, was one given the original terms of the deal. From this, you may be unsurprised to learn that the mockery today doesn’t really paint the picture of what happened accurately at all, nor likely what would have been the return on that investment had Blockbuster pulled what would have at the time been a rather stupid trigger. On top of that, six years later Blockbuster proved that they could crush Netflix anytime they wanted, and were on the path to doing it before one of their investors seemingly did everything in his power to put the brakes on that right quick, and more or less saved Netflix by accidentally torpedoing Blockbuster… During which, we might add, another less talked about Netflix and Blockbuster deal was proposed by Netflix’s CEO who was seeing the writing on the wall at the time. Also fascinating to note in all of this was that Blockbuster themselves, despite being the undisputed king of their industry at that time of the notorious rejected offer in 2000, with revenues in the $5 billion range, were only 12 years older a company than Netflix.

So what’s the real story here?

Going back a little ways, in the early 1980s, video rental stores were small-time operations that offered a very limited selection of titles. At a time when buying pre-recorded VHS movies was prohibitively expensive for many people, renting them was the perfect solution for the dedicated movie fan or couch potato. Unfortunately, not just new releases, but pretty much all movies, were very difficult to come by given how expensive it was to purchase a copy to be used for renting out to people. (Later revenue sharing deals as pioneered by Blockbuster would help resolve this issue.) But we’re getting ahead of ourselves. At the time, supplies of individual titles were limited in most rental stores. Waiting lists were common – and often seemingly endless.

Enter Blockbuster, mainly the brainchild of David and Sandy Cook, who ran a company that provided computer software services to the Texas oil and gas industries. When that started to go south in the 1980s, the couple began searching for new opportunities.

Cook and ex-wife Sandy saw the hole in the market left by small, local video rental stores. A little research proved more and more households were investing in VCRs, and the number was expected to double by 1990. VCR technology wasn’t about to be rendered obsolete any time soon (relatively speaking).

And so it was that Sandy Cook came up with the concept of a video rental superstore, reasoning that if a small store could thrive, a larger one with a much better selection could do even better and beat out all the competition with their available selection.

A location with great visibility situated near several upscale apartment buildings was chosen as the site for the first Blockbuster store. When Blockbuster opened for its first day of business on October 19, 1985, there was a long line of eager customers waiting outside. The $800,000 invested (about $1.8 million today) on that first store paid off.

Within a year, Cook had purchased a $6 million warehouse to house and serve as a distribution center for his enormous library of VHS tapes to the now four Blockbuster locations. One year later, in 1987, Cook sold to several investors, including the founder of Waste Management Inc., Wayne Huizenga, for a whopping $18.5 million (about $36 million today). By the end of the year, Huizenga assumed full control of Blockbuster and moved operations to Fort Lauderdale, Florida.

Huizenga then embarked upon an aggressive expansion plan for the company, snapping up existing small video rental stores and opening countless new ones. Within a year, Blockbuster was America’s top video rental chain with over 400 hundred stores nationwide.

By the 1990s, Blockbuster had gone international and was bought up by the media powerhouse Viacom. But technology was changing by the late 1990s with the switch to DVDs, and the rising star of Netflix was on the horizon.

This brings us back to one of the most often mocked business decisions in history. A noted piece of information often left out of discussing the proposed sale of Netflix to Blockbuster is that when Netflix made this offer, they were losing money hand over fist and seemed destined themselves to go in the dustbin of history. On this note, when Blockbuster originally agreed to meet after months of being pestered by Netflix, there was some concern that the extreme last minute nature of the trip (given only about 12 hours to get there) would cost upwards of $20,000 in last minute airfare the company didn’t have. Said one of the co-founders of Netflix, Reed Hastings, of this, “We’re on track to lose at least $50 million this year. Whether we pull this off or not, another 20 grand won’t make a difference.”

It should also be noted that what we think of as Netflix today and what they offer was not the Netflix that Blockbuster was being offered. Not even close. For example, the Netflix streaming service wouldn’t even become a thing for about another 7 years after this, and even then offered extremely limited selection in the early going. And their initial idea was more that you could rent a movie from Netflix and have it download over night to be waiting for you the next day, instead of waiting on the mail. It was only after watching the streaming success of YouTube starting in 2005 that they reportedly decided to change tack. Five years before that and seven years before Netflix launched their streaming service was the Netflix that was offered to Blockbuster.

But we’re getting ahead of ourselves and should probably give some background information about the whole affair so we’re all on the same page. The story goes that sometime in the year 2000, Reed Hastings and Marc Randolph (the other co-founder of Netflix) agreed to a meeting with the then CEO of Blockbuster, John Antioco, and other Blockbuster executives. According to Netflix’s former chief financial officer, Barry McCarthy, who was present at the meeting, Hastings went straight for the jugular and offered Blockbuster a simple deal- Blockbuster would purchase Netflix and advertise the Netflix brand in it’s already established brick and mortar stores. In return, Netflix would be the Blockbuster brand online and otherwise just continue what they were doing with their DVD mail delivery service. Hastings summed up, “We will run the online part of the combined business. You will focus on the stores. We will find the synergies that come from the combination, and it will truly be a case of the whole being greater than the sum of its parts.”

Now, with the inclusion of such words as “synergy” and statements like “the whole being greater than the sum of its parts”, staples of every business meeting if it’s to be considered a good meeting, you might be surprised to learn that Antioco wasn’t buying it.

As McCarthy would later state, this incredible display of, as he put it, “chutzpah” didn’t sit well with Antioco or the gathered Blockbuster executives who briefly considered the offer before asking what the price would be for this merger of sorts. To which Hastings replied matter of factly- $50 million. Randolph then stated he saw Antioco’s lip briefly twitch and, “[As] soon as I saw it, I knew what was happening: John Antioco was struggling not to laugh.”

With the gift of hindsight, this seems like an incredibly bad decision on Blockbuster’s part, but for a moment let’s look at it from the point of view of Blockbuster executives with the knowledge they had available at the time. Just a year earlier, the Blockbuster brand had been valued at around $4.8 billion and when Netflix made their offer, Blockbuster dominated the video rental market. In the year 2000, Blockbuster had thousands of physical locations, a decade and a half of public goodwill and brand recognition, and a marketing war chest higher than the GDP of some countries. Netflix, meanwhile, was nothing like the behemoth we know today, rather a relatively new company with a practically unknown brand offering DVDs by mail- a service there was little demand for at the time, and one Blockbuster could relatively easily jump into if they wanted without needing to pay $50 million for someone else’s brand name and website. All Netflix really had, beyond some crippling debt and many millions in quarterly losses, was their online presence and system already established. Something Antioco was not shy about finding little value in, owing to his relatively correct perception about the then state of the dot-com bubble, which very soon after popped, leaving many companies in a similar boat to Netflix going the way of the dodo.

In the end, as baffling as it seems given Netflix’s eventual success and the fact that it supplanted Blockbuster as one of the defacto ways the public at large consumed certain media, at this stage Blockbuster had little to gain from partnering with Netflix at that exact moment, and Antioco knew it. Netflix was absolutely getting the massively better end of that deal had they made it, since they would benefit from having their brand advertised in every physical Blockbuster location in the country. A place, remember, that millions of Americans visited with clockwork regularity every single week to rent movies. In some sense, this would just be Blockbuster advertising for a competing model which was losing money hand over fist and would have taken away from their much more lucrative store revenues.

Granted, as they would then own the Netflix brand it could have all worked out in theory overall. But, again, at the time, Netflix was losing about the same amount annually that they were offering to sell to Blockbuster for- $50 million.

It’s also worth pointing out that that Netflix made this offer multiple times (whether they valued the company at $50 million each time isn’t clear) and were similarly turned down by Blockbuster with each subsequent attempt. In short, Netflix was desperate and coming across that way to, at the time, their biggest competitor and King of the industry.

So while it’s true that Blockbuster did turn down an offer to buy Netflix in 2000, it was generally considered that Blockbuster made the right decision at the time given the value of the Blockbuster brand and position the company was in, as well as the relative lack of value in what Netflix was offering at the time for the rather steep price. The issue wasn’t that Blockbuster didn’t buy the struggling Netflix and bail them out. The issue was what Netflix did from there and what Blockbuster started to do, but then inexplicably backtracked and shot themselves, not just in the foot, but right between the eyes.

As to what happened, in two words- debt and late fees.

While analysts have concluded that Blockbuster failed for multiple reasons – some of which we’ll discuss in a moment – the fact of the matter is that, as Forbes once so eloquently put it and anyone who lived through the era (or worked for their competitor Hollywood Video as the founder of TodayIFoundOut did for many years shortly before starting TodayIFoundOut) can attest, Blockbuster’s “profits were highly dependent on penalizing its patrons”. Being so heavily reliant on the revenue made through an unpopular and blatantly piss your customers off business model put Blockbuster in a position where it was unable to offer what Netflix did without massively impacting its own immediate bottom-line, which was even more of a concern because of their rather large amount of debt.

As an example of how reliant on late fees Blockbuster was, just consider that when the company tried to eliminate them in an effort to keep step with Netflix in 2005, the decision wiped millions off the company’s valuation almost overnight, and ended up costing Blockbuster $140 million in lost revenue in the first quarter alone.

As an aside, Blockbuster was later sued for false advertising in 47 states and made to pay out about $1 million in settlements when it transpired that instead of late fees, the company would automatically charge any customer who didn’t return a DVD or video game within 7 days as if they’d bought it… If a customer happened to not like randomly having $20-40 sucked out of their bank account without their knowledge, they could always return the item to a Blockbuster store, at which point they’d have to pay a $1.25 “restocking fee” for the privilege of having their money refunded. On all of this, a fee Blockbuster was very keen to point out wasn’t technically a late fee… For some mysterious reason this whole thing was wildly unpopular with customers who felt like they’d been deceived by the company.

However, in a frankly heroic display of corporate hubris, Blockbuster staunchly defended the fees and rather than trying to recoup any lost goodwill by scrapping them entirely, instead endeavoured to simply “do a better job of disclosing them” in the future. 5 years later, in 2010, the then floundering company reintroduced late fees in an apparent bid to squeeze every penny they could out of their few remaining customers. Tactics like this didn’t exactly win over any die-hard Netflix users and only served to further alienate their already frustrated and rapidly dwindling customer-base.

In regards to an alternate viewing method, Blockbuster also made several ill-fated attempts to topple the new king and usurp Netflix over the years. The first came in 2000. Yes, 2000, the same year Netflix tried to sell, and 7 years before they offered streaming. It was at this point Blockbuster signed a landmark 20 year deal to provide on-demand content via a partnership with Enron. Yes, that Enron… Within months the deal fell apart and the millions Blockbuster invested in advertising the partnership were written off as a loss. It wouldn’t be for another 7 years that Blockbuster would try again on this sort of digital alternate distribution model.

But it arguably wasn’t streaming that killed Blockbuster. At least, not directly. It was something that happened before this.

You see, in 2004, Blockbuster decided to finally take Netflix seriously and simply copy their model with resounding success. In fact, they looked poised to crush Netflix in their efforts, within two years up to 2 million subscribers and gaining steam fast. For reference here, at the time Netflix had taken 9 years to reach about 6 million subscribers. Then came 2006 when Blockbuster launched Total Access, giving people the ability to return a mailed DVD to a brick and mortar location and get another movie for free right on the spot for doing it. Something that was a loss for Blockbuster, but also saw subscriber numbers shoot up even faster, while Netflix shortly after even saw a loss of 55,000 subscribers in one quarter of 2007 alone, reversing their previous upward trend.

In short, Total Access was more convenient than Netflix’s purely mail-based service and, briefly, was a much better deal. So what happened?

Well, a lot of bad decisions, but mostly one that led to all the others- namely a Carl Icahn led effort to see Antioco ousted, ultimately in favor of James Keyes of 7-11. In short, Antioco was pushing hard to dominate in the online realm where Netflix was playing regardless of losses. He also wanted late fees gone everywhere (noting that stores that did this eventually outperformed those that had late fees). However, Icahn felt given how massively in debt the company already was, they should abandon what was seen by Icahn as a money sink in their Total Access service. Icahn also felt they should reinstate the highly lucrative late fee model everywhere…

But before Icahn did his thing, in a hilarious-in-retrospect display of corporate rivalry, after Netflix co-founder Reed Hastings told an interviewer that Blockbuster was throwing everything but the kitchen sink at them in 2006 to try and steal away their customers, a Blockbuster executive sent Hastings a kitchen sink in the mail…

In any event, joking around aside, seeing their competition gunning for them so successfully and being legitimately scared for what it might mean for Netflix very soon, Netflix CEO Hastings attempted to make a deal with Antioco once again. While details of that deal aren’t fully clear, it seems to have been a merger of sorts that would have allowed Netflix users to also return their movies to Blockbuster stores. But, alas, it wasn’t to be as Icahn had Antioco ousted before the deal could be completed.

Antioco out, and Keyes in, while Keyes shortly thereafter did see to purchasing Movielink for $6.6 million, which had over 6,000 films available for streaming, he also executed the plan of more or less killing off Total Access via raising the price to more than what Netflix cost, restricting it in various ways to severely limit selection, and also killed the free movie deal if you returned the mail order dvd to a Blockbuster physical location. Changes, by the way, which put an immediate stop to Total Access’s former rocketing growth, and saw Netflix once again surging instead.

As Antioco would later state of all of this in 2011, “I firmly believe that if our online strategy had not been essentially abandoned, Blockbuster Online would have 10 million subscribers today (in 2011), and we’d be rivaling Netflix for the leadership position in the internet [streaming] business.”

Hastings himself more or less concurred, noting, “If it hadn’t been for their debt, they could have killed us.” Randolph also rang in noting Blockbuster’s Icahn really bailed Netflix out at this point by his various actions while on the Blockbuster board, just as Blockbuster had, as Randolph said, “finally mounted a truly legitimate and sustainable challenge.”

Fast-forward to 2010 where Blockbuster made a final bid to hoover crumbs off of Netflix’s table by launching an app that allowed customers to watch movies on their phone… The thing was, the app only allowed customers to download movies, rather than stream in the more typical way, although at the time given cell networks and 3G speeds, data plans, and coverage at the time, this wasn’t quite as stupid as it seems to slightly more modern eyes. But, nonetheless, as with all their other attempts at adapting, this too was a little behind the times and ultimately failed.

These decisions coupled with a seeming general lack of vision on behalf of many Blockbuster executives saw the company’s market share rapidly dwindle until they were forced to finally confront their massive debt and file Chapter 11 Bankruptcy in 2010. A truly rapid and massive rise and fall of a company at that point still only 25 years old.

And so it was that an even younger Netflix (now 25 years old by the way) came to dominate, while Blockbuster is today mostly only remembered in memes about the olden times.

There is one happy little side story we’d like to conclude with, however. This one for the man who seemingly correctly originally rejected the $50 million Netflix buyout opportunity in 2000, and then later was on the path to crushing Netflix before being unceremoniously ousted for his efforts. You see, after being given the boot from Blockbuster, Antioco sold his shares in the company and invested heavily in Netflix instead. He states of this, “I could see that Netflix was going to have the whole DVD-by-mail market handed to it, along with a direct path to streaming movies into homes—which is exactly what Netflix has done.” He did lament, however, he didn’t hang onto his Netflix stock for longer. Because while he did very quickly almost double his investment when he sold his Netflix shares, had he waited just a few more years to sell, the shares would have been worth about ten times what he originally paid.

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