By then, I had completely bought Netflix. It was my chance to do something remarkable and I was solving the company’s problems.

We were moving both fast and slow. We had built a store for renting and selling videos online. You can set up your account with a credit card and mailing address. You can rent a movie for a week for $4.99 or buy one at a price that rivals Walmart.

Our strategy was to create a large pool of DVD consumers who would get tremendous value and be open to our next DVD offering. The final plan was to use DVD rentals as the first step in creating an entertainment portal that would attract consumers for movie news, movie tickets, and DVD sales and rentals, and then generate revenue from of these eyeballs. We didn’t know exactly what it would be like, but we had this aura of confidence that came from working with such incredibly diverse and creative people, all focused on “figuring it out”.

Mitch Lowe

Mitch Lowe is a former entertainment technology leader best known for his roles as founding executive of Netflix, chairman of Redbox and CEO of MoviePass. He was responsible for helping Redbox reach over 35,000 newsstands in 2003 and helping MoviePass add 3 million subscribers within eight months.

My work was changing. I started with content acquisition and operations, as well as introductions to entertainment companies. Then I turned the operations over to our COO, Tom Dillon, and spent more time with DVD manufacturers and retailers with the goal of using their marketing power to promote Netflix. I continued and enhanced the early partnerships Netflix co-founder Marc Randolph created with Sony, and expanded our promotional plan to include the makers of 95% of all DVD players.

DVD manufacturers would insert our coupon on top of the drive in the box so that when the customer opened the box to install the drive, the first thing they saw was our coupon. It was perfect since the consumer’s first question was: “What should I watch?” At that time, Blockbuster didn’t rent DVDs at every store, and where they did, it was a very small selection.

“Our problem was how we differentiated ourselves from the competition […]?”

The makers not only inserted the coupon for free, but also promoted Netflix in-store, in print ads, and wherever they could. The cost to us was to provide the free rentals, all in the hope that many of those free-trial customers would convert to paying for the service.

Our problem was how we differentiated ourselves from the competition, which at that time had only two facets of value: door-to-door delivery and a large catalog of long-tail titles. Many customers were lukewarm about this as they said they actually like going to video stores which are usually near their homes or other stores they visit anyway and most customers wanted just the big hits.

After making the last of the rentals free, most customers returned to their Blockbuster or Hollywood Video store. What could we do to stay ahead? We tried internet pop-ups, which were early and annoying. We’ve created a Netflix-branded plastic DVD stand that you can place on your TV. Nothing seemed to work and we began to desperately search for an improvement to our model that would truly convert our customers.

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How We Launched Netflix’s Subscription Service

The big innovation started one day in the summer of 1999 when the management team visited the San Jose warehouse and discussed the failure of all those band-aids to create real traction for our service. I remember Netflix CEO Reed [Hastings] looking at all the boxes of DVDs and turning to about the seven of us and saying, “What are all these DVDs doing here in the warehouse where they’re not doing us any good? Shouldn’t they be with our customers? And with that, the executives each left to see how we could move inventory closer to customers sitting at home ready to watch. I believe the story of all sales has been, the faster you can satisfy a customer need from when they want your product to when they can use it, the more successful you are.

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First, Marc and the store team came up with the concept of a subscription that would give each customer four movies of their choice to have at home, ready to watch at any time (solving the problem of immediacy ); they could return them one at a time and receive another movie of their choice within days. Marc’s team also came up with the queue that the client would use to list the movies they wanted to see. So when Netflix received one of the four DVDs, it picked the next in-stock movie from the customer’s queue and sent it immediately (solving the shopping fatigue problem). We delivered all of that for the cost of about four movies at Blockbuster.

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The big, big win was “No Late Fees”. Blockbuster was a $5 billion a year company in the United States known for entertainment, but it was among the top ten most hated brands because of the fees it charged when you returned a movie late. With our queuing system, there have never been late fees.

The subscription system and queue was built in a few months and was ready to launch in September 1999. But there were some big problems. Since every time we mailed another DVD we incur about $1.20 in shipping and supplies, and since most DVDs are around $18, what if the average subscriber saw fifteen movies a month, which you could easily do if you resent all four movies every six days? We were spending $18 just for shipping, not to mention the cost of goods and labor on what was a $19.95 monthly subscription. And we were very convinced that consumers would not accept anything with higher prices.

With this fear in mind, we have launched this new Netflix subscription to a small number of customers. Since there were no social networks at the time, it was mostly a stealth product launch, which gave us four or five months to measure consumption.

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Commit to the subscription model

In January, it was clear that on average, consumption was acceptable, between six and seven DVDs per month. This resulted in probably the most important and difficult decision Netflix’s management team had to make. Do we offer both our weekly pay-per-view rental service, which was doing tens of millions of dollars in revenue, and add the subscription? Or do we kill à la carte rentals and only offer subscription? And what about DVD sales? Do we continue this as a service and to keep our customers out of our competitors’ stores? And what about all the credits stored in our customers’ accounts for free rentals based on their DVD player purchase?

“Let’s do what we can do better than anyone else.”

Reed, as always, made decision-making as close to a science as anyone I’ve ever met. “Let’s do what we can do better than anyone else” was his advice, and not for the first time. “No one else is doing DVD subscriptions. It works. Let’s just do that and stop doing pay-per-view rentals and sales. And with that, the decision was made.

Basically it worked. The growth of the hockey stick had begun.


Book’s extract Watch and Learn: How I Disrupted Hollywood with Netflix Redbox and MoviePass – Disruptive Lessons. Copyright © 2022 by Mitch Lowe. Published by Hachette Go, an imprint of Hachette Books, a division of Hachette Book Group, Inc. All rights reserved.