April 1, 2005, 12:00 AM

120 Million Dollar Baby

(Page 2 of 2)

"We wanted to give people another option, another way to rent movies for those people who weren`t ready to jump onboard and sign up for $24.99 Movie Pass in-store," a spokesperson says. "You can do it online, you can do it in-store, but if you`re not ready to commit to a full $24.99, this gives you an option."

Same for games

In addition, Blockbuster is offering its in-store Game Pass at an introductory price of $14.99 for the first month and $19.99 per month afterwards through April 11. The Game Pass gives customers unlimited games rentals, one at a time, with no due dates or late fees.

Blockbuster also has made arrangements that allow its online subscribers to access and manage their accounts through AOL and MSN. "You`ll be able to do the same thing you do at Blockbuster.com," including ordering movies, Evangelist says.

While some believe Blockbuster waited too long to enter the online market, Evangelist says the company was just being cautious. "Fortunately, we`ve got a very powerful brand, we`ve got over 20 years of rental experience," he says. "We have the luxury to watch markets develop. Once we feel there`s a true market there, that consumers are truly demanding that service, then we can move very quickly."

For its part, NetFlix isn`t ready to cede the online video/DVD rental market to Blockbuster. NetFlix added 517,000 net subscribers in the two quarters since Blockbuster Online`s launch, the company notes, and ended 2004 with more than 2.6 million subscribers, up 76% from 2003. "Blockbuster has thrown everything but the kitchen sink at us, and yet we have continued to grow and retain our customers at a record rate," chairman and CEO Reed Hastings told analysts during NetFlix`s fourth-quarter conference call earlier this year.

There`s also a question of whether Blockbuster will be able to sustain the heavy investment in its online operation, Barry McCarthy, NetFlix`s chief financial officer, said during the fourth-quarter earnings call. "We estimate that Blockbuster has invested about $100 million in the last six months," including setting up the 23 distribution centers and revenue lost due to the deep price cuts for online renters.

Blockbuster reported in March that it spent $50 million in 2004 on Bockbuster.com and that it expects to spend an additional $70 million this year to accelerate the growth of the subscriber base. "While this will increase our online costs in the short term, we believe the additional investment will dramatically ramp up our subscriber base, with our goal to have in excess of 2 million subscribers by the end of the first quarter of 2006," John Antioco, CEO, told investors and analysts.

Multi-channel strategy

"At the $15 price point, based on our modeling, we expect their online business to lose money on every subscriber indefinitely, unless they slash their marketing spending," NetFlix`s McCarthy said. "The more aggressively they compete with us for market share, and the lower they price their service, the faster they drain their stores of customers and the more money they lose online."

But Jupiter Research`s Freeman Evans says that it`s better for Blockbuster to have a $15 a month fee on a two-year average contract, than to leave itself open to the vagaries of consumers` video or DVD habits. "It`s not bad to have a consistent amount of money flowing in," she says. "You can count on that rather than the haphazard sort of rentals that are harder to predict."

Blockbuster`s elimination of late fees is potentially a bigger issue in the competitive foray because it is a major draw for consumers, Freeman Evans says.

Wedbush`s Pachter says the fact that Blockbuster has both an online and store presence gives it an edge over NetFlix. "There are many brick-and-mortar retailers that have successful Internet presences as a complement to their businesses," he says.

No more sitting back

In fact, the retail industry`s broader move to multi-channel shopping is not likely to bypass the movie-rental business, Freeman Evans says. "Consumers use multiple channels when they`re shopping for anything, and the renting of movies, and the purchase of movies particularly, will be no exception," she says.

Blockbuster`s move online also leaves NetFlix vulnerable, Pachter says. "The NetFlix model is a great model and it`s a commodity, you know what you`re getting," Pachter says. "When Blockbuster offers exactly the same product, the same way at a lower price, I don`t see how NetFlix survives."

Even an easy-to-use interface won`t be enough, he says. "NetFlix will tell you that its customers love its interface, and there`s an argument for that," Pachter adds. But that may not be enough to keep NetFlix afloat, he says. "Apple Computer exists because people like the Apple Macintosh operating system," he says. "But Apple had 15% market share in the mid 1980s and it has 4% share now. NetFlix is a great product but Block-buster`s going to kick their butt."

Wachter believes that Blockbuster learned from its delay in getting into the online market. "They sat back complacently watching NetFlix take their business away," he says. "They`re now making sure that NetFlix takes no more customers away. I think they`ll succeed at that."


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