Blockbuster Video, the Industry's Former Giant, is Making an Unexpected and Unwanted Comeback

It doesn't seem all that long ago when Blockbuster Video was considered the crowned jewel of Viacom's vast media empire, the largest and most powerful home video rental chain in the United States, unchallenged in its market dominance and with virtually unlimited influence over the entertainment industry. Boasting over 6,000 locations throughout the country in the 1990s and thousands abroad, Blockbuster expanded its reach, absorbing smaller companies and opening a new store nearly every week.

In the 1990s during the rather brief period of Blockbuster's reign, the home video rental market operated under a completely different business model than the current system. Prior to the introduction of DVD, videocassettes were rarely sold directly to the public at low cost through retail outlets, except in the case of certain "blockbuster" hits like Jurassic Park or Home Alone where the demand for cheap tapes in supermarkets or drug stores, not just video retailers were essentially guaranteed.

The initial purchase price of VHS for a majority of releases was fixed by the studios at around $70-100 per cassette in order to make them unavailable to the general public directly and only as rentals exclusively through Blockbuster Video and other less influential chains like Hollywood Video and locally owned video stores.

Blockbuster obtained their VHS cassettes for little or next to no cost due to an exclusive agreement that was personally arranged by Viacom president and all around media baron Sumner Redstone with the Hollywood studios in the mid-1990s. Lesser chains like Hollywood or independently owned stores paid the inflated rate unless they had their own agreement with a distribution company with access to their own insider deal with the studios. Through an innovative profit sharing incentive, 40% of Blockbuster's rental revenue was returned directly to the studios in a parallel financial arrangement to their revenue sharing program with movie theaters.

This "rental window" provided studios with a majority of their VHS profits rather than direct sales to customers. Revenue was at $6 billion in 1993 and by 1997 had risen to over $10 billion, Blockbuster Video alone accounting for more than half. It seemed to be a good plan very beneficial to the industry at the time and Blockbuster was considered an essential factor in the profitability of studio movies.

The entire home video distribution system was about to change in 1998 when the DVD format was about to be introduced and met with the usual skepticism in the industry, as had the defunct laserdisc format over a decade earlier. DVD had significant advantages over VHS not just technologically but also economically: they offered digital quality sound and audio, bonus features like director commentaries and behind the scene featurettes, were inexpensive to manufacture, cheaper to ship or store than VHS, had no outdated trailers at the beginning of the tape to fast forward through, were less prone to quality deterioration over the years from repeat viewing, and most important of all, modestly priced DVD players would soon be on the market and, if popular, the prices would continue to go down and soon every home would have one.

The format was originally championed by Warner Bros. and Sony (which was not about to repeat their mistake in the 1980s with the extremely expensive failure of the Betamax format). The representatives of Warner Bros. and Sony were convinced that DVD would control the market within the next five years and VHS would be as dead as eight track players. It would be an awkward transition (like the progression from vinyl to cassettes to CDs in music). VHS had been the industry standard for over two decades despite its flaws (Betamax and Laserdisc were better but were either too expensive or simply never caught on).

With the advent of new digital technologies, the rapid advance in home computers and their eventual fusion, the switch to DVD benefited everyone. Blockbuster executives, approached by representatives from Sony and Warner Bros. were given the opportunity to continue their current arrangement with their studios providing the rental window and opportunity to extend the revenue sharing program with DVD once it was introduced on the market. Blockbuster, a subsidiary of rival Viacom (which owns Paramount Studios) refused the offer and the repercussions from this single decision shattered the company.

Blockbuster's folly was a huge opportunity for consumers and virtually every competitor in the entertainment or retail industry. Without the home video giant as their intermediary, Hollywood studios decided to bypass the old system altogether and market directly to the public, distributing cheaply priced DVDs through retail and online outlets like Amazon.com, Wal-Mart, and Best Buy leaving Blockbuster entirely out of the decision making process. This was a complete revision of the entire business model that had been in place for years and essentially made Blockbuster's former clout in the industry completely irrelevant to the future distribution of home video.

DVDs were now marketed directly to consumers, innovatively packaged to attract customer interest and advertised to attract average moviegoers, high end collectors, and serious filmgoers as well. The DVD market thrived and, with it, American film culture in general. Blockbuster had absolutely nothing to do with this and was, in fact, a hindrance to its development (if the company had made the right decision in 1998 and accepted the DVD revenue sharing offer, the resurgence of film culture and new availability of films long out of print may never have happened). DVDs now sold through Wal-Mart outlets alone are the single greatest source of home video revenue for the Hollywood studios, far surpassing Blockbuster's old revenue sharing plan.

This decision by the Hollywood studios was enormously successful: although we have heard quite a bit about the slight dip in DVD sales recently, these claims are unfounded. DVD revenue was at over $27 billion in 2005, and upwards of $30 billion in 2006, an increase of more than 500% since 1993 when Blockbuster was the serious power broker in the industry.

The only factor that caused this significant rise in profits was that Blockbuster's influence had deteriorated and, as an inadvertent byproduct, the industry flourished in its absence. Blockbuster was the only loser in this development due to embarrassing corporate incompetence in the face of change in the industry and trapped in this position because it had dominated the market not through innovation or actual customer satisfaction but inside deals arranged by its parent corporation.

The Blockbuster-dominated marketplace is now viewed as having been quite detrimental to the profitability of the Hollywood studios, the very companies that provided Blockbuster with its only product on the cheap or simply gave it to them for free. The company failed because it refused to adapt to a different environment that it could no longer directly control through bullying tactics or the empty threat that there was no other proven distribution method for home video other than its own badly run, tacky stores. Blockbuster decimated its competition and once it controlled the market, the company collapsed through terrible corporate management and outright incompetence.

Blockbuster's greatest asset of convenience and location, with over 6,000 stores nationwide and thousands more abroad, suddenly became the company's greatest liability. Blockbuster was forced to continue paying the rent on these stores as rentals plummeted due to the direct availability of DVDs for purchase at other outlets, store closings became rather common, and new franchise interests vanished. The company lost nearly $4 billion between 2002-2004 and the stock price plummeted to one fifth of its value several years earlier. Founded in 1985 by a small group of investors in Texas, and purchased for $8.4 billion by the media giant Viacom in 1994, Blockbuster had a market value of under $500 million in 2006, one seventeenth of its initial purchase price, a complete and utter corporate failure. Blockbuster Video stores throughout the country became the new ghost towns.

Blockbuster was considered such a costly failure and hindrance to Viacom's stock price that it was spun off into a separate corporation directly controlled by its own shareholders. The company somehow made even more financially disastrous decisions the next several years. Offered the chance to purchase the fledgling DVD distribution company Netflix for $50 million, Blockbuster declined and formed its own partnership with the now defunct energy company Enron to provide streaming video along its broadband network. This proved a total disaster when Enron collapsed in scandal, indictments, and mass layoffs costing Blockbuster millions and years of research and development time.

Blockbuster then attempted to mimic Netflix's already thriving business model of delivering DVDs through the mail to subscribers for a flat monthly fee and was then sued for copyright infringement, although they then counter-sued claiming violation of anti-trust laws (Blockbuster, on the other hand, was never considered a monopoly in its heyday). In 2004 Blockbuster attempted a hostile takeover of rival chain Hollywood Video that eventually failed. In 2005 Blockbuster eliminated its extremely profitable late fees policy to compete with Netflix, a decision that cost the company its largest revenue source. This plan was also scrapped after numerous lawsuits regarding newly dubbed "restocking fees" tacked onto customers' accounts in lieu of "late fees" and a costly settlement with public attorneys representing 46 states that cost millions in fines and legal fees. Blockbuster was caught in a never ending downward spiral, to the delight of virtually everyone except their stockholders.

I discussed Blockbuster Video with a number of customers, former employees, and media industry insiders that will remain anonymous. Nearly every person I spoke with had nothing but complaints and bad experiences. The company is a dying, unremarkable brand with a serious public relations problem and almost universal customer dissatisfaction. "The stores are depressing, the selection is terrible, the late fees are unfair, and the employees completely clueless," said a onetime customer. A former employee stated, "It's not a good environment. It's anonymous and drab. These creepy entertainment infomercials play on an endless loop and the carpeting is gloomy. Even the candy is stale.

I don't think the interior of the store I worked for had been repainted in over a decade. It was a bit of a time warp." When asked what he thought of the company, an entertainment industry professional laughed and said, "No one, and I mean no one, wants to see that company last. It's terrible service with no quality or real incentives to being a member. Entering a Blockbuster Video is sort of like going into a McDonald's. You're kind of ashamed. Even if you rent Citizen Kane it's still like they're serving you a Big Mac."

Blockbuster now somehow seems to be awakening from its slumber. The brick and mortar stores that once cost the company so much in rent could potentially be an asset again. This past fall Blockbuster announced an innovative plan that builds upon Netflix's business model by allowing customers to have a mail-order subscription service that provides DVDs delivered directly to their homes as well as the added incentive that customers could return them directly to a local Blockbuster Video and exchange them for a new rental immediately. This new plan was not only a very simple solution but an extremely successful one. Blockbuster has already added over 700,000 new subscribers to its service since November alone.

Company projections state that if the trend continues, by the end of 2007 they will double their subscriber base of 2.2 million (still well below Netflix's 5.7 million current subscribers). Blockbuster is aggressively courting Netflix users through online marketing and even offered a limited promotion last December where customers could exchange their unused return envelopes from Netflix to a Blockbuster store in exchange for free rentals. In the past year Blockbuster's stock has increased from $4.12 to $6.62 although still quite a dip from its five year high of more than $28 in early 2002.

Blockbuster Video has momentarily redeemed itself to its shareholders and could possibly be a wise investment, despite the availability of over 5,000 more movies through Netflix service and that company's recent announcement that they will begin streaming videos for subscribers directly through their website using technology designed by Microsoft. Online downloads through retailers like Amazon.com and Apple's iTunes store will pose a great threat once the copyright and piracy issues are dealt with to convince all the studios to become involved. For now, DVDs delivered by the postal service are the next best thing to digital distribution but the bubble may eventually burst and with it another impractical, temporary business model designed to remain relevant in the market. Blockbuster is not a company particularly adept at incorporating innovative or even minor changes to its dinosaur business plan.

Once the industry leader through brute force and inside price fixing deals, Blockbuster is now coming from behind and could possibly even take Netflix's lead. Many may wonder to themselves, is that necessarily a good thing? People are always willing to pay for convenience and, despite Blockbuster's overall incompetence, gentrifying effect in entertainment, and the company's bland, unambitious image it may have an afterlife and possible rebirth. Referred to just a year ago as a "zombie" by the prominent financial entertainment analyst Edward Jay Epstein, Blockbuster's new Total Access marketing initiative is like The Return of the Living Dead. It is more important than profits, domination of the marketplace, or the company's stock price, it's about who controls what media we have access to and how accountable they are. Just consider Blockbuster's sloganeering in the UK: "Don't rely on anyone else to entertain you." Just beware: Blockbuster has returned from the grave and they're not going anywhere. Everyone loves a comeback, except when they don't.