How Does Netflix Possibly Survive?

The company will split into two, but the two parts may be worth less than the whole

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By now you've probably heard the latest news from Netflix: the company will split its services into two. Netflix will now exist to serve only streaming customers, while it will create an entirely separate division called "Qwikster" to provide DVDs, Blu-rays, and video games by mail. The strategy is perplexing. It also may begin to reveal deeper problems that will plague the company and could lead to its demise.

First, in case you haven't already read a dozen articles on today's news, here's the gist. In July, Netflix announced that it would begin to charge customers a separate fee for streaming movies. This amounted to a big price increase for those who enjoyed by DVDs-by-mail and streaming. Their customers were not pleased. Neither was Wall Street. Last week, the company announced a warning to investors that it would lose a million more customers than anticipated. Its stock price is down nearly 50% since the price hike announcement.

The Typical Netflix Customer

Let's pretend, for a minute, that you're a typical Netflix customer. You want to watch movies or TV shows that you like or might like. What's the best value for your money at this time? The answer probably depends on two things: how you prefer to view movies and what option has the best library.

Viewing, really, is the secondary criterion here. Unless you do not own a DVD player, then you are at least able to view movies on DVD, even if you prefer to stream. Since there probably aren't all that many Netflix customers out there who actually don't own a DVD player, let's assume that the vast majority of customers would be more sensitive to the depth of each option's movie library.

And on that point, there really is no comparison: Netflix's DVD library is far, far more robust than its streaming library. And yet, Netflix is charging the same base fee for either services: $7.99 per month. While you can watch more streaming movies than you can get by mail in a month for this price, you've got far, far better options with the DVD-by-mail option. If you only have bad movies to choose from, then quantity shouldn't seem so attractive to most customers.

The Business Strategy

Some analysts have begun speculating that Netflix intends to sell off its DVD-by-mail business. That's the only logical reason for why they might have bothered fencing it off from its streaming business. But I have to wonder: who the heck would buy it?

The very reason why Netflix is moving towards streaming is because the company understands that streaming is the future. Meanwhile, its DVD-by-mail business faces relatively high ongoing costs due to the need to acquire physical discs and pay for postage. So you've got a business that is becoming obsolete that has very high operational costs. Gee, who wouldn't want to buy that? If this part of its company has any value, then its value is pretty small.

So instead it will focus on its streaming business. But here's the problem: right now, it stinks. Of the 10 movies nominated for the "Best Picture" Oscar earlier this year, just three -- The Fighter, Winter's Bone, and Toy Story 3 are available through streaming. Doing a quick survey of my favorite 10 movies, just one (Good Will Hunting) is available through streaming. Of the top-10 movies in my Netflix queue, zero are available via stream. All thirty of these titles can be obtained by mail, most on Blu-ray.

Presented by

Daniel Indiviglio was an associate editor at The Atlantic from 2009 through 2011. He is now the Washington, D.C.-based columnist for Reuters Breakingviews. He is also a 2011 Robert Novak Journalism Fellow through the Phillips Foundation. More

Indiviglio has also written for Forbes. Prior to becoming a journalist, he spent several years working as an investment banker and a consultant.

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