How Did Netflix Build Its Sustainable Competitive Advantage? -Business Strategy and The Key Success Factors

In the year 1997, two technology entrepreneurs Reed Hastings & Marc Randolph came together and started an online DVD rental by mail company called Netflix, to exploit the growing demand for online services. The odds of the company surviving against offline retail-chain stores like Blockbuster, Hollywood Video, Movie Gallery were slim. Yet Netflix outlived them. A dot-com storm buried many well funded technological startups. Netflix somehow withered the storm.

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Source: Fortune, CNN Money

As the ‘online DVD rental’ was picking up, Walmart and other giant retail chains entered the fray. Amazon too explored the potential opportunities. Yet Netflix overcame those challenges and slowly established market leadership. In the last two decades, Netflix‘s global subscriber base grew to 140 million. The next competing brand is yet to reach half of Netflix’s subscribers.

What are the reasons behind Netflix’s growth? How did the brand build its sustainable competitive advantage?

Note: The below content is part of the following book.

How Brands Built Its Sustainable Competitive Advantage? by Shah Mohammed M On Amazon.com.

POSITIONING YOUR BRAND

The first and foremost factor for sustainable competitive advantage is to position your brand inside a consumer’s mind. The ways to enter their mind is

a) Becoming a leader in an existing product/service category(It would need huge investments in money, effort & time and not a practical option)

or

b) Becoming first in any new product/service category. In other words, you need to create a new category.

If you plan to create a new category, then the conventional wisdom is to look for a niche market.

Finding a Niche Market. The general rule is to start small. Smaller the segment, it is easier for the entire company to focus and meet the customer needs, wants and desires. Once you become a leader in the niche market, you could grow your market.

How to find the niche market? A market exists when a customer has a problem that needs to be solved -Find and Focus on a particular need, work on it, make your product distinctive and dominate the niche market.

Netflix’s Niche -After watching the dot-com buzz and the growth of e-commerce sites like Amazon, Marc Randolph wanted to sell something over the internet. He was looking for a product something similar to Amazon’s books -

  1. Should have boundless SKUs, which even a massive retail store cannot stock(a potential advantage for an online store since it had no such limitations)
  2. Should have a potential customer base with the need for convenience
  3. Should have a potential opportunity where customers would someday prefer to do online.

Randolph and Hastings brainstormed some options. Out of those, they chose online movie rentals as it met all the above conditions. But there was a couple of other conditions which the chosen concept had to meet.

Users generally are averse to try any new things or change their routine as they are afraid of the unknown outcome. Consumers at that time had little exposure to online buying. They had this fear of buying goods of unknown quality over the internet. But movie cassettes were pure commodities. A copy of a movie in one store would be identical to the same movie in any other store. So, the customers had no “Fear of Unknown”. They knew what they would be getting. The condition met.

Like ‘Barnes & Nobles’ in the case of Amazon’s books, neither Blockbuster nor Hollywood Video retail chains were interested in cannibalising their brick-and-mortar stores’ revenues and saw online DVD rentals as a threat. Amazon might start selling videos online but Netflix could establish a competitive advantage before them. So, Netflix saw that virtually there were no entry barriers.

VALUE PROPOSITIONS

Netflix’s core values are to deliver entertainment and make people happy. But how to derive Value propositions from those core values? The answer lies in understanding the customer’s needs & desires and the jobs they were trying to get done.

Randolph and Hastings have hired experts who had worked in the video rental industry for years and who had observed consumers for more than ten thousand hours. Randolph himself had observed consumer’s behaviour. They began to question every aspect of consumer’s behaviour -Why they chose the title? Why did they abandon the movie? Why did they watch again? Why did they spend so much time searching for some movies? What made them upset? etc… The research guided them to determine the value propositions.

  1. In brick-and-mortar stores, finding a popular movie was easier than finding a niche movie. Movie lovers of niche films had a tough time in physical stores. Only popular movies occupied all the prominent shelf spaces. — Netflix had limited cash reserves and popular movies were beyond their budget. Instead of new, popular latest movies, Netflix(backed by research data) chose to show the consumers older films, niche movies and movies inspired by various themes like Holidays, news events etc… It became a differentiation factor for Netflix.
  2. In the stores, there was no one to guide the ‘movie lovers’ to discover movie titles that were tailored to individual customer’s preferences — This prompted Netflix to work on an ‘automated movie recommendation programme’ to provide a customized solution for every customer, thus enhancing the customer experience.
  3. Consumers are always looking to save time and reduce the number of tasks involved in performing a job(planning, travelling to DVD rental store and related tasks, searching, enquiring, choosing, placing an order, billing etc…). Many of them were unsatisfied with the store experience as some tasks consumed a lot of time. (In Stores, sometimes customers could not find their first, second or even third choices available in the stores). If a consumer picks up more than one video, he must watch them within the company allotted timeframe. They were fed up with the high late fees charged by those retail stores. -Randolph realised that to make consumers adopt the new technology rapidly, he had to significantly reduce the number of steps involved in renting DVDs from physical stores and also help consumers to save time. Netflix’s first website was intuitive and easy to use. It was easy to search for movies by themes, actors, directors, genre, etc… Consumers can keep movies as long as they want. No deadline to return the DVDs and no late fees. It was easy to return the DVD by simply sealing it in the prepaid envelope provided by Netflix.

Netflix gave more freedom to consumers. It was letting customers construct their own experiences.

From the above research insights, it was clear that Netflix’s major difference would be providing greater value to customers by a combination of extraordinary convenience, wonderful customized experience, instant access, and comprehensive selection at a fair price.

TARGET SEGMENT-OPINION LEADERS

Many products were only moderately successful but few products were highly successful. How did they get such a huge success? How could they attract people on such a scale?

Geoffrey Moore explains that “Crossing the chasm” as the difference between products being moderately and hugely successful. It is nothing but making the transition from an early market dominated by Innovators, early adopters to Early Majority.

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To whom should Netflix target? Netflix was trying to bring partly new behaviour. It would take time for mainstream consumers to adapt to this new behaviour. There would be initial resistance among the common masses. So the way forward is to start targeting the ‘early adopters’ customer segment. Early adopters are most likely to become the solid foundation upon which we can build a successful growth business. Who would be Netflix’s early adopters? And how should they reach them?

Netflix initially targeted well-knowledgeable movie lovers, who were technologically savvy, who were spending more time online, who were already talking about the newest online developments, who were beginning to shop online and also who owned DVD players. Those people had better exposure, had sound knowledge in the particular domain, more cosmopolitan and open to exploring & experimenting. They acted like opinion leaders and had enough ability to influence other individuals’ behaviour frequently in the desired way. They had greater interpersonal networks which allowed them to serve as a social model. People from the early majority were looking forward to them for opinions, suggestions, and feedback.

How to reach them? -Hastings was not interested in expensive advertising programmes as he perceived them as a futile solution. He felt that the best option would be to spread the brand’s value through word of mouth through opinion leaders. The way forward is, to design and deliver communication targeting ‘Opinion Leaders’ in a community.

Hastings and Randolph used some of the early adopters to test their beta sites. Netflix got into association with critical websites, online communities where the movie fans would often visit and paid them for regular mentioning of Netflix name in their blogs and articles. Hastings’ team also got in touch with Japanese ‘DVD Player’ manufacturers & suppliers and kept free Netflix coupons in new DVD player boxes. DVD player sales were minimal as DVDs were not widely available at that time. Netflix offered a way out for ‘DVD player’ suppliers.

The Netflix executives requested some influential people in the home entertainment sector to mention ‘Netflix’ in their public speeches whenever possible.

Netflix’s opinion leaders created the needed ‘brand awareness’ in the initial days and attracted people’s attention to the brand.

SUPPLY CHAIN MANAGEMENT

In1997, VHS tapes ruled the market. They were bulky and costly. It was expensive to store, pack and ship those VHS tapes. Randolph was looking a way out from those problems. He kept digging through technology material to find a solution. He discovered an optical media storage format called DVD. It had just arrived in the market. Hastings test mailed a DVD to his house and it worked fine. Both of them felt that DVDs would solve the problem of high shipping and inventory costs. So, Netflix became an early adopter for DVD technology whereas Blockbuster and other retail stores were sceptical about DVDs, considered them as a threat and clung on to VHS tapes for a long time. They refused to stock DVDs in their stores and lost crucial time in the DVD rental business. Netflix got a head start due to its adoption of DVDs.

Netflix was disrupting two business segments- VHS tapes and movie rental from offline retail stores.

Hastings and Randolph faced another problem-Unreliability of DVDs -The Cost of replacing broken DVDs were on the rise. Randolph and his team worked on efficient packaging to avoid breakage of DVDs -They devised new concepts, field-tested many of them before finally arriving at a feasible concept -They came out with a three-part mailer made of stiff but light cardboard that could hold up to three disks at a time and serve as a return mailer after the original address was torn off. This tilted the scales further.

In the beginning, Netflix was mailing DVDs through U.S Postal service. As Netflix’s success depended on the efficiency of logistics, Randolph realised that mastering post office was critical. It could make or break a new company. Randolph’s team spent hours understanding everything about the U.S.Postal system. They established a nice rapport with the people from the postal department. People from both the units worked together and found a way to deliver the DVDs economically and promptly on time without any breakages. Netflix’s team sorted the DVD deliveries into 27 bags by zone and delivered straight to post office freight docks.

When Blockbuster began their operations, they had difficulties to deal with U.S.Postal services. They didn’t have people who could establish a nice working relationship with postal employees. U.S.Postal service people never shared Netflix’s procedures and asked the Blockbuster team to invent their own system. Blockbuster could not break this barrier.

Hastings hired Tom Dillon, a self-taught programmer to design warehouse management systems. Tom Dillion, joined Netflix because Hastings always used a mathematical approach to solve business problems. Tom Dillion re-designed DVD storage vault so that a person could easily find titles, pack and label them. He designed systems that could ship one hundred thousand DVDs a day. He computerised and automated the whole process wherever it is possible. He constantly worked and tweaked the process to bring the shipping cost down.

In the earlier days of business, Randolph’s team observed that the rate of new customers adopting Netflix increased in San Jose where one day or overnight delivery was available. Customers were happy and excited when they received DVDs on the following day and began telling their friends. In San Jose, Netflix had a hub and spoke distribution model, which enabled overnight deliveries possible.

Randolph’s team test trialled the hub and spoke concept in another couple of places. Sign up rate increased dramatically. This discovery changed the future of Netflix. The marketing plans went for a rapid makeover. Netflix wholly adopted the hub and spoke model distribution system. The cost of attracting new customers came down.

Optimization -Hastings used mathematical programmes to pinpoint the best locations for Netflix distribution centres by plugging in customer addresses and arranging them all within the overnight delivery radius of the closest post office. It also helped Hastings’ team to know how and where to place advertisements strategically. Netflix developed a satellite hub system to achieve faster delivery outside the one-day delivery zone. Tom Dillon designed programmes that would continually evaluate and adjust the optimum locations for distribution centres as Netflix’s customer base grew. Netflix let the customers dictate where the hubs would go.

Netflix’s team automated inventory management through mathematical programming, which decides whether to send a customer the first DVD in his queue or a lower order choice that would reach faster to the customer. Netflix used its ‘movie recommendation engine’ to predict and control inventory needs. It helped to smooth out a steep demand for new releases and directed subscribers toward older films with better rental economics.

When Blockbuster launched their online DVD rentals, they had a tough time to meet overnight deliveries. They struggled with the shortage of inventories and could not automate a lot of facilities in their warehouse. They could not understand the mathematical programming behind those Netflix distribution centre locations. Netflix had solved warehousing & distribution problems one by one over a period of seven years whereas Blockbuster was trying to solve everything all at once and thus lost the plot altogether.

Walmart too entered the DVD rental fray but had to exit after a couple of years as it failed to overcome the operational efficiency of Netflix’s supply chain system. Netflix had slowly established high entry barriers for competitors by designing an efficient supply chain management system.

BUILDING HABITS

It is quite a challenge to make the transition from an early market dominated by early adopters to the mainstream market dominated by a group of pragmatists.

To target the mainstream customers, We must design a product that is

  • Remarkable enough to attract them,
  • Having triggers in the product to motivate them to try it out,
  • Simple enough to use,
  • Rewarding enough to engage the users,
  • Easier to customise in order to make users invest more time, and
  • “Easier to communicate the Design Benefits to Others” by potential users.

The first step in introducing a new behaviour is to look for ways to minimise discontinuity with the old ways of doing things. Slowly, we have to move the customers towards new behaviour. The initial Netflix website had a familiar layout of the video rental store and the movies were shown as box images, similar to what was available in stores.

To make users adopt a new behaviour, it is very important to make the product as simple as possible. Simplicity means that a user needs less effort, time, money, cognitive effort to do the activities to achieve the goal and at the same time, those activities need no or less training and they should be familiar with those activities.

A new technology has to enhance the established behaviour and not to overthrow.

Netflix team made the website as easy to use -easy to search, easy to place order-basically, it was way easier than to pick up a movie from a store. Images were reworked in such a way that it loaded as quickly as possible considering bandwidth limitations the consumers had at that time.

Netflix introduced easy subscription programmes which were simpler & cheaper than what was available in the market. The company made returning and exchanging DVDs hassle-free. When the consumers had done watching the movies, they had to simply seal the DVDs in a prepaid envelope provided by Netflix and drop it in the nearest mailbox. When Netflix receives the DVDs, it automatically sends the next one listed on the customer’s queue. The serialised delivery of DVDs in the queue reduced a lot of user tasks. Netflix was a productivity improvement tool for a consumer.

Netflix customized the movie posters by choosing bigger images of movie scenes and displaying them in home screens so that the images could tell the story of the movie without as many words. Netflix’s employees went through movie catalogues manually, spent considerable time to scour best movie frames, chose best tags, wrote better descriptions and so on. Over a period of time, they replaced movie box cover images with bigger landscape images. These visual cues acted as external triggers and attracted consumers to use the product.

Through social media, Netflix drove interest and built excitement for its biggest TV shows and films. The brand also advertised heavily through select channels and did viral campaigns. Netflix’s social media engagement have also acted as external triggers.

A product or service’s success also depends on how a brand makes its customers use the product again and again on their own without any ads or call for action from the brand. The more a consumer invests time in a product the more he or she would value it.

As consumer watches more, the recommendation engine collects more data, understanding of consumer behaviour enhances and better the customization of the Netflix service for them. The improved service means a more engaging experience. It acts as an internal trigger to use the product again. And they would watch more.

‘Binge Viewing’ is another example where a consumer invests his or her time. Introduction of all episodes of TV shows at once triggered a consumer to spend hours at a stretch. Auto-loading on the subsequent episodes make sure that we do not move away from the TV screen.

The more information they invest in the service, the more committed they become to it.

Leaving Netflix and going to a competitor means the user would have to put a lot of time, cognitive effort, data and social capital again.

A customer would come back, again and again, to use the product or service only if there is high perceived utility value. Netflix is insistent on delivering high-quality entertainment. Netflix’s recommendation engine direct customers to films they might never encounter -This variability of the movies, surprises many consumers. It is one of the powerful tools to hook users. Variability multiplies the effect of Dopamine surge in the brain, creating a focused state and suppresses the areas of the brain associated with wanting and desire, thus developing a craving for the product or service.

Time invested by a consumer in Netflix acts as a barrier for any competitor to enter the web streaming market.

EMOTIONAL BRANDING

Hastings believed that Netflix is an emotional product that caters to things that are important but not essential. It is not a painkiller but more of a vitamin that provides energy or a kind of drug.

A product that is tightly coupled with a thought of an emotion has the potential to establish a long-term relationship with a consumer.

Netflix targets the natural desire of a human being to be entertained — a thought to satiate boredom. Pleasant associative memories form, when consumers encounter positive emotions by using a product or service and that would help build loyalty and also could act as internal triggers.

Randolph and Hastings felt that Netflix has to engage customer’s emotions right from the home page to hassle-free delivery experience. Netflix’s ‘recommendation engine’ play a massive role in building a personal emotional connection. The algorithm automatically predicts whether the movie is memorable or not. Based on the data, the algorithm surprises consumers by showing movies which they would not have encountered on their own. The more the customer use it, the more it becomes tailored to their unique and individual tastes. The personalized homepage makes customers feel that Netflix knows them intimately and individually.

“Everyone is interested in themselves, every customer needs special attention. They need preference — They need a special assurance that they are also one of the preferred customers. Preference brings loyalty. Preference makes the sale” -Marc Gobe

Binge-watching is also creating a close personal relationship between Netflix and consumers.

Netflix’s quality original content shows that the brand cares for its consumer. Quality production-high profile actors-famous directors — Netflix shows that it is serious about meeting the desires of every consumer. Many of the shows have become part of the daily conversation.

Netflix takes an effort to engage with consumers through social media platforms. It conducts various viral campaigns like where people could swap faces with the characters of famous TV shows of Netflix. The brand voice and communication is customized for various consumers. Sometimes, posts are humorous or casual or formal depending upon the target segment. The emotional connect extends to every customer touch point including the customer care call centres.

It is not about market share but sharing space in the mind of consumers.

THREAT OR OPPORTUNITY

In the initial years, Netflix was struggling to garner mainstream customers and many of them were still renting DVDs at Blockbuster. Netflix’s brand awareness was also so low among the common masses. Hastings thought that one way to grab attention was to project a David-Goliath image by targetting Blockbuster as it was a well-known name by then. Netflix had 300,000 subscribers compared to 20 million Blockbuster subscribers. In every interview and advertisements, Hastings and his team took swipes at Blockbuster. Hastings wanted Blockbuster to simply acknowledge a potential threat from Netflix as it would create brand awareness in the minds of consumers. But Netflix gained another benefit too.

Framing Bias -Cognitive and Social psychologists have noted that if you frame a phenomenon to an individual or a group as a threat, it elicits a fear that would result in more intense and energetic response than if you frame the same phenomenon as an opportunity. If they encounter a threat, a response called ‘threat rigidity’ sets in and they cease being flexible and become focussed on countering the threat in order to survive. -From ‘The Innovator’s Solution’.

As Hastings and his team continuously projected Netflix as a threat to Blockbuster, media too followed the same script. Unfortunately, Blockbuster too fell into the trap, saw online DVD rental as a threat to its established, robust brick-and-mortar sales and tried to protect its customers. As Blockbuster considered it as a threat, the company did not see a necessity to invest in online DVD rental. Only after three years, Blockbuster realised their mistake, began to consider it as an opportunity and committed resources. But by that time, Netflix had already got a massive head-start. Blockbuster missed the growth opportunity which eventually led to its destruction.

CULTURE

When you observe ‘Good’ to ‘Great’ companies, you could realise that a strong ‘Internal Culture’ had played a massive role in differentiating the brand and in building a sustainable competitive advantage.

“Building the muscle to hire great people is a huge competitive advantage.” -Patty McCord.

A founder alone cannot build a sustainable brand. He or she would build a great company if he or she could find a colleague who had ‘shared common interests’ and who could bring different strengths to the company.

“If you have the right people, then the problem of how to motivate and how to manage people properly goes away”-Jim Collins

Initially, Randolph and Hastings hired people who shared their dreams of building a consumer-oriented company, who were passionate about their work and enjoyed working on solving a user problem. Their early recruits were mostly from their own network. They particularly hired people who had a better understanding of consumer behaviour. Mitch Lowe, one of the hires had spent thousands of hours observing consumers, ran a ten store rental chain, built websites for video rental stores. Eric Meyer, who designed the first Netflix website was passionate about his work. Ted Sarandos, Netflix’s chief content officer, who helped turn Netflix into an entertainment powerhouse was a college dropout. He gained deep film knowledge by working in the video stores for years.

The managers at Netflix are deeply involved in every step of the hiring process so that the team building goals are met. They constantly ask themselves “Are we limited by the team we have not being the team we should have?”.

Hastings, in one of the interviews, “We didn’t set out to try to say-“What’s the theoretically most efficient culture?”Over time, we realised that we valued most..more than even money or success was working with really talented people in a more productive way. The joy of Excellence was incredible. Excellent people and talent density. We are likely to win”.

The core of Netflix is about the incredible people who are working in the organisation. Hastings believed that incredible people do not want to be micromanaged. He was of the opinion that leaders need to set the context and let the incredible people run the system. He felt that setting the context, letting others to take responsibility had led to a lot of service improvements and innovations in marketing, content, technology and user interface without the direct intervention of the director. In fact, Hastings takes very few decisions. Individuals or team does most. He took no part in choosing contents like House Of Cards, Orange Is Black etc… Netflix team never interferes in the making of original content. They trust the artists and give them more freedom.

Netflix ’s leadership provides sufficient autonomy so that the employees could think that they are valued and they have self-worth. The employees feel that they have a lot of freedom to use their talents. Freedom encourages risk-taking, creativity and experimentation. This further helps the growth of the business. People grow both professionally and personally and they would stay longer in the company.

One of the important factors for a business’ success is to build an internal culture around the freedom and responsibility of every individual — Jim Collins

Great brands find a way to add fun and little weirdness in their culture. Being formal all the time seems to be boring and uncreative. Once a month, the Netflix team goes for an outing to have fun. New employees are required to dress as characters from a movie. Many of the past employees have marked Netflix as a fun and humorous place to work.

“You only say things about fellow employees you say to their face.” -from Netflix’s Culture Deck.

Netflix team works hard to give professional, constructive feedback without a personal attack and also a sincere & honest one. They make feedback as less stressful as possible. Netflix team appreciates each other whenever there is an opportunity. Honest feedback builds trust.

People frequently ask others, “What could I be doing better?” and themselves, “What feedback have I not yet shared?” -Netflix Culture Deck.

Netflix shares every information to its employees — memos on each title’s performance, on every strategy decision, on every competitor, on purchases, profits, and on every product feature test. Information sharing built trust between employees and management. It gave more freedom to Netflix’s employees and made them more responsible.

BLOCKBUSTER

One of the main reasons why many began to use Netflix was Blockbuster and other similar retail stores. As Blockbuster had no major competition, they had forgotten the needs of their customers. People were fed up with late fees, poor selection of movies, bad customer service, difficulties in locating movies, wrong merchandise mix, and unclean store environment. Sometimes, customers had to take multiple trips to the store for renting a particular movie. Most of the customers were having harrowing experience but they managed them as there were no alternatives. Out into this vacuum entered Netflix.

By 2003, Blockbuster got up from a deep slumber and began to promote its own online rental service. Blockbuster’s ‘Total Access Programme’ subscription model attracted many consumers. Blockbuster was spending massively on advertisements which were higher than Netflix. But Blockbuster had multiple problems -It had limited cash reserves and was deep in debt. It was quickly spending whatever money it had in advertisements and on consumer discounts. Soon, Blockbuster went bankrupt and the market was fully open to Netflix.

Can Netflix alone could promote the new category of Online DVD rental among non-consumers? It would be time consuming and expensive. Blockbuster’s advertisements created more awareness and quickly expanded the online DVD rental market than what Netflix alone would have done.

Blockbuster’s Total Access Programme accelerated the death of other retail-store rivals like Movie Gallery and Hollywood Video. Blockbuster killed Netflix’s potential competitors.

Blockbuster before its death had helped Netflix to amass a strong subscriber base in a short time.

CINEMATCH EXPERIENCE

A few years back, Amazon wanted to invest in a TV show that would be a sure success. Based on the consumer rating data, they made eight different TV shows of one episode each and launched them online to collect user feedback. Millions of viewers watched those shows. Amazon team observed how people watched those shows -When they pause, play, skip, abandon -they collected millions of data points and finally, Amazon chose a show about four Republican politicians. They went ahead and made further episodes of the show and launched it. The TV show received average ratings. On the other hand, based on their data, similar to Amazon’s, Netflix launched multiple episodes of only one TV show which was about only one U.S Senator and the show became a massive hit, driving the Netflix brand into people’s minds. The show is called ‘House Of Cards’. The difference between both brands is how they understood the data. The data worked wonderfully for Netflix.

Netflix, being an emotional-connect product, Hastings and Randolph firmly believed that ‘recommended movies’ section has a major role in providing an engaging experience to customers. Earlier, the customers were grouped based on the movie ratings they provided. The system then suggested movies based on those data and they were unreliable & biased. Hastings felt that there could be a better way to use those data and recommend movies. He, being an analytical person, wanted to use mathematical programmes to find a solution. Hastings wanted a system that could read people’s entertainment desires from their behavioural cues without any help from consumer’s movie rating system. He was interested in helping subscribers to find movies they loved, not just liked.

Netflix’s web-streaming played a crucial role. The company collected a lot of real-time information from the way the consumer watched the movie -noting the scenes where they paused, rewound, how long they watch before abandoning the film, scenes they skipped, the movies they clicked or watched over weekends, and their moods. Netflix’s team tried to find reasons behind those human behaviours -The difference between Amazon and Netflix’s data interpretation.

Based on the behavioural data, Hastings augmented his team of software engineers with mathematicians to develop the algorithms. Netflix executives agreed that the algorithm should predict whether the movie is memorable or not. The programme also should show information what a consumer would like to watch without he or she doing anything(mmm…reduce the number of steps involved in a task).

Data Mining -Hasting’s team worked hard for three years to find meaningful patterns in huge sets of data, with due importance to environmental and psychological factors that affect how and why people rated movies or watched the movies the way they did. Thus the Cinematch programme was born. Netflix no longer needed the movie rating system.

Cinematch recommended movies which a consumer had little chance to find on their own. Customers loved returning to sites to find those little gems. I came across some Indonesian and Spanish films catering to my interests, which would not have been possible for me to find on my own. Almost eighty per cent of titles in my queue were recommended by Netflix’s Cinematch programme.

As Cinematch could predict the future of the industry and the consumer’s preferences, Netflix’s content acquisition team could choose contents with a higher success rate than the other competing services. Cinematch showed a trend that releasing all episodes on TV shows at once would result in ‘Binge-Viewing. The data also showed that there is a rising demand for children’s programming. Netflix went ahead and stuck long-term deals with studios like Nickelodeon, Disney and Dreamworks. All those activities resulted in greater rates of subscriber signing and better satisfaction for the customers.

The algorithm-driven recommendations kept customers engaged with Netflix’s service for hours on end and helped in building a habit.

ORIGINAL CONTENT

As Netflix was licensing movies and TV shows, it began to encounter some problems.

  1. Netflix team, with the backing of their data, wanted to invest in TV shows that would entertain their consumers. The movie studios and TV studios did not like Netflix buying what their data showed and they demanded the brand to buy the shows in bulk. Moreover, some of the content available in the market were not meeting the results shown by Cinematch data.

“I looked at that and realized we were faced with a supply source that wasn’t reliable,” said Ted Sarandos, the chief content officer of Netflix.

2. Cinematch data also showed that consumers need to spend a long time watching a particular TV show in order to build a longer loyal relationship with the show. The data further showed that people would like to binge-watch. Many of the studios were not ready to release all episodes at once.

“The important thing is that people should like what they see. If they like it they watch more. If they watch more, they will value the service more.” -Ted Sarandos.

3. Based on some incidents, Netflix also has anticipated that in the near future the studios might start hoarding their content exclusively for themselves and their own direct-to-consumer (DTC) services. It would be riskier to depend on them as it is going to be a core competency for Netflix.

The way forward for Netflix is to develop their own content. If Netflix makes its own content, it would be competing against premium cable channels like HBO and it was important that the shows are of the first class.

Netflix initially purchased and promoted a number of inexpensive titles from film festivals. Slowly, backed by their data, they invested in original TV shows. Though the production of those shows was expensive, the original content drove the brand to a higher stratum in people’s minds.

Against conventional wisdom, backed by their data, Netflix launched all the episodes of a season at once. The consumers ‘binge’ watched and they spread the idea. TV shows like House Of Cards, Stranger Things, Orange Is Black, Narcos and many other shows were a hit. After the launch of House Of Cards, people went and searched movies of Kevin Spacey and watched all of them. Similarly, they searched movies of director David Fincher and watched them. People invested more time.

One of the stronger points of Netflix is a wide variety of content availability, making it a viable alternative to Cable TV. Better the content, more the subscribers. More the subscribers mean more money for better content.

By 2018, Netflix has invested 85% of $8 billion in content investment for original content creation.

The brand has built a strong relationship with consumers because of content. Consumers talk about Netflix’s TV shows.

STREAMING DEVICES AND PARTNERS

Hastings and his team were working on a small device called ‘Netflix Player’, which subscribers would connect to their televisions and watch movies & TV shows from the web. Netflix executives believed that it could change how the company delivered content to its customers. Netflix’s online subscriber base gave an undue advantage over cable companies in web-streaming.

Roku -When the product was ready for launch, Reed Hastings had second thoughts. He realized that if Netflix owns its own streaming hardware then it would complicate potential partnerships with other hardware makers. He spun the streaming hardware team out as a separate company. It was a riskier decision. The product was named ‘Roku’ and was launched in association with Netflix. It became an instant hit with consumers and technology writers. The device had an easy to use interface, 12000 movie titles and took only a few seconds to load the movie. It was a publicity boon for Netflix.

This led Hastings to establish similar deals with other streaming devices like Xbox, LG, Samsung for online streaming. A steady flow of streaming partners followed-Blue-ray players, set-top boxes, televisions, laptops and mobile devices all equipped with Netflix software came to the market. Now Netflix’s service is ubiquitous, available over hundreds of devices.

By shelving its hardware, Netflix was able to become the dominant player in subscription web-streaming video. It could exploit the growth of new streaming devices in the market.

Netflix faced problems with lower-powered streaming devices -Some of its features like ‘auto-playing’ of the next episode didn’t launch on low powered devices. To overcome this problem, Netflix developed its own rendering engine from scratch. Now they could use the same standard code for every device. There was no need to develop individual applications for each type of streaming device. It reduced product development cycles and also provided a consistent experience across a wider variety of devices.

It became easier to develop new features and test across all the streaming platforms in a short time. Earlier, Netflix could test its applications, UI only on PS3 consoles which were used predominantly by youngsters. So, the results were lopsided. With the new platform, Netflix could test across a variety of devices and target a wider segment of customers. Netflix, no more relied on device manufacturers to change its UI or fix bugs.

The ‘rendering engine’ also allowed Netflix to solve some of the graphics rendering challenges that were essential to entice consumers to use the product.

As success breeds further success, device associations led to further vendor partnerships, which again led to more devices with Netflix in the market. The subscription base reached a ‘critical mass’ where customers began to bring more customers. Netflix built momentum and the rate of adoption of Netflix’s web-streaming accelerated.

Psychology says, ‘An individual’s action to try a brand often depends on a perception of how many other individuals are using it’.

As the number of consumers increased, the perceived value of the Netflix service increased. It prompted more non-consumers to try the product. It improved the trust among existing consumers. As Netflix attracted a wide variety of consumers, content variety grew. As content gets richer, the more people used the service. The more the users, the more the data, the more the user experience and more the right recommendations. Network Effects discourages potential competitors.

FOCUS

In the year 2002–03, Blockbuster who was twenty times larger than Netflix that time, launched online DVD rental and began to cut through Netflix’s market by aggressive price cuts, offering good content and also by offering hybrid(Online cum Stores) rentals. Netflix’s share price began to tumble. Netflix counter attacked by reducing the subscription prices, then launched a social friends page to connect consumers of similar interests and spent money on banner ads. Netflix published some movies made by not so well known directors in DVD formats. After some time, Netflix realised that none of their initiatives worked(But Blockbuster went bankrupt soon as various other factors too played a role).

Hastings realised that Netflix panicked when a competitor attacked and widened its areas of interests. Instead of looking at the competitors, Netflix should have only focussed on the need and desires of its customers. Rather than broadening the attack against a competitor, Netflix should have focussed only on its core competency -improve the customer experience, improve the quality of DVD packaging, improve the operational efficiency of logistics, choosing a better content to entertain consumers etc… Hastings took this as a lesson and spread the ‘Focus’ mantra throughout the whole company.

DVD sales -In their initial years, Netflix was also selling DVDs but Hastings pulled the company out of DVD sales even though it was providing the company’s only profit at that time. He wanted the team to focus only on its core service.

Roku -Similarly, Hastings separated the ‘Streaming’ hardware device from Netflix brand and launched as a separate brand ‘Roku’.

The desire to grow puts enormous pressure on the business owners and they make some compromises. They add a series of incremental changes which lead them to lose their way. But Netflix began to focus on its core capabilities and core value propositions. The ‘Focus’ was the reason why Netflix never ventured into the field of Sports or news.

By delivering one kind of value, Netflix projected an image of consistency whereas his competitors like Amazon and Hulu were confusing their customers. Netflix’s reputation grew. This also made the organizational priorities clear to all its employees. It helped the brand to build a strong internal brand culture.

Netflix, by focusing on its core value propositions, projected a consistent image of credibility and built a sustainable competitive advantage.

MARC RANDOLPH

Netflix owes some of its success to the wonderful customer experience, initial mail-order supply chain and the way the customer care responds to queries of consumers. Who played a major role in this? Yes, Marc Randolph.

After graduation, Randolph took a clerical job in a music company where he was in charge of mail-order operation. The job forced him to understand the customer’s likes, dislikes and interests. The experience taught him to understand the customer’s behaviour and experience. He tweaked the mail-order forms to increase orders. He took classes on direct marketing, attended many conferences and read whatever available to develop knowledge on understanding customers and reaching their minds. He designed programs for mail order processing system for Cherry Lane. Later he designed programmes to manage customer service and the circulation data for the company’s new music magazine. Before choosing any solution for mail-order designs, he made small prototypes to rest the assumptions before launching the product.

In 1984, Randolph helped publisher Felix Denis to launch U.S version of MacUser magazine where he wrote programmes for computer mail order business, chose the product mix, published mail order catalogues and set up the telemarketing sales force. There, Randolph learnt that overnight delivery with superior customer service and a zero tolerance for shipping errors translated into increased sales and better customer retention. Randolph saw those customer service workers called to apologise people whose orders had not shipped.

Netflix adopted this ‘Overnight Delivery’ concept which made the consumers come back to Netflix after ‘free trial’ was over. The ‘Overnight Delivery’ made the consumers to spread the concept of Netflix. Randolph also adopted the customer care practices which he had encountered in those previous workplaces.

REED HASTINGS

After graduation, Reed Hastings worked at Adaptive Corp. In that company, he learned the value of ‘Focus’. “I learned it is better to do one product well than two products in a mediocre way,” says Hastings. We know why Netflix is so much focused. That’s why he stopped DVD sales, branched ROKU as a separate company from Netflix, avoided venturing into the field of sports or news. It helped Hastings to take some good decisions at Netflix.

Hastings later started a company called Pure Software and it went public in 1995. He faced a lot of challenges and grew as a businessman. This experience helped him a lot at Netflix. He also gained fame while working at Pure Software. He successfully sold his company for $585 million, became a wealthy man and hero to many venture capitalists. Because of his earlier success, it was easy to gather timely investments for his venture ‘Netflix’ while his potential competitors struggled to raise money and withered out. Investors trusted Hastings.

Reed Hastings loved mathematics. He was the man responsible for mathematical programming behind distribution network, automated packaging, logistics and inventory management. His major contribution was the mathematical algorithms behind ‘Cinematch Experience’ which became a major competitive advantage.

CONCLUSION

Netflix’s competitors copied its superior website, subscription plans but could not replicate the recommendation engine and the customer experience. The brand’s earlier competitors like Blockbuster were slow at investing in any technology. They failed to understand the algorithms behind every logistics facility and struggled to automate them. A competitor copying only a few activities would fail to compete and it would be tough for anyone to copy all the competitive activities and their inter-relationship.

Note: The above content is part of the following book.

How Brands Built Its Sustainable Competitive Advantage? by Shah Mohammed M On Amazon.com.

AVAILABLE ON AMAZON -

21 Essential BUSINESS LESSONS From The World’s BEST BRANDS: -A Guide for Every ASPIRING ENTREPRENEUR by Shah Mohammed M.

References: The content is predominantly from the book ‘Netflixed’ by Gina Keating. Other references are -Article in Fastcompany.com by Austin Carr, Interview of Ted Sarandos in theguardian.com, Article in Hollywoodreporter.com by Alex Ben Block, Article in forbes.com by Kristin Westcoast Grant, TedX video by Sebastian Wernecke, What Is Strategy-HBR article by Michael Porter, The Five Forces Of Competitive Strategy-HBR article by Michael Porter,What Great Brands Do by Denise Lee, Good To Great by Jim Collins, Sam Walton’s Made in America, Diffusion Of Innovation by Rogers Everett, Crossing the Chasm by Geoffrey Moore, Blue Ocean Strategy by W Chan Kim, ‘The Everything Store’ by Brad Stone, Interview of Reed Hastings by Greylock Partners, The Innovator’s Solution by Clayton Christensen, Emotional Branding by Marc Gobe, The Power Of Habit by Charles Duhigg, Hooked by Nir Eyal, Article in econsultancy.com by Nikki Gilliland, Article ‘How Netflix Built Its Television Experience’ in Gigaom.com by Janko Roettgers, Article ‘How Netflix uses WebKit and HTML5 for TV devices’ in Giagaom.com by Ryan Lawler.

Written by

Secular Humanist, Business Growth Consultant, Design Thinker, India. Reach me at mmshah8@gmail.com. or https://www.shahmohammed.com

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