Netflix and the perils of disruptive platforms

Netflix is the textbook case of a disruptive innovation. Initially, it recognized and solved the “travel problem” in DVD rentals but sacrificed immediacy (subscribers had to wait for their DVDs to arrive in the mail). Improvements in broadband penetration throughout the U.S. have helped the company move into online streaming. Now consumers could not only remain in their homes to get movies, they didn’t even have to move from their couches to receive immediate gratification. With that, Blockbuster and its ilk (remember them?) were doomed.

But Netflix, despite having crushed its brick-and-mortar competition, should have learned one thing from Blockbuster’s experience. Blockbuster did not stand-alone. To be viable and profitable, it needed titles from movie studios. Those same studios lamented Blockbuster’s dominance in the 1990s and, indeed, because of that supported Netflix’s rise.

Now the entrant has become the incumbent, and for studios it is deja vu all over again. They realize that if Netflix keeps going, it will become a dominant channel whose cooperation the studios will need to access consumers. So the studios integrate into other channels (as in Comcast’s merger with NBC/Universal) and test the waters with brinksmanship — leaving Netflix behind. Starz is the latest to hop out of Netflix to see who can stomach it.

But, unlike Blockbuster, Netflix doesn’t rely only on the movie studios. It also requires the cooperation of Internet Service Providers (like Comcast and Verizon) to access consumers. If those providers ramp up broadband charges or bundle broadband with cable, that presents Netflix with a problem. This is especially the case when the cable provider also carries a studio’s content, as is the case with Starz. What is worse, ISPs could impose download caps on users — as occurs in most other countries in the world. Netflix will struggle in a world with hard download caps where consumers worry about that 3GB HD movie costing them at the end of the month after their kids go over the limit by viewing a cat video on YouTube.

The moral of the story is this: you can’t expect to tear up a segment of an industry where critical platforms are controlled by others. Netflix behaved like a platform in bringing customers and content together. The problem is that it inter-locked with other platforms that did the same thing. The problem is there is only one set of profits to be had from customer-content linkages and not much room for sharing. As I have written before, strong platforms will defend themselves.

All this leads to a scenario that limits Netflix’s life. Consumers won’t like it, but to use Tim Wu’s great metaphor, others hold The Master Switch on its profitability. If I were to play guru for a moment: I see acquisition by someone — mostly likely an ISP — in Netflix’s future.