Netflix Patent Buys Time

DVD rental company Netflix, to which I am a subscriber, obtained a patent last week on certain aspects of its business model. Netflix introduced the first major flat monthly-rate rental plan in the United States in 1999. They have since been growing at a furious pace and have drawn attention to the idea that revenues may be maximized in certain markets from concentrating on unused portions of monthly subscription fees, as opposed to the traditional late fees business model. Unlike the recording industry, where the primary substitutes are burned CDs and downloaded MP3s, the DVD rental industry's revenues have arguably been cannibalized primarily by an increasing consumer propensity to purchase the end products outright.

Major players in the rental industry are reacting, most notably Blockbuster. In New York City last year, they introduced the Freedom Pass – another flat-rate service, but one whose strengths and weaknessess differ from the Netflix model. While Netflix offers a vast library but requires a mailing cycle to complete orders, Blockbuster offers immediate gratification but with a selection limited to locally available inventory. Curiously, the price of this offering was raised to $30/mo. recently (vs. $20/mo. for Netflix). While it doesn't look like Freedom Pass in its Manhattan form is yet available in other regions of the country, Blockbuster has recently rolled out a national flat-rate monthly gaming pass, called the Game Freedom Pass. The idea is the same: $19.99/mo. allows a subscriber to rent an unlimited number of games each month; the only limitations are that they can only have one game out at a time, and for a maximum of 30 days. Considering that their primary market – teenagers – generally do not possess credit cards, they certainly seem to be limiting this product's potential.

But whether or not they immediately reach efficient operating levels, each of these bundled offerings points to how entertainment goods are being increasingly viewed as services as opposed to discrete products. The problem is that Netflix's competitive advantage – efficiently running a mail-order implementation of this concept – is one which is only sustained and protected by current limitations of distribution technologies. Their patent may protect them so long as this is the best way for consumers to get this content.

The next step in this market evolution is for full DVDs – with interface and extras -- to be available via video-on-demand for a flat-monthly fee. That day will probably arrive within a couple of years (for the industry's sake, hopefully sometime before DVDs start to be traded online as commonly as MP3s are). At that point, it is uncertain what Netflix's competitive advantage, or future, will be.