Wal-Mart Yields to Netflix on Rentals
Wal-Mart Stores Inc. called it a wrap Thursday for its fledgling online movie rental business and turned the operation over to industry leader Netflix Inc.
The move represents a rare setback for the nation’s largest retailer, which had only 1% of the online DVD market and never made significant inroads into the business. Wal-Mart instead will continue focusing on selling DVDs at cut-rate prices, a business it dominates with one-third of the market and where the industry’s biggest growth is occurring.
Both companies get something out of their partnership. Netflix will link its movie buffs to the DVD sales area on Wal-Mart’s website, while Netflix gets access to a massive pool of potential subscribers in Wal-Mart customers.
“It shows the kind of pragmatism and flexibility of the two organizations,” said Warren Lieberfarb, former head of Warner Home Video and now a consultant.
The deal came about after Netflix Chief Executive Reed Hastings found himself buying DVDs on Wal-Mart.com for Christmas. In January, he pitched Wal-Mart on the partnership.
“The prices are so much better than anywhere else on the Internet,” Hastings said. “It’s a huge difference [but] our customers didn’t know about it.”
Hastings founded Netflix six years ago. The Los Gatos, Calif., firm has 70% of the online rental market and about 3 million subscribers who pay a monthly fee. Netflix lately has been fending off chief rival Blockbuster Inc., which has gained 750,000 subscribers and more than 25% of the market since entering the business last year.
Online renting is growing as customers are enticed by the broad selection and convenience of having DVDs delivered to their homes via the mail with no late fees to worry about. Revenue from video rentals ordered on the Internet is expected to reach $1.3 billion by 2006, up from $866 million this year, according to Carmel, Calif.-based Adams Media Research. By contrast, in-store video rentals are expected to fall 6% this year, to $7.7 billion.
Despite its growing popularity, the online rental business has been showing losses amid price cuts and increased promotional spending. In addition, mass merchandisers such as Wal-Mart and Best Buy Inc. aggressively use low-priced DVDs as promotional tools to lure customers into stores, prompting many consumers to buy movies in lieu of renting them.
Down the line, cable operators and satellite companies are expected to provide another challenge when they aggressively roll out sophisticated video-on-demand services.
Netflix had acknowledged as much, and said that it was positioning itself to be in the downloadable movie business by firmly establishing its brand now through its mail-order business.
Starting immediately, Wal-Mart DVD rental customers will be referred to Netflix’s site. For a year they will continue to pay $12.97 for two movies a month or $17.36 for three titles. Netflix customers currently pay $17.99 per month for three titles.
The Bentonville, Ark.-based company hopes to use Netflix referrals to entice people to make other purchases on its website and also lure customers into stores. The average Netflix customer buys 25 movies a year, Hastings said.
“This business is a drop in the bucket for Wal-Mart, but it could represent a significant opportunity for Netflix both in initial gains by converting Wal-Mart subscribers but also with the advertising value of having the Netflix brand in front of millions of Wal-Mart shoppers,” said Dan Hess, senior vice president of ComScore Networks, a consumer analysts firm.
John Fleming, Wal-Mart.com’s chief executive, said the company’s decision stemmed from a desire to focus its efforts on Internet sales, which is far more profitable than online renting and more easily drives in-store shopping. Fleming said 92% of the company’s online customers shopped at a Wal-Mart store at least once a month.
Wal-Mart began testing online rentals in October 2002, expanding the program the following year. But executives quickly found that renting was not where they wanted to be.
“Rental was a good business, but there wasn’t a natural store integration to it,” Fleming said.
In response to the Wal-Mart/Netflix deal, Dallas-based Blockbuster announced it would offer both Wal-Mart and Netflix online rental subscribers who switch to Blockbuster two free months of service, a free retail DVD of their choice and a new subscription at their current rates.
“We are seeing a segment of customers who want to rent online, and that segment could be between 20% and 30% of total rental revenue in the next year,” said Shane Evangelist, head of Blockbuster online.
Netflix’s shares rose 63 cents on Thursday, to $16.13 a share on Nasdaq. Wal-Mart closed down 7 cents to $47.51 on the New York Stock Exchange.
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Broad lead
U.S. market share of online video rentals so far this year
Netflix: 70.2%
Blockbuster: 26.8%
Others: 1.8%
Wal-Mart: 1.2%
Source: NPD Group
