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A Look Back At How The Content Industry Almost Killed Blockbuster And Netflix (And The VCR)

29 December 2013

From TechCrunch:

In 1977, the first video-rental store opened. It was 600 square feet and located on Wilshire Boulevard in Los Angeles. George Atkinson, the entrepreneur who decided to launch this idea, charged $50 for an “annual membership” and $100 for a “lifetime membership” but the memberships only allowed people to rent videos for $10 a day. Despite an unusual business model, Atkinson’s store was an enormous success, growing to 42 affiliated stores in fewer than 20 months and resulting in numerous competitors.

In retrospect, Atkinson’s success represented the emergence of an entirely new market: home consumption of paid content. It would become an $18 billion dollar domestic market, and, rather than cannibalize from the existing movie theater market, it would eclipse it and thereby become a massive revenue source for the industry.

Atkinson’s success in 1977 is particularly remarkable as the Sony Betamax (the first VCR) had only gone on sale domestically in 1975 at a cost of $1,400 (which in 2013 U.S. dollars is $6,093). As a comparison, the first DVD player in 1997 cost $1,458 in 2013 dollars and the first Blu-ray player in 2006 cost $1,161 in 2013 dollars. And unlike the DVD and Blu-ray player, it would take eight years, until 1983, for the VCR to reach 10 percent of U.S. television households. Atkinson’s success, and that of his early competitors, was in catering to a market of well under 10 percent of U.S. households.

While many content companies realized this as a massive new revenue stream — e.g. 20th Century Fox buying one video rental company for $7.5 million in 1979 — the content industry lawyers and lobbyists tried to stop the home content market through litigation and regulation.

The content industry sued to ban the sale of the Betamax, the first VCR. This legal strategy was coupled by leveraging the overwhelming firepower of the content industry in Washington. If they lost in court to ban the technology and rental business model, then they would ban the technology and rental business model in Congress.

. . . .

While Sony won at the district court level in 1979, in 1981 it lost at the Court of Appeals for the Ninth Circuit where the court found that Sony was liable for copyright infringement by their users — recording broadcast television. The Appellate court ordered the lower court to impose an appropriate remedy, advising in favor of an injunction to block the sale of the Betamax.

And in 1981, under normal circumstances, the VCR would have been banned then and there. Sony faced liability well beyond its net worth, so it may well have been the end of Sony, or at least its U.S. subsidiary, and the end of the VCR. Millions of private citizens could have been liable for damages for copyright infringement for recording television shows for personal use. But Sony appealed this ruling to the Supreme Court.

. . . .

After an oral hearing, the justices took a vote internally, and originally only one of them was persuaded to keep the VCR as legal (but after discussion, the number of justices in favor of the VCR would eventually increase to four).

With five votes in favor of affirming the previous ruling the Betamax (VCR) was to be illegal in the United States (see Justice Blackmun’s papers).

But then, something even more unusual happened – which is why we have the VCR and subsequent technologies: The Supreme Court decided for both sides to re-argue a portion of the case. Under the Burger Court (when he was Chief Justice), this only happened in 2.6 percent of the cases that received oral argument. In the re-argument of the case, a crucial vote switched sides, which resulted in a 5-4 decision in favor of Sony. The VCR was legal. There would be no injunction barring its sale.

The majority opinion characterized the lawsuit as an “unprecedented attempt to impose copyright liability upon the distributors of copying equipment and rejected “[s]uch an expansion of the copyright privilege” as “beyond the limits” given by Congress. The Court even cited Mr. Rogers who testified during the trial:

I have always felt that with the advent of all of this new technology that allows people to tape the ‘Neighborhood’ off-the-air . . . Very frankly, I am opposed to people being programmed by others.

On the absolute narrowest of legal grounds, through a highly unusual legal process (and significant luck), the VCR was saved by one vote at the Supreme Court in 1984.

. . . .

In 1982 legislation was introduced in Congress to give copyright holders the exclusive right to authorize the rental of prerecorded videos. Legislation was reintroduced in 1983, the Consumer Video Sales Rental Act of 1983. This legislation would have allowed the content industry to shut down the rental market, or charge exorbitant fees, by making it a crime to rent out movies purchased commercially. In effect, this legislation would have ended the existing market model of rental stores.

. . . .

As Jack Valenti, president of the Motion Picture Association of America (MPAA), explained before Congress in 1982:

We are going to bleed and hemorrhage, unless this Congress at least protects [our industry against the VCR]. . .we cannot live in a marketplace. . . where there is one unleashed animal [the VCR] in that marketplace, unlicensed. It would no longer be a marketplace; it would be a kind of a jungle, where this one unlicensed instrument is capable of devouring all that people had invested in…

Valenti’s comments were stark and designed to scare Congress to act: “I say to you that the VCR is to the American film producer and the American public as the Boston strangler is to the woman home alone.” Jack Valenti even threatened that if Congress didn’t regulate the VCR then movie producers may cut their movie production in half.

. . . .

One year after the Sony case, with the legal issues on less precarious grounds, David Cook opened the first Blockbuster store in in Dallas, Texas, in 1985. Within two years it became one of the top 10 video-rental chains with 67 stores. Blockbuster expanded outside the U.S. with over 1,000 stores in 1989. And by 1992, Blockbuster was the undisputed video-rental leader with over 2,800 stores worldwide.

. . . .

Marc Randolph and Reed Hastings founded Netflix in 1997 with a completely different market model. As Larry Downes explains in the Harvard Business Review:

The scrappy start-up built a distribution model that relied exclusively on mailing DVDs to customers through the low-cost U.S. postal service. It was almost as convenient as a neighborhood retail store but at a fraction of the price—and without the late fees that annoyed Blockbuster customers.

Reed Hastings has explained that the idea of Netflix came to him when he was forced to pay $40 in overdue fines after returning Apollo 13 past its due date.

In 2002 Netflix went public. Early on the bandwagon of streaming video, by 2010, Netflix went from “being the fastest-growing first-class mail customer” to being the “biggest source of streaming Web traffic” during peak evening hours. The old brick-and-mortar-style rental market was being disrupted at an incredible pace, and Blockbuster was ultimately unable or unwilling to adapt. By the time Blockbuster realized these market trends and disruption, it was too late.

Link to the rest at TechCrunch

Copyright, Disruptive Innovation, Legal Stuff

13 Comments to “A Look Back At How The Content Industry Almost Killed Blockbuster And Netflix (And The VCR)”

  1. Fascinating story! It would make an interesting movie.

  2. And so it happens now to the paper books, bookstores and traditional publishers.

  3. A few things strike me and might be clues to what to expect with paper books and book stories.

    First is how quickly this happened and that these kind of changes seem to be accelerating.

    Second is that even though Netflix/streaming video is the leader in providing paid video content, none of the other methods have completely died and some people use them all. I’m not much of a video consumer, but my daughter and her family are. Streaming video through Netflix, Amazon, and other sources is their main source, but close behind are DVDs that are purchased or checked out from the library. While the last video store in my little city that I’m aware of (certainly the last large one) went out of business in the last year, there are Redbox rental machines they sometimes use. And they still go to a theater at least a few times a year to see a movie there.

    • The implications for the publishing industry are chilling. They’re all taking a deep breath, right now, and congratulating each other on their survival now that eBook penetration has started ‘grinding to a halt’.
      They don’t get the indie sales numbers so they don’t realise the ebook market is still growing, it just isn’t growing for them.

      • I keep hearing “ebook growth is flat.” But that doesn’t mean that it’s stopped growing, I believe? It just means it’s not growing exponentially anymore. Tide’s still coming in, publishers. Tide’s still coming in. (And may it keep coming in for my own books! *grin*)

        • I don’t think it’s flat at all. I know I’ve been reading more, but it’s all stuff from Indies. The first big surge was probably just the early adopters. Now comes the steady, inexorable grind as folks upgrade to new models, giving the older units to friends and family. They become converts as well and upgrade…
          All those ereaders are positioning Indies next to indentured writers (much to the horror of folks like Stephen Zacharius), giving customers improved choices.

          • Anyone tracking daily sales of their ebooks versus their Amazon rank can tell you that the industry talking heads discussing “flat or declining ebook sales” are clueless parrots.

            Overall ebook sales are provably still growing.

    • Oh, change is going to accelerate beyond what we ever saw before. We’re all loading ourselves down with multipurpose devices that can perform an unlimited number of world-changing functions. The VCR played cassettes. Just cassettes. Further, the interconnected nature of the world has multiplied how fast trends gain velocity by orders of magnitude. Just consider how fast Gangnam Style caught on, and how quickly it made Psy a multimillionaire. That’s actually going to become the norm.

  4. “But Netflix, and Blockbuster before them, are not the only winners, or even the most profitable winners, of keeping their market models and underlying technologies legal; ironically, the biggest winner might be the content industry.”

    With books, the content industry includes self-publishing, which has very low overhead, just access to a computer, food and shelter, and the time it takes to write a story. The traditional publishing industry has to feed a lot of mouths, and buy a lot of executive mansions – ultimately the source of that money is the product of a single person, the writer. True, traditional publishing still has some value added (mostly “books in bookstores”), but that will wither away, especially if the chain bookstores fold, as seems likely.

    In the movies and TV, independent content providers still needed a lot of capital, which is never easy to raise. So the traditional content providers have maintained a significant advantage – the ability to raise capital and ride out failures. Indies have a much harder time with both.

    So, the upheavals in the book world may ultimately be much more significant than in the TV/movie world. Independent writers are the ideal content producers in an industry with extremely low barriers to entry. Standard economics says that indies should prevail in the long run. It will be a good real life test of economic theory, if nothing else. We are sort of privileged to have the opportunity to see the experiment play out, in my opinion.

    • the upheavals in the book world may ultimately be much more significant than in the TV/movie world. Independent writers are the ideal content producers in an industry with extremely low barriers to entry. Standard economics says that indies should prevail in the long run. It will be a good real life test of economic theory, if nothing else. We are sort of privileged to have the opportunity to see the experiment play out, in my opinion.

      Yup. It’ll happen quicker than anyone now believes. I’ve seen this transition from gatekeeping publishers to indie dominance play out once already in the mobile game industry.

      Business disruption is like the proverbial avalanche. First a couple trickles of snow slide by, and the skiers start to panic. Then they think, “See, nothing bad happened. We made it through safely. Woo-hoo!” And then the mountain falls on them.

  5. Valenti was a silver-tongued devil. He could tell a bald-faced lie better than any politician.

  6. What stands out most to me in this excellent article is the industry’s inability to see what a huge source of new revenue the new technology could bring. Looking back on it all, from our perspective this seems so obvious. Should it not have been obvious then?

    Perhaps this is a case of hindsight being twenty-twenty. On the flip side, perhaps it demonstrates how much industries (and people) hate change. It is so easy to allow one’s perception the slow reduction into that narrow box of “how we’ve always done things.”

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