Blockbuster: the unlikely innovator
Posted on April 7, 2011
It really pains me to see “going out of business” sign on Blockbuster stores across the USA. Most of us know Blockbuster as a sore looser in the video-rental battle to newcomers such as Netflix, RedBox and Video on Demand. Few, however, know that in 1997 Blockbuster was responsible for one of the greatest renaissance innovations which revolutionized entire industry and propelled Blockbuster to be an undisputed industry leader.
Around that time video rental business was tough to survive in. VHS tapes were sold by studios to video rental chains for about $60 a piece (while consumers could buy them much cheaper). An average video rental store was renting tapes to consumer at $3 per rental so simple arithmetic would suggest that at least 20 rentals were needed to just break even on a tape. The problem was (and is): most movies only generated demand for rentals during first 2-3 weeks after the release and it seems physically impossible to rent out a tape 20 times in 2-3 weeks. The result: few tapes on the shelves, constant out-of-stocks and more and more disappointed consumers. All of this does not help profitability and Blockbuster was on the brink.
As is true for many great innovations, the solution was found out of desperation. Blockbuster figured out the way to change perverse relationships in this supply chain. It went to studios with the following proposal: Blockbuster would only pay a few dollars per tape upfront but then it would split revenues 50-50% with the studios. Now each tape needed to be rented out only 4-5 times to break even. The result: many more tapes on the shelves and higher revenues for everyone. Blockbuster was able to increase its market share from 25% to about 38% in under two years! Studios got their share as well: in fact, some studies estimate that entire industry gained about 20% in profits across the board. This is a true renaissance innovation and Harvard Business Review has a nice interview in the latest issue with then-CEO who pushed this innovation through. Just like in case of other renaissance innovations, smart risk management is responsible for this one. Before revenue sharing contracts Blockbuster was taking all the risk of having inventory of tapes while studios had no risk whatsoever. What revenue sharing contract did was allocate risk fairly across the supply chain. Risk reallocation across value chain members is one of the most powerful renaissance innovations: I had recently written about another one pioneered by Rolls Royce. If you want to learn more about the fascinating story of Blockbuster and its ups and downs take a look at the case we had written on it.