The Giant That Declined a Small Partner and Defended Its Late Fees

In 2000, Netflix was a young company that mailed DVDs to subscribers and was losing money. Its founders, Reed Hastings and Marc Randolph, are reported to have met the leadership of Blockbuster, the dominant video rental chain, and proposed a partnership in which Blockbuster would run Netflix as its online arm. The price mentioned in most retellings is fifty million dollars. Blockbuster declined.

The refusal is usually told as a story of arrogance, but it had a logic. Blockbuster operated thousands of stores, and a business built on shipping discs looked like a small side market. More importantly, late fees were reported to supply a sizeable share of the chain's revenue and an even larger share of its profit. A subscription model with no late fees would have attacked that income directly. Every step toward Netflix was a step away from money the company already held.

Blockbuster did later launch an online service, and in 2005 it began to cut late fees, but critics argue that these moves came after Netflix had gathered momentum and cost the chain revenue without winning customers back. The company filed for bankruptcy protection in 2010.

The episode illustrates what scholars call the innovator's dilemma, an idea popularised by Clayton Christensen. Firms rarely fail because they cannot see a new technology. They fail because the new model threatens the arrangement that pays for the old one, and rational managers protect whatever is paying the bills.