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THE TRUTH BEHIND THE DEMISE OF BLOCKBUSTER

The Truth Behind the Demise of Blockbuster Jake Ashford Emily Warren Raul Romero Ali Kocan Trenton Harris Brittany Griffith The University of Texas at Dallas

THE TRUTH BEHIND THE DEMISE OF BLOCKBUSTER

History Blockbuster Incorporation was a key leader in the entertainment industry, notorious for the offering of video game and movie rental services to ordinary consumers across the globe. The beginning of the behemoth video rental chain tied back to the creation of Cook Data Services, founded by David Cook in 1982. The company was designed to distribute tools and computer software services to corporations present in the petroleum and oil industry. After the industry took a hit, David Cook began to search another source of revenue when his wife, Sandy, a movie fan, suggested entering the video rental business (Grant, 2006, p. 74). After noticing the video rental industry was fragmented, David Cook decided to open the first Blockbuster Video store in Dallas, Texas in 1985. After one year, Blockbuster worked with investment bankers to help the company issue securities through the initial public offering. According to the History Channel (2014), the implementation of the first store was a catalyst that helped Blockbuster to expand rapidly and to provide home movies and video game entertainment to a specific target market that not only wanted to be able to rent newer releases but also older movies as well. After achieving an understanding of the publics appetite for renting movies, Cook decided to expand the firms operations to three new stores. The quick expansion in the market led the company to face financial distress due to its lack of capital source. As a consequence, Cook made the choice to surrender the control of Blockbuster by selling its shares off to three investors. Cooks decision to give up its rights left Huizenga in power to assess the firms future prospects. Huizenga strategically believed that the companys growth depended primarily on direct ownership of stores rather than through franchising. In order to preserve a family environment, the new management decided to abstain from generating revenue through sources

THE TRUTH BEHIND THE DEMISE OF BLOCKBUSTER such as X-rated films and other adult materials due to the fact that it would ruin the perceived image of a wholesome environment that Blockbuster was working so hard to achieve. In respects to his vision, Huizenga has developed an aggressive expansion and acquisition program for Blockbuster, including the planned merger with the 127-store Major Video Chain (Kelley, 1988, p. 2). To expedite its expansion, the company bought back its franchised stores and moved towards the acquisition of chains of video stores (ex. Southern Video Partnership) that had market share in the local sector. Furthermore, Blockbuster established six regional offices and a distribution center located in Dallas, Texas as means of future expansion and

development. This strategy helped Blockbuster experience its first profit of $4 million last year, compared with a $3.2 million loss in 1986 (Rubinkowski, 1988, p. 1) and a significant increase in revenues from $7.4 million in 1986 to $43.2 million last year (Rubinkowski, 1988, p. 1). The Blockbusters expansion efforts did not end, however, with the formation of a strategic alliance with United Cable Television Corporation. It purchased the Major Video Incorporation, the countrys fourth largest video rental chain, with an appraisal value of $92.5 million (Grant, 2006, p. 74). In spite of these profitable gains, the companys stock value took a hit when investors became aware of companys manipulative accounting practices. The company looked at numerous ways to enter the international markets for diversification and growth. In pursuance of expanding its business to overseas, Blockbuster conducted joint advertisements with fast-food restaurants, such as McDonalds. Additionally, Blockbuster added operations in United Kingdom and the rest of Western Europe. Upon completion of its initial endeavors in Western Europe Blockbuster exploited an opportunity with Den Fujita, the company in control of McDonalds franchises in Japan, to augment the development of video rental stores in the majority of the Asian countries.

THE TRUTH BEHIND THE DEMISE OF BLOCKBUSTER

Due to the development of a maturing industry, Blockbuster searched for opportunities to maintain a certain profit level. First, the company started to offer video game equipment and Sega Genesis video games at specifically designated locations instead of implementing it immediately in all stores. This was done in order to test the market to ensure feasibility and success. Blockbuster then aimed to raise earnings by rapidly dropping the rental price for mainstream movies for the first three months. More importantly Blockbuster also acquired Music Plus and Sound Warehouse from Shamrock Holdings to differentiate from its primary movie rental business. In order to protect itself from potential technological innovations of video-on-demand and satellite television, Blockbuster focused its attention on diversification in an effort to preserve its market shares that would be in harms way in the in the changing entertainment industry. Hence, the Directors of Blockbuster Entertainment Corporation proposed to merge with Viacom Inc. to create an entertainment giant with operations spanning film and TV production, video rentals and sales, broadcasting, cable, syndication, publishing, sports, and new media (Harris, 1994, p.1). The investment in Viacom was an extremely costly move for Blockbuster, leading to a loss of confidence from the shareholders in the company. As a consequenceof the loss in confidence, both Blockbuster and Viacom stock took a negative hit in the market. The Blockbuster Corporations prosperous days began to weaken due to newly emerging formats (Grant, 2006, p. 77) and new releases not making it to stores by time (Grant, 2006, p.77) which in turn created issues for the consumer. This also created threat of new entrants for Blockbuster. In order to cope with this issue in the late 1990s, Blockbuster used a distribution system to help pinpoint potential stores and build inventory strictly based off consumer preferences. Nonetheless, Viacom decided to divest its stocks to raise capital, but this action on

THE TRUTH BEHIND THE DEMISE OF BLOCKBUSTER

the part of Viacom was not sufficient enough to attract investors. In spite of this lack of attention from potential investors, the management created a business model that focused on augmenting Blockbusters share in the emerging DVD disc and VHS tape rental category. At the start of the new millennium, Blockbusters primary competition consisted of cable and satellite companies with pay-per-view and on-demand movies, online movie retailers, and prominent retailers such as Wal-Mart and Target stores. Other major sources of competition included services such as TiVo, which gave the viewer the ability to record live television and watch it on demand. A large majority of Blockbusters competitors began to introduce video-ondemand movies and mail-order rentals. In order to be a step ahead of the competition, Blockbuster immediately began to search for ways to raise its sales and profits. After conducting internal analysis, Blockbuster sought to take a charge of about $450 million to eliminate 25 percent of its VHS-tape inventory and increase space for DVD titles( Blockbuster Taking Charge to Reduce VHS Inventory, 2001, p. 1). The company also established DEJ Productions and signed a contract with DIRECTV to use the Blockbuster stores as intermediaries to distribute satellite systems. After significant backlash from customers over excessive late fees Blockbuster took action in an attempt to save its customer base. In late 2004, the company introduced a television ad promoting the removal of its controversial late fees in its policy. After several months, Blockbuster faced a litigation suit for false advertisements of their new no late fee policy. The 47 states involved in the suit all ruled that Blockbuster failed to disclose that customers who kept an item more than seven days would be charged the current selling price for the item (Grant, 2006, 78). As a result of the suit, Blockbuster agreed to pay a substantial amount of money to end the litigation.

THE TRUTH BEHIND THE DEMISE OF BLOCKBUSTER

During 2003 John F. Antioco, the acting CEO at the time, noticed that focusing only on the movie rental business would not help Blockbuster generate the type of growth it needed to continue to see success. He then transformed Blockbuster to be a place where the consumer could either rent or purchase movies and games in one establishment making it much more convenient for the customer. At the same time he made the decision to also completely remove the late fee policy in order to refrain from any more legality issues. The removal of the late fees managed to reduce Blockbusters 250 million in revenue (Hellweg, 2004, p. 1). In the middle of financial distress, Blockbusters chose to declare bankruptcy in September 2010 to eradicate a significant portion of its debt. After declaring bankruptcy and clearing its debt Blockbuster, and all of its remaining assets, were acquired by Dish Network at auction. Critical Decision Point 1 Strategic Alliance As technology and competition continued to grow in this industry, firms would consider alliances as a tactic to alleviate their economic problems. Looking back at Blockbusters history, the firm pursued strategic alliance opportunities to improve its operations, and establish a favorable competitive environment. In 2008 Blockbuster entered into a licensing agreement with NCR, an industry leader in information technology services that facilitates software and hardware solutions for service and product companies. This agreement helped Blockbuster set up DVD vending kiosks under its brand name. It also made Blockbuster a multi-channel provider of movie and video game entertainment. According to financial analysts, the implementation of DVD vending kiosks led to significant consumer spending growth from $197 milllion to $760 million (PRNewswire, 2008, p.1).The DVD vending kiosks also led to an increase in combined kiosks inventory from 9,300 units at the end of 2007 to more than 22,400 by the end of 2010 (PRNewswire, 2008, p.1). Blockbusters choice to enter the kiosk market helped deal with the

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pressure from its growing competitor Redbox, which was founded in 1997 and began to see growth in 2000. Implementing kiosks in convenient locations allowed Blockbuster to reduce overhead cost and as a result the firm was able to offer movie rentals for $1 per night, which was a much lower rate than their traditional retail site rental costs. Due to rising threat from e-commerce businesses that delivered rental movies directly to the doorstep of consumers, Blockbuster found an opportunity to form a supply agreement with Kozmo.com. In this deal Blockbuster used Kozmo to deliver its inventory to the consumers. In return, Kozmo received approximately $1 for each delivery. After this deal proved unsuccessful Blockbuster decided to form a partnership with Streamline.com, a competitor of Kozmo, to supply its inventory to consumers. After the internet bubble burst in the early 2000, Blockbusters vision did not turn into a profitable business and the efforts were halted. The innovation of video on demand promised potential penetration into yet another new market. During the rise of video on demand, or VOD, cable television providers aimed to offer an abundance of movie titles, but VODs requirement to operate with substantial amounts of bandwidth hindered the process. In order to address the problem faced by cable television providers, Blockbuster signed a three party agreement with DIRECTV and Enron Corporation back in the mid 2000s. After a year Enrons argument weakened the agreement, primarily because Blockbuster did not have the necessary economic organizational structures in place. The trust between the allegiance partners fell apart when Enron declared that Blockbuster didnt have the requisite quantity and quality of movies to roll out a service (Blockbuster cant see beyond Bricks, 2002, p. 1). Even though the penetration to this industry was perceived as viable, Blockbuster did not meet the expectations of Enron to build a long-term positive relationship.

THE TRUTH BEHIND THE DEMISE OF BLOCKBUSTER Since Blockbusters original business model was based as a retailer, the firm lacked the essential resources and capabilities to integrate an electronic player to the business model. In

order to eradicate these flaws Blockbuster followed several procedures. Blockbuster first formed a non-equity alliance with OrderTrust Inc., who was seen as the tool to help Blockbuster outsource the order and fulfillment processes rather than focus on technology and infrastructure. The exploitation of this opportunity allowed Blockbuster to concentrate primarily on the enhancement of branding and marketing. In respects to this decision Blockbuster found it necessary to formulate a deal with TeleTech Holdings Inc. to provide technical support to its blockbuster.com consumer users as well. Blockbusters primary was to join with this alliance partner to exploit economies of scale in its creation of a of a larger technical support base. In addition to that alliance Blockbuster formed an equity alliance with AOL to provide capital funding to assist the company in creating more available broadband programming. According to this deal, Blockbuster had a continuous presence in the home video area of AOLs entertainment channel (AOL Investing in $30 Million in Alliance with Blockbuster, 1999, p. 1). In return, Blockbuster helped AOL achieve brand awareness through promotions. Simply, this collusion helped these two firms to reduce competition and earn high levels of performance. Critical Decision Point 2 Product Differentiation Blockbusters debut into the video rental industry was a phenomenal success given its managements inexperience in this particularly fragmented industry. This prosperous result was not entirely comprised of luck, but rather it was more the result of the vision and capabilities that Cook had for his newly established video rental store. AN example of part of his vision for the company was that Cook knew that he did not want to stock X-rated movies, because he believed that Blockbusters policy choice should be welcoming to young and old consumers alike,

THE TRUTH BEHIND THE DEMISE OF BLOCKBUSTER

creating that family atmosphere that Cook had envisioned for his stores. During this time many of the other rental stores carried X-rated movies, meaning that families were not yet big customers of these businesses. Most of the movie rental businesses were small startups following the business trend at the time. Prices for the hardware, including video recorders, had decreased significantly and this meant that mainstream consumers had access to this source of entertainment. Because of the ease of entry into this industry video rental stores started popping up everywhere in the form of mom and pop shops (who were also vying for customers). Most of these smaller stores did not have effective inventory controls, which ultimately caused significant inefficiencies and discrepancies. An example of these inefficiencies and discrepancies include how customers had to bring an empty box from the shelves to the clerk at the counter, the clerk would then go to the back of the store and attempt to locate the cassette and bring it back to the waiting customer. The time wasted searching for movies that in some cases were not in stock created problems for customer service and productivity. This was one of the weaknesses that Cook had identified during his study of smaller stores. In Cooks eyes, this was a highly impracticable way to operate. None of these smaller stores were optimized for large scale growth as this meant hundreds of thousands of titles of movies to manage and at this point computers were still not completely mainstream. Cook knew that his inventory of titles had to be tailored to meet the demands of his customers and not alienate any of them in the process. Moreover, the big technological change that was taking place was the use of computers for personal as well as business use. Cook took advantage of this technological change to implement an effective means of tracking inventory in his stores. This is where Cooks knowledge in system design really proved critical. Because Cook had computer programing

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experience he was able to devise a computer software system that allowed Blockbuster to manage its inventory of movies in stock. The system was revolutionary in this low tech industry. According to Businessweek, The strong inventory control system detailed the number of times each tape was rented, generated a daily summary report by store, and held a wealth of data on the demographics of Blockbuster customers and what tapes they rented ( Video Venture, Taking Charge of Blockbuster, nd, p.1). He may have not known it at the time, but this gave Blockbuster the technological leadership that would later serve to expand the brand at a faster pace. Theoretically, what it meant for Blockbusters customer was that they could go into a Blockbuster outlet and be able to rent a movie that would more likely than not to appealed to them. The system made Blockbuster very efficient because it enabled them to tailor the selection of movies to the demographics it was serving in any particular neighborhood. Cooks system essentially allowed the store to keep count of inventory at all times and showed what the store had in stock on any particular night and time allowing the firm to provide better service. The system also kept track of late fees, which were tacked on to the next customers rental providing Blockbuster with an extra source of revenue stream. The system also made it possible to reach inventory optimization because it relayed the title of movies that were not being rented and these titles were then discarded to make room for top performing and/or more profitable titles. Another benefit of the system was that it demonstrated that contrary to popular belief top rentals did not consist of the newest releases, but rather that of titles that were older and not as expensive to carry tended to rank among the most popular. Through the strategic lens, Blockbuster had a system in place that was valuable, rare, and at this time, costly to imitate given that most of the video rental stores were small in operation and computers were not economical. This gave

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Blockbuster a sustained competitive advantage in the short term and a temporary advantage in the medium time frame. The outcome was that it put smaller rivals at a disadvantage to Blockbuster because they did not effectively manage their large inventory of titles. This meant that these stores were carrying potentially obsolete inventory and were operating with significant inefficiencies and discrepancies that Blockbuster was able to avoid. Transitioning into a system like Blockbusters meant smaller rivals would have had to have the financial resources to make an a large investment in capital to pay a company, such as the one that Cook worked for, to design such a customized inventory system. This does not take into consideration the learning curve necessary to utilize the system to its full potential. This gave Blockbuster the first-mover-advantage in terms of technology because it not only helped with its inventory, but it also helped in making Blockbusters service a differentiated offering apart from its rivals. The result of this technology and systematic inventory allowed Blockbuster to be able to stock only the titles that performed and none of the ones that were not in demand. Critical Decision Point 3 Internal Analysis Cook used these opportunities to gain sustained competitive advantage, but Blockbuster would soon need to look within to go the extra mile. By implementing the point of sale system, Blockbuster was then able to devise its own internal analysis. Its internal analysis helped the firm understand and benefit from its own strengths. Blockbusters thriving strengths such as its inventory control, distribution, and demographic understanding allowed for expansion. The next step Blockbuster saw for expansion was to diversify its rental products into video games. The video game industry had been ever growing since the 1950s and Blockbuster saw this as its golden opportunity to boost business and revenue. When gaming consoles developed CD and

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DVD capabilities in consoles such as Playstation and X-Box, Blockbuster already had the internal resources to provide rental versions to the public. In order to diversify, Blockbuster focused on several different attributes of its own product line. The video game market had a consistent following for decades and was expected to expand but this would not completely solve all of their problems. Blockbuster managed to capture timing-based product differentiation. The concept of renting a video game for a short period of time gave Blockbuster an edge. This success was due greatly to the availability of complementary products such as consoles. Blockbuster even took this concept one step further, not only could you rent a game but for a certain amount you could actually rent the system. By buying their own consoles, Blockbuster was then able to rent out consoles and games to youth that may not have the funds to fully invest. Blockbuster took a resource-based view to internally analyze its current assets. One of Blockbusters resources included its physical distribution centers of the stores themselves. It would not cost anything to clear a few shelves off from movies in order to build a video game section within the store. Even after video game rental competition began to grow, the storefronts still gave Blockbuster an advantage because they had gained first mover advantage within the market. Many rental companies began using the postal system in order to gain competitive advantage. The issue with mailing is the waiting period. Customers of Gamefly, an online distributor, would have to wait two to three days to receive the game in the mail instead of in a timely manner. Blockbuster customers had the ability to drive to a neighborhood store, find the particular game that they wanted and take it home to be played immediately rather than having to wait. They even have the option to rent a movie and grab snacks while they are there. The storefronts for video games also provided faster and more efficient customer service. If the

THE TRUTH BEHIND THE DEMISE OF BLOCKBUSTER rented video game happened to be damaged, a customer wouldnt have to wait to mail back the

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copy. Instead, they have the ability to drive back to the store the same day to get a replacement. One of its most valuable resources that Blockbuster had was an intangible asset, its reputation for being family friendly. Movies appeal to young and old just alike, but video games being such a new mix of entertainment and technology appealed more so to youth. Blockbuster had already gained the trust of the parents Blockbuster was targeting. This trust was able to grow when parents no longer had to spend full price in order to buy the game for their children. The advantage of renting a video game gives the customer the ability to try out the game before spending $60 on a bad game. Solution The decision for Blockbuster to pass on the acquisition of Netflix back in 2000 for $50 million was a strategic mistake and could have been part of a viable solution to rescue the company from its demise. The industry was an oligopoly and there were few competitors because of the high costs associated with entering the market. If Blockbuster had acquired Netflix, existing companies would have had a difficult time competing because of the number of stores and online streaming technology the company would have possessed. Having the first mover advantage would have been an invaluable asset for Blockbuster and given it a sustainded competitive advantage. The best way Blockbuster could have used its newly acquired resources from Netflix would have been to distribute new products and video rental options to consumers, and create a more detailed online tracking system between stores and the online channel. Blockbuster should have begun to offer DVD by mail service and live streaming for online consumers as soon as the technology became available. Part of the problem was that the company waited to late to implement these solutions. The year 2000 was the beginning of the

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dot-com bubble, so this would have been the perfect opportunity for the company to capitalize on a rapidly emerging industry with its new online consumer subscriber base. Blockbuster already had the capability of providing customers with new releases the fastest in stores, so integrating new releases faster for video streaming and mail order should have been a seamless transition. A new Blockbuster All Access Movie Pass could be implemented with its new online channel. The old system allowed consumers to rent two selections from a Blockbuster store for a flat monthly rate. Under the new All Access Movie Pass system, consumers could rent multiple selections from stores and also receive online benefits for a low flat monthly rate, therefore adding more of an incentive to obtaining this particular pass. Blockbuster had sophisticated inventory technology systems, which would have aided in tracking where movies were being mailed to and the number of rentals that were available for each selection. These internal resources would have been highly valuable, rare, expensive to imitate, and very easy to exploit, which would eventually lead the company to a competitive advantage. Blockbusters ability to limit competition and enter a new market by offering consumers the ability to go in to a physical store, order DVDs by mail, or watch movies and shows on the internet would have been not only convenient but extremely valuable as well. This gives the companies consumers the ability to choose from various options that best suited their entertainment needs. Next, the resources would have been rare and expensive to imitate because no other company were attempting to do the same thing and the cost associated with copying the technology would have been extremely difficult. The inventory system Blockbuster developed for their stores provided them with the ability to track all selections distributed from the distribution center, and monitor demographics as well as preferences of consumers by utilizing barcode technology with membership cards. It would require large sums of capital for a competing firm to attempt to develop a comparable system of

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in-store and online video rental distribution. Blockbuster would have been in the perfect position to exploit these resources and use inventory information to satisfy consumer needs as well as gain substantial revenue in the video rental industry. This would have not only given Blockbuster the leverage it needed to stay at the top of the market, but it would have also monopolized the market as well. Blockbuster could have also strategically positioned kiosks in places where no physical stores were present in the early 2000s. Rural and less densely populated areas would be the perfect location for this product. Consumers would benefit by having access to low-cost video rentals and Blockbuster would save money by not wasting company resources on opening another expensive traditional store. Kiosks would have been valuable because it would expand the Blockbuster consumer base. It would have also made it even more rare because of the fact there were no other kiosks available at the time. This would have made it hard for competitors to imitate because of the simple fact that competitors would have not possessed the vast inventory of movies and new releases. This in turn would be not just feasible but easy to exploit because Blockbuster would have had the technological capability to expand into this area quite easily, leading to a sustained competitive advantage. While Blockbusters inventory system was very sophisticated, it needed some improvements to allow stores and the online network to accurately assess available selections. Consumers would frequently travel between different store locations to find a certain movie. If stores in the area were out of the movie, the consumer simply had to choose a different title. The Blockbuster website did provide a status of which selections were featured in stores, but failed to correctly inform consumers if the title was available for rental. This issue was primarily caused by the ability of consumers to rent two movies at one time for as long as they wished, which

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would lead new releases and older selections to be out of stock for extended periods of time. The solution to this problem would have been creating a detailed online tracking system where all Blockbuster stores, online options, and kiosks were interconnected with live inventory status information. The online tracking system would allow consumers the ability to return selections to any store or kiosk, regardless of where the movie was originally rented. The new system would also give consumers the ability to reserve movie selections from the Blockbuster website, which would provide great value for consumers since they wont have to worry about a selection being out of stock. It is clear that if Blockbuster would have acquired Netflix and improved upon its existing products and distribution channels, it would be a leading company in the video rental and online streaming business today. Blockbusters utilization of its existing stores, DVD by mail, online streaming, All Access Movie Pass, kiosks, and an improved online tracking system would have given the company an unmatched advantage against its competitors. The large number of physical stores combined with the ability to rent and stream online would have provided consumers with value added products that would have been very expensive for competitors to imitate. It would have been extremely beneficial for Blockbusters consumers to have had such a vast array of entertainment options available and would have eventually saved the company from its pitfall. This would have led to a sustained competitive advantage for Blockbuster putting it on top of the movie rental market.

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