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Netflix, Redbox Make Gains in Home Video Market as DVD Sales Continue to Suffer

After a calamitous 2009, which saw the nation's recession deepen and home entertainment spending drop 5 percent from the previous year, 2010 wasn't all that bad.

Sure, total consumer spending is likely to be down again, as dramatic Blu-ray Disc and digital delivery growth still isn't enough to make up for the lag in DVD sales -- which as of the end of the third quarter was running about 12 percent behind the previous year, according to an analysis of numbers provided by DEG: The Digital Entertainment Group.

But a new reality has settled on Hollywood, rooted in the acceptance that the double-digit growth the industry experienced in the early 2000s will never happen again, at least not for packaged media -- and that Netflix and Redbox have altered the landscape for not just the rental sector but for the entire business.

"Consumer confidence is coming back but will never return to 2006 levels in this generation," said John Marmaduke, president and chairman and CEO of Hastings Entertainment, a 147-chain of multimedia superstores headquartered in Amarillo, Texas.

"People are living without what they can live without, as they discovered it wasn't such a big sacrifice."

Complicating matters is the fact that thanks to Netflix and Redbox, renting a movie has never been easier or cheaper, and that's bound to have an impact on consumer purchases, particularly in these economic times. At the same time, Netflix has become one of the power players in digital delivery, to the further detriment of packaged-media sell-through.

Steve Beeks, president and co-COO of Lionsgate, called 2010 "the year of transition."

"We saw explosive growth for Blu-ray sell-through and on-demand platforms, each of which will approach or surpass $2 billion in spend," Beeks said. "It's the year in which consumers had more choices than ever, from standard-definition DVD to streaming. It's also the year in which studios forayed into burgeoning new-media platforms, such as social games and apps, which offer a new growth opportunity, as well as the year the industry truly embraced the idea of looking at the whole pie when referring to home entertainment."

There was a transition from physical media to digital delivery, from brick-and-mortar rental to alternatives like Netflix and Redbox, from 2D to 3D. Perhaps most significantly, 2010 saw a transition from what had always been a consumer product to a consumer experience -- the experience of watching a movie or TV show where, when and how you wanted to. And the cheaper and more convenient, the better.

"Given the weak economy, it's no surprise that there has been a secular shift to rental, chiefly subscription and kiosks, over the past year," said Craig Kornblau, president of Universal Studios Home Entertainment. "Looking ahead, one of our biggest challenges will be finding lucrative ways to offset this loss in sell-through by aggressively growing our VOD and iVOD businesses. Additionally, marketing will continue to be very critical to our success in educating consumers about their options."

In terms of offering cheaper and more convenient home entertainment, no one did it better than Netflix, the subscription rental service that pushed past Blockbuster to become the No. 1 renter of prerecorded media. By the end of the year, Blockbuster had filed for bankruptcy, while Movie Gallery, the nation's No. 2 brick-and-mortar rental chain, had liquidated.

At the time of Blockbuster's September bankruptcy filing, Netflix's share of the rental market was not only significantly bigger than Blockbuster's but rivaled that of the entire brick-and-mortar sector. By then, Netflix had an estimated market share of 36 percent, according to Home Media Magazine market research. Redbox, with its chain of more than 20,000 rental kiosks, had 25 percent, Blockbuster had 22 percent and other retailers, mostly independents, had 17 percent.

The studios' attitude toward Netflix and Redbox changed from outright hostility to grudging acceptance. Indeed, as 2010 began, much of Hollywood was embroiled in litigation with Redbox on the grounds that the proliferation of dollar-a-day rental kiosks was cannibalizing the sell-through business. By the end of the year, however, most major studios had deals in place with both rental services that called for a 28-day delay in new-release rentals in return for vastly discounted prices. Netflix also launched a streaming service, giving consumers the choice of getting movies on DVD, Blu-ray Disc or over the Internet.

Marmaduke takes a cynical view of Hollywood's dealings with the nontraditional rental dealers. "2010," he said, "is the year the studios' favorable prices to Netflix and Redbox came back to bite them."

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Indeed, delaying the availability of new releases to Netflix and Redbox hasn't had much of an impact on the sell-through business. DVD sales continued to suffer as 2010 progressed. But on the bright side, Blu-ray Disc sales soared, posting a healthy year-over-year increase of 80 percent as of the end of September, according to DEG figures. In December, Inception generated 65 percent of its first-week sales from Blu-ray, a record for a high-profile new release. And during the Black Friday consumer shopping frenzy, Blu-ray Disc players, many of them selling for well below $100, were the sleeper hit, with sales of more than 400,000 units, a 50 percent increase from Black Friday 2009.

"It's undeniable that DVD sales have softened, but Blu-ray will remain a growth area into the future," said David Bishop, worldwide president of Sony Pictures Home Entertainment. "As HDTVs increasingly become a staple in worldwide households, the hunger for high-definition content will continue to feed strong growth in the Blu-ray market."

Studio optimism for Blu-ray is fueled by the arrival of 3D for the home, using the Blu-ray platform to re-create the 3D theatrical experience that has been such a bonanza for movies on the big screen.

"The biggest story of 2010 for our industry was certainly the launch of Blu-ray 3D," said Lori MacPherson, executive vp and GM of Walt Disney Studios Home Entertainment. "The opportunities that it presents for creative and immersive in-home entertainment are immense."

Digital delivery, like Blu-ray, posted impressive gains in 2010. The download-to-own market, which rose 37 percent to $432 million in the first three quarters of the year, remains dominated by Apple iTunes. But the streaming, or VOD, market -- which posted a 20 percent increase to $1.2 billion during the same time frame -- has flourished on both cable and the Internet.

Netflix has solidified its position as one of streaming's biggest drivers, chiefly through an inexpensive monthly plan that lets customers stream movies as well as rent physical discs. In November, Netflix launched a streaming-only plan in the U.S., two months after bowing a similar plan in Canada. Netflix says that more than 60 million consumer electronics products have been sold this year featuring Netflix streaming, ranging from Xbox consoles to Blu-ray Disc players -- a total of more than 200 different third-party devices.

But these impressive gains certainly don't mean the disc is dead, or even dying.

"A business that serves its customers well and remains flexible during times of transition or technological innovation does not just evaporate," MacPherson said. "Through our various product offerings and distribution partners, we are focused on providing our consumers with what they want, when and how they want it."

As an example, she cites the "combo pack," which Disney pioneered. Combo packs include a DVD, Blu-ray Disc and digital copy of the same movie, "providing greater value and usage opportunities for families," MacPherson said.

"Packaged media still reigns supreme in the home," Kornblau added. "It is clear that consumers continue to remain highly engaged in our category, as evidenced this year with the enormous success of several tentpole titles like Despicable Me. Total transactions across both physical and digital are up slightly from last year, continuing the upward trend we've been seeing for the past several years. Equally telling is the fact that physical discs accounted for more than 80 percent of consumer dollars spent this year -- a number that we don't expect will shift substantially in 2011."

"Packaged media is not dying," added Steve Nickerson, president of Summit Home Entertainment. "It is simply a very large, but mature, product category that is being affected by newer consumer options that are in their early stages of adoption."