Blockbuster and the $50 million deal it turned down

On 19 October 1985, David Cook opened a video rental shop in Dallas, Texas. It had around 8,000 VHS tapes and 2,000 Betamax tapes on the shelves. He called it Blockbuster Video.

Nineteen years later, Blockbuster had about 9,094 stores around the world and around 84,300 employees. Friday night for millions of families meant a trip to the blue-and-yellow shop. In 2010, it filed for bankruptcy.

The story usually told is short: a little company called Netflix offered to sell itself to Blockbuster, Blockbuster said no, and Netflix ate it. That is roughly true — and it is the least useful part of the story.

The offer

In 2000, Netflix was a small company renting DVDs by post. Blockbuster had the chance to buy it for $50 million — and turned it down.

In hindsight it looks like one of the worst decisions in business history. At the time, it looked sensible. Blockbuster was a household name with thousands of stores. Netflix was a young, small business with an unproven model. Most executives in that position would have said no.

The real mistake was not saying no to one deal. It was what Blockbuster did — and did not do — over the next ten years.

Lesson one: know which part of your income customers hate

A large part of Blockbuster's profit came from late fees. Customers paid them, but they resented them. When the company was sued in Texas over its late fees, it settled in 2002, and the settlement included late-fee refund coupons.

Netflix built its whole pitch around that resentment: keep the DVD as long as you like, no late fees. When Blockbuster finally launched a 'No Late Fees' campaign in 2005, it ran into lawsuits from more than 40 US states over how it was presented.

If a big part of your income comes from something your customers dislike — surprise charges, hard-to-cancel contracts, small print — a competitor will one day make 'we don't do that' their headline.

Lesson two: Blockbuster did fight back — then stopped

It is a myth that Blockbuster ignored the internet. It launched Blockbuster Online on 11 August 2004, at $19.99 a month for up to three DVDs at a time. In 2007 it added Total Access, which let online customers swap a DVD for a free rental in a store.

It worked. Subscribers passed 3 million in 2007, and the two companies settled a legal dispute that year, with Blockbuster making a payment to Netflix.

But Total Access was expensive: each free in-store swap cost Blockbuster around two dollars. Under new leadership, the free-movie offer was ended to protect profits, and the online growth stalled. The company chose the short-term numbers over the thing customers were actually signing up for.

Lesson three: the shop was the anchor

Blockbuster's strength was its stores — thousands of leases, staff and stock. That same network made it slow to change. Every customer who moved online was a customer the stores were no longer earning from. Meanwhile, Redbox rental kiosks were taking the cheap end of the market, and streaming was arriving at the top.

On 23 September 2010, Blockbuster filed for Chapter 11 bankruptcy with around $900 million of debt. In April 2011, the satellite TV company Dish Network bought what was left for $320 million. The last company-owned US stores closed between November 2013 and January 2014. The UK shops closed in December 2013.

One franchised store, in Bend, Oregon, is still open.

What a small business can take from it

1. Listen to the complaint behind the payment. If customers pay a charge but complain about it, treat that as a warning, not a win.
2. Give new ideas time. Blockbuster's online service was growing until it was cut back for short-term savings.
3. Watch the cheap end and the new end. Redbox and Netflix attacked from different sides at the same time.
4. Do not confuse your assets with your business. Blockbuster's business was helping people watch a film on Friday night — the shops were only one way of doing that.

Blockbuster did not fail because one meeting went badly in 2000. It failed because, for ten years, it kept protecting the way it made money instead of the reason customers came.