HOW NETFLIX SURVIVED DISASTER
Strategic Management and Organizational Culture: How Netflix Survived Disaster
Michael Doughty
Lethbridge College
Nov. 4, 2013
For Cheryl Meheden
BUS 1170 Introduction to Business Management
1
HOW NETFLIX SURVIVED DISASTER
2
Abstract
Netflix is the world’s leading provider of streaming media. In 2011, the company made a
strategic error that almost resulted in bankruptcy. This paper explains how Netflix survived a
devastating loss of consumer and investor confidence by examining the strategic mistakes the
company made and the three driving elements of its recovery: innovation, leadership, and a
strong organizational culture. The Netflix organizational model provides a framework for
building successful and resilient organizations in the digital age.
HOW NETFLIX SURVIVED DISASTER
3
Strategic Management and Organizational Culture: How Netflix Survived Disaster
Netflix is a company founded on innovation and visionary leadership. Since their initial
public stock offering in 2002, the company has experienced a virtually uninterrupted run of
success and growth. Along the way, they have bankrupted competitors, developed new
technologies for content delivery, and changed the way people consume entertainment. One
misstep, however, nearly ruined Netflix. Their remarkable recovery stands as an example of
how strategic management, and its connection to building strong organizational culture, is a
critical factor in the digital marketplace.
The Decision
In 2011, Netflix conducted an external analysis of the marketplace and determined that
emerging technologies such as smartphones and tablets would radically alter the way consumers
accessed digital media. They made the decision to spin off the highly profitable but low growth
mail-order DVD business into a new company called Qwikster.
The reasoning behind the decision was sound: diversification would allow Netflix to
focus on the less profitable but rapidly growing streaming business they pioneered, financed by
revenues from DVD delivery. The two companies would essentially compete against one
another, allowing consumers the opportunity to choose the delivery method that best suited their
needs.
Netflix was observing the principles of the BCG Matrix (Robbins, Coulter, Leach, &
Kilfoil, 2012, p. 218). The BCG Matrix demonstrates how growth oriented organizations need to
focus on businesses that offer the potential for high growth and high market share. Spinning off
HOW NETFLIX SURVIVED DISASTER
4
the DVD business would afford Netflix the opportunity to grow online streaming from a small
market share into a potential giant.
What Went Wrong
On July 12, 2011, Netflix announced their plan to the public. Netflix would separate
DVD rentals and streaming into two companies. Customers wanting both services would now
pay $15.98 per month, a sixty percent increase (Gilbert, 2011). People affected by the sudden
price increase expressed their anger, and Netflix lost over one million subscribers over the next
three months. On November 25, 2011, shares of Netflix were trading at $63.85 (Figure 1,
Netflix Stock Price, July 7, 2011 - Oct. 31, 2012, Google Finance, 2013). One analyst declared
Netflix “broken…and suffering nuclear winter” (McMillan, 2011). Others later dubbed the
move “Apocaflix.”
What happened? Netflix failed to implement their strategic shift in a way that customers
could understand. Miller (2007) outlines several factors important to implementing a new
strategic decision. In particular, the concept of cultural receptivity refers to the willingness of a
group of people to accept sudden or dramatic change. Change not properly communicated to its
intended audience is difficult to accept or maintain.
Put another way, Robbins, et al. (2012) describe a method for reducing resistance to
change using the concept of unfreezing and refreezing in order to implement change. While their
example pertains to organizational changes, it applies equally to changes that affect an
organizations external environment. Netflix implemented their decision without clearly
explaining the reason for the change, and did little to explain the benefits to consumers. The
HOW NETFLIX SURVIVED DISASTER
5
fallout in the months after the announcement simply reinforced the idea in consumers’ minds that
Netflix was trying to gouge them for profit instead of providing a valuable new service.
The original Netflix subscription of $9.99 per month included unlimited DVD rentals and
streaming movies online. Consumers compared the Netflix price point to competitors like
Blockbuster and saw considerable advantages. No late fees, door-to-door delivery, and a broad
selection of titles were the cornerstones of Netflix early success. In marketing, this is perceived
value: the amount a consumer is willing to pay for a product after considering all the benefits
(Kerin, Hartley, Rudelius, Clements, & Skolnick, 2012). Loyal Netflix customers were evidently
willing to pay the original price, but that value disappeared when they were asked to pay almost
double the price with less perceived benefit.
Customers quickly found alternatives such as Hulu, Amazon Prime and other on-demand
content providers to satisfy their demand. Netflix had failed to anticipate their customer’s
unwillingness to change, being entirely focused on online streaming. The company still saw
Qwikster as a viable operation, and proceeded with their plans in early September, 2011. By
September 18, 2011, Reed Hastings issued a public apology via the Netflix website, clarifying
why Netflix had made the decision and attempting to assuage consumer’s anger and confusion
(Hastings, 2011). Critics quickly dismissed the apology as half-hearted and reactionary, while
the exodus of subscribers continued (Loftus, 2011). Figure 1.1 shows the initial effect of the
Qwikster announcement on Netflix share price.
HOW NETFLIX SURVIVED DISASTER
6
07/13/11, $298.73
11/25/11, $63.86
9/25/12, $53.80
Figure 1, Netflix Stock Price, July 7, 2011 - Oct. 31, 2012
Retrenchment vs. Repositioning
Netflix was now in full reverse. Their customers were leaving for competitors and
investors were furious. Braun & Latham (2012) describe retrenchment as “any activity intended
to reduce organizational costs or assets and boost operational efficiency” (p. 15). While it is
obvious that Netflix was hemorrhaging money and subscribers, they chose not to downsize or
replace their senior management. Both would be viable tactics used by companies experiencing
rapid decline.
After issuing his apology, Hastings and his team refocused their efforts on repositioning
Netflix as a streaming entertainment company that also delivered DVD’s by mail.
“Repositioning…entails return-to-growth initiatives such as market penetration, product
innovation, new market entries, alliances and acquisitions and other longer-term actions that
sharpen the company’s competitive edge” (Pearce & Robbins, 2008).
Netflix first attempts at repositioning proved disastrous. Qwikster was scrapped within
three weeks. An attempted partnership with content provider Starz fell through. A year after the
repositioning began Netflix stock, after some recovery, had fallen to $53.80 (Google Finance,
2013).
HOW NETFLIX SURVIVED DISASTER
7
According to Braun and Latham (2012), companies faced with turning around a failing
enterprise have four possible outcomes. They can collapse by not reacting soon enough to
environmental change, then doing too little, too late to reverse their decline. Netflix early
competitor Blockbuster is an example of this. Companies can be set adrift by focusing too much
on shoring up their financial losses and not addressing their need to change and grow. We see
this in the slow recovery of the auto industry after the market collapse of 2008. Running on
empty is the opposite, where a company does nothing to shore up their financial losses and
proceeds with expansion anyway, as demonstrated by the Canadian firm Research In Motion,
makers of Blackberry. A company that executes an effective turnaround balances retrenchment
and repositioning equally and makes a comeback. Figure 2, Four Outcomes of Retrenchment &
Repositioning (Braun & Latham, 2012) illustrates this concept.
Figure 2, Four Outcomes of Retrenchment & Repositioning (Braun & Latham, 2012)
Strategic Flexibility
Why do some companies manage to recover from decline while others lose their
competitive advantage or simply disappear? Much of Netflix’ post-Qwikster recovery has to be
attributed to the organization Hastings began building in 1997. Companies that pull off a
HOW NETFLIX SURVIVED DISASTER
8
successful comeback possess three critical elements that allow them to persevere: Disruptive
Innovation, Visionary Leadership, and a flexible Organizational Culture.
Disruptive Innovation
The term disruptive innovation refers to “a product or service (that) takes root initially in
simple applications at the bottom of a market and then relentlessly moves up market, eventually
displacing established competitors” (Bower & Christensen, 1995). Early examples of disruptive
technologies include personal computers that eliminated typewriters and revolutionized business;
cell phones that replaced home phones; and digital photography, which has virtually replaced
chemical film development. Figure 3 Disruptive Innovation [.gif] (Wikipedia, 2005) illustrates
how disruptive technologies affect a market.
Figure 3 Disruptive Innovation [.gif] (Wikipedia, 2005)
While Netflix was not the first company to offer real-time video streaming online, they
developed a proprietary system that consumers preferred and for which they were willing to pay
a subscription. When Netflix decided to separate streaming and DVD delivery, consumers
perceived this as losing a service. What Netflix understood but failed to communicate was that
online content streaming was the future of media delivery. Computers, tablets, and smartphones
HOW NETFLIX SURVIVED DISASTER
9
have largely replaced the DVD format, allowing customers to view selected media without the
need for a plastic disc. Richardson (2011) argues that being the first mover to shift from DVD
delivery to online streaming represented a disruptive innovation, one that consumers did not
initially appreciate and which Netflix competitors have yet to match.
Disruptive technologies create a tipping point in the marketplace more significant than
new product innovations. Netflix has fundamentally altered how we access, purchase, store, and
engage with entertainment. Although customers initially abandoned Netflix to express their
displeasure with the Qwikster decision, they have swarmed back in recent quarters. When
presented with alternatives, customers chose to return to Netflix. What they offer is too valuable
to ignore.
Visionary Leadership
Being ready to respond and take advantage of change when it occurs is largely the result
of visionary leadership.
“…strategic vision is part style, part process, part content, and part context, while
visionary leadership involves psychological gifts, sociological dynamics, and the
luck of timing. True strategic visionaries are both born and made, but they are not
self-made. They are the product of the historical moment.” (Westley &
Mintzberg, 1989, p. 21)
As discussed previously, Netflix senior management knew that the shift to streaming
content had to happen eventually, the only question was when. They saw the emergence of new
technologies that could increase their reach and make Netflix accessible to hundreds of millions
of consumers. While their announcement may have been misguided, the reasoning behind the
HOW NETFLIX SURVIVED DISASTER
10
decision has proven sound. Seeing a coming trend and being in the best position to capitalize on
it is one definition of visionary leadership.
Visionary leadership also describes the types of activities in which managers are
engaged.
“(visionary leaders are) tuned into the internal and external
environment, the source of the vision; (they) mobilize support for
the vision, though a process of networking; be visible to those they
lead, as well as listening to, involving and developing them; build
effective teams, bringing together people with complementary
qualities and areas of expertise, clarifying and agreeing team goals
and individual responsibilities, and working interdependently to
achieve those goals.” (Manning, 2012)
When we think of visionaries, we often speak of an individual. Organizations can also be
visionary in their strategic thinking, flexibility, and ability to adapt to change. With Netflix, we
may also add the ability to persevere and pursue a vision, even when all indicators suggest
failure. By November 2011, analysts and investors were demanding change. Qwikster was
abandoned, but few changes were made in senior management. Hastings and his team were now
tasked with seeing their vision through to fruition.
HOW NETFLIX SURVIVED DISASTER
11
Organizational Culture
“Average performance is rewarded with a generous severance package.” Reed Hastings
All of the innovation and leadership Netflix displayed would have been useless if the
organization was not built to withstand change. Netflix is a dynamic, adaptable organization
structured specifically to compete in the digital age. Robbins, et al. (2012) would describe
Netflix organizational structure as highly organic. Organic organizations are less formal that
traditional models, made up of cross-functional teams with a high degree of employee
empowerment. The flexibility and creativity that allowed Netflix to pull through such a difficult
time in its history is directly attributable to the way the company hires and organizes its staff.
Hiring
In 2009, a document was posted on Netflix website entitled “Netflix Culture: Freedom
and Responsibility” (Hastings, 2009). It outlined the organizational culture of Netflix, listing
seven components important to Netflix goal. Most important of these to the Netflix culture is
hiring only those employees who best fit the Netflix vision.
”(A) great workplace is stunning colleagues. Great workplace is not espresso,
lush benefits…we do some of these things, but only if they are efficient at attracting and
retaining stunning colleagues. Like every company, we try to hire well. Unlike many
companies, we practice: Adequate performance gets a generous severance package”
(Hastings, 2009)
Hastings goes on to explain that Netflix hires, develops and cuts employees with the goal
of having “stars” in every position in the company.
HOW NETFLIX SURVIVED DISASTER
12
This aggressive approach to human resources serves two purposes. First, it lets new and
prospective employees know the kind of organization they are coming into right from the start.
Netflix asks a great deal of its employees in terms of creativity and innovative thinking. As
Robbins, et al. (2012) explain, the process of socializing and acclimating new employees needs
to begin early and should be reinforced often.
The second function of Netflix aggressive approach is to give managers straightforward
guidelines of what to look for when promoting and firing employees. Netflix uses the Keeper
Test, which asks:
“Which of my people, if they told me they were leaving for a similar job at a peer
company, would I fight hard to keep at Netflix?” (Hastings, 2009)
With this question to guide them, managers at Netflix know what qualities the
organization is looking for when considering hiring, retaining, or dismissing employees. The
company readily admits that their high performance culture is not right for everyone, and they
are very selective when it comes to their employees.
Organizing
Netflix focuses on outcomes rather than processes. This is important in a rapidly
changing digital environment where processes can become obsolete even before they are
formalized. This focus on outcomes in an organic environment means Netflix gives its
employees a great deal of empowerment and latitude in their day-to-day decision making.
Hastings belief is that as the formalization of an organization increases, the company is unable to
adapt quickly to market shifts because they are used to doing things one way. His solution to
this problem is to focus on employee performance instead of procedures. By doing this, Netflix
HOW NETFLIX SURVIVED DISASTER
13
is still able to grow, but still operate with the flexibility of a smaller firm. Figure 4, Employee
Performance vs. Business Complexity (Hastings, 2009) illustrates this concept.
Figure 4, Employee Performance vs. Business Complexity (Hastings, 2009)
Netflix describes its organizational structure as a highly aligned, loosely coupled group of
teams. Goals are clearly and broadly understood by team members. Each team focuses on
strategy rather than process, and there is a minimum of meetings between teams. In this way,
Netflix hopes to capitalize on the talented people that they hire by providing them with an
environment most conducive to innovation and managing change.
The Future
Netflix turnaround can be attributed largely to its organizational structure, designed to
compete in an uncertain environment of rapid change and innovation. After bottoming out at
$53.80, Netflix stock has made a dramatic recovery. Figure 5, Netflix Stock Price, Sept 15, 2012
- Nov. 1, 2013 (Yahoo Finance, 2013) shows Netflix 444% growth in the last 14 months.
HOW NETFLIX SURVIVED DISASTER
14
10/21/13 $354.99
09/25/12 $53.80
Figure 5, Netflix Stock Price, Sept 15, 2012 - Nov. 1, 2013 (Yahoo Finance, 2013)
Netflix operates in an environment of constant change. The company has recently started
producing exclusive original content. Their series House of Cards is the first non-broadcast
television program to win an Emmy award. Netflix subscriber base has grown from 22 million
to over 31.3 million U.S. subscribers since October 2011 (Yahoo Finance, 2013). The company
has its sights set on eventually reaching 90 million U.S. subscribers.
A company with this level of growth and volatility in their market must be efficient,
flexible, and durable in order to operate in a creative digital marketplace. Netflix vision of the
future drives its people to achieve results that defy most analysts’ predictions. Empowering
employees and providing them with the right environment allows Netflix to remain an innovative
leader in the online streaming entertainment industry.
HOW NETFLIX SURVIVED DISASTER
15
References
Bower, J. L., & Christensen, C. M. (1995, Jan/Feb). Disruptive Technologies: Catching the
Wave. Harvard Business Review, 73(1), pp. 43-53. Retrieved October 2, 2013, from
http://web.ebscohost.com/ehost/pdfviewer/pdfviewer?vid=6&sid=1a0dbaa7-336d-4a8b9cf5-a83727fd4318%40sessionmgr110&hid=120
Braun, M., & Latham, S. (2012). Pulling Off the Comeback: Shrink, Expand, Neither, Both? The
Journal of Business Strategy, 33(3), 13-21. Retrieved October 4, 2013, from
http://search.proquest.com/docview/1012564580?accountid=12064
Buschman Vasel, K. (2013, April 23). After a Solid Comeback, What's Next for Netflix?
FoxBusiness.com. Retrieved October 3, 2013, from
http://www.foxbusiness.com/personal-finance/2013/04/23/after-solid-comeback-whatnext-for-netflix/
Gilbert, J. (2011, October 12). Qwikster Goes Quickly: A Look Back at a Netflix Mistake.
Huffington Post. Retrieved October 2, 2013, from
http://www.huffingtonpost.com/2011/10/10/qwikster-netflix-mistake_n_1003367.html
Google Finance. (2013, n.d.). Retrieved November 1, 2013, from
https://www.google.ca/finance?cid=672501
Hartung, A. (2013, January 29). Netflix: The Turnaround Story of 2012. Retrieved October 2,
2013, from Forbes.com: http://www.forbes.com/sites/adamhartung/2013/01/29/netflixthe-turnaround-story-of-2012/
Hastings, R. (2009). Netflix Culture: Freedom & Responsibility. Retrieved October 2, 2013,
from http://www.slideshare.net/reed2001/culture-1798664
Hastings, R. (2011, September 18). Netflix US & Canada Blog. Retrieved October 4, 2013, from
http://blog.netflix.com/2011/09/explanation-and-some-reflections.html
Kell, E. (n.d.). Learning To Say I'm Sorry. Baylor Business Review. Retrieved October 3, 2013,
from http://bbr.baylor.edu/sorry/
HOW NETFLIX SURVIVED DISASTER
16
Kerin, R. A., Hartley, S. W., Rudelius, W., Clements, C., & Skolnick, H. (2012). The Core (3rd
Canadian Edition). McGraw-Hill Ryerson.
Loftus, T. (2011, September 19). Netflix Customers: Sorry Doesn't Cut It, Pal. The Wall Street
Journal. Retrieved October 6, 2013, from http://blogs.wsj.com/digits/2011/09/19/netflixcustomers-sorry-doesnt-cut-it-pal/
Manning, T. (2012). Managing Change in Hard Times. Industrial and Commercial Training,
44(5), 259-267. Retrieved October 9, 2013
McMillan, G. (2011, October 25). Financial Analysts Declare Netflix Broken and Suffering
Nuclear Winter. Time Tech. Retrieved October 3, 2013, from
http://techland.time.com/2011/10/25/financial-analysts-declare-netflix-broken-andsuffering-nuclear-winter/
Miller, S. (1997). Implementing Strategic Decisions. Organization Studies, 18(4), 577-596.
Retrieved October 3, 2013, from
http://web.ebscohost.com/ehost/pdfviewer/pdfviewer?vid=6&sid=13a29cff-777d-4958855a-19fd4d95fcd1%40sessionmgr113&hid=120
Pearce, J. A., & Robbins, K. D. (2008). Strategic Transformation as the Essential Last Step in the
Process of Business Turnaround. Business Horizons, 51(2), 121-130. Retrieved October
3, 2013, from http://web.ebscohost.com/ehost/detail?vid=4&sid=efdbeef4-ea51-4c5ea9abf61224dbc1da%40sessionmgr113&hid=120&bdata=JnNpdGU9ZWhvc3QtbGl2ZSZzY2
9wZT1zaXRl#db=bth&AN=29373960
Richardson, A. (2011, September 20). Netflix Bold Disruptive Innovation. Harvard Business
Review. Retrieved October 2, 2013, from http://blogs.hbr.org/2011/09/netflix-bolddisruptive-innovation/
Robbins, S. P., Coulter, M., Leach, E., & Kilfoil, M. (2012). Management (10th ed.). Toronto:
Pearson.
HOW NETFLIX SURVIVED DISASTER
17
Stewart, J. B. (2013, April 26). Netflix Looks Back on its Near Death Spiral. The New York
Times. Retrieved October 2, 2013, from
http://www.nytimes.com/2013/04/27/business/netflix-looks-back-on-its-near-deathspiral.html?pagewanted=1&_r=1
Westley, F., & Mintzberg, H. (1989). Visionary Leadership and Strategic Management. Strategic
Management Journal, 10, 17-32. Retrieved October 5, 2013, from
http://library.lethbridgecollege.ab.ca:2052/ehost/pdfviewer/pdfviewer?sid=538548c94522-4287-9d5f-0698df26ee0a%40sessionmgr114&vid=1&hid=103
Wikipedia. (2013, October 13). Retrieved November 1, 2013, from
http://en.wikipedia.org/wiki/Netflix#History
Yahoo Finance. (n.d.). Retrieved October 20, 2013, from
http://ca.finance.yahoo.com/echarts?s=NFLX#symbol=nflx;range=20110707,20121031;c
ompare=;indicator=volume;charttype=area;crosshair=on;ohlcvalues=1;logscale=off;sourc
e=undefined;