Netflix, Qwikster and Hollywood

Note: This post has been updated. See below for details.

Netflix is splitting its DVD and streaming businesses into two companies and people are hopping mad about it. I’m not surprised, though, because the root cause of all this trouble is something we’ve seen before.

Let’s start with an assertion that we can all agree on: Netflix wants to deliver movies and TV shows over the Internet. That’s the future and we all know it. However, their contracts are coming up for renewal and the studios are demanding massive increases in licensing fees. To top it off, Starz announced that they’re not renewing their re-licensing deal with Netflix.

Netflix is stuck: they’ve built this amazing infrastructure that can pump out huge amounts of video over the Internet, but “Big Content” won’t agree to let Netflix stream their content… unless, of course, Netflix agrees to the same odious terms that Big Content tries to foist upon everyone: tiered pricing, a cut of Netflix’s revenue and pay-per-view.

In short, Big Content is doing to Netflix what they did to iTunes a few years ago: shaking them down for better terms by threatening to poison the well if they don’t get their way. This really shouldn’t be a shock to anyone. Big Content’s own ideas of digital distribution systems have always had several characteristics in common: complicated licensing models, tiered pricing and pay-per-view. (You may read all of these things as “lots of different entertainment lawyers sticking their fingers in the pot”.) Consumers, on the other hand, want the opposite: simple licensing models, flat pricing and “all you can eat” viewing. Big Content has historically ignored the concerns of music and movie lovers and the result has been digital distribution platforms (e.g., Pressplay and MusicNet?) more labyrinthine than a Thomas Pynchon novel.

We’re locked into a strange cycle: everyone (Hollywood, Netflix and consumers) wants to pay for content on demand, but Big Content’s own efforts are terrible. Along comes a new player like Netflix (or, several years ago, iTunes) and introduces a system with a simple pricing and licensing model. The market flourishes and sucks energy out of piracy – why go to the trouble of pirating when you can just watch it right now for a reasonable price? – but when the contracts run out, Big Content tightens the noose and insists on tiered pricing, a cut of revenues and pay-per-view exclusives.

If you keep your eyes on Netflix over the next couple of years, you’re going to see most or all of this happen.

What has all of this to do with their DVD business? Well, it’s still a good moneymaker, but it’s clearly a secondary choice for subscribers. (Raise your hand if you’ve had a Netflix DVD sitting on your coffee table for more than a month.) So Reed Hastings is splitting the two businesses to insulate the revenues of the DVD business from Hollywood. There’s no way in hell he wants to do this, but if Hollywood can get a toehold into Netflix’s DVD business, they can dictate terms to them on DVDs, too.

If Hollywood were smart, they’d find a way to force all copyright-holders to follow a common licensing scheme so that they could build a decent digital distribution system. If they did, though, they’d find themselves skewered on their own knives in the same way a few years later.

Update, 10 October: It looks like after major customer outcry, Netflix is keeping their DVD business.