How Blockbuster Changed The Rules

By Daniel Kadlec

For years, visiting the neighborhood Blockbuster to rent a movie was a bit like watching Geraldo Rivera open Al Capone's vault. Great expectations gave way to dejection as you learned that any valuables inside were long gone.

No more: these days Blockbuster is stocking its shelves with three times as many copies of new releases and guaranteeing that such hits as Good Will Hunting will be in stock, or next time they're free. It is making other customer-friendly changes too, like lowering the price on older movies. The company is backing it all with a $160 million advertising blitz that features a chorus of blue Blockbuster boxes driving home the point with their rendition of I'll Be There.

Seem like a fuss? It is--a long-overdue fuss. About two years ago, the video-rental business began fading faster than Godzilla. Remarkably, the decline had little to do with new technologies like video on demand, long thought to be the industry's Death Star. The threats from technology persist. But it was management, not technology, that caused so much corporate pain and so many customer complaints. After all, how many times are you willing to go out for Titanic and come back with The Poseidon Adventure? Eventually you just stop going out. And that's exactly what happened: traffic slipped, new memberships decreased, and in April 1997, Blockbuster revealed that earnings had sagged 20%.

Blockbuster's troubles were destroying the synergistic dreams of its parent, media giant Viacom (1997 sales: $13.2 billion), owner of Paramount Pictures, Nickelodeon and MTV. Viacom CEO Sumner Redstone bought Blockbuster in 1994 from billionaire Wayne Huizenga for $8 billion, figuring that the retail stores would be a natural outlet for Viacom's films and music. But by mid-1997, with Viacom's stock stuck to the floor, Redstone had to implement drastic measures, including a $323 million charge at Blockbuster. The charge reflected an unsuccessful attempt to expand Blockbuster's sales by emphasizing music, candy and comics and moving the company to Dallas from Fort Lauderdale, Fla., at the behest of former CEO Bill Fields.

More important, Redstone had to find someone to fix Blockbuster before it did more damage. He chose John Antioco, a retail veteran who knew the problem firsthand: Antioco could never find the films he wanted either. "The dynamic of going to a video store expecting not to get what I wanted was finally enough for me to stop making the trip," he recalls. "What other business treats you like that?" Perversely, customers got so used to the abuse that it became easy not to give them what they wanted. "Managed dissatisfaction," Antioco called it. He is no stranger to making unhappy customers whole. Previously he cleaned up convenience-store retailer Circle K before moving on to run Taco Bell.

Little more than a year after stepping in, he has delivered a series of hit moves. Says Redstone: "He's great. Hiring John was as good a management move as I have ever made." Gone are the days when Blockbuster would send 1 in 5 shoppers home empty-handed while leaving scores of others disappointed. Worldwide rental revenues at stores open more than a year were up 13.3% in the second quarter. A year ago, they had slipped 3%. Active memberships have risen 7%, and internal customer-satisfaction surveys have rebounded to an all-time high.

Then there is the number that really catches Redstone's eye: Viacom stock has more than doubled in 12 months, to about $66. The run has been fueled by other developments in Viacom's vast empire, including the sell-off of most of book publisher Simon & Schuster for $4.6 billion, and a hot streak of hit movies, including Titanic. But it would not have been possible without the turn at Blockbuster, which contributes a third of Viacom's annual revenue.

Antioco's strategy is deceptively simple: stock more of the new releases that customers want. Before Antioco, the average Blockbuster customer had to visit a store five consecutive weekends in order to get the movie he wanted. To change that, Blockbuster had to overhaul its business model. In the past the company bought tapes from the studios for about $65 apiece. Because each store has 10,000 tapes, the inventory got expensive, thus limiting the company's willingness to invest in too many copies of one film. Now Blockbuster has revenue-sharing deals with all but a couple of major studios. The deals dramatically lower Blockbuster's up-front costs to about $6 a tape. In exchange, Blockbuster hands over roughly 40% of rental revenue.

The strategy could backfire by cutting profit margins, but Blockbuster is committed. It invested $50 million in a revenue-sharing experiment last year and was thrilled with the results. The company has moved quickly. Last quarter 80% of tapes were obtained via revenue sharing, up from 25% in the first quarter.

This strategy, though it has been around in some form for a decade, is worrying many independent video-rental dealers, who fear they lack the clout to make deals as beneficial as Blockbuster's. "We're at a disadvantage," says John Heim, owner of five video stores in Lakewood, Colo. He says he must pay 55% of revenue to a studio or a third-party broker and that the Blockbuster advantage (he competes with one two miles away) has hurt his business.

Blockbuster's recent success bears that out. The company owned barely 25% of the rental market at the start of the year; now it has a 30% share, and Antioco expects to reach his goal of 40% well ahead of his five-year target. Shirley Poulekidas, a retiree in Chicago, will help him do it. "Anytime I've looked for a new release, it's been there--since they put that sign up," she says, pointing to a guarantee billboard.

Such comments warm Antioco's heart. "It's all about the customer," he says, echoing his sincere, if not totally original, guiding principle. "I've been in retailing 27 years, and I've never seen a response like this. Retailing just doesn't turn this fast."

The reward for Antioco may be to lose his job. Blockbuster's past mishaps have wounded Viacom so deeply that the video giant is all but certain to get cut loose. Last week, underscoring that point, Viacom announced a $437 million charge to write down Blockbuster's old inventory. But the charge also clears the way for better results ahead. Redstone, who will release Viacom's second-quarter results this week, says Blockbuster's improvement should start to boost the parent company's earnings this quarter.

It is likely that Viacom will jettison Blockbuster late in 1999, probably selling it in pieces, starting with an initial public offering. Redstone is convinced that the media analysts who follow his company will never assign great enough value to Blockbuster, which should rightfully be followed by retailing analysts. Antioco insists that he is committed to Blockbuster. And his duly impressed boss, Redstone, is quick to promise that "one way or another, we'll be together forever." Now, that's customer loyalty.

--With reporting by Andrew Keith/Chicago and Aixa M. Pascual/New York

With reporting by Andrew Keith/Chicago and Aixa M. Pascual/New York