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9 December 2020updated 11 Dec 2020 2:58pm

How Netflix changed the channel

The unorthodox philosophy that transformed a struggling mail-order DVD company into one of the tech industry’s great powers. 

By Ian Leslie

Early in 2000 Reed Hastings and his business partner, Marc Randolph, took the lift up to the 27th floor of a Dallas skyscraper and were ushered into a cavernous meeting room. Hastings recalls being “a nervous wreck”. After months of seeking a meeting, he and Randolph had finally been summoned to the executive headquarters of Blockbuster, the video and DVD rental chain. They were supplicants at the court of a monarch.

Blockbuster was a giant of the home entertainment industry: at its peak a $5.9bn business with 9,000 stores; a fixture of high streets around the world. Hastings and Randolph were the co-founders of a little known two year-old business that enabled people to rent DVDs from a website and have them delivered by mail. Netflix had around a hundred employees, a few hundred-thousand subscribers and, although the company was growing fast, millions in losses.

Once seated at the endless glass table, Hastings put his proposition to Blockbuster’s CEO, John Antioco: that Blockbuster buy Netflix. In return, Hastings and Randolph would help develop Blockbuster’s online service (Blockbuster had already made some stumbling efforts in that direction). The conversation was polite but brief. Hastings made his pitch, Antioco asked his price, and when Hastings said $50m, the meeting was effectively over.

You probably know something about what happened next. Blockbuster went bankrupt ten years later and has since been wiped off the face of the Earth. (Well, not quite: there is one store left in Bend, Oregon. It still rents out DVDs although it is currently listed on Airbnb as a venue for socially distanced movie nights.) Netflix, on the other hand, continued to grow – and grow. It now has more than 200 million subscribers and is worth over $200bn.

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Netflix’s history has been marked by a consistent willingness to shape-shift and adapt. Around the time of the Blockbuster meeting, it introduced a subscription model: rather than paying for each DVD they rented, consumers now paid a monthly fee and ordered as many as they wanted. As technology advanced, Netflix shifted from DVDs to digital streaming, which enabled consumers to watch anything they wanted from its library of shows and films, any time they chose, on whichever device was nearest to hand – still for less than $10 a month. That was a compelling proposition, even if the selection of films and shows it had to offer was less than inspiring. In 2013, Netflix addressed this problem by becoming a creator as well as a distributor, making content rather than just licensing it from film and TV studios.

It did so in style, investing heavily in production, hiring talented creators and giving them free rein. Like its previous gambles, this one paid off handsomely. Netflix has joined the ranks of the tech industry’s great powers. The company’s valuation sharply increased this year as investors bet that consumers will never fully resume their former habit of leaving the house now and again and will instead spend even more hours mainlining shows such as Stranger Things, The Crown, Tiger King (all Netflix originals) and movies made in the grand Hollywood style, like Martin Scorsese’s The Irishman (Netflix not only distributed the film but financed it – estimates of the film’s budget vary from $150m to $250m). To date, Netflix has won 112 Emmy awards and two Oscars – a strange thing to say of a former mail-order company.

***

It is quite possible that had Hastings and Randolph made a successful pitch that day, we would now be talking about the remarkable transformation of a chain of video rental stores into a rival to Disney and Apple. Why did Blockbuster miss its opportunity and very publicly fail? It did not lack for financial clout or brand recognition. It is not as though its executives didn’t know the internet existed – after all, Antioco took the meeting with these online entrepreneurs.

No Rules Rules: Netflix and the Culture of Reinvention is, in part, Hastings’s attempt to learn from Blockbuster’s mistakes. He argues, in essence, that companies like Blockbuster fail because success makes them stupid. They might start off by promoting good ideas and talented people, but as they grow and ramify they succumb to a kind of corporate entropy. An ever-proliferating thicket of rules and policies constrains the freedom of their employees. Managers, myopically focused on financial goals, hire mediocre people rather than paying for talented ones. The result is an excessively bureaucratic, intensely political organisation in which the only people who get ahead are those skilled at taking credit, avoiding obvious mistakes, and telling the boss what he or she wants to hear instead of the truth.

As Netflix has expanded, Hastings, its CEO (Randolph left the company in 2003), has become obsessed with avoiding such a fate. No Rules Rules is barely about business in the conventional sense. Hastings does not discuss the economics of streaming or the maintenance of profit margins. Neither does he weave a story around his prescient decisions (the only decisions he dwells on are his own errors). Insofar as he takes credit for Netflix’s success, it is for creating a company in which employees never feel constrained by corporate rules and are compelled, above all, to be honest with one another.

The book is co-authored with Erin Meyer, a management scholar who specialises in corporate culture. Meyer plays the part of an objective witness: she interviews Netflix employees to check out whether the company walks Hastings’s talk and probes Hastings to see whether he has fully thought through his own philosophy. Of course, she discovers it does and he has, but however glib the device might seem it does at least introduce a note of scepticism and self-interrogation entirely absent from most books in the genre.

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In place of the rules-based culture of big organisations, Hastings has sought to cultivate an ethos of personal responsibility and shared expectations. For instance, Netflix has no vacation policy. Employees can take holidays whenever they want, and of whatever length they want, on the understanding that they won’t inconvenience their team or undermine the business. Nobody signs off holiday requests or tracks how many days off people take. Of course, one unintended consequence of this could be that without allotted days off, employees end up not taking any at all, working themselves to the edge of exhaustion in an effort to impress their bosses. Hastings, who notes that people often do their best thinking about work when they are far away from it, has sought to mitigate this danger. He and his executive teams set the example. They take a lot of holidays, and they circulate the evidence: postcards from Lake Tahoe, slide-shows of Spain. Hastings himself takes at least six weeks off a year, which is, to put it mildly, not the norm among American CEOs. His employees follow suit; one tells Meyer that at first he felt guilty about how little time he spent at work compared to previous jobs, but he got used to it.

There are no expense approvals either – employees can spend the company’s money however they see fit, which means they can move quickly and decisively. Occasionally, someone might enjoy this freedom a little too much, stay in the most expensive hotel in town and invite their family to join them (it has happened). That person is liable to get fired. Hastings accepts that some people will be irresponsible but prefers to deal with those situations individually rather than create rules that are more difficult for everyone else. It’s a useful principle – that it is better to punish instances of cheating than to punish everyone in an attempt to prevent it. Perhaps it is not too much of a stretch to see how it might extend to state benefits systems. Welfare fraud is a real but greatly exaggerated phenomenon; successive governments have dealt with it by creating a Byzantine set of rules for claiming that makes life miserable for the honest majority of claimants. That seems the wrong way around.

The essential ingredient of the Netflix culture, as described by No Rules Rules, is truth-telling. At Netflix, “it is tantamount to being disloyal to the company if you fail to speak up when you disagree with a colleague or have feedback that could be helpful”. Helpful feedback here means, essentially, telling people what they’re doing wrong, and not just when a problem becomes impossible to avoid, but in day-to-day interactions. One employee tells Meyer about the time she was giving an important presentation to a room full of senior executives when she was interrupted by a close colleague and friend at the back of the room, who told her she was speaking too fast and garbling her words. Rather than feeling humiliated and furious – which would have been my reaction – she felt grateful. I guess the difference is that once you establish a culture in which such interventions are normal, then the humiliation – and thus the anger – goes away.

Still, you may find the prospect of working with colleagues who feel compelled to tell you how you are screwing up a horrific one, in which case perhaps Netflix is not for you. But Hastings and Meyer believe remorseless candour is crucial to collaboration, as without open criticism and disagreement, problems get hidden and mutual frustrations channelled into passive-aggressive office politics. They repeatedly stress the need for truth telling to go both ways – up as well as down. Hastings and his senior colleagues ask their staff, however junior, to tell them what they’re getting wrong, and they openly discuss the negative feedback they receive. Judging from some of the anecdotes and emails that Meyer cites, the invitation is widely taken up. In meetings, new joiners are often shocked when the boss gets taken to task by a junior employee.

The principle of internal openness extends to company secrets. Almost uniquely for the boss of a big company, Hastings believes in giving staff access to anything to do with the business, even the kind of financial information that would crash the share price were it to leak. In most companies, high-level discussions about possible restructurings or lay-offs are not aired until the bosses are ready to make an obliquely worded announcement about it, and executives at most companies feel that bending the truth is sometimes the only course of action available. But for Hastings the longer-term cost of secrecy and obfuscation outweighs the short-term benefits.

What if, asks Meyer, an executive you are firing – someone essentially decent who is just not quite up to the job – asks you to let everyone know he is leaving of his own accord? Hastings says he would refuse. The ruthlessness is made palatable by an absence of cant. Hastings rails against business leaders who speak about how their company is like “a family”. A business, says Hastings, should be more like a sports team: an intensely collaborative environment but one where players are bought and sold according to how much they can contribute to the overall effort rather than the affection they inspire. Talking about the company as a family, he says, is dishonest, a form of spin. “Spinning the truth is one of the most common ways leaders erode trust. I cannot say this clearly enough: don’t do this. Your people are not stupid.”

Again, you wonder if this principle might apply beyond business. What if politicians made a habit of telling the truth even when it is uncomfortable do so? They would be hammered by the press, of course, but perhaps, over time, the ones who did it bravely and skilfully might win back some respect. Voters are not stupid.

***

Like many Netflix shows, No Rules Rules would be better if it was shorter, but it is still an unusually readable business book. Hastings doesn’t pretend that his laissez-faire management philosophy is a universal formula for success, only that it has worked for him and might work for other companies that rely on innovation (the refusal of rules wouldn’t work so well in, say, an airline, or a bank). Nor does he offer homilies on the social purpose of his company, as is fashionable among his Davos-haunting peers. This does, however, leave open the question of what Netflix is for, other than making money.

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We know it is for global expansion. After conquering its home country (two thirds of American households have a subscription), Netflix is set on becoming the mainstay of the world’s entertainment diet. The UK is its second biggest market after the US, but the company’s energies are directed at vast untapped reservoirs of consumer attention in emerging economies such as Brazil and India (it has stayed out of China). It is even investing in upgrades of broadband infrastructure in those countries, in what has been termed a “worldwide Marshall Plan for premium home entertainment”.

Netflix does not exist to delight us. We naturally compare it to Disney and HBO, but Netflix’s “quality” shows are only a small proportion of its output – the majority of its content, homegrown or licensed, is wallpaper TV that we can have on while doing other things. It also relies heavily on content made by rivals: The Office, made by NBC, based on a BBC sitcom, has been a perennial fixture in Netflix’s most streamed shows in the US. (The show will be removed from US Netflix in January 2021, when the current deal with NBC expires: it will then move to NBC’s own streaming platform.) Rather than being a creative powerhouse on the Hollywood model, Netflix more closely resembles Facebook or YouTube in its aggressive pursuit of attention, even when that attention is only partial. It deploys the behavioural tricks of Silicon Valley, such as autoplaying the next episode in a series so that the viewer has to make a conscious effort to stop watching.

This craving for eyeballs may seem mysterious given that, unlike network TV or social media apps, Netflix does not make its money from advertising. But the more that consumers watch, the more Netflix learns about how they watch: not just which shows they like but how and when they like to watch them; what keeps them hooked and what turns them off. Having said that, the idea that Netflix is above all a data-driven company is probably exaggerated, not least by Netflix. Its personalised recommendation algorithm is not notably personal, and it has not discovered a secret formula for creating laser-targeted hit shows. The Queen’s Gambit, now its “most watched” miniseries (the company is very selective about which audience statistics it makes public, and counts the viewing of two minutes of a show as a “watch”), was conceived in the traditional way. Director Scott Frank read a novel about a female chess prodigy, decided it would make a great show, and Netflix gambled he was right.

Perhaps all we can say for sure is that Netflix is for more Netflix. Its ambition is immense and a little unsettling. The company’s self-defined competition is not merely Amazon Prime, or cable TV or video games, but “all the activities that consumers have at their disposal in their leisure time”. The latter is from a passage on Netflix’s corporate website. It continues: “This includes watching content on other streaming services… but also reading a book… socialising on Facebook, going out to dinner with friends, or enjoying a glass of wine with their partner, just to name a few.” One of Netflix’s shows is Charlie Brooker’s Black Mirror (originally from Channel 4) and there is something Brookeresque about a technology company openly declaring war on human conviviality. With a little help from Covid-19 it may just emerge victorious. 

No Rules Rules: Netflix and the Culture of Reinvention
Reed Hastings and Erin Meyer
Virgin, 320pp, £20

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This article appears in the 08 Dec 2020 issue of the New Statesman, Christmas special