Steve Swasey interview - Part 2

Are new users coming to Xbox Live solely because of the ability to stream Netflix? I have a friend who isn't a gamer, but she bought an Xbox 360 just for Netflix. Is that astat you can track, new Xbox users coming just because of Netflix? I guess that might even be a question for Microsoft.

It might be a question for Microsoft. It is kind of the same question you asked me earlier which I kind of ducked.

You aren't releasing numbers, right.

But we have heard anecdotally that people are doing that. Obviously, at $199 and then a $50 a year membership -- so for $250 you get not only the streaming instantly from Netflix but a great game console. If you are in the market for a new device to plug into your TV, you have the Roku which is $100 and plays Netflix and also has Amazon on it, or you have Blu-ray disc players that play discs, and then you have a game console in the Xbox 360.

Some people choose the Blu-ray disc player because they want all Blu-ray. Some people choose the Roku because it is the low cost leader. And then some people choose the Xbox because it has the instant watching functionality form Netflix, but it also has the great games and all the other stuff that an Xbox comes with if you have the gold membership; you know, the marketplace, and you can download movies there, too.

So it is really depending on what each individual consumer's tastes and desires are.

Are Netflix films available in HD when you are streaming them?

Some. We have several hundred available out of the 12,000 movies and TV episodes. But what is in HD, it is really brilliant. A lot of the TV shows like The Office is HD and other TV episodes that are filmed in HD. But we have not converted the whole catalogue to HD. That is a time consuming process that we just haven't taken on. But if the source material that we get is originally in HD, then we just stream them in HD.

How long did it take when Netflix first started working with Microsoft before we first saw it available on the system? Was that a long period of time? Was it relatively quick?

I am going to kind of duck that one Kevin. It is all relative. Netflix has been around for 10 years. We announced this functionality a little more than a year ago, so in that regard it was pretty quick.

Did Netflix have to revisit all of your agreements with studios when you were like, "OK. We are going to start streaming on a game console," or was that already covered under the streaming agreement that you guys have with them? Because everything seems to have been available, but I remember, for a brief period some Sony films were not appearing on the service and then they were restored.

Each title is its own contract and its own negotiation. Netflix has more than 100,000 titles available on DVD. And the catalog for instant watching is more than 12,000 movies and TV episodes. So it is a smaller catalogue, but it is growing obviously. But then, remember this. When we started streaming in January of 2007 on the PC only, we had about 1,800 titles. And now we have more than 12,000 movies and TV episodes. And we have been at 12,000 for a number of months. So in about two years we have scaled from 1,800 to 12,000. And that is commensurate with the growth of DVD.

When we started the subscription service at Netflix in September of 1999, we started it with 3,790 titles. So just less than 4,000 titles on DVD in 1999; now more than 100,000 titles. So we have incrementally cloned the title count on DVD year, after year, after year for 10 years up to 100,000.

So it is not the same ratio exactly, but 1,800 titles to more than 12,000 in two years is pretty good growth. Now as I said, each negotiation is its own entity, so some titles come and go. It is part of the ebb and flow of title availability for streaming because it is a different license, as you know, to stream something and put it out over the Internet. It is more similar to a broadcast license than straight purchase of a DVD.

Speaking of DVDs, the studios have been slightly worried because DVD sales have been dropping. Netflix obviously has seen how popular the streaming has become. Physical media just seems like it will eventually drop by the wayside. Does Netflix see it that way?

The answer to your question is yes, but immediately amended by, "That is a long time from now." If you see Netflix as a three act play, right now we are in the early minutes of the 2nd act, act two being the bundles service of both DVDs by mail and Blu-ray by mail and instant watching.

The first act was all DVDs and the third act will be all streaming. But the third act is a long time away, because we believe that the growth of DVD rental with Netflix will go on. We will continue growing the DVD rental business and Netflix for another 4-9 years at least. And then there is going to be another 10 years or so of continued adoption, albeit on a downward trend.

So we are looking at maybe 20 years more of DVD rentals, which is really consistent with CDs. CDs peaked at retail in 2000. But they continued to grow in sales at Amazon until 2006. So CDs just peaked at Amazon about 2 ½ years ago, and yet people are still buying CDs. So the physical medium isn't dead. With iTunes, and MP3 players, and everything else, the CD medium is still alive and is still vibrant. But you don't see Sam Goody, and Tower, and Virgin. So you don't see the physical stores anymore, but you still see them being sold online nine years after the peak.

So we think the same is going to hold true for DVDs. Now the reason the DVD sales are down is because we are in the worst economic recession that we have been in in our lifetime and maybe even in many of our parents' lifetimes. We kind of forget this notion of their being a recession going on.

If you were at the grocery story eight months ago and there was Monty Python and the Holy Grail sitting there for $15.99, you nab it. If you are at the grocery story today and She's Gotta Have It is sitting there, you know, Spike Lee, great movie. But you know what? "My friend has been out of work for six months. I am not going to buy that." That is what is going on with DVD sales. It is not that people are not interested in the medium. It is that there is a recession.

But movie studios have also been reporting a record year. And that has also been sort of attributed to the recession. People are like, "We want to get out of the house and not think about our problems."

Entertainment has always done well in poor economic times. The Great Depression was one of the golden eras for Hollywood movies. My parents tell me about it. They lived through the Great Depression. They are in their 80's. For 25 cents they would go to a double feature on a Saturday afternoon and forget about being poor.

So I am very bullish on the entertainment and film industry, and we are seeing great movies. The box office is up. Netflix is up. And I think that the DVD sales decline is mostly due to the recession. I think people are still interested in collecting the physical goods, and they will be, although on a downward trend, just like CDs are on a downward trend. But the rental of DVDs we believe is going to grow for up to another decade and then of course be prevalent as they go into decline. So we think we are going to be sending physical goods until 2020-2030.

A couple of years from now we will be talking about being in the middle of Act 2. And then a decade from now we will be talking about being at the end of Act 2. And then sometime around ... I can't give a specific date, but you get the idea. We will be in Act 3 when we are streaming only and there is no physical disc.

My kids will be cleaning out their attic and they will say, "What was this round silver disc? Did you go skeet shooting with it?"

One thing that you can't bring really to the streaming experience is all the extra materials; the director's commentary, etc. Are there plans to try to offer that via streaming or is that just too big of a hurdle?

The encoding process is time consuming and relatively costly for taking the source material, putting it on digital, and then streaming it. That is another benefit of the DVD. There hasn't been that much demand for it, because most people that watch that tend to watch it over and over. The people that watch the director's commentary, and the outtakes, and the subtitles and all that, not the subtitles for translation but the director's commentary overlaying of the film, like a trivia track, those tend to be the real movie buffs that will watch it over and over again. So they are happy with the DVDs. They can just keep plugging the DVD in.

So there hasn't been very much interest expressed at all in streaming all the extra features.

When you were talking about disc based movies, obviously disc based games are a big concern for gamers and they are expensive to purchase. The rental market is pretty robust. Gamefly has a similar model to Netflix. Has Netflix talked about getting into the game space at all or is it just going to focus on movies?

We are not interested in games. It is a whole different economic model. Games have a shorter shelf life. A great movie, like The Conversation from 1972, is still a great movie. But a video game from 10 years ago is toast.

Having said that, I would love to see a game based on The Conversation where you have to eavesdrop on someone. That would be a great game.

Yeah. It is one of my top favorite movies of all time. I am glad you appreciate it Kevin. It is a good one.

It's a great movie. People seem to forget. It came out inbetween the Godfather movies, but it's still Francis Ford Coppola. That movie was nominated for Best Pictures and he lost to himself, with Godfather, Part II.

Exactly. I don't know if you know David Leonhardt from the New York Times. He writes economic columns on Wednesdays. He did a story a number of years ago. He asked me to check into a movie from the early '70s that would not have any life if not for Netflix. So I did some research on one of my top five movies, which is The Conversation.

Anyway, he led his column with an anecdote about The Conversation being one of Coppola's favorite movies that nobody heard about. And so Coppola called our CEO Reed Hastings and invited him to lunch. And I told Reed, "Did you tell him that I was the one that sent Leonhardt The Conversation as one of my top favorite movies? Can I come to lunch with Coppola?"

Well, I will close this one out with that. And maybe he will at least send you a case of his wine or something like that.

I'd buy it anyways. It is good wine.