The Bonus That Killed Blockbuster

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On May 11, 2005, Blockbuster's shareholders voted the chief executive off the board.

Carl Icahn had come for three seats and won all three. The company's press release, filed with the SEC that afternoon, names the directors removed to make room, and the third name is "Chairman John Antioco" (Blockbuster Form 8-K, May 11, 2005). The general counsel then stood up and said the remaining directors intended to reconvene and put Antioco back on as chairman. Icahn's representative said Icahn supported that. The release quotes Antioco at the bottom, "I continue to believe in the business strategy we have been implementing."

The 2000 meeting

The circulating version has three people from a California startup with about 300,000 subscribers fly to Dallas and offer to sell Netflix for $50 million. Marc Randolph wrote that he watched Antioco try not to laugh (Randolph, That Will Never Work, 2019). Antioco says he "was not present at any meeting with Netflix where the subject came up" and that "there were no serious conversations about our buying the nascent Netflix business" (Next TV, 2022).

Netflix in 2000 was an unprofitable DVD-by-mail operation in a market that had just come apart. Blockbuster was a $5 billion retailer with thousands of stores. Streaming was seven years away. Passing on $50 million for a money-losing mail-order business in the fall of 2000 was a defensible call, and Blockbuster would build the same service itself a few years later.

The decision that ended the company was made in 2007 by a compensation committee.

What Antioco spent

In December 2004 Antioco ended late fees at more than 4,500 U.S. stores, effective January 1, 2005. The 10-K put a number on what the company was giving up. "For the full year 2005, we have projected that extended viewing fees would have directly contributed an estimated $400 million to $450 million in revenue and approximately $250 million to $300 million in operating income" (Blockbuster Form 10-K for 2004). The company was already carrying debt and losing money. At the same time he was funding an online rental service from scratch. Antioco later put the combined cost of the two moves at around $400 million (Antioco, Harvard Business Review, April 2011).

Icahn had a case. He had bought a large stake in a company spending like that on a plan whose payoff was years out and unproven. He said the online business cost too much and the chief executive was overpaid.

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The product that worked

Total Access launched in late 2006. A subscriber got DVDs by mail and could swap them at any Blockbuster store for another film, immediately, and still get the next one in the mail. Netflix had no stores. Blockbuster had more than 9,000.

On May 2, 2007, Blockbuster reported the first quarter. Total Access "added approximately 800,000 subscribers during the first quarter of 2007," bringing it to "approximately 3 million total BLOCKBUSTER Total Access subscribers, including approximately 2.8 million paying subscribers." Antioco called it "our highest subscriber growth quarter ever, surpassing even the initial success of the program," and guided to "well over 4 million subscribers" by year end (Blockbuster Form 8-K, May 2, 2007).

Netflix cut prices in February and again in June. On July 23 it reported that "net subscriber change in the quarter was a decrease of 55,000," against "an increase of 481,000 for the first quarter of 2007," and that "we are lowering our full-year guidance for revenue, subscribers, and earnings accordingly." It was the first subscriber decline in Netflix's history. Reed Hastings attributed the quarter to "the impact of intense competition" (Netflix Form 8-K, July 23, 2007).

The bonus

Six weeks before that first-quarter report, on March 19, 2007, Blockbuster and Antioco signed a four-page settlement agreement.

It records that Antioco's target bonus for 2006 was $3.825 million. Under the performance targets the board itself had set, he "would have received a Performance Award in the amount of $7.65 million, or 200% of the Target Bonus," subject to the board's discretion. The board then made "the Company's conditional award of $2.28 million, and its ultimate award of no bonus to Antioco" (Settlement Agreement, Blockbuster Form 8-K exhibit, March 19, 2007).

He claimed good-reason termination, the company disputed it, and they settled on a payment well below the formula amount, a reduced severance, and an exit. Jim Keyes, formerly of 7-Eleven, started on July 2, 2007.

What the next CEO did

On November 1, 2007, Blockbuster reported the third quarter, the first full one under Keyes. The release says the company made "pricing modifications to the BLOCKBUSTER Total Access offering, reduced advertising spend and minimized promotion of the program in its stores." It reports "approximately 3.1 million total subscribers at the end of the quarter," against the "well over 4 million" guided six months earlier. The release also says "the Company will no longer be narrowly focused on its online subscriber count but instead will concentrate on the growth of, and report on, its total membership" (Blockbuster Form 8-K, November 1, 2007).

None of this was announced as a strategic reversal. It was an efficiency program, and on its own terms it worked. The subscribers Keyes shed were unprofitable, and cutting a loss-making program is the ordinary thing a new chief executive does. Netflix returned to growth the following quarter, and Blockbuster filed for Chapter 11 on September 23, 2010 (Blockbuster Form 8-K, September 24, 2010).

Why this is a marketing story

The traditional version has a moral about complacency. A fat incumbent could not see the future. That version is comfortable because it blames a failure nobody can be held to.

Blockbuster saw it and built a better product, and Netflix's even thought so. Six months later the product was being wound down, and no filing records a decision to exit online rental. What the filings record is a fight about a bonus, and before that a fight about a board seat.

Declining Netflix in 2000 cost Blockbuster an option. Ending Total Access in 2007 cost it the business.

When the fight is over a comp plan or a reporting line, say out loud which product it funds and which one it starves, before the vote. And if you are funding a brand program or a new channel out of this year's margin, get the CFO and the board to write down, before the first dollar, how long they will fund it and what evidence they will accept along the way. Antioco was spending current profit on a future business. He never got the horizon in writing, and Icahn's board reset it.wn it.