Redbox's machines take on Netflix's red envelopes

Mitch Lowe, Redbox's president, came to the company after six years with Netflix, where he was vice president of business development. While at Netflix, he managed one of the company's competitive advantages: a popular system that recommends lesser-known movies to subscribers based on ratings for films they've already watched. That helps Netflix's 10.3 million customers sift through 100,000 movie titles.

In contrast, Redbox machines carry about 700 discs with 200 titles, mainly recent releases, and rely instead on the $1 nightly rate to encourage people to experiment. Four million people have swiped a card at one of the kiosks in the past month.

Another difference: Because Netflix pays postage twice for every DVD it rents out, it does best when customers choose ambitious subscription plans but are slow to watch and return movies. By comparison, Redbox's profits depend on it renting out each disc as many times as possible before demand for the movie peters out.

To that end, Redbox tracks rentals to predict the right mix of titles and the right number of copies for each location. It also lets customers go online and reserve a DVD in a specific kiosk, then pick it up in person. The $1 price may be the initial draw, but most people end up paying to keep DVDs for two or three days.

If Redbox grows into a serious challenge to Netflix, it will have done what two much larger companies, Blockbuster and Wal-Mart, could not.

Both tried to match Netflix's DVD-by-mail success. Wal-Mart quit the business and gave all its customers to Netflix. Blockbuster still trails Netflix in DVDs by mail, and is also closing a growing number of unprofitable stores.

Now Redbox's success has prompted Blockbuster to promise 10,000 DVD kiosks of its own in a deal with NCR Corp. The maker of ATMs and cash registers acquired the second-largest movie kiosk company, TNR Holdings Corp., in April.

Redbox kiosks also sell used DVDs for $7, sometimes less than two weeks after they're available to rent, rather than the two or three months video stores usually wait. The practice irked some Hollywood studios — which may jeopardize the $1-a-day rental model that helps make Redbox so attractive.

Last year, NBC Universal's DVD distribution arm, Universal Studios Home Entertainment, pressed Redbox to limit the number of Universal DVDs its kiosks could carry and to destroy used discs instead of selling them at cut-rate prices. When Redbox refused, Universal ordered its partners to stop selling DVDs to Redbox at wholesale prices. Redbox sued Universal for violating antitrust laws, among other claims.

The case is still underway and Redbox would not say what effect it might have on its DVD rental or resale prices. But Wedbush Morgan Securities analyst Michael Pachter bets that if Redbox loses the lawsuit, other studios could follow Universal's lead, pushing Redbox to either agree to restrictions or buy movies at retail prices, then raise rental rates.

Universal Studios Home Entertainment did not return a call for comment.

In the era of YouTube and Hulu, video iPods, Netflix's own streaming video service and devices that connect TVs to the Internet, storming an industry by way of supermarket vending machines seems very yesterday.

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