LOS GATOS, Calif. – Netflix Inc. (NFLX) will start showing movies and TV episodes over the Internet this week, providing its subscribers with more instant gratification as the DVD-by-mail service prepares for a looming technology shift threatening its survival.
The Los Gatos-based company plans to unveil the new "Watch Now" feature Tuesday, but only a small number of its more than 6 million subscribers will get immediate access to the service, which is being offered at no additional charge.
Netflix expects to introduce the instant viewing system to about 250,000 more subscribers each week through June to ensure its computers can cope with the increased demand.
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After accepting a computer applet that takes less than a minute to install, subscribers will be able to watch anywhere from six hours to 48 hours of material per month on an Internet streaming service that is supposed to prevent piracy.
The allotted viewing time will be tied to how much customers already pay for their DVD rentals. Under Netflix's most popular $17.99 monthly package, subscribers will receive 18 hours of Internet viewing time.
The company has budgeted about $40 million this year to expand its data centers and cover the licensing fees for the roughly 1,000 movies and TV shows that will be initially available for online delivery.
Netflix's DVD library, by comparison, spans more than 70,000 titles, one of the main reasons why the mail is expected to remain the preferred delivery option for most subscribers.
Another major drawback: The instant viewing system only works on personal computers and laptops equipped with a high-speed Internet connection and Microsoft Corp.'s (MSFT) Windows operating system.
That means the movies can't be watched on cell phones, TVs or video iPods, let alone computers that run on Apple Inc.'s (AAPL) operating system.
Despite its limitations, the online delivery system represents a significant step for Netflix as it tries to avoid obsolescence after the Internet becomes the preferred method for piping movies into homes.
"This is a big moment for us," Netflix Chief Executive Reed Hastings as he clicked a computer mouse to quickly call up "The World's Fastest Indian" on the instant viewing service. "I have always envisioned us heading in this direction. In fact, I imagined we already would be there by now."
Besides preparing Netflix for the future, the instant viewing system also gives the company a potential weapon in its battle with Blockbuster Inc. (BBI)
As part of an aggressive marketing campaign, Blockbuster has been giving its online subscribers the option of bypassing the mail and returning DVDs to a store so they can obtain another movie more quickly.
Since its 1999 debut, Netflix has revolutionized movie-watching habits by melding the convenience of the Web and mail delivery with a flat-fee system that appealed to consumers weary of paying the penalties imposed by Blockbuster for late returns to its stores.
After first brushing off Netflix as a nettlesome novelty, Blockbuster has spent the past few years expanding a similar online rental service that provoked a legal spat over alleged patent infringement.
Netflix has been able to maintain its leadership so far, building so much momentum that the world's largest retailer, Wal-Mart Stores Inc. (WMT), abandoned its efforts to build an online DVD rental service in 2005.
In the last three years, Netflix has signed up nearly 5 million more subscribers to become increasingly profitable. Although Netflix won't report its 2006 earnings until later this month, analysts believe the company made about $44 million last year, up from $6.5 million in 2003.
Despite the company's growth, Netflix's stock price has dropped by more than 40 percent over the past three years, shriveling to $22.71 at the end of last week.
The erosion largely reflects investor misgivings about Netflix's long-term prospects.
Once it becomes more practical to buy and rent movies within a few minutes on high-speed Internet connections, few consumers presumably will want to wait a day or two to receive a DVD in the mail. If that happens, Netflix could go the way of the horse and buggy.
Online movie delivery already is available through services like CinemaNow, MovieFlix, Movielink, Vongo and Amazon.com Inc.'s (AMZN) recently launched Unbox.
Apple Inc. also is emerging as major player, with hundreds of movies and TV shows on sale at its iTunes store and a new device that promises to transport media from a computer to a TV screen.
But none of those online services have caught on like Netflix's mail-delivery system, partly because movie and TV studios generally release their best material on DVDs first. The studios have had little incentive to change their ways because DVDs still generate about $16 billion of highly profitable sales.
Like already existing online delivery services, Netflix's "Watch Now" option offers a lot of "B" movies such as "Kickboxer's Tears." But the mix also includes critically acclaimed selections like "Network," "Amadeus," "Chinatown" and "The Bridge On the River Kwai."
The studios contributing to Netflix's new service include NBC Universal, Sony Pictures, MGM, 20th Century Fox, Paramount Pictures, Warner Brothers, Lion's Gate (LGF) and New Line Cinema.
"We are going into this with the knowledge that consumers want to watch (media) in various ways and we want to be there for them," said Frances Manfred, a senior vice president for NBC Universal. "For now, though, we know television is the vastly preferred option."
With its eight-year-old service on the verge of mailing out its billionth DVD, Netflix has been in no rush to change the status quo either.
But Hastings realizes Internet delivery eventually will supplant DVD rentals shipped through the mail, although he thinks it will take another three to five years before technological advances and changing studio sentiment finally tip the scales.
By then, he hopes to have 20 million Netflix subscribers ready to evolve with the service.