Amazon Acquires LOVEFiLM Making Netflix's European Expansion a Lot Harder

Amazon announced this morning that it has bought the remaining 58% of European DVD-by-mail and online subscription service LOVEFiLM. Amazon gained its stake in 2008 when LOVEFiLM acquired Amazon's European DVD rental business (Amazon also invested in LOVEFiLM as part of the deal). Given Amazon's position, the new deal, said to be worth around $320 million, was widely rumored.

Though the companies offered no insight in the press release as to what prompted the move, I think it can be interpreted as a bid by Amazon to make Netflix's expansion into the European market much harder. Netflix expanded into Canada last September with a streaming-only service and has continued to beef up the content selection offered there, even as stories have emerged that Canadian broadband ISPs' consumption caps can generate incremental fees for heavy Netflix users. Nonetheless, Netflix has been bullish about its near-term profitability expectations in Canada and executives have made no secret of the company's intention to expand further internationally, with Europe certainly in the bullseye.

Amazon knows all this, and by absorbing LOVEFiLM fully it will be able to provide the company with deeper financial and operational resources for the upcoming battle. While LOVEFiLM has just over 1.4 million subscribers, which is a fraction of Netflix's 17 million (and that was at the end of Q3 '10, now it's likely around 20 million), it does have a foothold in at least 5 European countries: the U.K., Sweden, Norway, Denmark and Germany. Amazon's full backing will give LOVEFiLM more ability to heavily market itself and to expand into other countries. Amazon, the king of e-commerce, practically wrote the playbook on how to successfully land-grab in nascent, high-growth markets.

LOVEFiLM has something else valuable in Europe that Netflix likely will not, when it eventually does expand there: DVDs-by-mail. In fact, even though LOVEFiLM likes to emphasize its online delivery side (just as Netflix does), the reality is that from a content perspective, LOVEFiLM offers a far, far greater selection on DVD than it does via online (about 69K DVD titles  vs. 5K online according to one recent estimate). Netflix has a comparable ratio currently in the U.S., though it is narrowing with each new online deal that's struck.

Thus, for all of online's sexiness, in the current competitive climate, having a deep assortment of DVDs - and the accompanying distribution centers and means to efficiently get them to subscribers - is a huge advantage. As I wrote last September in "Amazon Must Offer DVDs-by-Mail As Well As Streaming to Fully Compete With Netflix," here in the U.S. Netflix has run circles around Amazon (and others) because of its subscription DVDs-by-mail and 58 strategically located distribution centers. Though getting DVD rights isn't that hard, because everyone agrees that online delivery is the future, the much more difficult task is making a business case for building soon-to-be obsolete distribution centers and developing the complex software to manage them. Netflix tacitly conceded this by entering Canada with a streaming-only service even though offering DVDs as well would have dramatically enhanced its offering.

With LOVEFiLM's DVD and distribution infrastructure, Amazon is turning the tables on Netflix in Europe and altering the competitive dynamics. If Netflix comes to market in Europe with a streaming-only service, it will be able to offer just a small fraction of the content selection that LOVEFiLM does. True, DVDs don't provide subscribers the immediate gratification that streaming does, but a wait of a day or two to receive a disc is a minimal price for most people to pay in order to get a much broader selection and choose the titles they want. Coincidentally, Netflix itself got a rude reminder this week of how important DVDs remain to its subscribers; an ill-considered decision to disable DVD queuing through connected devices caused a furor among vocal subscribers.

Netflix's European expansion was never going to be straightforward given the complexity of securing country-by-country content streaming rights (a topic I'll ask Netflix's content chief Ted Sarandos about next Tuesday). But now with Amazon's full backing of LOVEFiLM and its DVD-by-mail business, Netflix's European entry just got a lot more difficult. There's still tons of market share up for grabs in Europe, and Amazon seems determined to avoid Netflix running away with it, as it has in the U.S.

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Categories: Aggregators, Deals & Financings, FIlms, International

Topics: Amazon, LOVEFiLM, Netflix