By Michelle Conlin I had the great fortune of doing a mediocre job at my first company," says Netflix Inc. (NFLX) founder Reed Hastings. He's talking about his 1990s startup Pure Software, a wildly successful maker of debugging programs that, through a series of mergers, became part of IBM (IBM). Hastings says Pure, like many other outfits, went from being a heat-filled, everybody-wants-to-be-here place to a dronish, when-does-the-day-end sausage factory. "We got more bureaucratic as we grew," says Hastings.
After Pure, the Stanford-trained engineer spent two years thinking about how to ensure his next endeavor wouldn't suffer the same big-company creep.
The resulting sequel is Netflix, where Hastings is trying to revolutionize not only the way people rent movies but also how his managers work. Hastings pays his people lavishly, gives them unlimited vacations, and lets them structure their own compensation packages. In return, he expects ultra-high performance. His 400 salaried employees are expected to do the jobs of three or four people. Netflix is no frat party with beer bashes and foosball tables. Nor does the company want to play cruise director to its employees. Rather, Netflix is a tough, fulfilling, "fully formed adult" culture, says marketing manager Heather McIlhany. "There's no place to hide at Netflix."
Hastings calls his approach "freedom and responsibility." And as one might expect, employees get all cinematic when describing the vibe. Netflix is the workplace equivalent of Ocean's 11, says Todd S. Yellin, hired to perfect the site's movie-rating system. Hastings is Danny Ocean, the bright, charismatic leader who recruits the best in class, gives them a generous cut, and provides the flexibility to do what they do best, all while uniting them on a focused goal. The near-impossible mission, in this case, is trying to outmaneuver Blockbuster (BBI), Amazon (AMZN), the cable companies, and Apple (AAPL) in the race to become the leading purveyor of online movies.
The tension has never been higher. Last quarter, for the first time in Netflix's history, the company lost customers in its bloody, fight-to-the-death battle with Blockbuster Inc. Netflix shares cratered and have yet to recover. Some analysts are talking doom.
Netflix executives like to point out, though, that the company has been pronounced dead more than once before. When Wal-Mart (WMT) started offering online movie rentals in 2002, for example, analysts started referring to Netflix as The Last Picture Show. But by 2005, Wal-Mart had closed shop. It referred all its customers to Netflix.
Today, Netflix is embroiled in an even tougher, two-front war: competing with Blockbuster for online supremacy in DVD rentals while also inaugurating a digital streaming service to compete with the likes of Apple. That's one mighty gang of entrenched competitors. "There's usually room in a marketplace for more than one," says Wedbush Morgan Securities analyst Michael Pachter. "But in this case there really isn't."
Hastings is betting on Netflix's culture to get the company out of this corner. The plan includes continuing to increase what Hastings calls "talent density." Most companies go to great scientific lengths to ensure they are paying just enough to attract talent but not a dollar more than they need to. Netflix, which hands out salaries that are typically much higher than what is customary in Silicon Valley, is unabashed in its we-pay-above-market swagger. "We're unafraid to pay high," says Hastings.
To ensure that the company is constantly nabbing A players, company talent hunters are told that money is no object. Each business group has what amounts to an internal boutique headhunting firm. Employees often recommend people they bonded with at work before (that Ocean's 11 effect again).
Gibson Biddle, who runs the Web site, knew that Yelling, who had both deep tech and film expertise, was the perfect guy to help Netflix improve how it recommends movies to customers on its site. Yellin had worked for Biddle at a family entertainment site during the boom. The snag was that Yellin, also a filmmaker, was finishing up his first feature film, Brother's Shadow, in Los Angeles. He also was allergic to anything corporate or publicly traded.
Impossible sell, right? But Netflix threw so much cash and flexibility at Yellin that he couldn't turn it down. During his first three months he flew back and forth between L.A. and San Francisco doing his Netflix job and finishing his movie. "This company is ?ber-flexible," says Yellin. "I'm given the freedom to do what I do well without being micromanaged."
NO GOLDEN HANDCUFFS
Pay is not tied to performance reviews, nor to some predetermined raise pool, but to the job market. Netflix bosses are constantly gleaning market compensation data from new hires and then amping up salaries when needed. And what happens when someone doesn't live up to expectations? "At most companies, average performers get an average raise," says Hastings. "At Netflix, they get a generous severance package." Why? Because Hastings believes that otherwise managers feel too guilty to let someone go.
When it comes to paychecks, Netflix is arguably going where no public company has gone before. Employees are free to choose annually how much of their compensation they want in cash vs. stock. Unlike the case at most companies, options vest immediately. Netflix doesn't want golden-handcuffs types. One engineer got so excited that he told human resources head Patty McCord to give him half his pay in stock. When McCord saw him drive away in an old minivan, she wasn't surprised when he popped into her office the next day and told her he wanted to make it more cash: 80-20.
Good thing for him. With great choice comes great risk. Netflix employees who loaded up on stock this year have gotten hammered, leaving some to pine for the paternalism that has long shielded employees from the vagaries of stock market volatility. But great risk also means great freedom, as in: "Take as much vacation as you want." Last year, engineering manager Aroon Ramadoss took off five weeks to go to Europe with his girlfriend. He plans on taking another extended vacation next year in Brazil. "I like to travel in bigger chunks rather than take five days off and rush right back," says Ramadoss.
Despite the luxe perks and killer culture, Hastings still has the battle of his career ahead. The Netflix people have "a huge competitive advantage because they are smart and they hire really well," says Pachter. "But that doesn't help you in the long run if your business model is flawed."
Conlin is the editor of the Working Life Dept. at BusinessWeek