WE HAD A PROBLEM.

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Remember those deals I was so proud of, the ones with Sony and Toshiba that would direct new owners of DVD players straight to Netflix? The deals that required me, Marc Randolph, startup guy to the core, to don the NMO like a superhero and convince a bunch of hidebound Japanese consumer electronics companies to fast-track a promotion? Well, it turns out that when a big company accustomed to long lead times and reliant on a careful, methodical rollout does something on the fly, things go wrong.

Remember? For users, our promotion was pretty simple. If you bought a Sony DVD player in the fall of 1998, there was a promotional sticker on the outside of the box, promising ten free DVD rentals and five free DVDs. All you had to do was head to Netflix.com, enter your DVD player’s unique serial number, and bingo: ten free DVDs to rent, five free DVDs to keep.

It would have been better if the coupons were on the inside of the box, but Sony’s methodical production schedule didn’t allow for it. Besides, you still had to buy the DVD player to get the serial number, right?

Wrong.

A few weeks into the promotion, Jim’s guys in the vault started to notice a repeat customer. This guy was ordering truly massive quantities of DVDs. Hundreds of them per week.

Now, back then we had no cap on rentals. We were desperate for renters—we weren’t going to turn them away. The problem was, this heavy user wasn’t renting. He was just raking in free DVDs from the Sony promotion.

“Either this guy really loves DVD players and is buying a metric shit-ton of them,” Jim told me in the vault, frowning down at a pile of mailers, all of them addressed to the same address, “or he is scamming the hell out of us.”

That afternoon, Mitch and I drove out to Fry’s. We wanted to see exactly what a customer would see. There they were, the Sony DVD players, our yellow Netflix stickers neatly pasted to every top-right corner. So far, so good. Mitch picked up one of the boxes, turned it over, put it back down. He tugged on the promotion, and it came off easily. He walked halfway down the aisle, looking at the identical DVD players. I was scanning the information on the bottom of the box closer to me when I saw it.

“Shit,” I said.

“What?” Mitch asked.

I pointed to the fine print on the bottom of the box: Sony mailing address, DVD player technical information in English, French, and Japanese. And there, right at the end? The unique serial number. It was on the outside of the box. All our scammer had to do was walk down the aisle of his nearest Best Buy, pad and pencil in hand, and he’d have dozens of serial numbers to type into our promotional form. He didn’t have to buy a single thing.

An easily duplicated scam, unreliable servers, mailers that sometimes got stuck in post office machinery, a business that lost money on every transaction. Slide after slide of graphs, with no path to profitability.

Things might sound dire to you at this point. But that’s the thing about startups—you’re almost always on the razor’s edge between total success and total failure. You learn to live there. I imagine it’s how the Flying Wallendas feel, when they’re stacked on top of each other over Niagara Falls, or between two skyscrapers, riding bicycles across a chasm, the only thing under them a thin metal cord. Sounds terrifying to most people. But do it enough times, and that’s just the life you lead.

Plus, success in Silicon Valley often has quite a long tail. We got a lot of press on launch day, but it was really for work that we’d done a month, three months, six months, a year prior. The life span of a startup is often so short that by the time people notice what you’re doing, you’re hanging on by a thread.

That’s true of most things, really. When you’re busy making your dream into reality, no one praises you until the work is done—and by that time, you’ve long since moved on to other problems.

We were growing that fall—and fast. We had hundreds of new users every day, and DVDs arriving by the truckload every Tuesday. The vault was stuffed—it looked less like a bootleg Blockbuster than a hoarder’s lair. We were chasing a market, and if we wanted any chance of surviving, we had to expand with the DVD user base. That meant growth. That meant more space—a lot of it.

I didn’t particularly want to leave our Scotts Valley home. I’d grown to love its money-green carpet, its humid stench of Diet Coke and Zanotto’s takeout containers. And I was deeply invested in Netflix being a “Santa Cruz company.” I’d been on the Silicon Valley startup roller coaster, and I wanted us to be different, set apart. I wanted something of Santa Cruz’s laid-back ethos to seep into our office culture. Santa Cruz felt like a respite from the boom-and-bust cycle in San Jose. I wanted to keep a mountain range between my company and the prying eyes of the VCs keeping it afloat.

But in 1998, we were more dependent than ever on those VCs. And our newest one, IVP’s Tim Haley, was adamant that we move closer to the Valley. In a previous life he had been an executive recruiter—he knew what he was talking about.

“You’re making it overly hard on yourself,” he told Reed and me. “You’re already unusual—your idea is unusual. Let that be the only weird thing about your company. Don’t make it hard for people to give you money. Or to work for you.”

He had a point. Aside from Eric’s hires, we were still finding it difficult to recruit top tech talent. We were losing potential hires to less interesting but more conveniently located companies. Engineers didn’t want to spend an hour and a half driving to work every morning.

Our own employees didn’t relish their commutes, either. Other than Te and I (and Reed), most of the founding team lived elsewhere: Christina in Redwood Shores; Eric, Boris, and Vita in the Valley. Working in Santa Cruz was really only convenient for me and a handful of others.

Companies establish concentric circles around themselves—a sort of radar range of overlapping environments. The center of the circle in large part determines the company’s guiding philosophy, which is in turn modified by what people bring to it, from the outer boundaries of the orbit. Moving our offices from Santa Cruz to Silicon Valley would, I thought, fundamentally change who we were. I didn’t want to do it.

But one of the things I was learning, that first year, was that success creates problems. Growth is great—but with growth comes an entirely new set of complications. How can you preserve your identity even as you include new members on your team? How do you balance continued expansion with coherent identity? How do you ensure that you continue to take risks, now that you have something to lose?

How do you grow gracefully?

Early Netflix was a small, tight-knit group. I knew everyone—I’d hired them. I knew what they were good at and what they didn’t know they were good at yet. I knew how they thought, how they worked. Most of all, I knew they were brilliant—that they could learn new things if needed. Jim had no experience in operations when I hired him. Boris wasn’t even a web designer. But I knew that both of them had the necessary drive and malleable creativity to make a go of it. And that’s how startups typically run, in the early days: You hire a bunch of brilliant people to be jacks-of-all-trades. Everyone does a little bit of everything. You’re hiring a team, not a set of positions.

That fall, I was trying to manage the growth of that team—to make sure that the culture we’d forged over the previous twelve months survived a scale-up. We’d built a company where freewheeling discussions sometimes turned heated—and it was okay. Where ideas were more important than chain of command. Where it didn’t matter who solved a problem—only that it got solved. Where dedication and creativity mattered a lot more than dress codes or meeting times.

It was special, and I knew it. Even then.

Here’s an example. Te would ask each new hire what his or her favorite film was. Then, the day before our monthly company-wide meeting, she’d instruct the person to come to work the next day dressed as a character from that film. The new hire would spend the day dressed as Batman or Cruella de Vil or Humphrey Bogart as Rick Blaine in Casablanca before being introduced in front of the entire company.

Was this silly? Yes. Was it a waste of time? Arguably. Was it pointless? Not at all.

Small, semi-improvised rituals like this kept things light. They reminded us that no matter how stressful the job was, at the end of the day we were renting movies to people. And nothing forces people to bond like shared embarrassment.

But as the company grew past its founders and initial small team, I didn’t know if traditions like that would survive. Our hires from India seemed totally bewildered by the practice. The whole thing had “hazing” and “possible HR violation” written all over it. But that’s how small we were: we didn’t even have HR guidelines to violate yet.

We’d need them, if we continued to grow. And we’d need to codify a lot of things, to make sure our business continued to run smoothly, once the founding team wasn’t doing all the work. Navigating those challenges was a lot of what I spent the fall of 1998 doing. That, and looking for new office space.

Oh, and dealing with a massive international porn scandal.

It was supposed to be a stunt, something viral, something that would get traction well beyond its cost.

It was supposed to be Bill Clinton.

When you’re trying to build a product, sometimes it doesn’t matter how many promotions you run or how many deals you offer. Sometimes, you just need to get attention. Blockbuster would use this tactic in 2006, when they launched Total Access, a combined in-store and online rental service meant to compete with Netflix. They hired Jessica Simpson for a huge unveiling and made her gush, in front of the press, about how much she loved renting movies on the internet.

But in the fall of 1998, we didn’t have Blockbuster money. And we certainly didn’t have Jessica Simpson’s number.

But we did have Mitch Lowe.

Mitch was spending more and more time in the Netflix office in Scotts Valley. Despite the draw of his presidential biographies on audio, he was tiring of the long commute to his house back in Marin, so he would frequently stay overnight in a small hotel by the golf course in Aptos, half an hour south of our offices. It certainly wasn’t the closest place he could stay, but he had two reasons for choosing Aptos for his pied-à-terre. First, Mitch had become a regular at the Tuesday night wine tasting group that Lorraine, Te, and I had started up. Our usual locale for the tasting was Theo’s restaurant in Soquel, and after doing his part to help us finish off six bottles or more of wine each Tuesday night, Mitch had ample incentive to shorten his commute.

The other reason was an old friend, Arthur Mrozowski, who lived in a small house off the third fairway in Aptos. Arthur was another of the colorful characters in Mitch’s past, and he shared a fondness with Mitch for staying up late, tasting wine, and talking movies.

Arthur had fled Poland for the United States at nineteen. He’d found a niche importing Polish videos, which he sold to any video store he could convince to carry them. It wasn’t long before he realized it would be considerably more lucrative to move videos in the opposite direction, which led to a video export business. By the time he landed in Aptos, Arthur was CEO of a DVD post-production company called Media Galleries. From this perch, Arthur had a bird’s-eye view of all the new video technologies coming out of the Valley, and had recently discovered a startup called Mindset that was developing new video codecs, the software that converts and compresses analog video into digital media—a critical part of the technology that goes into creating a DVD. Late one Thursday night, after a bit of “tasting,” Arthur told Mitch about a new breakthrough that Mindset had made: their encoding and compression processes were now so fast that they could essentially transfer analog tapes to DVDs in real time. This increased speed, Arthur said, was going to revolutionize the DVD mastering process. They were looking for a project with a quick turnaround time that they could use to “live-test” their process and make sure it worked as fast as they thought.

It took less than twenty-four hours—and a few bottles of wine—for Mitch to come up with the perfect candidate.

For the previous eight months, the country had been gripped by the investigation into President Bill Clinton’s affair with Monica Lewinsky. In mid-August, the scandal had reached a critical moment: for the first time, a sitting president had been compelled to testify in front of a grand jury. Although his testimony was secret, the session had been videotaped, and now, a month later, on Friday, September 18, the Republican-controlled House Judiciary Committee had announced that in the interest of public transparency, it would be releasing the video to all the major broadcast networks. The testimony would be made public after the weekend, three days later: at 9:00 a.m., Monday, September 21.

When Mitch got to the office later that morning, he could barely contain himself. “This is it,” he said, throwing a printout of a page from Yahoo! News onto my desk. “Look at this. It’s the perfect thing. Clinton! Let’s make our own DVD.”

He stared at me expectantly, and then, realizing that I had no idea what he was talking about, began filling me in on his conversation with Art.

“I’ve already talked to one of my friends at KTVU,” Mitch went on, referring to the Bay Area Fox affiliate. “He said that he could make us a three-quarter-inch master copy directly from the broadcast. It’s only four hours long. I’ll be there waiting, I’ll drive it straight to Mindset, and they can have a DVD master ready to start pressing discs by that afternoon. We can begin shipping them the next morning.”

“Okay, hold on, Woodward,” I said. “Let’s slow down a sec and figure this out.”

But I had to admit it: Mitch’s idea was good. It wasn’t Watergate, but it was good.

While Mitch ran off to set the wheels in motion, I rounded up Te and Christina and filled them in.

Predictably, Te loved it. She pulled out one of the pencils she regularly had in her hair holding things in place, and used it to make notes on a yellow pad while she spoke. “We can probably get national press on this. The Times. The Post. Even the Journal.”

“What’s wrong, Christina?” I asked. She was chewing on her thumbnail and frowning.

“It’s a cool idea, but we can’t just jump into this without thinking it through,” she explained, her voice rising. “What is the disc art going to look like, how are we going to ship it, how much are we going to charge? We have to get it all set up in the system!” She shook her head in frustration. “There’s just no way we can have this ready to go by Monday.”

“But this is all about the timing,” I countered. “We don’t have time to do a full release of this. And we don’t have to. We can do very minimal disc art, we can mail it in any envelope. It’s a sale, not a rental. It doesn’t need to come back.”

I paused. An idea was forming.

“And let’s not charge anything. Let’s make it free. No charge. A public service from your civic-minded friends at Netflix.”

“That’s crazy,” Te said, shaking her head. “So crazy that it just might work.”

“We’ve got a problem.”

It was two hours later, and Christina was clearly in problem-solving mode. Her happy spot. She had that smile on her face that said she was excited to tell me what the problem was, and even more excited to tell me the clever way she had already solved it.

“I’ve been working with Eric on getting a free DVD set up in our system,” she explained, preparing to walk me through the process. I normally would have pushed her to cut to the chase, but I decided to let her have her moment. “Well, we had no problem getting it all set up on the development server, but when we tried to actually ship the order? No go.”

She paused for effect.

“Eric and Boris played with it for a while and finally figured out that the software can’t sell something for nothing. Our system literally doesn’t know how to give something away for free. So Eric and I decided to try something. We priced the DVD at one cent and it worked. As long as we charge something for it, we’re fine.”

She sat back, grinning. There was more. I knew she had something up her sleeve.

“Then I had an idea. Two cents. Let’s charge everybody two cents. Then we can do some crazy promotion about ‘putting in your two cents’ or something like that.”

She dropped her hands in her lap, clearly proud of herself. There was nothing else to say. We had the tag for our press release, which would go out first thing Tuesday morning.

Mitch had problems too, but he wasn’t quite as happy about them as Christina was.

At first everything had gone smoothly. At the conclusion of the broadcast Monday morning, Mitch’s contact at KTVU had been true to his word and immediately transferred the four hours of testimony to tape. Mitch had driven it from Oakland to Aptos, and within a few hours, Mindset had the tape mounted and encoding was under way.

But when Mitch gave me an update call at 5:00 p.m., it was clear that things had begun to go awry.

“The technology is actually really good,” he started in, but as he struggled with what to say next, I could hear his enthusiasm fading. “But, uh…it’s clearly not ready for prime time. All kinds of bugs. Every time they start the encoding it runs for a bit, then stops. They’re running it now, but it’s really slow.”

There was a long pause. “It might be considered real-time encoding—but only if they were encoding a video of a turtle.”

By the time we left the office, we were all set for a Tuesday morning announcement. Te had drafted a press release, headlined “Netflix Lets Consumers Put in Their Two Cents Regarding Clinton Testimony.”

Is this a great country or what?

Meanwhile, Christina had built a custom page for the website, and Eric had finished setting things up to handle incoming orders. Jim had put together a special shipping envelope that was cheap and light. Mitch was standing by at Media Galleries, ready to get the discs duplicated as soon as the master was ready. He would drive them straight to the office.

We were ready to go.

When Mitch called at 7:00 a.m. Tuesday, he sounded tired.

“Do you want the good news or the bad news?” he asked. Without waiting for an answer, he continued: “We finally got the encoding finished a few hours ago, and it works fine on Sony and Mitsubishi machines. But it doesn’t work on Panasonic and Toshiba. We’re running it again.”

At 10:00, he reported: “Now it works on Panasonic and Toshiba, but not on Sony. We’re running it again.”

When I checked my phone early that afternoon, I saw that I had missed a call from him. It had come in at 2:00. The voicemail was short. “We’re finally finished. We’ve gotten a working version and they just finished the silver master platter.” I could hear the exhaustion in his voice. “I’m heading down to Fremont to get it duplicated.”

When I finally reached him, it was 4:30. In the background I could hear the clatter of machinery. “Almost there,” he shouted, sounding almost upbeat. “I’m just about to get the first 2,000 copies. I just need to bring them over to the labeler and then we’re ready. You should have them by late this afternoon.”

“Mitch!” I hollered. “Just come home. We’ll send them out without disc labels.”

There was a long pause. The machinery was still humming.

“Okay. I’ll be there soon.”

The press release was out, the news sites had already picked it up, and Reed and I were in the middle of a company meeting when, at 5:30, the door opened and Mitch walked in. His shirt was stained and wrinkled. He had a three-day growth of beard. His hair sprung in every direction. I’d say it looked like he’d just woken up, but the truth was just the opposite: he hadn’t slept in almost seventy-two hours.

But he did have something in his hand I had never seen before. It looked like a roll of crackers, wrapped in foil—but supersized. It was two feet long and five inches in diameter. Only when I looked more carefully could I see that it was actually fifty DVDs threaded together on a long, narrow tube of plastic. A spindle: the first one I’d ever seen.

Mitch looked like shit, but he had enough energy left to smile broadly as the entire company erupted in applause. He’d managed to bring Bill Clinton home.

I wish the story ended there. With good news: nearly 5,000 new customers (all of whom owned DVD players) had been obtained at a total cost of less than $5,000. With press exposure in the New York Times, the Wall Street Journal, the Washington Post, and USA Today. With the kind of attention even Jessica Simpson would have been hard-pressed to drum up.

Instead, the following Monday, I was just walking into the office when Corey grabbed me.

“Hey, there’s some funny comments that have been running across the board this weekend.” He spun around to his computer, where one of his DVD forums was on-screen, and scrolled furiously with his mouse. “See? Here. And here. And here. They’re saying we sent them some kind of porno?”

I sat down to look. Immediately I had a sinking feeling in my stomach.

People were certainly talking about the Clinton DVD. But when they said that their DVDs were pornographic, they didn’t mean that Clinton’s testimony was occasionally X-rated. They were saying that we had sent them real, honest-to-God pornography.

“See if you can figure out how widespread this is,” I shouted at Corey, then jumped up and ran back to the safe, where Jim and his guys were just starting to make sense of the orders that had come in overnight.

“Jim,” I gasped, trying to catch my breath, “hold up on sending out any more Clintons.”

“What’s up?” He gave me that smile. “We’ve got about forty of them packed up from yesterday afternoon ready to go out today. Want to hold them up, too, or can they go out?”

“Hold everything,” I said, then gave him a quick rundown before heading to Christina and Te.

“Here’s your problem, boss,” Jim said about half an hour later, walking over to where I sat with Christina. “See these?” He held out two DVDs. They looked identical to me. “They came off two different spindles, and they both should be the same, but if you look closely, you can see where this one”—he handed me one of the two DVDS—“is slightly different. This is the porn one. Looks like we got two spindles of these. One of them has been completely sent out. The other still has a dozen or so discs left.”

“Have you”—I didn’t know how to ask this—“watched it yet?”

There was that smile again. “Yep. Let’s just say we watched enough to know that this is the culprit.”

That night when I got home, the house was already dark. Thank goodness. I didn’t want to have to explain to Lorraine what I needed to do. I turned on our TV, powered up the DVD player, and slid the DVD into the slot. As it spun up and the image started, I knew in a second that what I was watching didn’t star Bill Clinton, Monica Lewinsky, or even Ken Starr. It was porn, all right. And nasty stuff, too. I didn’t need to watch anymore. (I promise.)

It was a big swing. And a big miss. But if you’re trying to make a dream into reality, you have to be willing to swing at a lot of pitches.

The next day we did the only thing we could. Like Bill, we came clean. We sent out a letter to every one of the nearly 5,000 people who had put in their two cents. We explained what had happened, and we apologized for the confusion and any possible offense. And if they had received the porn version, we asked that they return it to us, at our expense, after which we would gladly send them out the proper DVD.

But you know? Funny thing. Not a single person did.