I'm assuming that you're a member and got the "I screwed up" email from the CEO the other day?
Here's a few ways where I think they went astray, though much of their present circumstances can simply be attributed to a perfect storm:
1. Grassroots-type connection - Netflix was perceived by many as the upstart David that slew Blockbuster Goliath (OK, an elder Goliath way out of his prime, but still). Anybody who signed up for their $4.99 a month services early on felt a connection to that mentality of taking down the big dog with the horrible renting costs. That and it was mildly humorous to watch big, bloated chains like Blockbuster flounder to come up with a way to combat the younger, more limber Netflix. As a subscriber, you felt like you were not only "in the know" by getting your DVD's in the mail, but you were also on the winning side.
2. Rising costs - Yet once Blockbuster was out of the picture, prices for the service slowly started to rise (to allow for growth, I'm sure) and the mentality was, "well I guess I could pay $6.99 a month"; "well I guess I could pay $9.99 a month," so on and so forth. Before you knew it, you were paying twice what you were initially paying and you felt like the only thing really changing about the service was the prices. This agitated a lot of customers, though they were still willing to play ball.
3. Watch instantly really shot them in the foot - I think anytime you pioneer something, you run the risk of other followers out-pacing you because they can see things that you can't. The move and TV studios are literally holding Netflix hostage because of watch instantly. Their primary mistake, I think, was offering this service for free with their DVD plan. They should have just charged a nominal fee for this service from the get go and then slowly ramped up the cost as more titles became available. Anytime you offer something for free and then take it away to offer as a separate package later is not good. This is even more so when, once you take the free service away to offer as a separate package, you do not adjust the price to a lower cost to reflect this separation. People's rationale when Netflix dropped this bomb on their customers was, "Well if I can't get watch instantly anymore, then I want my DVD's to go back to $4.99 or even $6.99. But you can't expect me to pay $9.99 a month for one DVD out at a time!? And I'm certainly not going to get watch instantly and be forced to watch Ice Road Truckers or Swamp People, or Mega-Shark vs. Crocosaurus or some other b-rated crap because that's all you can afford to get from the studios!"
So now there's blood in the water and other sharks are moving in: Amazon, cable networks, even Google are all getting a piece of the streaming action. And if Netflix can't meet the outrageous demands that the movie or TV studio's are making in order to try and compensate for lost advertising and DVD/Blu-Ray sales, then they'll just take their business to these companies.
Neflix is in a bit of a catch-22 here. I think it was forecast somewhere that Netflix spent something like 180 million dollars in 2010 for licensing rights for watch instantly and by 2012 it will be up to something like 2 billion dollars. Where's that money going to come from if they can't keep their customer base due to crappy watch instantly content? People aren't going to sit around and wait for their favorite movies or shows to come to watch instantly and they're certainly not going to put up with $9.99 a month for one DVD out a time or multiple DVD's for more than that - especially when most everybody is moving to Blu-Ray anyway and won't accept DVD quality anymore, at least not for that price. There are plenty of other options out there not least of which is simply pirating the content, which more and more people of this younger generation are doing. So that leaves Netflix in a very tenuous position and unless they come up with a new plan, I think their days are numbered. It's going to be Amazon, Google, and cable companies who all have other streams of revenue who will survive this and come out on top.