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"We started second-guessing ourselves," says Ross. Should they seek outside investment money? Spend more on marketing? "The worst part was knowing that there were life preservers all over the place," he says, referring to the then-plentiful venture capital. "But we knew we didn't want to go that way."

Their quandary ended -- at least temporarily -- when high-profile competitor Reel.com closed its doors, causing the rest of the industry to pull back from its price war. According to Chris Chiarella, an editor at Home Theater Magazine, Reel.com was simply one of the most notorious examples of the industry's price-cutting absurdity. "The loss-leader concept has to be the exception, not your day-to-day way of doing business," he says.

By contrast, Chiarella says, DVD Empire's strength was combining consistent, realistic pricing with timely shipping and good customer service. The infrastructure investment that the cofounders had committed themselves to making seems to have paid off. "Now we're three E-Christmases into it, and everyone is spending money on infrastructure and customer service," says Ross. "Well, we've already done that spending."

Now they're ready to expand by adding products that are of interest to their existing customer base, like games for Sony's new DVD-based Playstation 2. Still, the cofounders have no current plans to court outside funding. "We never say never," says Ross, "but for the next five years we don't foresee any scenario where we would."

DVD Empire's diversification strategy has led the company in some unexpected directions. DVDs have a number of features unique to the medium, including director-commentary and foreign-language tracks, alternate takes, deleted scenes, and a multiangle feature, which allows viewers to change the direction from which they're watching the action. The first segment of the video trade to take advantage of the multiangle feature was the adult-film industry. Curious customers began asking DVD Empire to carry certain multiangle-enabled titles, and the adult segment has since swelled to comprise 20% to 30% of the company's business.

Did Rix and Ross have any hesitation about carrying items that some customers might find offensive? "If our customers want it, we're willing to sell it," says Rix, although he adds that they took great care in segregating the adult titles onto a separate site. "Our tech-head following had no problem with it, and the price point is higher, so we make more money on it." Does such a higher-margin product line have a deceptively positive impact on the company's enviably positive bottom line? Rix admits that 60% of the company's total net profits come from its adult division. "But we'd still be profitable without the adult merchandise," insists Ross. "The biggest downside is it's harder to hire for that part of the business."

Not to mention the fact that employees need to be extra careful about storing salacious materials. When this writer visited the company's new facilities just north of Pittsburgh, an open box in a well-traveled hallway revealed a provocative promotional flyer for some of the product -- much to the embarrassment of staffers who had intended to present a more family-friendly face. Still, Home Theater Magazine's Chiarella asserts that selling prurient material doesn't have to be a black mark for the company. "As long as they police it fastidiously and make sure kids aren't getting it, then people really have no right to complain," he says.

Of far greater concern to Rix and Ross is their remaining competition, some of it ailing (Express.com and Buy .com) and some seemingly stronger than ever (Amazon.com). Ross sees no reason why the DVD market can't support more than one E-tailer. "Everybody seems to be forecasting against capitalism, saying it can only be a monopoly," he says. "But I don't really think you can squash every competitor, and I don't think you have to."

Christopher Caggiano is executive editor of Inc. Technology.

Ones to Watch

The Inc. Technology staff considered quite a few companies for our "realbusiness.com" package. Most of the candidates ended up on the cutting-room floor. Some hadn't been around long enough; others had great concepts that were yet to be proven. But a few companies (all founded in 1999) are starting with the right foundations in place. Here are some that we'll be keeping an eye on.

eKnitting.com, Berkeley, Calif.
What it does: Sells yarn and knitting supplies to consumers.
Founder: First-time entrepreneur Sarah Veit, a 28-year-old Stanford M.B.A. and inveterate knitter.
How it makes money: Veit sells only the good stuff, from high-quality wools and cottons to more exotic silks and alpacas. "I have no desire to go head-to-head with Wal-Mart," she says.
What makes it "real": A targeted niche market and tightly controlled finances. Veit conserved her precious marketing resources by attending the few trade shows that knitters flock to and advertising in the magazines she knew they read.
Investment: A $150,000 SBA loan plus $350,000 in personal, family, and angel funding.
Revenues: Projecting $500,000 for the fiscal year ending June 30, 2001.
Profitability ETA: Profitable as of December 2000.
Number of employees: 3.
Why the jury's still out: The company sells high-end products in a targeted niche. But it's simply too soon to tell whether eKnitting has its market sewn up.

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