December 06, 2007

DVD Kiosks - Blockbuster shares slide

Nice story on Bloomberg on how $1 rentals from grocery stores are beginning to impact Blockbuster (which tries to rent the same movie for $3 more next door). Revenue to fall from $5.5B to $4.9B as a result (ouch...). Share price is down 40% in 2007.


Bloomberg.com: Invest

Blockbuster Share Slide Quickens on Growing $1 DVDs (Update3)

By Ari Levy and Josh Fineman
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Dec. 5 (Bloomberg) -- McDonald's Corp.'s $1 menu offers more than burgers, chicken nuggets and fries. Diners can now rent hot DVDs such as ``Shrek 3'' from automated kiosks for a buck, $3 cheaper than at Blockbuster Inc. stores.

Blockbuster, the largest video chain, and Netflix Inc., the biggest U.S. mail-order movie service, are losing sales to discount kiosks in an overall market that hasn't grown since 2001, said Adams Media Research. Adams estimates Blockbuster has 39.2 percent of the U.S. rental market, including franchised outlets.

According to a Bloomberg calculation, revenue at Blockbuster will fall to about $4.9 billion in 2011 from $5.5 billion in 2006, assuming its share of store and subscription sales stays the same. ``We're not going to speculate on our business looking several years out,'' said Blockbuster spokesman Randy Hargrove.

``The store business is about to face some further competition from the kiosks,'' said Tom Adams, who has tracked the movie-rental business since 1984 and is president of Adams in Carmel, California. ``What $1-a-night kiosks appeal to is the lower income group or just the extremely thrifty crowd.''

Blockbuster is already heading toward three straight years of declining sales. The Dallas-based company's third-quarter gross margin, or the profit left after subtracting the cost of goods sold, narrowed to 53.9 percent from 56.6 percent a year earlier.

`A lot of threats'

``They have a lot of convincing to do with investors to let them know that in the next five years'' the company will still be viable, said Stacey Widlitz, an analyst with Pali Capital in New York. She has a ``hold'' rating on Blockbuster shares and doesn't own them. ``There are a lot of threats out there that Blockbuster has to address.''

Blockbuster's stock, down 40 percent in 2007, has plunged 89 percent from its record in 2002. Movie Gallery Inc., the second-largest U.S. video-rental chain, filed for Chapter 11 bankruptcy in October.

Blockbuster fell 14 cents, or 4.2 percent, to $3.18 at 4:02 p.m. in New York Stock Exchange composite trading. Netflix rose 18 cents to $23.93 in Nasdaq Stock Market composite trading and has dropped 7.5 percent.

Sales growth at Los Gatos, California-based Netflix may slow to 8 percent in 2008 from 46 percent last year, according to the average analyst estimate in a Bloomberg survey. The company has cut prices to try to win customers who rent movies on the Internet.

Albertson's, Safeway

About 9,000 DVD kiosks, which are the size of soda-vending machines, rent new releases at Albertson's, Safeway Inc., Walgreen Co. and the Golden Arches. By year-end, about 10,000 will be operating in North America, according to company estimates.

``It's convenient, and it's cheap,'' said Christian Yansens, 28, after renting three movies, including ``Transformers,'' at an Albertson's store in Irvine, California. ``Albertson's is open 24 hours a day so you can get a movie at any time.''

Yansens said he stopped renting from Blockbuster when he found the same films for less than a third the price at the supermarket.

Redbox Automated Retail LLC, co-owned by McDonald's and Coinstar Inc., and closely held DVDPlay Inc., based in Campbell, California, install the kiosks, sharing the revenue they generate. They don't disclose terms of the agreements. The companies also avoid the costs of opening and managing stores, which account for about three-quarters of Blockbuster's operating expenses, according to Arvind Bhatia, an analyst at Sterne Agee & Leach Inc. in Dallas. Blockbuster doesn't break out store expenses.

Sales Growth

DVDPlay Chief Executive Officer Chuck Berger predicts the kiosks will garner up to 25 percent of the DVD rental market by 2011. With each machine generating annual sales of $30,000 to $40,000, the kiosks should top $270 million in revenue next year, or 3.4 percent of the DVD rental market, Adams said. There may be 50,000 in North America in five years, based on growth estimates from Redbox, DVDPlay and TNR Entertainment Corp., the three biggest companies in the industry, lifting total sales to between $1.5 billion and $2 billion.

Amid the expansion, Netflix's third-quarter gross margin fell to 33.9 percent from 38 percent a year earlier.

The kiosk business is ``not terribly competitive with ours,'' Netflix CEO Reed Hastings said in July. ``Mostly it negatively impacts stores'' because Netflix is less reliant on new releases.

Still, DVDPlay's Berger said he sometimes meets people who say they've dropped a Netflix account since discovering the vending machines.

Blockbuster kiosks

Blockbuster last month started testing 10 kiosks in Papa John's International Inc. and Family Dollar Stores Inc. in Lexington, Kentucky.

``There is nothing to stop us from going into the supermarket next door'' with our own box, Blockbuster CEO James Keyes said.

Kiosk operators have a head start. DVDPlay started developing hardware and software in 1999 to run unmanned kiosks and Redbox began testing its first prototype in 2002. Maintenance and signage changes are mostly outsourced to local companies. Redbox is the biggest vendor with 6,000 machines, followed by Houston-based TNR, owner of The New Release kiosks, with 2,100, and DVDPlay, which has 1,100.

``We don't think any company can easily replicate'' the model overnight, said Gregg Kaplan, CEO of Oakbrook Terrace, Illinois-based Redbox.

DVDPlay, which charges $1.49 for the first night's rental and $1 each subsequent night, will be profitable next year and may sell shares to the public in late 2009, Berger said. TNR CEO Tim Belton said he's talking with several potential partners and may eventually be able to almost triple his company's kiosks.

``A buck a day is just a really great value proposition,'' he said.

To contact the reporters on this story: Ari Levy in San Francisco at alevy5@bloomberg.net ; Josh Fineman in New York at jfineman@bloomberg.net .

Posted by staff at December 6, 2007 09:00 AM