Stinky Stock of the Week: Blockbuster Inc. (BBI)

2004-12-18T04:45:00.000-05:00

Will Blockbuster go bust?

On February 10th, 2004, Viacom Inc announced the plans to divest its roughly 81.5% equity stake in Blockbuster by simply distributing its Blockbuster shares among all Viacom shareholders whether they wanted it or not. Prior to that, Viacom sought to sell its stake in Blockbuster for months – yet there were no buyers. There are numerous reasons for the lack of buyers then and the stench of Blockbuster’s stock today:

- An outdated business model: one can rent a movie for the same price through a digital cable provider in most urban areas. In rural and secondary markets where digital cable is not available, Blockbuster is left in the dust by Movie Gallery Inc which caters specifically to those markets. So to counteract the declining rental business, Blockbuster has started to rent less and sell more. While selling DVDs may be a business that promises growth – it negatively affects the profit margins as renting is way more profitable than selling. This brings us to the next reason why Blockbuster is a stock that really stinks.

- The company is no longer competitive: unfortunately for Blockbuster, not only do they compete with traditional video/DVD rental companies like Hollywood Entertainment, Netflix and the aforementioned Movie Gallery Inc, but also with the big retailers like Wal-Mart Stores Inc and Target. Now these latter guys can really afford razor-thin margins and force you out of business. And would anyone go out of their way to Blockbuster to buy Shrek 2 while it is cheaper at any other mass retailer that also carries your kid’s diapers and skim milk?
- So instead of seeking to diversify its business, Blockbuster is now in talks to buy Hollywood Entertainment. Do they really think bigger is better? They are no Starbucks! This would increase the current Blockbuster store count of 8,900 in the United States by 1,920 (21.6%); the next largest competitor Movie Gallery has roughly 2,200 stores. Such growth by acquisition will, at least, initially bring rewards for Blockbuster stockholders (the share price today, December 16, 2004, rose by more than 7% after the announcement of the possible acquisition). Unfortunately, in a long run, this is still the same stinking business model that will die off within a decade.

Qualitative reasons aside, Blockbuster’s financials have been dragging for quite awhile now (see the table of the latest financials here). Their latest Net Income is a huge negative 2.45B dollars, while Hollywood (the company Blockbuster is trying to buy, in case you forgot) managed a positive 81.95M income. Also, Blockbuster’s shares are down more than 40% for the year, while Hollywood is up by roughly 5% (S&P is up about 10%). So you could challenge me by saying that the market has already penalized Blockbuster and it is worth its market capitalization today. Well, I doubt that all the analysts on the Wall Street are projecting the future cash flows right. For example, the latest analysis from Southwest Securities on December 2nd, 2004, have Blockbuster at long-term buy – so they actually believe that Blockbuster has a bright future. Only 1 out of 9 analysts covering the stock have it at a strong sell – the rest believe you should either hold it or buy it!

So to answer the question whether Blockbuster will finally go bust, one should just submit to the Viacom’s decision in the early 2004 to get rid of their stake in the struggling company (oh yes, do not forget the lack of buyers). Having an obsolete business model does not help things either. Also, I have not used my Blockbuster card in a while (have you?). So I suggest you bypass Blockbuster stock, unless you want your portfolio to stink.

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Stinky Stock of the Week: Blockbuster Inc. (BBI)