Last week Redbox, a subsidiary of Coinstar, Inc (CSTR), announced its plans to enter into a joint venture with Verizon Communications, Inc (VZ), which will incorporate movie streaming into its already popular DVD kiosk model. This new option will carry a $6.00 rate plan for unlimited steaming and a $8.00 plan for unlimited streaming as well as 4 DVDs a month via its kiosks. The online streaming content will include, "access to movies from Viacom Inc.'s Paramount Pictures, Lions Gate Entertainment and MGM through a deal with the Epix premium cable channel, as well as films from Time Warner Inc.'s Warner Bros. That includes recent hits such as teen death match drama, "The Hunger Games," and Tom Cruise action sequel, "Mission Impossible: Ghost Protocol."
Its entry into this market segment marks yet another blow to Netflix (NFLX) whose current market share continues to be eroded by competitors like Amazon Prime (AMZN), Blockbuster, Epix, and Hulu Plus. 2012 has proven to be a tough year for Netflix's management as they continue to seek alternative methods of growth including foreign expansion and exclusive contracts with the more popular movie studios. Most recently they were thrown a lifeline in the form of an exclusive Disney contract set to go into effect until 2016. Its contract will include access to Disney's recent acquisitions of Lucasfilm and Pixar Studios, infusing some much needed value into both its content and share price. The question now is whether these progressive steps will be enough to maintain a P/E ratio of over 120?
To answer this I have taken a closer look at the financial trends within the consumer services sector itself. I tend to examine this sector from the consumer point of view since it is motivating factor that drives its revenue model. Now I must admit in this circumstance, I am a fan of both companies having maintained both a Netflix streaming subscription while typically renting my DVD's via my local Redbox. After examining both brands and pricing models however, I tend to see more investment potential in one company over the other.
Currently Netflix's strength relies on its large volume of content and friendly user interface. Recently it received a buy recommendation from Citi, upping its target price to $105/share based upon an increase in customer satisfaction. In addition to this factor it is by far the largest company within this segment and it has branded itself into almost every gaming console, smart TV, and mobile device that exists. This model of convenience alone will continue to drive profitability and add to its already commanding market share. The other side to this argument however is the higher price for its services. Netflix's $15.98 pricing model provides full access to its online streaming library as well as 1 DVD at-a-time delivered via the postal service.
In comparison, Redbox's new model offers a similar streaming service with less available titles and 4 DVD's a month for only half the price. It also offers a more convenient and cost-effective distribution model via its strategically placed kiosks. This method alone saves the company millions of dollars a year in comparison to what Netflix currently pays for distribution of its DVD's. Secondly, many of its existing customers already spend $4.80 a month ($1.20 x 4) for the DVD service alone; so in my opinion most would be interested in unlimited streaming for $3.20 more. This price point makes it very reasonable for the average consumer.
This brings me to the financial analysis of both companies. Currently Netflix has a P/E Ratio of 120.39 with an E.P.S. of $0.78 and a market cap of $5.18 billion. Coinstar, on the other hand, maintains a P.E. ratio of 10.51 with an E.P.S. of $4.91 and a market cap of $1.52 billion. In order to maintain its current share price Netflix must continue to prove itself and drive revenue long into the future. This feat however is proving to be more and more difficult given how saturated the market has become in the U.S.. Coinstar on the other hand does not suffer from the same pressures and therefore has a much larger potential for success given its lack of existing obligations to perform. In addition I would also like to point out that Netflix currently carries a 28% short interest in its equity. This factor can be extremely hard to overcome unless it can prove continued growth for the next few quarters to come. Given this inherent risk factor alone, I personally prefer the risk/return ratio of Coinstar to Netflix.
That being said, I do expect to Netflix to finish out 2012 strong given its most recent upgrade and continued history of profitability over the 4th quarter, On the other hand, I do not believe 2013 will be as kind to Netflix in comparison to Coinstar. As a result, I have chosen Coinstar, Inc over Netflix for my long portfolio in 2013.