A DVD Industry Insider Comments on the Video Rental Business and Netflix' Advantage (BBI, MOVI, NFLX)

An email from a DVD industry insider (he asked to remain anonymous) argues that the traditional movie rental companies' key problem is their SG&A (sales, general and administrative) expenses. His analysis also illustrates the gulf between Netflix' fundamental cost structure and Blockbuster and Movie Gallery's. Here's his table, showing the gulf in SG&A expenses between the movie rental stores and other retailers:

Ticker	Company	Revenue	Gross Margin	SG&A	Market Cap	EV to Rev
MOVI	Movie Gallery	$2,018,000,000	60%	59%	$215,000,000	0.1x
BBI	Blockbuster	$6,053,200,000	60%	51%	$848,470,000	0.1x
NFLX	Netflix	$506,228,000	45%	37%	$1,410,000,000	2.8x
BBY	Best Buy	$27,433,000,000	24%	18%	$21,000,000,000	0.8x
GME	Gamestop	$1,842,806,000	28%	20%	$1,790,000,000	1.0x
WAG	Walgreens	$37,508,200,000	27%	22%	$45,400,000	1.2x
BKS	Barnes & Noble	$4,873,595,000	31%	22%	$2,410,000,000	0.5x
TGT	Target	$46,839,000,000	33%	22%	$48,220,000,000	1.0x
WSM	Williams Sonoma	$3,136,931,000	41%	31%	$4,350,000,000	1.4x
TWMC	Trans World Entertainment	$1,365,133,000	36%	33%	$203,750,000	0.1x
TIF	Tiffany & Company	$2,204,831,000	56%	42%	$5,460,000,000	2.5x
SBUX	Starbucks	$5,294,247,000	59%	43%	$10,690,000,000	2.0x

You'll note that GMs in the category are terrific, which probably explains the utter lack of discipline with store operating costs.

Quick comment: I'm not sure about this. Perhaps high gross margins and high SG&A are the natural cost structure of a business where the cost of goods is low (it's mainly digital content, after all) and the heavy costs are in distribution. I'd be interested to hear other readers' thoughts.

Related:

• All Media Stock Blog articles about Blockbuster, Movie Gallery and Netflix.
• The complete list of stocks covered by The Media Stock Blog.

« Any opinions expressed on the Seeking Alpha sites are those of the individual authors and do not necessarily represent the opinion of SeekingAlpha or its management. »

Comments

[videostore:]

There are a few ways to determine if high SG&A is natural/structural or ornamental.

Looking at retailers with lower rings and even higher variable transaction costs (McDonald's SG&A 35%, Starbucks SG&A 42%) it appears that they have managed to keep SG&A 20 to 30% lower than video stores.

Since low ring transactions would manifest themselves through higher hourly employment requirements, one could look at hourly employment deltas for peak hours and extrapolate their additional costs. Video stores typically require peak staffing for a 4 hour band on Friday and Saturday. Since management costs and real estate costs are fixed and these peak hours only represent about 7% of operating hours and hourly labor represents about 15% of costs then the lower rings probably increase SG&A by about 2%.

One can also look at the SG&A costs in video stores and determine if there are ways they can be reduced. If a store needs to operate 96 hours a week, needs 11 FTE's, needs 6,000 square feet, etc. then one could make an argument that the higher SG&A are required. If it can be demonstrated that the store can make improvements in any of these areas, one might suggest that SG&A can be reduced.

2005 Nov 04 01:09 PM