Blockbuster's Bid for Circuit City Makes Little Sense

The Wachovia (WB) news garnered all the headlines yesterday, but an interesting story has developed in the retail space; Blockbuster (BBI) is making a bid for Circuit City (CC) and taking the offer directly to shareholders after CC ignored the video rental giant's repeated attempts to negotiate a deal.

A couple of different reasons come to mind as to why this deal is a bad idea. First, we have too many retailers in this country, which is why so many of them are marginally profitable, if profitable at all. The credit bubble we have experienced in recent years has led to more retail stores than can be supported in a typical economic environment. These excesses can only be corrected by bad retailers going away.

We have already started to see bankruptcies in the retail space (Sharper Image, Bombay, etc), which is a good thing. Blockbuster and Circuit City have thousands of poor performing locations. The solution to make these companies more stable financially is to shrink them, not keep them open. However, a merger proposal is a clear sign that Blockbuster thinks the synergies from a deal (if there are any, which is debatable) would slow the progress of its eventual demise, which is doubtful.

Secondly, why should we have any confidence that Blockbuster and Circuit City would do any better together than apart? There is no evidence that either retailer has any idea what they are doing. As a result, there can be little confidence from shareholders that either party would be successful in combining the two firms and seeing any benefit from such a move.

All in all, it is certainly a positive development that Blockbuster feels it needs to do something to improve its competitive position, but a deal with Circuit City likely isn't a very viable solution.

Full Disclosure: No positions in the companies mentioned.