On behalf of all long-term investors in Coinstar Inc. (CSTR), I would like to thank Jim Chanos for helping to keep the price of CSTR shares lower than they would be without his persistence. While Chanos has been talking about his short Coinstar thesis for over a year (see Sep 20, 2011 Bloomberg interview, then April 12, 2012 CNBC interview), it is his most recent interview, published Sep 19, 2012 that seems to have finally resonated with the marketplace and pushed shares lower.
Prior attempts to talk down the stock had actually been met with higher prices. CSTR rallied from $44 on the close of 9/20/11 to over $54 by the end of October 2011. His April 12th, 2012 CNBC interview was soon met with a surprise announcement after the close when Coinstar pre-announced certain financial results for Q1 2012, which were stronger than expected, and raised guidance for the entire year. Shares rallied from their $61.31 close to as high as $69.80 in extended trading that day.
Rule 10b5-1 Share Repurchase Plan
The reason Chanos is every long-term Coinstar investor's best friend is related to a little noticed 8K filed by the Company on Aug 16, 2012 announcing it entered into a trading plan in accordance with Rule 10b5-1 in connection with the share repurchase program announced by Coinstar in July 2011 under which, as of June 30, 2012, the Company was authorized to purchase up to $270 million of its common stock. The Plan's effective period began on August 16, 2012, and will expire on February 15, 2013, unless terminated earlier in accordance with its terms.
A look back in history shows us that between January 2010 and the end of Q2 2011, CSTR purchased approximately 2.4 million shares of its stock for approximately $112.6 million. This implies an average price of $46.91 during this period. It is reasonable to believe that CSTR's appetite for share repurchases at current levels is significant since it purchased shares at a higher price in the past when revenues and EBITDA were substantially lower than they are today.
The lower the stock price, the more shares Coinstar can repurchase for its $270 million, and the higher earnings per share will be in future quarters. So thank you, Jim Chanos for helping Coinstar reduce the number of its outstanding shares. And thank you for allowing long-term investors the opportunity to purchase shares in the mid-$40's. At the current price, CSTR could afford to repurchase about 20% of the entire float of the company. Given current short interest of 9 million shares, that would put the short interest ratio at 37.5% of float, creating conditions ripe for a short squeeze.
I have a good deal of respect for Jim Chanos and find myself in agreement with his short calls more often than not. That said, I believe his take on Coinstar is off the mark for the following reasons:
The Acquisition of NCR's Blockbuster Express is Strategically Brilliant
• By eliminating its largest competitor in the DVD kiosk space through the recent acquisition of NCR's Blockbuster Express, CSTR achieved 4 important value-creating objectives:
o Virtually eliminated the risk of Redbox losing a major retail account to a competitor (this was a real risk with NCR in the business)
o Ensured any future new large retailer contracts for DVD kiosks will go to Redbox (no other viable operator for large retailers)
o Gained presence at 2 of the largest and highest trafficked supermarket chains in the country (Publix and Safeway) which will result in thousands of profitable kiosk locations
o Removed the threat of upward retailer revenue share pressure by removing the only other viable company that could service larger national retailers. In fact, by being the sole vendor in this space, one could argue that commissions to retailers could go down in the future, as there would be no other vendor options.
Why the Melting Ice Cube Argument is Flawed and Other Positive Catalysts for Coinstar
The cannibalization of kiosk-based DVD rentals by online video will take longer than expected due to the significant price advantage of Redbox vs. online a la carte rentals afforded by the First Sale Doctrine which exists for physical DVDs but not for digitally delivered content. This is a point that seems to get lost: Redbox will always be able to offer movies cheaper than online competitors due to this subtle but critical structural difference in content acquisition and pricing power. Given the high price sensitivity of the average US household, $1.20 looks a lot better than $4.99 for a movie rental. Price trumps technology in this case.
• Q4 boasts a strong release slate kicking off with the $622 million box office hit The Avengers which should be in Redbox kiosks by the first week of October.
• Product mix trends should help boost Redbox margins each quarter as the percentage of Bluray titles increases. Redbox has higher margins on Bluray product compared to standard DVD.
• Interchange (credit/debt card) Fee Mitigation is quite possible by Q1 2013 which would add a significant boost to CSTR's already flush bottom line
The risk-reward for long-term investors in Coinstar appears attractive at current levels. Generally it is a bad idea to be short a company that generates consistent and growing cash flow, that is clean from an accounting standpoint, trading at low valuation multiples, holds the low-cost provider position in the market and has tens of millions of satisfied customers with consistently high approval ratings.
Disclosure: I am long CSTR.
Additional disclosure: I am long options on CSTR.