Pivotal Moment for Blockbuster

Includes: BBI, NFLX
by: Mark Riddix

Blockbuster (BBI) announced earnings Thursday evening and here are a few of the the highlights from the earnings release. Blockbuster lost 14 cents per share which was right in line with analyst expectations. Domestic same-store sales decreased 7.8% and worldwide same-store sales dropped 7.1% as Blockbuster continues to lose market share to RedBox and Netflix (NASDAQ:NFLX). Sales revenue and gross profit declined when compared to the results of Q1 of 2009. Operating expenses and administrative expenses rose due to costs associated with store closings and severance packages. The one bright spot was that gross margins rose from 52.8% to 53.5%.

As I was reading the earnings release, there were four statements made by company management that I found especially interesting:

1) We expect the next 12 to 18 months will remain challenging.

This is no surprise to anyone who has followed Blockbuster. Any possible turnaround will be a long term endeavor and won’t happen for the foreseeable future. CEO Jim Keyes believes that Blockbuster has adequate liquidity to survive the current year. This is debatable because Blockbuster has a tremendously high cash burn rate. Blockbuster has about $110 million in cash and cash equivalents on the balance sheet as of the close of Q1. This is a 42% drop from the $188.7 million on the balance sheet at the end of the last quarter. The movie rental giant is looking to sell off international assets to increase its liquidity.

2. We now have a 28 day rental advantage on nearly 50 percent of major new releases.

While the 1st quarter is not a good barometer for its new 28 day deal because it was signed too late in the quarter. Blockbuster has attributed its positive same stores sales growth for the month of March to its 28 day advantage. Blockbuster has been touting this advantage as one of its keys to improving its profitability. According to the CEO, 60% of the $22 billion spent annually on video rentals and purchases occur in the first 28 days. The next few quarters will show if Blockbuster is reaping rewards from its 28 day head start over competitors.

3. We have had encouraging discussions with both financial and strategic partners and expect to have additional details to report by our annual stockholders’ meeting in late June.

Over 4,000 NCR Blockbuster Express DVD kiosks are now up and running. NCR has successfully negotiated deals with the Kwik Trip, Publix, and Sheetz stores. Blockbuster is expecting to have 10,000 kiosks nationwide by the end of 2010. The company will probably close more U.S. stores and layoff additional staff to lower the firm’s operating budget. One of the alternatives that Blockbuster is likely considering is a restructuring of the firm’s huge debt load. Blockbuster is trying to recapitalize its $919.6 million in debt outside of court by getting debtholders to agree to more favorable terms. If Blockbuster is unable to recapitalize its debt, the last resort would be a prepackaged bankruptcy filing. This would wipe out shareholders and punish bondholders as well.

4. We believe Movie Gallery store closings could favorably affect hundreds of Blockbuster locations.

In my last post, I wrote about how Blockbuster could benefit from the closing of Movie Gallery and Hollywood Video stores. Company management has now publicly stated that Movie Gallery’s closure could directly add to Blockbuster’s bottom line. Blockbuster believes that Movie Gallery’s closing has solidified the movie rental chain as the only multichannel supplier of movie entertainment.

Investors should keep a close eye to see how things are progressing over the next month.

Disclosure: I have no position in Blockbuster.