Hollywood Video's suitors
With the major upswing in DVD sales and a thriving DVD rental business from mail-based Netflix, the in-store video rental industry looks to be dead. And that's not even counting the move to video-on-demand that is just starting to surface, a move that may well take away most of the big audiences for recent popular films.
Blockbuster, the #1 company in the market, once rode high, as it bought out and/or bankrupted hundreds of mom-and-pop video stores across the US. But for the past few years, Blockbuster has been losing revenue and profits, in spite of many attempts at reengineering. The chain has 8,900 stores, but it lost a billion dollars last year. It's doing so badly that parent Viacom has tried desperately, to sell it, finally spinning it off earlier this year.
But Blockbuster apparently sees its salvation not in shrinking but in getting even bigger. It has tendered an offer to buy rival Hollywood Entertainment, the owner of the Hollywood Video rental chain. #2 Hollywood Video is doing bad, but not quite so bad. Though it has 1,900 stores, its net income shrank by 66% last year -- but at least it had some net income. The company also operated 600 Game Crazy stores, which rent electronic games, an area that's doing a little better than movie rental. Another announced bidder is a Los Angeles-based takeover firm.
Also making its bid is Movie Gallery, the #3 company in gross income. That company has 2,200 video rental stores both owned and franchised, among them 220 Video Update stores it purchased in 2001 from a bankrupt Midwest chain. The company actually improved profitability last year. Its stores are generally located in more rural areas than either Blockbuster's or Hollywood's,
Even if the Movie Gallery takes over Hollywood, the new company would still be far smaller than Blockbuster. But Movie Gallery claims that at least it wouldn't face the antitrust scrutiny that a Blockbuster/Hollywood deal would entail. Five years ago, Blockbuster tried to merge with Hollywood, but was turned down by regulators because it would make too dominant a player in the market.
Of course, in a rapidly sinking industry, the regulator might look the other way. In the category of providing home entertainment in general, the merged company would be only a big player, with is estimated to be currently about 20% of the total home entertainment market, including sold DVDs and Netflix, As the competition matrix changes, Blockbuster is competing as much with Wal-Mart and Best Buy more than it is with Hollywood Video.
But wouldn't buying more video stores be crazy? After all, Hollywood sites are generally not very far from Blockbuster sites, so there's little expansion of new markets. Who needs even more money-losing stores? Bill Mann's analysis for Motley Fool of Blockbuster's is, I believe, the correct one, and a reason why sometimes senseless mergers make sense:
[Blockbuster m]anagement determined that its best move, then, was to eliminate some of the competitive forces that Hollywood Video stores cause. In other words, this $11.50 bid by Blockbuster isn't necessarily an indication of the value of Hollywood Entertainment as a stand-alone company, but rather the price that Blockbuster is willing to pay not to worry about it as a competitor anymore.
In other words, the value of knocking out a competitor (and closing lots of stores serving the same market) is worth more than the apparent numbers of the deal. This is an often overlooked factor in mergers. Simplifying any market segment gives major advantages to the remaining leader(s), and that's worth a short-term setback in revenue.
