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Analysts Say DEG Data Underscores Rental and Digital Strength

20 Jul, 2009 By: Erik Gruenwedel

With mid-year home entertainment revenue data from The Digital Entertainment Group underscoring packaged media’s resilience despite the economy, analysts said studios and media companies would have to factor DVD and Blu-ray rental when mapping out digital initiatives.

DEG said rental revenue was up 8%, spearheaded by a 62% surge in Blu-ray rentals, according to Rentrak. Revenue from $1-per-day rental kiosks from Redbox, The New Release and others is reportedly set to increase by $125 million to more than $415 million this year, according to Adams Media Research.

Michael Nathanson, analyst with Sanford Bernstein in New York, said the surge in rental revenue was not good for the economics of an industry predicated on a sellthrough business model but important nonetheless since the 90% of home video revenue coming from DVD and Blu-ray (compared to 10% for digital) aren’t disappearing anytime soon.

“It’s key the studios need to preserve that eco-system by making smart business decisions that recognize that point,” Nathanson said.

The analyst said Blu-ray appeared to be a driver in both movie rental and sellthrough, especially for certain types of content such as action/adventure. He said higher price points generated by Blu-ray would continue to support overall margins.

Michael Pachter, analyst with Wedbush Morgan Securities in Los Angeles, said it would take time to determine whom among the rental distributors (i.e. Blockbuster, Netflix, Redbox, etc.,) was benefiting the most.

“It's pretty clear Redbox is growing fast, but I’m sure Blockbuster has got its fair share,” Pachter said.

The Wall Street Journal reported Sony Pictures Home Entertainment, Lionsgate and Walt Disney Studios Home Entertainment have inked rental distribution deals with Redbox — despite the latter’s ongoing litigation with Universal Studios Home Entertainment over distribution of its movies.

Indeed, Reed Hastings, founder and CEO of Netflix, recently said the rise in $1 DVD rentals offered by kiosks had become a predominant theme among subscribers opting out of Netflix. He said kiosks would be the service’s No. 1 competitor by the end of the year.

He said kiosks had a limited cannibalistic effect since new release titles represented just a third of Netflix’s business.

“The long-term effect of $1 new releases [however] is not positive for us or the industry,” Hastings said in a recent analyst call. “[Kiosks] can’t be good for the studio sellthrough business.”

Netflix, which continues to aggressively market its streaming service as a value-add to new and existing monthly subscribers, charges Blu-ray subscribers (about 1 million) an extra $1 per month for what it characterizes as premium content.

Wedbush analyst Pachter said Blu-ray would continue to increase as the hardware prices decline. He said sales of Blu-ray should correlate to 1080p TV sales going forward. 

“We are probably only at 20% 1080p household penetration, so it would be silly to expect Blu-ray to outpace that until the country comes out of recession,” Pachter said.

The analyst agreed that Blu-ray penetration is somewhat slower than expected but that purchase intent for the format is very high, which he said freezes the consumer who doesn't want to buy too many DVDs in the "old" format. 

“The fact that standard definition DVDs upscale beautifully with a Blu-ray player is not well understood,” Pachter said.

He concurred that cable video-on-demand (VOD) was driving 80% of digital distribution revenue, with 20% earmarked for PC downloads and Apple iTunes.

Independent analyst Rob Enderle, a proponent of digital distribution, said the DEG numbers appeared to be skewed in favor of Blu-ray at the expense of digital growth, which increased 21% to $968 million, including $196 million for electronic sellthrough.

“Why would they conceal download growth but focus on the Blu-ray like a laser?” Enderle said. “Wouldn’t increased digital downloads offset an expected competitive decline in other types of VOD and thus imply a faster growth for Internet downloads than has been reported?”

Wedbush’s Pachter countered that few people are equipped to receive Internet-delivered movies to their living room televisions, and until more are equipped with Web-enabled media players, packaged media would thrive.

“Packaged media should be fine for a long time,” he said.

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