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CFO: Blockbuster Able to Weather Economic Storm

10 Dec, 2008 By: Erik Gruenwedel

Blockbuster said it has contingent plans in place to operate in the current economic climate and remain profitable through 2009.

Speaking Dec. 10 at Wedbush Morgan Securities’ investor conference in Santa Monica, Calif., CFO Thomas Casey said the Dallas-based No. 1 DVD rental service remained focused on improving the net-rental rate on titles, in addition to maintaining gross profitability at the store level.

He said Blockbuster charges on average $4.30 per rental across its chain of 7,000 stores. When eliminating for free in-store exchanges, discount coupons and related rewards, the net-rental rate is about $3.15, which Casey said lagged the industry standard.

“When you do 500 million domestic rentals per year, there is a lot of money getting that value equation corrected to industry standards,” Casey said.

Edward Woo, research analyst with Wedbush Morgan Securities in Los Angeles, said Casey wanted to get the effective pricing closer to real pricing, which Woo said could involve charging premium pricing for longer rental terms and greater product availability.

“They realize they need to offer a variety of pricing plans so that they get the regular renters, plus the value renters who would not visit their store otherwise,” Woo said.

Casey said the recent rollout of 99-cent rentals of catalog product in 2,500 stores, combined with 60% availability of new releases during the first week (compared to 15% in 2006) and increased sellthrough product, had resulted in year-to-date gross profit dollars (at the store level) increasing from $1.39 billion to $1.43 billion.

To promote the Blu-ray and DVD release Dec. 9 of home entertainment’s most coveted title, The Dark Knight, Blockbuster hired actors dressed like Batman to attract consumers from 10 p.m. to midnight Dec. 8 in select stores.

“We want to communicate to people that coming to Blockbuster can be a new experience,” Casey said.

He said Blockbuster represented a value proposition compared to Wal-Mart due to its online, streaming and packaged-media distribution channels and proximity of stores to consumers.

The CFO said home entertainment revenues would remain relatively flat through 2011, which he said included about $8 billion on DVD rentals and $26 billion on retail.

“Blockbuster hasn’t historically served [retail] but has been ramping up efforts to do so this year,” he said.

Casey said the subscription rental business (“Where rival Netflix lives,” he said) remained profitable to Blockbuster and represented “a place holder” on the digital future.

The executive downplayed analyst and media attention on digital distribution, which he characterized as small in terms of dollars. Casey said cable VOD is the biggest part of digital distribution ($1.2 billion in 2007) and grew to $1.6 billion this year.

“As part of the $35 billion adjustable home entertainment market [including sellthrough], the dollars involved in digital downloads are actually nominal,” he said. “The DVD rental business [remains] the principal engine of [our] growth.

“Studios only make 2.5% of their revenues in the VOD window today and are not likely to put at risk half of their profitability. [That] is why there hasn’t been much collapsing of the [release] window over time.”

Entering an uncertain and fiscally challenging 2009, Casey said Blockbuster this year reduced above-store SG&A (selling, general and administrative expenses) to $340 million from $440 million. The company’s overall annual SG&A expenses reach $2.4 billion.

Blockbuster will seek to reduce leases, of which 40% come due each year. The company spends $450 million annually in domestic rent.

“There’s a big opportunity [for cost reductions],” he said. “Just look at what’s going on with commercial rents recently.”

Blockbuster, which spends $130 million in CapX expenses (annual purchases of long-term business assets such as computers, equipment, tools and vehicles), could reduce that to $30 million in a cash-restrained environment, Casey said.

Should the availability of working capital (how much liquid assets a company has) be threatened, Casey said Blockbuster would delay for a period of time its transformation to retailer. The company spent nearly $90 million in the second quarter, increasing inventories of movies and video games for rental and sellthrough.

“If we needed to, working capital could be a very significant source of cash in 2009,” Casey said. “And the rental business would not be affected by this. Regardless of what happens with the market, we feel confident we will execute on our plan and get through 2009.”

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