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More Sellthrough, Games and Rev-Sharing In Movie Gallery's Future

7 Aug, 2002 By: Joan Villa

Movie Gallery will plunge back into retail sales of hit movie titles, expand DVD revenue-sharing and commit $2 million to boosting its game rental inventory, the company said on a quarterly earnings call with analysts.

The Dothan, Ala.-based chain boosted second-quarter revenue nearly 48 percent to $122.6 million on 1.3 percent higher same-store sales over the year-ago period. The results were on a 49 percent higher store base of 510 new locations, including 324 Video Update stores that will be fully converted to Movie Gallery signage by spring 2003. A full-scale marketing blitz of coupons and direct mail targeting Video Update neighborhoods is underway through the fall, CEO and chairman Joe Malugen said.

Net income for the quarter ended July 7 was $5.6 million, or 18 cents per diluted share, up from the year-ago equivalent profit of $1.8 million, or 7 cents per share. The 1,560-store chain is “on target” to complete 140 store openings this year, Malugen confirmed.

With DVD now representing 27 percent of rental revenue, up from 24 percent in the first quarter, Movie Gallery just signed its third DVD revenue-sharing pact that allows flexible purchases between VHS and DVD formats but preserves the high margins of DVD sellthrough pricing.

“We're creating some relationships with studios that are more a partnership and we think that's were we need to be long term,” Malugen explained.

Revenue-sharing deals that include DVD generally return 20 percent to 45 percent of rental revenue back to the studio, he said. However, they also return the emphasis to purchasing a DVD-to-VHS ratio based on DVD's 30 percent market share rather than its lower sellthrough price, added EVP and CFO J. Steven Roy.

“We're not buying format, we're buying a movie, on basically the same cost we've been working on for the last nine months to a year,” Roy said.

Although VHS is losing some of its luster with consumers, demand is still high for previously viewed tapes that currently average “in the mid to high $5 range” versus more than $6 a year ago, he noted.

The nation's No. 3 rental chain will also commit $2 million to bolstering game software in time “for what we expect to be an exciting holiday game business,” Malugen said, particularly in the growing Xbox and Nintendo Game Cube formats. Games now account for 11 percent of total rental revenue, he added.

The stores will also stock new sellthrough inventory on titles like Lord of the Rings, Monsters Inc., Spider-Man and Scooby Doo, he said. The chain had previously shifted retail sales to its Web site in order to free up in-store space for rental and previously viewed product.

“There are about 25 to 30 movies out of the 800 or so released each year that consumers have an intent-to-own,” stated Malugen. “We recognize that and intend to address that.”

While retail sales didn't reap rewards for rental stores under the VHS format of the mid-1990s, DVD has created new customer demand and led competitors like Blockbuster to bring back in-store sales, noted Harry Katica, analyst for SWS Securities.

“It's very much of a new environment,” he said. “With the dynamics of DVD and the cost structure of DVD where a greater percentage of movies is coming out at affordable sellthrough pricing, it's becoming too big a piece of the market for the rental chains to ignore.”

Going forward, the retailer expects flat to 2 percent same-store sales increases in the third quarter, but raised full-year 2002 pro forma earnings targets to $1.15 to $1.21 per share from the previous range of $1.08 to $1.16.

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