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Strong Q3 Revenue Gains at Movie Gallery

4 Nov, 2003 By: Holly J. Wagner


Movie Gallery expects DVD rentals to account for 70 percent of rental trade by the end of the year and sees expansion opportunities in used-disc and game trade, executives said in their third-quarter financial call.

The chain announced a revenue increase of 28.2 percent for the quarter ended Oct. 5. Executives cited the transition to DVD, increased sales of used movies, greater availability of game titles and new stores among the drivers.

But profits were down even as same-store sales grew 5 percent, as the company took charges for an accounting change related to rental inventory accounting. Net income for the quarter was $9.2 million, compared with $9.4 million last year.

“We believe the continual shift of homes to the DVD format, the revenue performance of stores newly built and acquired over the last few years, the continued positive results of our Video Update acquisition stores, our loyalty program and our product copy depth all drove our rental results,” said CEO Joe Malugen.

DVD rental revenue was 53 percent of movie rental revenue, compared with 35 percent of movie rental revenue in the third quarter of 2002. Malugen said he expects DVD to account for 70 percent of rentals by year's end.

The chain carries about 60 percent to 65 percent of its titles under revenue-sharing agreements, which brought per-store inventory costs down by 29 percent for the quarter, an analyst observed. Rental pricing on some VHS titles continues to irk chain execs as it has other retailers.

“There are a few studios that still would like to charge fairly high prices on some of their VHS product,” Malugen said. “To the extent we feel those VHS cassettes are overpriced, we perhaps constrained our purchase of those.”

More sellthrough product helped increase revenue, Malugen said.

“Since late August last year, we began to supplement our rental product offerings with an increase in ‘high intent to own' movies,” he said, qualifying those titles as movies with greater than $75 million in box office receipts. “There are typically between 25 and 40 of these titles in a given year … We believe the offering of these types of titles for retail has produced incremental increases to our overall business.”

But that may not bode well for the fourth quarter, because new movie sales are a comparatively low-margin segment of the business.

“Retail margins declined from 33 percent to 21 percent as a result of our increased mix of new-product sales compared to the previous year,” Malugen said. “We believe this year's fourth-quarter lineup is better from a rental perspective. There are only half as many children's releases as last year. Fewer quality sellthrough titles could negatively impact revenue slightly, although this would occur in a significantly lower margin area of our business.”

Used trade, on the other hand, is looking up.

“As a result of the copy-depth programs that we have in place, we anticipate the demand for previously viewed sales will increase along with the penetration of DVD,” Malugen said. “As DVD households continue to expand, we believe the largest consumer base is starting realizing the value of used DVD over the larger ticket price of new, unviewed DVD copy.”

Malugen predicted the product sales side of the business would go from 7.5 percent to about 10.5 percent to 11 percent of the business during the fourth quarter, with most of that coming from lower-margin new movie sales.

The company has nine Game Zone stores within stores operating and expects to have 15 open through the holiday season -- 10 in markets with little or no competition for the format.

Game Zones, which occupy a glass-enclosed footprint of 600 square feet to 800 square feet within those overall stores, sell, rent and trade games. But their future depends on higher-margin trade in rental and used games,

“We think there is significant pent-up demand for this sort of concept in terms of trading, buying and selling used games,” CFO J. Steven Roy said. “We're very pleased with the customer response in all these stores.”

Revenue increased to $167,239,000 for the third quarter, a 13-week period, from $130,435,000 for the third quarter last year, a 13-week period ended Oct. 6, 2002.

Adjusted net income per diluted share was 30 cents for the third quarter, up 7.1 percent from 28 cents for the third quarter last year. Adjusted net income for the latest quarter excludes 2 cents per diluted share related to the non-cash impact of the change in accounting estimate for rental inventory discussed in the company's fourth-quarter 2002 earnings release.

The company expects a low single-digit increase in same-store revenue for the fourth quarter and maintains its guidance for expected store openings for full-year 2003 in a range of 200 to 225 stores.

Executives increased revenue guidance for the full year to a range of $675 million to $680 million from the previous range of $655 million to $670 million and affirmed its guidance for adjusted net income per diluted share for the fourth quarter of 2003 in a range of 45 cents to 47 cents, bringing full-year 2003 to a range of $1.53 to $1.55.

Movie Gallery owns and operates 2,076 stores.

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