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Redbox Playing Studio Hardball

5 Feb, 2015 By: Erik Gruenwedel

Redbox has looked at the domestic box office and its dominant physical media market position and has taken the gloves off. The days of throwing money at studios for new release street-date availability are over. The kiosk vendor wants distribution terms that it deems fair and reflect market reality.

Galen Smith, CFO of Redbox parent company Outerwall, acknowledged Redbox’s distribution agreement with Warner Home Video had ended without a new one in place. As a result, Redbox is acquiring Warner titles through alternative (i.e. retail) channels, according to the CFO.

Redbox, which is headed by former Warner executive Mark Horak, last year extended existing distribution deals with Sony Pictures Home Entertainment, Paramount Home Media Distribution and Universal Pictures Home Entertainment, while signing a new agreement with Lionsgate.

“We continue to have good discussions with [Warner],” Smith said on the Feb. 5 fiscal call. “It’s really about finding a contract that works well for both parties and allows us to support the home entertainment industry. We look forward to [working with them] under the right terms.”

Redbox is also facing a contract renewal this year with 20th Century Fox Home Entertainment.

When asked if the agreement impasse with Warner was due to last year’s price hike and the studio’s desire for higher per-unit fees, Smith declined to give details other than to say any distribution agreement would have to be fair and factor in the state of packaged media.

The CFO said studios with revenue-sharing agreements would actually benefit from the price increase. He said Redbox is the second- or third-largest buyer of packaged media content from studios.

“We are critically important, [and studios] are obviously critically important to our business,” Smith said. “But what’s important is that [an agreement has to be] something that works for both parties.

“We take a very contrarian view to the market overall in providing new releases at a great value to our consumers, and we want to continue doing that.”

Lower Revenue, Higher Margins

Meanwhile, Outerwall said Redbox’s price increase late last year produced a bigger windfall than expected, helping to offset the third-quarter’s weaker performance and secular decline in the physical rental market.

Indeed, Redbox operating income increased about 9% to $121.3 million from $111.3 million during the previous-year period. Operating margin was 24.6% compared with 22.4% a year ago. The average rental transaction increased to $2.72 from $2.58 during the previous-year period due in part to the price hike and continued push toward higher-margin Blu-ray Disc rentals.

Revenue was relatively flat at $494 million. Rental transactions declined 10.7 million units to 181.3 million from 192 million units in the year-over-year period. Same store (kiosk) sales decreased 1.3% compared to an increase of 0.9% a year ago.

CFO Smith attributed the decline in rental transactions to three factors: The underperformance of key movies and video game releases early in Q4; moderately lower demand from price sensitive consumers following the December price hikes; the ongoing secular decline in the physical rental market.

Box Office Blues

Nearing the midpoint of the current first quarter, Smith said rental demand was down reflecting Redbox’s yearlong downward projection for 2015. He attributed the decline to the price hike and expected lower box office.

“We expect the number of  box office titles releasing at Redbox in 2015 will decrease from 2014 as a result of the 16% decline in theatrical box office in the second half of 2014,” he said, adding that high-frequency rentals dipped 3% in the quarter.

Looking ahead, the CFO said current Q1 box office releases are 31% below the same period a year ago with eight fewer theatrical titles released in the quarter.

“We expect content strength to improve in Q2 as the Q2 2014 release slate was particularly weak,” Galen said. “It’s really driven by content.”

The company is focusing on recent consumer initiative – Blu-ray Upsell – intended to generate higher-margin BD rentals, in addition to consumer loyalty program “Redbox Play Pass,” which rewards frequent renters with free titles and has generated 1.5 million members in two months since launch.

“While other companies have moved away from physical media, we believe we are uniquely positioned to take advantage of the long tail of physical rentals, despite the secular decline in DVDs,” Smith said.

Indeed, the CFO said that during the week of Dec. 29, Redbox had its best rental week ever.

“It proves that when you have strong content, [it] will continue to perform very well [at rental],” he said.

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