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A New Blockbuster

23 Mar, 2015 By: Stephanie Prange, Erik Gruenwedel

Who thought a little kiosk would have so much power?

With the demise of Blockbuster Video and the other big rental chains, Redbox — which operates 42,000 kiosks in 34,000 locations in the United States — has come to dominate the physical rental title market and has become a major outlet for “rental” titles in the mid-range box office category as well as direct-to-video and indie titles.

The kiosk company also wields its power with major studios. Approaching the end of the first-quarter, Redbox continues to operate without a distribution agreement with Warner Bros. Home Entertainment, according to Galen Smith, CFO of parent company Outerwall. Redbox’s agreement with Warner expired Dec. 31, 2014.

Speaking March 10 at the Piper Jaffray Technology, Media and Telecommunications confab in New York, Smith said Redbox would prefer to have distribution agreements with studios when appropriate. In the interim, Redbox is acquiring Warner titles through alternative (i.e. retail) channels — a scenario that requires greater output of cash upfront but can generate higher margins depending on the title, according to Smith.

“We’re having active conversations with Warner Bros.," Smith said. "They’ve been a good partner over the last few years. We’ve just got to get to a deal that is the right terms for both parties."

A Warner spokesperson said the studio had no comment on negotiations.

Smith said being in contract with a studio ensures having adequate copies of new releases in kiosks as opposed to buying content at retail. At the same time, Galen reiterated that Redbox has operated for the past three years out of contract for Walt Disney Studios Home Entertainment releases.

In addition, as the physical market shrinks, Redbox has emerged as the third largest purchaser of home entertainment content, a reality the kiosk vendor — under the direction of former Warner executive Mark Horak — isn’t ignoring during studio negotiations.

“We are very important to [the studios],” Smith said. “We’ve never had a compelling reason to have a contract with [Disney]. We think we can drive more value (i.e. margin) by being out of contract with them."

“Everyone’s Taking Redbox Out to Lunch”

All purveyors of independent product seem to prize Redbox placement, and the studios look to the company to buy (often under output deals) titles that don’t have sellthrough appeal, primarily mid-range box office titles or titles to which they have distribution rights.

“We all want digital [purchases] to be the saving grace as physical used to be, but that’s not even close to being a fact,” said one industry observer. “Everyone’s doing it. Everyone’s taking them [Redbox] out to lunch.”

While Netflix also is an outlet for such titles, the big difference is that Netflix streaming is 80% TV, according to a retail insider. Netflix still has a disc business, which is an outlet for rental movies, but the company is increasingly deemphasizing streaming or physical rental of movies in favor of original programming, primarily episodic. On the other hand, the company’s moves to co-produce a Crouching Tiger, Hidden Dragon sequel and a collection of future Adam Sandler movies “sent some shudders through the industry,” the insider said.

While the studios may fear Netflix, the studios’ relationship with Redbox is increasingly symbiotic.

“Both the studio partners and Redbox realize they need each other,” the insider said.

In a possible foreshadowing of the current scuffle with Warner, a key turning point came when Warner tried to increase the new-release window to Redbox from 28 days to 56 several years ago. Redbox dug in, cherry picked titles it wanted by buying sideways (from Walmart, etc.), and Warner relented.

After the initial fights over windows, studios have settled into deals — many of them recently renewed — that satisfy the needs of both parties. The output deals often involve destroying used rental copies — key to maintaining sellthrough market prices for new discs — and require Redbox to take direct-to-video and distributed titles into its kiosks.

“They must buy almost all of the new releases,” the insider said. While Redbox certainly wants to bring in top titles, “ironically it’s the mid-range titles that made $30 million to $70 million at the box office that often perform best in home entertainment.”

These titles that consumers “wait to see at home” have “great legs when it comes to rental.”

Studio output deals have pushed many of the smaller content owners or distributors to the sidelines, making a Redbox placement all the more important.

Said more than one indie supplier, “Redbox is No. 1.”

“The world changes when you get a Redbox title,” one said. “Redbox is indeed the new Blockbuster. It’s the game changer.”

“The biggest thing when you are looking at a film is its Redbox potential,” said an exec at another indie supplier. He added that studio output deals are making placement at the kiosk harder.

“We know there are certain studios that contractually have certain spots with Redbox,” he said.

Box Art at the Box

During the height of the physical rental business, studios and other content owners had thousands of rental stores advertising titles big and small, if only via boxes perched on shelves.

Now, the key way physical rental consumers may see these titles is at a kiosk — often with the same box art that used to attract them to store shelves.

“The entire industry has changed, and we’re still relying on box art,” noted one indie supplier executive.

The veteran retail insider said, “when they picked up that box and flipped it over, they were halfway to making a rental decision.”

“It’s almost the same at the kiosk. If they hit the button and go to the summary, they’re definitely closer to renting that title,” he said.

“There’s a lot of people in our industry that think the icon, pack shot, is advertising for the film,” said an indie supplier executive.

Key marketing space at Redbox is in the “light boxes,” or displays above or beside the kiosk.

“There’s clamoring to even be in those light boxes,” said the veteran retail insider.

“The holy grail is sort of to be in the light box,” agreed one indie supplier exec.

Redbox does market titles, not necessarily via traditional TV, radio or print, but via email, Web banners and its “enormous text club” which offers promotional codes to consumers, said the retail insider.

Redbox Not Expanding

Unlike competitors such as Netflix, Redbox is staying local. Noting the decision to exit the Canadian market, Redbox’s Smith said the days of kiosk expansion at Redbox are over. Instead, the company is focusing on driving “throughput” via the existing kiosk retail footprint.

The CFO said December’s price hikes for DVD (up 25% to $1.50), Blu-ray Disc (33% to $2) and video game (50%to $3) rentals have provided some fiscal benefit — with some of the incremental uptick being reinvested back into the business. Some of that investment includes establishing stronger ties to rental consumers through social media.

Every Tuesday, Redbox sends emails to more than 27 million renters weekly informing them of the latest new releases, including 6 million of its most frequent renters. The company has more than 39 million unique consumer email addresses.

He said Redbox continues to expect an impact on rental volume due to the price hikes — more so on catalog and direct-to-video titles than on major new releases. At the same time, consumers are renting titles for shorter periods of time.

“Again, that’s muting the value [of titles], but also on the average [rental] check,” Smith said.

Regardless, the executive reiterated that Redbox’s success ultimately is dependent on the quality of the studio release slate. Following a depressed 2014 box office, Redbox tempered expectations in 2015. The kiosk vendor has projected double-digit box office declines in the first half of 2015, with a single-digit decline in the second half.

“We’re beholden to whatever the new releases are,” Smith said. “That has a much bigger impact on rentals and what’s happening year-over-year.”

At the same time, Redbox remains bullish on packaged media.

“We’ve always remained confident that the decline in the physical business will be a lot slower than others think it will be. There’s resiliency in [disc] and attractiveness based on the value proposition we provide,” Smith said, adding that 35 million consumers rented at least once from Redbox in the fourth quarter.

About the Author: Stephanie Prange

About the Author: Erik Gruenwedel

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