Movie Rental Industry
Key Redbox releases this year (with domestic box of fice total in millions from www.boxofficemojo.com):
O 4/8: August: Osage County ($38), Paranormal Activity: The Marked Ones ($33), The Book Thief ($22), Homefront ($20), Out of the Furnace ($11)
O 4/15: The Nut Job ($64), Philomena ($38)
Key Redbox releases last year (with domestic box of fice total in millions from www.boxofficemojo.com):
O 4/9: Life of Pi ($125), Hitchcock ($6)
O 4/16: The Hobbit: An Unexpected Journey ($303), Django Unchained ($163)
Over the next two weeks, there are no rental releases that grossed over $50 million in domestic box of fice compared to four last year. DVD rentals for the upcoming two-week period are likely to be weak, and should underperform the same period last year.
Last month, Outerwall (NASDAQ:OUTR) announced the final results of its modified Dutch Auction tender for $350 million of its common stock. The company accepted for purchase roughly 5.30 million shares at a purchase price of $70.07 per share for approximately $370.8 million. These shares represent approximately 20.6 percent of the company’s outstanding share count at March 11, 2014. Following settlement, the company has roughly 20.39 million shares outstanding.
We expect the company to generate over $200 million in free cash flow in FY:14 (close to $10/share) and spend at least an additional $150 million repurchasing stock, further reducing share count. Outerwall has cut costs by $22 million and has curtailed new venture spending, which should allow for solid profit growth in 2014. At its analyst event earlier this year, Outerwall reiterated its intention to invest in its ecoATM business, and to continue a limited investment in SAMPLEit ($1 samples in drug stores), with ecoATM accretive to EPS by the end of 2014.
Winter Olympics TV viewing may have cut into rental demand during the middle part of the quarter. Q1 revenue guidance is modestly above last year’s level, implying a limited impact, and management did not comment on guidance at its analyst event earlier this year. At the midpoint, EPS guidance is below last year’s level, in part due to differences in amortization. However, EPS guidance does not take the $350 million share repurchase into account, and we expect Outerwall to have an average of 23.4 million shares outstanding for Q1, compared to 28.9 million last year, suggesting significant upside to guidance and consensus estimates.
We believe Amazon’s (NASDAQ:AMZN) Fire TV announcement is a win for Netflix (NASDAQ:NFLX). Amazon listed Netflix ahead of its own Prime Instant Video (PIV) on the list of streaming apps available for the new box. In addition, Amazon did not introduce a standalone or ad-supported version of its streaming service. Finally, Amazon chose not to bundle PIV with Fire TV. We expect Netflix management to characterize Fire TV as a testament to the tremendous remaining market opportunity. We expect management to complain about the state of net neutrality in the U.S., while downplaying the financial impact of interconnection agreements.
In February, Netflix announced a multi-year interconnection agreement with Comcast, with undisclosed terms, but we believe that the expense is material. Although Netflix will likely infer that interconnections agreements largely reflect the greed of Internet service providers (ISPs) in a deregulated market, we expect Netflix to reach terms with the other ISPs in coming years in order to minimize throttling. Over time, we believe that interconnection agreements will force Netflix to raise prices, limiting the company’s growth potential. Longer-term, although it is far from certain that Amazon will offer a standalone streaming service, we believe it is far more likely that content costs will continue to rise with the expiration of every deal, and that ISPs will impose ever-increasing fees for access to the last mile.
Michael Pachter is an analyst at Wedbush Securities.