The following is an excerpt from a report compiled by Michael Pachter of Wedbush Securities.
This biweekly newsletter lists key events in the movie rental and exhibition industries for the period etween May 6 and May 19, including notable rental releases, box office figures, and recent company-specific news.
Movie Rental Industry
Key Redbox (NASDAQ:CSTR) releases this year (with domestic box office total in millions from ww.boxofficemojo.com):
5/7: Jack Reacher ($80), A Haunted House ($40), Hyde Park on Hudson ($6).
5/14: Texas Chainsaw ($34).
Key Redbox releases last year (with domestic box office total in millions from www.boxofficemojo.com):
5/8: The Vow ($125), Underworld Awakening ($62), New Year’s Eve ($55), Joyful Noise ($31).
5/15: The Devil Inside ($53), One For the Money ($26).
Over the next two weeks, there are zero rental releases that grossed over $50 million in domestic box office compared to two last year. DVD rentals for the upcoming two-week period should underperform the same period last year.
Redbox should benefit from a very strong summer release schedule. There are 22 films with budgets greater than $100 million scheduled this summer, compared to 15 last year and an average of 12-15 most years. There are going to be several films that people want to see, but the crowding of the release schedule will make it impractical for them to see all of the movies they care about in theaters.
As a result, we believe that people are far more likely to rent the movies when released on DVD. The average time from theatrical release to DVD is under five months, and even for movies falling in the 28-day window “around half of Coinstar’s supply”, DVDs are generally available within six months of release. That means that the majority of big budget films will be available in Q3 or Q4 for Coinstar, and Coinstar’s guidance implies that they understand this. As a reminder, the high end of CSTR’s guidance calls for Redbox revenue growth from $1 billion in the first half to $1.2 billion in the second half.
Netflix (NASDAQ:NFLX) believes it can grow its domestic footprint to 60-90 million households. However, there are only 90 million households connected to the Internet, implying 66-100 percent penetration and discounting potential competitors. When discussing its margin structure for domestic streaming, management stated its intention to grow revenues faster than content and marketing spending, suggesting growth at ever increasing profitability. Both comments reinforce our view that the business model is broken.
Only 85 million households in the U.S. pay for access to television currently, so it seems a stretch to presume that 70 percent (at the low end of Netflix’s goal) will add an additional pay layer from ANY provider, especially in light of increased competition from Redbox Instant by Verizon (NYSE:VZ), Amazon (NASDAQ:AMZN), and, most recently, content providers establishing their own services. Similarly, it seems illogical to presume that Netflix can grow its base by spending less on content per customer; the company appears convinced that it can add 100-200 percent to its domestic subscriber base, yet seems determined to grow content spending by less than this amount. In our view, the content owners are interested in maximizing profits for their stakeholders, and are unlikely to allow this to occur.
We expect Q2 domestic box office to end up 5 percent despite a slow start. Q2 quarter-to-date box office is trending down 9.1 percent through May 19. April was down 12.1 percent and May is down 6.4 percent month-to-date through May 19. While Iron Man 3 opened strong, with $174 million opening weekend, it was lower than last year’s The Avengers’ opening weekend of $207 million. We expect the back half of May to outperform last year with Star Trek Into Darkness, Fast & Furious 6, and The Hangover Pt. 3 driving admissions.
We estimate that international admissions revenue will be up 6 percent in Q2. Q2 is trending down 5 percent in U.S. dollars y-o-y, with every country we track down except for Peru, driven by a local movie bringing larger audiences to the exhibitors. Additionally, we note that Cinemark (NYSE:CNK) is slated to sell its entire Mexican theater base, which we expect to close around Q3:13.
We expect a very active M&A market to continue in 2013 and 2014 as the industry continues to consolidate. The transition to digital, IMAX (NYSE:IMAX), and 3D screens is helping to drive industry consolidation. Approximately 85 percent of screens have been converted to digital, and while most circuits have some portion of screens converted, a significant number (around 6000) remain unconverted.
According to Carmike (NASDAQ:CKEC) there are approximately 40,000 screens in the US, of those, ≈ 20,000 are controlled by the top four exhibitors, ≈ 4,000 are controlled by the next 15 largest circuits, while the next 36 circuits control ≈ 3,600 screens, leaving over 12,000 screens owned by very small operators. Theaters coming to market fall into two buckets: (i) private equity owners, which are easier to predict due to their time horizon and (ii) family owned, which are harder to predict and usually come to market during generational transitions.
Regal (NYSE:RGC) estimates that there are approximately 2,500-3,000 screens that are attractive to the big four exhibitors at the right price. Attractive screens are modern (built in stadium seating era) and in stable or growing markets.
Michael Pachter is an analyst at Wedbush Securities.