Path: bloom-picayune.mit.edu!snorkelwacker.mit.edu!americast.com!americast.com!americast-post Newsgroups: americast.ibd From: americast-post@AmeriCast.Com Organization: American Cybercasting Approved: americast-post@AmeriCast.com Subject: Executive Update Date: Mon, 16 Nov 92 12:56:07 EST Message-ID: <1.1992Nov16.125608@AmeriCast.com> 11/16/92 TITLE Executive Update Will Entertainment Market Pass Blockbuster By? Despite Its Track Record And Diversification, Outsiders Harbor Doubts Virginia Munger Kahn In New York Video retailer Blockbuster Entertainment Corp. has all the ear- marks of a successful company. It generates more revenue in a single year than its 300 largest competitors combined. Its earn- ings are growing at 30% a year or better. And with almost 30 mil- lion members, its video rental stores cater to the world's insa- tiable appetite for movies. Strategy Yet, Blockbuster is dogged by doubts. One is that its rental business ultimately will succumb to pay-per-view television. Driving to one of Blockbuster's 3,000 stores could lose out to the convenience of simply ordering films by phone or remote con- trol. Analysts and others have argued that the company depreciates its tapes too slowly. Blockbuster also does a fair amount of busi- ness with companies controlled by its management and board. In 1991, Blockbuster paid $870,000 to a company for drug-testing services. Individuals affiliated with Blockbuster control 44% of that company. Now, Blockbuster is heading in a new direction. Last month, the company announced it will buy the Sound Warehouse and Music Plus chains from Shamrock Holdings of California for $185 million in cash and stock, including the assumption of debt. Blockbuster expects to issue about five million common shares in the acquisition, which will make it the seventh-largest U.S. music retailer. Strong Cash Flow In a recent interview, Wayne Huizenga, Blockbuster's chairman and chief executive, said Blockbuster will expand its store base to 5,000 units by 1995. It currently has 2,000 stores in the U.S. and 1,000 overseas. If the company thought the video business was souring, he continued, it would stop building new stores. The primary reason behind the company's move into music retailing is that Blockbuster is generating substantial amounts of cash and that money needs to be put to good use, he and other executives said. "We are not a dividend-paying company," said Huizenga. "We want to grow another business," and the company views music re- tailing as a logical extension. According to Paul Marsh, analyst at County NatWest Securities Corp., Blockbuster began showing positive cash flow this year and should generate as much as $230 million after interest, taxes and capital expenditures by 1994. By 1995, Blockbuster could be sit- ting on $859 million in cash, according to Marsh's calculations. But some observers question Blockbuster's move into music. Un- like the video business, which was dominated by small stores when Huizenga took over Blockbuster in 1987, music retailing is a ma- ture industry with plenty of well-established chains. The eight to 10 largest companies each have sales of between $200 million and $1 billion, notes Jeff Jones, chief financial officer at TransWorld Music Corp., the nation's No.2 music retailer, in Al- bany, N.Y. While music retailing has grown an average 7.8% a year over the last 20 years, the business is volatile. Industry revenue is up 11.3% so far this year, but last year it was up a bare 4%. Still, if any company has a good shot at bulldozing its way into music retailing, Blockbuster Entertainment is it. Blockbuster is the only national video rental chain. And its cus- tomer base of 30 million members - all of whose addresses are keyed into its database - could be a key asset in expanding its music business. "There are very few companies that have a custo- mer database like we do," said Steven Berrard, vice chairman. "Those same customers buy music." Though Blockbuster has no plans to stock pre-recorded music in its video rental stores, the com- pany could cross-promote the two formats. If a customer buys $20 of CDs at a music store, he or she might receive a coupon for two free video rentals at the Blockbuster store down the street, notes Berrard. Plans For Changing Industry Blockbuster, in fact, is going into music retailing with the in- tention of changing it. The company plans to create Blockbuster's Family Entertainment stores that may also sell books, board games, audio equipment and "virtual reality" games. They would be modeled after stores in Europe that feature live DJs, performers and cafes. While the music retailing industry generates $8 billion a year in revenue, said Huizenga, "there is no reason it can't be a $10 billion industry." Mark Siegel, chairman of Sound Warehouse and Music Plus, concedes that others also have experimented with expanded music stores. But few firms have brought the financial, marketing and customer resources that Blockbuster has, he contends. At the same time, Blockbuster will acquire talent experienced at selling, as opposed to renting. The company will keep the two chains' 4,000 employees and Siegel is coming over to Blockbuster to head up the music retailing unit. In the video business, the sell-through side is growing faster than rentals, observes Tom Adams, analyst at Paul Kagan Associates Inc. in Carmel, Calif. Music Margins Low As far as the bottom line is concerned, even though the music business may comprise up to 25% of revenue next year - $400 mil- lion out of a total $1.7 billion in sales - analysts expect it to add only about five cents a share to net. While Blockbuster's video business generates after-tax margins of 14%, pretax margins for music retailing typically have been in the single digits, analyst Marsh says. This article is copyright 1992 Investors Business Daily. Redis- tribution to other sites is not permitted except by arrangement with American Cybercasting Corporation. For more information, send-email to usa@AmeriCast.COM