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Worst Stock for 2008: Blockbuster

Resolve to keep your portfolio healthy: Help us pick the worst stock for 2008.

For many investors, 2008 looks like a challenging year for Wall Street -- which might also make this a perfect time to dig for great stocks at cheap prices. All the same, I'd beware the temptation to view Blockbuster (NYSE: BBI  ) as one of those bargains. I think 2008 will be the year the company gets its block busted.

A history of cluelessness
Blockbuster's story is typical: an old-school company that got fat and lazy on the status quo, resting on its laurels. (Not to mention gouging customers with late fees -- what a business model!) Then came Netflix (Nasdaq: NFLX  ) , a disruptive influence that changed the whole DVD-rental game. Blockbuster has tried to emulate its spunky rival, and one-up it by allowing in-store exchanges for mail-delivered rentals. Thus far, those efforts have only amounted to a severe cash burn, as Blockbuster tries to balance online DVD rentals and bricks-and-mortar stores -- embarking on a brutal price war in the process.

Blockbuster's strategy hasn't brought about a Hollywood happy ending. As many of us long surmised, the company couldn't keep fast-forwarding through its cash supplies indefinitely. Last month, Blockbuster said it would up its price for the tier of its service that includes unlimited in-store returns, to an eye-popping $34.99. That's $10 above the previous level. Score one for Netflix.

Meanwhile, the way we consume movies is rapidly evolving. Many investors are concerned that even Motley Fool Stock Advisor pick Netflix won't be able to navigate those changes, as more and more companies move toward digitally delivered entertainment. Contenders include Apple (Nasdaq: AAPL  ) , (Nasdaq: AMZN  ) , and TiVo (Nasdaq: TIVO  ) , and they'll likely be joined by a host of new entrants. Against that oncoming tide, history suggests that Blockbuster's arguably the least likely to succeed.

What a tearjerker
If you're in the mood for a good cry, you could rent House of Sand and Fog -- or just look over the last several years of Blockbuster's financials. Since 2003, Blockbuster has increased its annual net income in just a single quarter, and then only by a measly 1%. Indeed, 2003 was the last year it posted respectable annual revenue growth of 6.2%. Revenue growth has been flattish or down every other year since.

Blockbuster's gross profit margin peaked in 2004, at 59.9%. Over the last 12 months, it's steadily disintegrated, most recently reaching 51.8%. In that same period, Blockbuster's return on assets, return on capital, and return on equity are all in negative territory, since the company didn't turn a profit. Its debt-to-capital ratio is 57.4%, which seems particularly uncomfortable to this Fool, given Blockbuster's troubles.

Some investors can and do buy shares in unprofitable companies, hoping for healthy future growth or a turnaround situation. But Blockbuster is not only unprofitable, but also seriously challenged on the innovation front. Sure, it's expected to post a profit in 2008 -- a measly $0.04 per share. Do you really think the company can meet that, much less exceed it? Right now, I see few reasons for confidence on that front.

An improved long-term prognosis would require investors to believe that Blockbuster can successfully transform itself while getting ahead of upcoming trends. Fellow Fool Anders Bylund recently talked to former 7-Eleven executive Jim Keyes, Blockbuster's new CEO, about the company's digital and in-store plans. While Keyes is a promising hire, and his plans sound interesting -- and perhaps more progressive than previous moves from the company -- the proof will be in the execution. Assuming, of course, that Keyes isn't simply too late.

Cover your eyes
I may love horror movies, but I'd rather not buy a horror of a stock. That kind of potential for carnage behind every door just isn't for me. Given Blockbuster's challenges, I consider it one of this year's dreadful stocks to avoid.

Does this preview of coming attractions convince you that Blockbuster will be the worst stock for 2008? If so, just go to Motley Fool CAPS and mark it "underperform." We'll reveal the "winner" (talk about a dubious honor!) next week.

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