Little more than a year ago, a combination between the largest movie rental company, Blockbuster (NYSE: BBI), and the second-largest, Hollywood Entertainment (Nasdaq: HLYW), would have certainly raised antitrust questions. Blockbuster has more than 9,000 retail locations worldwide and would combine with Hollywood Video's nearly 2,000 locations to simply dominate the industry.
But things still change quickly in Internet time, which is why antitrust considerations on Blockbuster's $700 million offer for Hollywood Entertainment, should they come up at all, would be seriously wrongheaded. The retail movie rental business has been thrown into turmoil by the emergence of Netflix (Nasdaq: NFLX), the online mail-order DVD rental company.
When I say "would have raised antitrust questions," I'm not guessing. More than five years ago, the Federal Trade Commission scotched a planned merger between the companies on the basis that it concentrated too much of the industry's volume in one company. Certainly, the two companies haven't lost ground in the retail business -- combined they control more now than they did in 1999, about half of all bricks-and-mortar rental volume in the U.S. But this is an industry that doesn't really need protection from any big player: The whole shooting match is beset by outside competition from several different angles.
First there is the aforementioned Netflix model, to which other participants, most notably Wal-Mart (NYSE: WMT) and Blockbuster itself, have also subscribed, with online monster Amazon.com (Nasdaq: AMZN) preparing its own foray. Netflix alone is growing at a 70%-plus clip, and last quarter generated more than $120 million in revenues. Second, there is the fact that purchase prices on DVDs have dropped substantially. Wal-Mart, along with Costco (Nasdaq: COST) and Best Buy (NYSE: BBY), have dropped their DVD prices down to a level that makes it attractive for people who would otherwise rent just to buy them. The degree of competitiveness in this overall industry is fairly highlighted by the decisions in the last month at Netflix and Blockbuster to dramatically reduce their monthly subscription rates for online rental.
So why make an offer now? I see two drivers. First, Hollywood Entertainment has an existing buyout plan to take the company private at about $10.25 per share, making time of the essence for a move. Second is a protection of its bricks-and-mortar business. Blockbuster's model is changing, but unlike Netflix or Amazon, its network gives it the ability to build in-store pick-up into its subscription model. For people who still wish to take advantage of a spur-of-the-moment video selection, this remains a differentiator. But this only works if the network of stores doesn't become a financial albatross around the company's neck. Management determined that its best move, then, was to eliminate some of the competitive forces that Hollywood Video stores cause. In other words, this $11.50 bid by Blockbuster isn't necessarily an indication of the value of Hollywood Entertainment as a stand-alone company, but rather the price that Blockbuster is willing to pay not to worry about it as a competitor anymore.
Bill Mann owns shares of Costco.
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