Blockbuster Striking Deals To Cope With Tech Changes.

YIKES. A share of Blockbuster Inc. now costs as little as a video rental with a late fee.

Shares of Blockbuster, the Goliath of the $11 billion-a-year video rental industry, plummeted to $7.63 each last week, or about half the $15 price at their initial public offering in August 1999: This, despite record rental revenue this year for the company and the U.S. video rental industry as a whole.

What gives? Wall Street regards Blockbuster as a specialty retailer, vulnerable to the slowdown in consumer spending as fuel costs climb and discretionary cash is pinched.

And Blockbuster has two other problems. The company has little to show for its new-media ventures, and is tarred as the unwanted stepchild of Viacom Inc., which has said it will proceed with a split-off of its remaining 82 percent stake if Blockbuster stock trades in the $20s. In the split-off, Viacom shareholders would be able to tender their stock for Viacom's Blockbuster shares.

During a recent conference, some analysts questioned whether Blockbuster is sufficiently free of Viacom, the world's No. 3 media company, to chart its own course. "If you could, you'd be thinking about buying back your stock, I'd think," said New York money manager Salvatore Muoio, speaking to Blockbuster executives on the call.

In an interview later, Muoio said he would be just as happy if Viacom bought back the public's stake. The split-off, as initially conceived, looks improbable. "They're living in another world if they think their (Blockbuster) stock is going to $20," Muoio said.

Blockbuster, based in Dallas, is caught in a slow changeover in technology, as well as ownership. Within a few years, video stores are expected to lose ground to satellite TV, and cable and telephone services capable of delivering on-demand movies to homes.

During the past 10 months, Blockbuster has announced a flurry of ventures to break into those businesses, but none has produced tangible results yet. In a souring market for dot-coms, Blockbuster scrapped plans to take its Web site public. In August, Blockbuster said it would not enlist America Online Inc. as an investor in the online venture, as it had announced earlier.

In September, Blockbuster began selling the satellite DirecTV service of General Motors Corp.'s Hughes Electronics Corp. in 3,800 stores, but company executives haven't divulged the financial terms for Blockbuster. Consumers are being offered 52 free video rentals if they buy the DirecTV system through Blockbuster. The company said it plans to begin offering a co-branded pay-per-view service with DirecTV sometime next year.

On-demand movie test

Meanwhile, Blockbuster has yet to secure fights from major Hollywood studios to supply movies to the on-demand service it announced in July with Enron Broadband Services, a unit of Enron Corp. that has spent $600 million on fiber-optic networks. Nonetheless, the company expects to test the service in two cities before year's end, Blockbuster executives said.

During the first six months of 2000, Blockbuster reported an operating loss of $29.6 million for its new-media segment. The company hasn't broken out that segment's third-quarter results.

While trumpeting its new ventures, Blockbuster has tried to remind investors that its core business is still growing and it is gaining market share.

U.S. consumers are expected to spend a record $11.62 billion on video rentals this year, up from $11.11 billion in 1999, according to Alexander & Associates Inc., a New York-based tracking service. Alexander & Associates projects an additional $765 million in U.S. spending on rentals of digital video discs, or DVDs, compared to just $73 million in 1999.

Blockbuster Chairman John Antioco said the company expects to claim 40 percent of the market by the end of next year, "and 50 percent beyond."

Blockbuster reported that rental revenue increased 7.1 percent to $1.02 billion in the third quarter ended Sept. 30 despite "less than optimal" product released by studios. "Erin Brockovich" was the only box-office mega-hit (exceeding $100 million) to be released on video during the quarter, according to Larry Zine, Blockbuster's chief financial officer.

Still, the company managed to report an increase in same-store revenue of 1.5 percent compared to the third quarter last year.

For the first nine months of 2000, rental revenue increased 10 percent to $3.07 billion from the same period a year earlier. On a same-store comparison, revenue rose 5 percent for the nine-month period.

Dwarfing competitors

The videotape rental business is expected to decline by 2003, falling below $9 billion in that year, according to Alexander & Associates. But DVD rental. spending will approach $4 billion then, says Greg Durkin, who heads Alexander & Associates' research unit.

Blockbuster has slowed its pace of new-store openings, but it could probably gain market share if it stood still. Its closest competitors trail far behind in the number of stores and market capitalization.

No. 2-ranked Hollywood Entertainment Inc. and No. 3-ranked Movie Gallery Inc. have market caps of about $144 million and $36 million, respectively, compared to Blockbuster's $1.3 billion.

In June, Hollywood Entertainment shut down its money-losing electronic commerce business at Reel.com Inc., recording a total charge of $69 million. The company's bond price dropped last month, apparently because of concern about Hollywood Entertainment's "near-term liquidity," says bond analyst Phelps B. Hoyt of KDP Investment Advisors Inc.

(In a report, Hoyt concludes that Hollywood Entertainment should have no trouble meeting its obligations until March, and he predicts the company will easily replace its bank agreement before then.)

By any measure, Blockbuster has superior strength, so it's understandable that money managers like Sal Muoio are clamoring for a stock-buyback program. Muoio figures the stock is trading at a multiple of three times its cash flow - well below the five multiple accorded a mature business.

But a stock repurchase by Blockbuster doesn't seem to be in the cards. "We've looked at a lot of companies who've done that and we can't see a correlation between their initiation of stock buybacks and any significant and sustaining growth in their stock price based on it," Blockbuster Chairman Antioco said on the conference call.

Antioco said the plan is to "keep our heads down" and continue, efforts to grow the core business and position the company to prosper from on-demand video services when video-on-demand "becomes a reality."

Sorry, Sal. Blockbuster evidently has no quick fix.