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Outerwall Inc. Message Board

  • jasonpx2121 jasonpx2121 Mar 10, 2011 6:38 PM Flag

    2 assertions I need challenged on CSTR

    Goal from a hedge fund to have ideas tested by the many intelligent long investors in CSTR. Over time, I have had many bear cases taken down nicely by other investors and was saved a few bad trades.

    Assertion 1:
    Assumption: people who have Netflix are less likely to use Redbox.

    Assumption: based on street estimates, Netflix will be adding around 8 million US subscribers in 2011 (and another 10 million in the following 18 months).

    Given Netflix already has around 19m US subscribers, there are roughly 51 million Netflix free movie renters (units which combines couples and families that rent together).

    So, in 2011, Coinstar's potential customer based is going to shrink in 2011. How much depends on which new Netflix customers were actually CSTR renters to begin with (this ignores the reduction in future growth, base revenue only).

    Assume that 20% of new Netflix customers were CSTR renters and that those people rent 80% less once with Netflix. That's 1.6 million fewer customers that will effectively result in a 100% lose of 1.28 million (to adjust for the continued use).

    If those 1.28 million people rent twice per month, that's a $31 million hit to FCF (given the operating model).

    $31 million in FCF is worth around $310 million using a 10% discount rate. So, Netflix competition could take over 20% of CSTR's market cap.

    Play around with the numbers. Netflix could end up with a larger subscriber growth number (or smaller) or they could take a larger percentage of CSTR customers (or smaller).

    Longs shouldn't blindly assume that 100% of NFLX sub growth is unrelated to the CSTR renter base especially considering they will be growing between 10-20 million of the next 2-3 years. 20 million subs is almost 50% of the left over renter base in the United States. I am 100% sure that some percentage will hit CSTR.

    Assertion #2:
    Netflix will quickly slow the near-term growth rate for CSTR. Everyone realizes that the physical disc rental has at most 2 years of growth left. I believe that the rapid growth of Netflix's subscriber base will slow that growth dramatically.

    First, growth for CSTR is a function of existing customers using the service more and getting new customers. I addressed the drain from existing customers in the previous point. Getting new customers means fighting primarily for the non-NFLX subs and non-CSTR subs.

    Given many consumer's tastes are being dynamically shaped by newer offerings post "Blockbuster" Netflix will steer many would-be CSTR renters into the mail-in / instant model.

    I do not know the percentage but it will be a negative.

    Overall, the long thesis is based on CSTR's great near-term growth prospects and the belief that digital rentals will catch on at a very slow rate.

    The bear case (near-term) is based on the idea that Netflix's subscriber growth is so large that a lot of that near-term growth (and even current revenue base) is at serious risk.

    And, digital rentals might take time but consider the companies that want to push it:
    1. every studio
    2. Netflix
    3. Apple
    4. Amazon
    5. Google
    6. Wal-Mart?
    7. Sears (weak but who knows...)

    Longs need to realize that the digital shift could happen faster then currently expected.

    I would appreciate feedback primarily on the Netflix question. That presents to most near-term risk. Explain to me how Netflix won't be a negative for Coinstar. Explain to me how all of Netflix's new subs had nothing to do with Coinstar. They were completely different markets? Really? And, explain how the shrinking non-NFLX renter market is going to mean nothing to CSTR.

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    • Long time no see. While I won’t classify myself on the complete long side right now, as I’ve liquidated all but 1/3 of my original investment from $26, I wouldn’t yet be willing to bet against the company with a large short position. The future of digital media distribution is not yet defined. There looks to be many players attempting to enter the fray. I’m not so sure NFLX will retain its dominant market share over time without adaptation but the same can be said for any competitive market.

      I don’t dispute your assumptions longer term. I just don’t believe it will happen as quick as you think. There are 2 significant hurdles still in the way. First, a large part of the consumer population needs to figure out how to get digital movies to their TV. You might be there, but I highly doubt a new TV with internet streaming capability is on the list for the avg consumer, unless it breaks. Last time I checked we were still in a fragile recovery. And therein lies the second hurdle. Take a look at your local gas pump. Consumers are all too familiar with this story. And as the price of gas hits $4 again, picking up a movie for $1 becomes an even more popular entertainment solution for even more reasons. If digital distribution matches the $1 price point or at least gets to $2, or when consumers finally feel like they actually have disposable income to spend, then a pricier entertainment solution (new TV or digital streaming plan) will take over. But in the meantime, both companies are providing for a 2-horse race to all your movie entertainment needs.

      Finally, lets for arguments sake say that CSTR goes out and acquires a Blockbuster or their digital assets, or even a digital startup. They have only said they determined they wouldn’t be developing a digital product from scratch. To date, they’ve said it will likely be a partnership. But the mere fact that they can’t even say who their partner(s) could be since it is a 2011 agenda item leads me to believe they still haven’t ruled out an outright acquisition of a digital framework. This would be a gamechanger to your entire model, which is why I wouldn’t suggest shorting the stock any more than I would suggest getting long. You see, I have NFLX. I still rent from Redbox every once in a while, such as your model suggests. I have been dying to drop NFLX for something better, much like I’ve been dying to drop cable entirely. AAPL, GOOG or MSFT TV may ultimately change everything entirely. But the price of those products and accessing the content just isn’t all that appealing yet. I’ll catch a missed TV show online but it’s not a preferred thing to watch anything on the laptop, iPad or phone. I stream NFLX through the Xbox. I’ll get an internet-capable TV sometime in the future, but likely not in the next year or two – unless of course my current big screens break down. I realize I’m not everyone, but I bet I’m in the majority since I know many more consumers doing what I’m doing or less versus my few tech friends that have every gadget known to man. But they’ve always been that way. I don’t think you’re wrong – just early – especially since your model assumes NFLX is THE ONLY FUTURE. Unless you’re Biff Tannen, Marty McFly or the Doc, you don’t know the future.

    • I'm curious where cstr is going right now. I've used netflix for years. But since Redbox has emerged, we rent from redbox at least twice a month. From my experience redbox has a few things going for it to keep it competative. Some movies are release at redbox a couple weeks before netflix. Also, even if you have a new release on the top of your queue, once the movie is released at netflix it can still take a couple weeks before you get it. Redbox's convenient locations and earlier availability means even more instant gratification if you want to snuggle with your hunny tonight and watch a new dvd release. It's also an easy way to reward the kids --a dollar and they can pick a movie.

      Anyhow, all that was true up until this weekend. I just stopped by a redbox in a more remote location yesterday and they were out of my top two choices. I returned the dvds today at a more popular location inside a grocerty store. Hardly anything was available there. I've never seen so much of what they offered rented out before. I know they've been offering deals lately --groupon, and the most recent get a free movie if you refer a friend. I know things are going toward internet streaming. We live in a rural area. Streaming is limited, quality is not as good, and it usually has to stop and buffer several times. So it's hard for me to imagine discs go out of fashion any time soon.

    • Please explain to us how these obvious risks, plus many more as well as positives, are not already reflected in the stock price. Thanks.

    • "And, digital rentals might take time but consider the companies that want to push it:
      1. every studio
      2. Netflix
      3. Apple
      4. Amazon
      5. Google
      6. Wal-Mart?
      7. Sears (weak but who knows...)"

      "Longs need to realize that the digital shift could happen faster then currently expected."

      The latest Value Line for Coinstar dated 3/4/11 states the following:

      “In 2012, we anticipate further, albeit more-moderate, growth, partially driven by a push in to the digital realm, where the company hopes to effectively compete with rival Netflix.”

      “Patient investors with a long-term view would do well to take advantage of the current entry point. Despite its execution problems, Coinstar remains a growth company with plenty of room to expand the Redbox franchise across the country. It also has substantial earnings power, a fact that is now being obscured by the firm’s costly inventory issues.”

    • I don't disagree with your Assertion #1, but realize that the impact you project is based on an assumption about Netflix's growth rates. I have serious questions about whether their growth projections can be achieved. They have huge headwinds in expanding their streaming catalog at costs that make sense for them.

      Anecdotal evidence presents a plausible theory of "instant gratification", especially for families with children. It goes like this: kids need a movie for tonight; Netflix's streaming portfolio is too small; go out and grab a disk from Coinstar at the same time you pick up the pizza Netflix by mail is too slow, as these decisions are not planned ahead. There was a column about this somewhere, but I forget the source.

      We all know physical media will be dead one day. But it will take a long time, and there will be a lot of battles over content in the meantime. Look how long this has taken to play out in music - and there is still plenty of demand (albeit smaller than it once was) for physical CDs. This is going to take a long time. If you are talking this year, that is way too early. A decade from now? Sure.. but Netflix won't be the same either by then... Coinstar has a lot of cash coming in in the meantime.

      • 2 Replies to aplvaff
      • Great analysis; I agree on the instant gratification.
        Painful two days as it dropped right after I bought.

      • Fair enough. If you believe Netflix's growth will slow I could see why you would not be as concern.

        I completely agree it will be a shared market. But based on what I have read, more and more people are less likely to use physical rentals when they have the convenience of digital.

        That's really the basis of my argument. The trend will be against CSTR. The timing is up for debate but like I said, there are some heavy hitters that are investing billions to make it happen quickly.

        To be long CSTR you have to believe A) Netflix will not be a major drag on their business and B) Amazon, Apple, Google and the studios will fail in their attempts to increase digital rentals.

        Nothings for sure but I would hesitate to bet against point B). And, as Netflix gets a better streaming library, it will be more attractive to people. It's like owning a ton of DVDs. I realize that 95% of the content is worthless but 5% of a huge amount of titles is still a nice library to have right? I technically can watch "Lost" or "the Office" or "Scrubs" or a lot of classic movies anytime I want. How can not subscribe? (in no way am I saying NFLX is a good buy as a stock, I am just saying it's offering is getting more compelling by the week). Oh, they have Jaws now. And and a lot of other great movies.

    • Redbox has 23,000,000 registered customers. Redbox added about 2,000,000 customers Q4, 2010.

      Netflix has 20,000,000 subscribers. Netflix added about 3,000,000 subscribers Q4, 2010.

      This is not the old Sirius vs. XM battle, where you would pick one service over the other.

      Both companies can grow rapidly and share a customer base.

      Spending a buck to rent a DVD is not a financial decision. DVD’s by mail are a hassle for me, so I was glad Netflix offered the streaming only plan.

      Redbox rented over 365,000,000 DVDs in 2009

      Redbox rented over 530,000,000 DVDs in 2010

    • I live in the city.
      We techie types, you and I, are myopic. Folks in the city, country, DON'T all have internet or for that matter, a pc.
      We, they, do have, however, a BIG tv...folks don't spend money wisely. (caveat that my biggest tv is 20" and not flat)
      I see lots of folks at RedBoxes renting movies. Physical rental will always be with us.
      Remember the call in 1990 or so for "paperless society" well did that go?
      Don't be a lemming; you have good analysis, but we all have blind spots.

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