Blockbuster bids on Circuit City

UPDATE: Movie-rental leader offered $6 a share in February

By Danny King -- Video Business, 4/14/2008

APRIL 14 | Blockbuster last week went public with a two-month-old offer to buy Circuit City for at least $6 a share, laying out a vision of an $18 billion retailer of entertainment content and the devices it plays on.

Blockbuster initially made the offer to the No. 2 electronics retailer in a letter dated Feb. 17 but had been rebuffed in its request for due diligence necessary to make the bid “definitive.”

Circuit City, whose stock price surged 27% to a two-month high on the news, questioned whether Blockbuster could finance the acquisition—as did many Wall Street analysts—and said more financing information would be required for it to respond to the offer. Blockbuster stock dropped 10% to a three-month low of $2.81.

At $6 a share, Blockbuster’s offer represented at least 27% more than Circuit City’s $4.74 closing price on Feb. 15 and a minimum 54% premium to its price on April 11.

With the bid, Blockbuster, in the midst of a turnaround as its losses from its Total Access online-subscription program have narrowed, is trying to boost home-entertainment sales and profits and position itself for an increasingly digital future by integrating content such as DVDs and downloads with the media-delivery hardware sold at Circuit City.

“Our proposal offers Circuit City a significant premium to its existing stock price and creates a game-changing retail concept with a sustainable competitive advantage,” Blockbuster CEO James Keyes said in a statement. “We believe the combination will result in a compelling consumer proposition that will drive significant revenue and margin enhancements as well as cost synergies.”

In a conference call with investors, Keyes said new products would be added to each chain—for instance, movie and videogame rentals and subscription services to Circuit City, and in-store technical support and digital devices to Blockbuster. The combined chain would offer a greater breadth of entertainment products, services and hardware than any of its competitors, including Best Buy, Wal-Mart and Apple, Keyes said.

But such an acquisition may throw a wrench into Blockbuster’s turnaround, said Wedbush Morgan analyst Michael Pachter, who attributed the share-price drop to “investor confusion” about the company’s intentions.

“Blockbuster has significant room for additional progress within its own stores,” wrote Pachter in a note to clients. “We think that an acquisition of this nature will cause a distraction that may detract from management’s ability to complete the turnaround it has underway.”

Circuit City, which said Blockbuster had previously made a similar offer, questioned whether Blockbuster could finance the acquisition, specifically whether Blockbuster would need to refinance its debt given Circuit City’s larger market value. Blockbuster’s market value on Feb. 15 was about $600 million, or about three-quarters of Circuit City’s $800 million market value that day.

“While willing to engage in discussions to further understand Blockbuster’s proposal, having shared certain information with Blockbuster, Circuit City is unwilling to provide Blockbuster with additional detailed due diligence information and embark on a highly conditional undertaking until these questions are answered satisfactorily,” a Circuit City statement said.

Keyes said in the conference call that Blockbuster would have the cash resources for the deal, and that, if needed, it could issue additional Blockbuster equity to existing shareholders. Billionaire investor and Blockbuster board member Carl Icahn is in “full support” of the deal, Keyes said.

Circuit City reported a fiscal fourth-quarter operating loss, as weaker video-equipment sales offset revenue gains for flat-panel TVs and videogaming products. The company, which has lost money for five of the last six quarters, has received pressure this year from shareholder Mark Wattles to replace its board. Wattles, who founded Hollywood Entertainment and whose Wattles Capital Management owns about 6.5% of Circuit City, has called the company’s turnaround effort “disastrous.” In various media reports, Wattles expressed qualified support for the Blockbuster plan.

Blockbuster also said in its conference call that it had a first-quarter profit of $30 million, compared with a year-earlier loss of $49 million, and its first U.S. same-store sales increase in five years.