Blockbuster's $1 Billion Bid on Circuit City

I. Introduction

     On April 14, 2008 Blockbuster Inc. announced publicly its offer to purchase electronic retailer Circuit City Inc. Blockbuster has been in talks with Circuit City for months regarding an acquisition. [1] On February 17, 2008 Blockbuster sent a letter to Circuit City Chairman Philip Schoonover offering over $1 billion for the transaction. [2] This is equivalent to $6 to $8 a share in cash for the company. [3]Blockbuster also stated that they were willing to pursue alternative deal structures to enable Circuit City shareholders to receive stock. [4] Circuit City is hesitant about the deal and has yet to reveal to Blockbuster its long-term corporate plans and performance data. [5] This paper will evaluate the benefits and negatives of the acquisition as well as discuss whether this merger should occur.

II. Why Circuit City Should Consider the Merger

     The Blockbuster-Circuit City merger can result in benefits for both companies. Both Blockbuster and Circuit City have been suffering financially. Since January 6, 2008 Blockbuster had an outstanding debt of $758 million. [6] This debt was a result of Blockbuster's losing competition with various growing video rental alternatives on the rental market, such as mail-order DVDs from Netflix Inc., video-on-demand from cable services, and the sale of DVD's. [7] Circuit City also has been fighting a losing battle against its competitors, Best Buy and Wal-Mart. [8] Circuit City's shares had fallen from $30 in mid-2006 to $3.44 in March of this year. [9] After laying off 3,400 retail workers and receiving a $7.3 million tax benefit, Circuit City finally achieved a profit of $4.85 million for its fiscal fourth quarter. [10]

     However, unlike Circuit City, it appears that Blockbuster is rising back to success. Nine months ago, Jim Keyes was brought in as Blockbuster's new CEO in order to revive the company. [11] Mr. Keyes focused on slashing costs, changing Blockbuster's online strategy, and improving the availability of merchandise. [12] His approach has worked as the projected first quarter net income for Blockbuster is $30 million, a drastic increase from last year's net loss of $49 million. [13] Keyes believes that Blockbuster's merger with Circuit City will result in even more success for the business. [14] First, the merger may result in cost savings by closing overlapping stores, cutting duplication at each company's head office, delivering products more effectively, and teaming up on advertising. [15] Store closings may prove to be a large cost savings since 95% of Circuit City stores are located within 5 miles of Blockbuster stores. [16]

   Furthermore, Keyes plans to redesign Blockbuster and Circuit City into a "user friendly one stop shop with solutions for the consumers." [17] For example, Circuit City stores would have movie and game rentals available while Blockbuster would have hardware, such as portable media players for sale. [18] Instead of advertising low prices, a combined chain could attract consumers with a wide range of products and services. [19]

III. Riskiness of the Merger

     On the other hand, the Blockbuster-Circuit merger may be plagued with problems. One such problem is the cost of purchasing Circuit City. Buying Circuit City would add significantly to Blockbuster's already outstanding $789 million debt load. [20] Circuit City is questioning whether or not Blockbuster would be able to pay the money necessary for the merger to occur. [21] Blockbuster stated that it could sell additional stock, borrow, and possibly get an investment from its largest shareholder, Carl Icahn, who has applauded Blockbuster's merger. [22] Another issue is that Blockbuster would be purchasing a larger company. Blockbuster's market capitalization of $630 million is about $80 million below Circuit City's $656.6 million. [23]

     Furthermore, the potential deal threatens to distract both companies from solving their own issues with their financial state in the market. [24] The Blockbuster and Circuit City merger has been compared to the K-Mart and Sears merger. [25] Both K-Mart and Sears, like Blockbuster and Circuit City, had been struggling to combat rivals, such as Wal-Mart and Target. [26]  However, after the Sears and K-Mart deal, business for the merged entity has continued to spiral downward. [27] It is questionable whether the merger between Blockbuster and Circuit City, like the Sears and K-Mart merger, will just hasten the demise of the two companies.

IV. Conclusion

     Although Blockbuster seems to have many good ideas to reinvigorate both businesses through offering a wide range of products and services, creating a "one stop shop," however, the reality of a successful merger is questionable. Both companies have suffered financially. Blockbuster is already $789 million in debt. Furthermore, Blockbuster would be purchasing the bigger company since Circuit City has about $80 million more market capitalization. As a result, Blockbuster could be in over its head with the costs of the merger. Already, Blockbuster is having trouble coming up with the money to purchase Circuit City. Blockbuster claims that they may have to sell stock or borrow money in order for the merger to go through. Even though a cost savings may result from the store closings and advertising costs, this may not be enough to get Blockbuster and Circuit City out of their downward financial spiral. Therefore, both companies should proceed with caution in this merger.

[1] Blockbuster Bids $1B for Circuit City, ABC News, Apr. 14, 2008, http://abcnews.go.com/Business/story?id=4652308&page=1.

[2] Id.

[3] Id.

[4] Id.

[5] Id.

[6] Merissa Marr and Gary McWilliams, A Blockbuster Raid on Circuit City; With Support of Carl Icahn, Ailing Video-Rental Chain Bids for Weakened Retailer, Wall St. J., Apr.15, 2008.

[7] Id.

[8] David Koening, Blockbuster Offers to Buy Circuit City, ABC News, Apr. 14, 2008, http://abcnews.go.com/Business/wireStory?id=4646222.

[9] Id.

[10] Id.

[11] Marr & McWilliams, supra note 6.

[12] Id.

[13] Id.

[14] Id.

[15] Id.

[16] Scott D. Anthony, Blockbuster's Bid for Circuit City, Business Week, Apr. 14, 2008, available at http://www.businessweek.com/managing/content/apr2008/ca20080415_244885.htm?chan=search.

[17] Marr & McWilliams, supra note 6.

[18] Id.

[19] David Lieberman, Blockbuster Bids for Circuit City in $1 Billion-Plus Deal, ABC News, Apr. 14, 2008, http://abcnews.go.com/Business/story?id=4653853&page=1.

[20] Marr & McWilliams, supra note 6.

[21] Lieberman, supra note 19.

[22] Id.

[23] Id.

[24] Anthony, supra note 16

[25] Id.

[26] Id.

[27] Id.

Comments

[Josh Neumann]

Smart decision by blockbuster to withdraw from this. I've never been a believer in unrelated companies merging, as it's very diffiuclt to enter a different market you are unfamiliar with.

True, both companies have similar financial predicaments, but as Warren Buffet says, stay within your core competencies.

[Merger Attorney]

As many predicted and as I noted here two days ago, Blockbuster has now withdrawn its offer for Circuit City and the merger is off:

"We have determined that it is not in the best interest of Blockbuster's shareholders to proceed with an acquisition of Circuit City," said Jim Keyes, Blockbuster's chief executive.

[Merger Attorney]

There hasn’t been much movement on this potential deal between Blockbuster and Circuit City. Many people believe that poor results from Circuit City have made it likely that Blockbuster will walk away from the deal. In fact, some think that the recent increases in Blockbuster's stock prices reflect the expectation that that the Company will not buy Circuit City.

[John Bushelle]

Business combinations, merger, acquisition, and joint venture are not easy to execute and they most often don’t live up to their expectations. There have been several studies done on mergers and acquisitions announced in the last 20 years and in well over 60% of the cases the synergy was not realized. When synergy doesn’t materialize the acquiring company ends up damaging shareholder value because premiums paid to take a significant equity stake in a target company are not recouped. However, by understanding a company’s motives for buying, selling, or partnering a business, how the decision fits in with their overall corporate strategy, and the careful identification of the characteristics of an ideal target, the chances of success can be greatly increased. effective post merger integration is a big key to success.

[David J Phillips]

The 10Q Detective opines that BBI’s play for the electronic gadgets retailer was an effort to turn Street attention away from its own business failings—and, a last-ditch effort to revive a moribund brick& mortar business model.

Does anyone remember the RadioShack - Blockbuster alliance? In June 2001, 130 “RadioShack Cool Things” boutiques opened in Blockbuster outlets--six months later BBI pulled the plug on the 'pilot program.'

Is BBI is headed for bankruptcy?

http://10qdetective.blogspot.com/2008/05/circuit-city-should-remind-blockbuster.html

[Buyer of Structured Settlements]

This article made me aware of the happenings around.