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Netflix (NASDAQ: NFLX) has become a force to be reckoned with – and not just for cable companies. Another victim of Netflix’s success is the Redbox DVD kiosks.
The big worry is that Netflix will do to Redbox what it did to Blockbuster in 2010 – i.e., force the company into bankruptcy.
Redbox has been paring back its kiosk growth and even closing down the locations with weak traffic. All this comes as the subscriber count at Netflix has gone from 33 million to 75 million in just the last three years.
Redbox started out within McDonald’s (NYSE: MCD) locations as a way for the company to boost traffic to its stores, but was later sold to Coinstar.
Eventually, the company changed its name to Outerwall (NASDAQ: OUTR) to better fit its business. It now runs three kiosk businesses that appear inside the likes of malls and grocery stores and outside superstores and fast-food restaurants.
Redbox generates more than 80% of Outerwall’s revenues. Outerwall tried its hand in online streaming, partnering with Verizon Communications (NYSE: VZ) to launch Redbox Instant in 2013. That initiative failed and was shut down in 2014.
Tough Times
Despite the convenience aspect of Outerwall – whose products include Redbox, Coinstar coin-cashing kiosks and ecoATM electronics recycling kiosks – the stock has struggled.
Shares of Outerwall are down more than 50% in just the last year, and are off more than 65% from their all-time high last summer.
But Outerwall now has an activist investor who’s looking to make things interesting.
Engaged Capital has taken a sizable 14% stake in the company and invested a large portion of its portfolio in the stock. The activist hedge fund has a few ideas to unlock value at Outerwall, which includes possibly getting the company sold to private equity buyers.
There is a precedent for a buyout. Outerwall has been approached with buyout offers three times in the last few years. One of the offers came when the stock was trading closer to $90 per share instead of its recent price of $30.
This also isn’t Outerwall’s first go with an activist investor. In 2013, it was targeted by Jana Partners, which persuaded the company to do a large buyback and cut out its money-losing Rubi coffee vending machine venture.
The Catch
There is still one plus for Outerwall: the company remains a cash-generating machine. The stock trades at just 7 times next year’s earnings estimates and at just over 2 times free cash flow. Cash flow is something that private equity firms love.
While Outerwall’s core business is a melting ice cube, the question is: Has the market over-discounted the business’ decline? Are there enough “good years” left for Outerwall, during which it can still generate high free cash levels and buy back more shares?
Engaged Capital certainly believes there are plenty of good cash flow years left. Part of its plan is to get Outerwall to cut costs and shut down the ecoATM kiosk business to further boost cash flows. Outerwall could use the losses on its failed ecoATM venture to lower taxes and then use the money saved from cost-cutting measures – such as outsourcing maintenance services – to boost its dividend and buyback plan.
The end might be nearing for Redbox, but there could be many more years of free cash flows left in the company. The fixes, such as shutting down money-losing ventures and cutting costs are just Band-Aids, however.
The big thesis is getting the company sold to private equity buyers that could then turn around the company outside the purview of the public markets. There have certainly been interested parties in the past, and if they were interested at $90 a share, you’d think they would be very interested at $30.
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