CSTR - Coinstar

[yadayada]

I see a yield of 16% there? market cap is 1.8bn$ right.

 

And where do you get the maintenance cap exp?

 

And how the hell are they growing their dvd business so much.

 

And even with a 16% yield, if you say the business is dying, it should maybe deserve a 9x multiple. That leaves 50% upside, not too much margin of safety here.

[siddharth18]

I see a yield of 16% there? market cap is 1.8bn$ right.

 

And where do you get the maintenance cap exp?

 

And how the hell are they growing their dvd business so much.

 

And even with a 16% yield, if you say the business is dying, it should maybe deserve a 9x multiple. That leaves 50% upside, not too much margin of safety here.

 

Sorry I should've included the source of my numbers. Anyway here it is:

 

Market cap is $1.4 billion - $69/share x 20.38 million shares outstanding (according to the company's latest share count after the tender) http://ir.outerwall.com/phoenix.zhtml?c=92448&p=irol-newsArticle&ID=1907424&highlight=

 

For maintenance capex, see page 11 of their latest "prepared remarks" presentation http://phx.corporate-ir.net/External.File?item=UGFyZW50SUQ9MjE5NTAzfENoaWxkSUQ9LTF8VHlwZT0z&t=1

Redbox maintenance is $18M, Coinstar maintenance is $5M and corporate capex is $35M for a total of $58M. I'm not quite sure what the "corporate capex" is referring to, but I'm assuming it's recurring and required for this business to function.

 

Their DVD business is quite lumpy actually. It's affected by the schedule of new releases and other entertainment options the consumer has - such as the Olympics. The stock has been nothing short of a roller coaster ride (a range bound roller coaster nonetheless) - with the per-share price fluctuating between $40-$70/share within the last 3 years. First level thinking would have you incredulous about how they manage to stay in business, because DVDs are dead, right? In the world of Netflix, Amazon and iTunes, who rents DVDs anymore? The answer, it seems, is everyone who cares about saving a couple of dollars. So you better believe it that they are minting money off of those DVDs!

 

The cost to rent a move online still exceeds the effort involved in renting a DVD from a redbox on your way to home after a shopping trip. Demand is more inelastic than you think - at least until online rentals stay at $4/movie. Even if the DVD/BluRay rents were bumped up by 10-15 cents every year, I still think it wouldn't affect demand. DVD rent is currently $1.2/day. Would you stop renting if it was increased to $1.3 or $1.4 or $1.5? I don't think so.

 

The strongest moat is the one where the customer has no alternative and the price is only a tiny percentage of customer's budget. There are no other DVD rental kiosks/options in the market right now. And a price increase of 10-20-30 cents is quite easy to swallow when you next best alternative is $4/rental (see http://i.imgur.com/mQQHs25.png), don't you think?

 

 

One more point regarding the economics of OUTR - First sale doctrine lets Outerwall function without relying on the whims of the studios. Compare this to iTunes or Amazon or Netflix where they have so little bargaining power. Outerwall could literally sever relationships with all studios, go out in the open market to buy DVDs, load them into the Redbox machines and go about its business.

[yadayada]

v informative response, thx.

[yadayada]

I took a look at page 11, it says 2014 FCF will be 200-240m$. When will FCF be 290? Seems mainly because of some extra cap exp.

 

ALlthough i guess they have some pricing power, and there is still some growth left in their business? So it probably still is cheap.

 

But I see this maintenance cap exp thrown around alot here, isnt that mostly a theoretical figure? Because alot of the time cash is being reinvested, and then you have to judge wether that is really a good investment.

 

But I take a 15% yield I guess. Especially if there is some growth prospect in that yield.

[siddharth18]

I took a look at page 11, it says 2014 FCF will be 200-240m$. When will FCF be 290? Seems mainly because of some extra cap exp.

 

ALlthough i guess they have some pricing power, and there is still some growth left in their business? So it probably still is cheap.

 

But I see this maintenance cap exp thrown around alot here, isnt that mostly a theoretical figure? Because alot of the time cash is being reinvested, and then you have to judge wether that is really a good investment.

 

But I take a 15% yield I guess. Especially if there is some growth prospect in that yield.

 

I didn't include the "new ventures" cap-ex ($35M-$44M) as maintenance cap-ex because it isn't related to redbox or coinstar at all, but to other concepts. Management recently killed some new venture "concepts" - basically cash burning experiments due to activist pressure. I imagine with 8% ownership, JANA isn't too happy about OUTR shooting cash into the dark.

 

Regarding cap-ex, management seems to be quite generous in its predictions: In early 2013, they said capex would be $180-$205M but actual capex ended up being $157M. The core business of maintaining the redbox/coinstar kiosks requires very little capex.

 

I still believe that pricing power and operating leverage is quite strong. Average redbox check price is between $2.4-$2.9, so a 10% increase in rental price (meaning $1.32 per day for DVDs and $1.65 per day for blurays - hardly a deal-breaker for most people) would increase the average check by 25 cents. Over 80% of the rentals today are still DVDs so a bump from $1.2/day to $1.3-$1.4/day shouldn't make a huge difference to renters. They do around 750 million rentals annually so up to $187 million of increased revenue, without the corresponding increase in operating costs, and most of it flowing to the bottom-line. But let's say only $60M of that $187M falls to the bottom line, that's a huge increase percentage-wise in EPS and FCF.

 

Also I think Redbox will be around for longer than Wall street imagines. A lot of people still won't want to pay $5-$6 for a 1 day rental (too expensive) or want to wait for netflix dvds to arrive in mail when they can be had instantly from a kiosk (instant gratification). And for those that care about picture quality, you also don't get Blu-ray quality when you stream. Studios make a lot of money on DVD/Bluray sales and they don't want to price streaming low enough as to cannibalize their disk sales.

 

During the Piper Jaffray Technology conference yesterday, management said they have no plans of increasing rental cost this year so I'm not sure how they plan on increasing revenue with SSS staying flat...

 

I bought a small tracker position and will wait for panic-selling that usually follows quarterly results to establish a bigger position but the recent buyback definitely increases my estimate of the intrinsic value of the equity.

 

At what yield would you buy/sell OUTR? And what do you think about OUTR's moat - specifically how much price increase can they impose without cannibalizing the revenue?

[AchilliesValue]

Hey AchilliesValue, are you still long?

 

Yes, I am.  It remains a small position as the price never got low enough in September for me to add.  I'm just making my way through the 10-K so I haven't rolled my model for the new year yet or updated the share count since the tender.  My fair value was ~$95-105 depending on on how much CapEx they cut.  Should be higher now but I'll let you know when I update my assumptions.

[Steve]

 

nice writeup on Outerwall:

 

http://ify.valuewalk.com/wp-content/uploads/2014/01/Value-Investor-Insight-12-13-Hartch-Cibelli-Porter.pdf

[siddharth18]

 

 

Hey AchilliesValue, are you still long?

 

Yes, I am.  It remains a small position as the price never got low enough in September for me to add.  I'm just making my way through the 10-K so I haven't rolled my model for the new year yet or updated the share count since the tender.  My fair value was ~$95-105 depending on on how much CapEx they cut.  Should be higher now but I'll let you know when I update my assumptions.

 

 

Same here haha...I would've been a buyer around $40. But in retrospect, it seems that it would've been best to average into a position during a panic and average out of a position during a euphoria as it's near impossible to catch either the top or the bottom. Would've at least gotten me some OUTR for $45, but oh well.

 

 

The latest sharecount (as of today) according to the company itself is 20.32 million shares. http://ir.outerwall.com/phoenix.zhtml?c=92448&p=irol-newsArticle&ID=1908824&highlight=

 

 

How are you thinking about this from a business owner's perspective? Do you look at the FCF yield on equity to determine if this stock is "cheap" ?

 

 

I really do wonder how many investors out there care to look past the headlines ("DVDs are DYING! STREAMING IS THE FUTURE!") and into the actual numbers.

 

 

Anyway, I'm going through a checklist and will report here if I stumble upon any question.

 

 

nice writeup on Outerwall:

 

http://ify.valuewalk.com/wp-content/uploads/2014/01/Value-Investor-Insight-12-13-Hartch-Cibelli-Porter.pdf

 

Thx Steve. I knew Cibelli owned OUTR (from the filings) but didn't know his exact thesis. Good to know - Thanks again for sharing!

 

------------------

 

So turns out if you use Cibelli's FCF number for next year ($325M see http://i.imgur.com/exYTREM.png), you get ~25% FCF yield on the $1.3B of equity ($65/share x 20M shares). What am I missing?

[yadayada]

iv been reading into this, and even at the cheap price, I cant see this business exist 10 years from now. It seems that if last generation will stop renting movies, this business will go the way of kodak. If you bought kodak at 4 times earnings 14 years ago, you would have done terrible.

 

I mean it is just a terrible value proposition to rent dvd's when youc an cheaply get them at higher quality on netflix, or download them for free.

 

you probably have to add in another year for the debt they have to pay off. so it seems a 4-6 multiple isnt that unreasonable. does it really deserve a 10x multiple? it probably seems to be the bull case, and not the base case.

 

Anyway gl with the idea.

[siddharth18]

Thanks for the feedback. It's interesting you equate Kodak to Outerwall; brings to mind an interesting article I read about Kodak actually http://bit.ly/OMlgI0 - If you'd bought Kodak in 1986 and forgotten about it, you still - believe it or not - got a 5.5% CAGR on your investment. Not that 5.55% is a slam dunk or that buying Kodak didn't kill you...but it's just that the success of any investment ultimately depends on the price paid. I don't think anyone is oblivious to the notion that Outerwall is on its way out. The only question is WHEN. I feel that it'll go away "not with a bang, but a whimper" due to pricing power, lack of physical competitors and lean cost structure.

 

 

I mean it is just a terrible value proposition to rent dvd's when youc an cheaply get them at higher quality on netflix, or download them for free.

 

^^ This is where I disagree. Outerwall is a decent value proposition, not a terrible one. With Outerwall, you satisfy the consumer's need on 3 fronts: Quality, price and instant gratification. With Netflix (or its competitors like flixster, itunes, vudu, amazon, target ticket, amazon, HBO) you either won't have the latest titles, won't be priced at $1-$2/rental or will have to wait for NFLX to mail the DVDs/BluRay disks to you.

 

If management sticks to its plan of returning 75%-100% of FCF to shareholders (as they have promised), shareholders should be OK. So I would never pay 10x FCF. But 4x on it could be OK if you feel Redbox will stick around for more than just a few years and have some room for a price bump.

 

If we were to invert it, the question would be - what price would you pay for it? 3x FCF? 2x FCF? The crazy thing is that a $15/share drop wouldn't be unexpected and would do price it at about 3x FCF. All we need is a negative SSS number for a quarter, or a weak guidance. If history is any indication, the best time to buy this is during a panic.

[fareastwarriors]

I just rented 2 movies to watch tonight.

 

I have Netflix and Amazon Prime but they don't have all the newer movies. RedBox is still a great value proposition at $1.2/dvd movie.

[yadayada]

thanks for the response, very helpfull :) I googled it a bit, and it seems people either use it to rent video games, or rent new releases right?

 

what if netflix has all the movies in 5 years? Seems pretty likely. or within 8 or 9 years. Is there a specific reason they dont? This seems like their edge on netflix, and if it dissapears, their revenues will go down fast.

 

So you are basicly betting, amazon prime and netflix wont have the newest movies before those kiosks 5 or 10 years from now?

 

what % is video game rental?

 

the thing is, in 1986, digital cameras werent around like they were in 2000.

 

And finally, why dont people download movies? I download all my movies, probably before you see them on dvd. I get them in full hd resolution, put them on a usb stick and can watch them everywhere. seems easier, better quality and cheaper. And then next to it you have a subscription on netflix to not feel bad about it :)

 

edit: apparantly new releases are v expensive, and netflix wants to stay cheap. so if you want to have a streaming service for new releases, you gotta make it expensive, which wont be able to compete effectively, and netflix likely wont do it. But why is it cheaper to release them on dvd then with streaming?

[HJ]

There are lots of interesting observations all around.  I don't have a strong view one way or another, other than trying to learn more about the media business.  But I think one thing the bulls are not discounting enough is that the cost of renting a DVD is not just $1.20 or $1.60 or whatever Redbox charges.  You still have a $200-$300 DVD player to depreciate over say 4-5 years of usable life.  As less and less people replace their DVD players, the addressable market will also shrink. 

 

One question that I have been trying to get a better handle on is understanding what combination of growth vs. ROI vs. capex vs capital return combination justifies a 4-5x ebitda valuation vs. 6-7x.  What type of FCF fall off rate do you guys think is embedded in the 4-5x ebitda metric?

 

[yadayada]

one question you could take from my rambling post above is, why is it so expensive for netflix to get the new releases? Why is it more expensive then to sell them on dvd?

 

The 2 biggest risks are, people figuring out to use torrents or other illegal ways to download movies. Apparantly only a small% of the population does that. And the other one is that new releases will become cheaper for netflix. Thoughts on this?

 

And regarding dvd players, you are forgetting alot of people own an xbox, playstation or wii. and a regular dvd player is like 40$? not 2-300$?

[constructive]

DVD player sales are mostly down because DVD penetration is very high, around 90%. You can buy a 3D Blu Ray player for $80 and it should last 6-8 years. For a lot of people it makes sense to buy a smart DVD player that can run streaming services instead of a set top box like Roku or Apple TV.

[siddharth18]

When you buy something at 20%-25% FCF yield and all the FCF is returned to shareholders, the per-share value increases compounds quickly.

 

You are right that if Netflix started offering these new movies then Redbox would be toast. But seems unlikely. Why? Because studios make a boatload of money on DVD sales and they're trying to replace that revenue which is in a gradual decline. So what they are doing these days is offer new movies digitally at $15-$20 to buy and rent for $4-$6. The last thing they want to do is price the digital rental prices to $1-$, stop making DVDs while there's still some demand for it or give away a perpetual stream of new releases for $7.99/month. There is no reason to kill DVDs just because there's still a lot of demand and studios get a much bigger cut of DVD revenues than they do of theatrical revenues.

 

I don't think the majority of population knows how to torrent/pirate movies. There are enough hoops to jump through between finding a torrent and make it play on the big screen. And those that know, already do.

 

Even Blu-ray players don't cost $200-$300. Blu-ray players cost around $80 and DVD players about half that.

 

As long as people keep visiting grocery stores, drugstores, gas stations - there will be the desire for instant gratification to pick up a movie for $1-$2 especially among the middle and lower-middle class demographic (http://i.imgur.com/1LGIz2b.jpg) that doesn't have their TV hooked up to amazon/itunes or doesn't want to pay $5 to stream a movie. 270 million people walk past redbox machines every week and ~68% of population lives within 5 minutes of a redbox machine.

 

While Redbox doesn't have staggering growth in the future, I don't think people will stop using it altogether in a few years unless studios stop making DVDs or start pricing new releases online for just $1-$2.

[siddharth18]

So I was casually browsing through a "investor presentation" spreadsheet of Motiwala Capital. I've found Adib's theses simple and easy to understand so I follow him to see what I can learn.

 

 

Well turns out he finds Outerwall compelling too...What are the chances?

 

http://i.imgur.com/EMNlLLQ.png

 

 

http://motiwalacapital.com/wp/wp-content/uploads/2014/03/Motiwala-Capital-Investor-Meeting-March-2014.pdf (Page 25)

 

 

 

 

 

 

[siddharth18]

Opening a synthetic long position via options can give you a discount in this case it seems:

 

Market price right now is $70.56

[bUY] $70 Jan 2015 CALL - costs $880

[sELL] $70 Jan 2015 PUT - can be sold for $1120

 

You have a positive carry of 1120-880 = $240 and the options seem relatively liquid. This positive carry seems to be a result of high short interest.

 

PS: I'm no expert with options, so do your own work before pulling the trigger; I might be wrong.

[yadayada]

sgdsdg im stupid lol

[Green King]

Opening a synthetic long position via options can give you a discount in this case it seems:

 

Market price right now is $70.56

[bUY] $70 Jan 2015 CALL - costs $880

[sELL] $70 Jan 2015 PUT - can be sold for $1120

 

You have a positive carry of 1120-880 = $240 and the options seem relatively liquid. This positive carry seems to be a result of high short interest.

 

PS: I'm no expert with options, so do your own work before pulling the trigger; I might be wrong.

 

Selling a put is the same as buying a call. This is not neutral.

[siddharth18]

 

Selling a put is the same as buying a call. This is not neutral.

What do you mean? By "positive carry," Sorry, I meant a surplus. It is NOT a neutral strategy. The synthetic call is meant to be a better alternative than simply going long the stock.

 

100 shares would cost you $7056

Instead you just Buy 1 x $70 Jan2015 Call for $880 and (more than) offset this cost from the $1120 you receive by writing a put Jan $70 PUT. In effect, you are paying $67.6/share when the market price is above $70/share. Please let me know if I erred.

[yadayada]

I am a complete option rooky so im v sorry if I hurt your eyes with my stupidity but here goes:

 

If you buy 1k  calls and sell 1k puts at 70$ strike then you gain 2400$ right? Assuming 8.80$ cost and 11.20$ gain.

 

If you would lose 30% of capital because price goes to 49$, then you essentially lose 21k$ -2400$ =18600?

 

If you just buy 1k worth of stock and you lose 30% you would lose 21k$ without getting the 2400$?

 

But if the stock is  at 100$, you can now buy 1k worth of stock at 70 and sell at 100$. so 30k$ Plus the 2400$ gain and the put wont have to be paid. otherwhise just 30k$.

 

BUT even better, if the price is up at 100$ before the expiration date, the option is worth more then if you would just exercise it yourself? So on that end you gain even more? How does that work? Let's say it is 3 weeks before expiration. Then the option is not 30$ right? Since the stock went up and there are a few more weeks to go, it should be trading at higher then 30$? So you get a nice bonus on this side?

 

I am assuming there is some kind of large borrow cost in here somewhere? where can you see all the fees etc? If you just keep that money in your account then you dont need to borrow it? ( i never bought options before)

 

Another thing is, you dont get dividends. How does that play out here? A 10% dividend would cause alot of problems here i think. As long as they just keep buying back stock then that is not a problem. That seems a pretty big risk with this strategy. As you only gain a couple %?

[siddharth18]

I am a complete option rooky so im v sorry if I hurt your eyes with my stupidity but here goes:

 

If you buy 1k  calls and sell 1k puts at 70$ strike then you gain 2400$ right? Assuming 8.80$ cost and 11.20$ gain.

 

If you would lose 30% of capital because price goes to 49$, then you essentially lose 21k$ -2400$ =18600?

 

If you just buy 1k worth of stock and you lose 30% you would lose 21k$ without getting the 2400$?

 

But if the stock is  at 100$, you can now buy 1k worth of stock at 70 and sell at 100$. so 30k$ Plus the 2400$ gain and the put wont have to be paid. otherwhise just 30k$.

 

BUT even better, if the price is up at 100$ before the expiration date, the option is worth more then if you would just exercise it yourself? So on that end you gain even more? How does that work? Let's say it is 3 weeks before expiration. Then the option is not 30$ right? Since the stock went up and there are a few more weeks to go, it should be trading at higher then 30$? So you get a nice bonus on this side?

 

I am assuming there is some kind of large borrow cost in here somewhere? where can you see all the fees etc? If you just keep that money in your account then you dont need to borrow it? ( i never bought options before)

 

Another thing is, you dont get dividends. How does that play out here? A 10% dividend would cause alot of problems here i think. As long as they just keep buying back stock then that is not a problem. That seems a pretty big risk with this strategy. As you only gain a couple %?

 

No worries...

 

This strategy of buying 1 call and selling 1 put basically obliges you to buy 100 shares of OUTR at the strike price of the put ($70 in this case). If price goes below $70, you are forced to give $7000 and obtain 100 shares of OUTR. If price is above $70, your call option goes up in value, at least equal to the rise in price (but likely more if there's more volatility and a lot of time left)

 

If stock goes to $49, you would lose $70-$49 = $21 per share and $2100 for the contract (1 contract = 100 shares). This loss would but offset by the net gain you had from the option transactions of $240 (1120 -880). So bottom line, you lose $2100-$240 = $1860 with the option strategy.

 

Compare this loss to the loss of $2156 if you were to buy 100 shares today at market price of $70.56 ($7026-$4900 = $2156)

 

As for dividend, this company has never paid one, and heretofore said that it never intends to pay one. Most likely because buybacks allow more flexibility to the management (they can be executed at management's will) while dividend once started, cannot be reduced/eliminated without appearing distressed in the eyes of the market. But you are right, there is the possibility that management finds shares unattractive to buyback and might start paying dividend especially now that it has promised to return 75-100% of FCF to shareholders.

[siddharth18]

Unrelated to options discussion, but relevant to this stock, short interest (as of 3/14/2014) is just over 45% Short interest = 9.2M shares and shares outstanding = 20.38M shares.

 

(http://www.nasdaq.com/symbol/outr/short-interest)

[yadayada]

how is this tho, If the shares are no longer cheap, then buying them back is burning money? They are in a finite business, that might not be around 10-15 years from now. So at some point a dividend is much better value?

 

And how do you think the option price will react if the announce a dividend?

 

And another thing is, they are in the process of expanding a kiosk that buys up used phones, and then sells them. It seems this could be some nice bonus upside?