(Blockbuster article updated from Jan. 28 with new Blockbuster stock movements.)

NEW YORK ( TheStreet) -- Blockbuster ( BBI) stock is continuing to rally, regaining some of its huge losses from the last four months, a day after it was reported that rival Movie Gallery could file for bankruptcy as early as next week.

Shares are soaring 12.5% to 45 cents in Friday afternoon trading.

As part of the bankruptcy restructuring, Movie Gallery could close roughly 1,800 stores, or two-thirds of its outlets, leading to significant layoffs, sources told the Wall Street Journal.

This would be the second time in two years the company has sought bankruptcy protection from creditors.

The prospect of a thousand stores being eliminated from Movie Gallery's portfolio, which includes Hollywood Video stores, is a tiny consolation for investors.

But as investors are making hay off the upside of the news, there is, of course, the potential downside to consider -- that Blockbuster could suffer the same fate as Movie Gallery.

In fact, buying Blockbuster on Movie Gallery's troubles is naive, Edward Neiger, bankruptcy attorney and founder of Neiger LLP, says.

"This is more of a negative than a positive for Blockbuster," he says."When Microsoft ( MSFT) has a bad day, it doesn't mean you should run and go buy Apple ( AAPL). When Microsoft is down it pulls down the rest of the technology sector."

Last week, Blockbuster said its fourth-quarter earnings came in significantly lower than expected due to weak holiday sales.

Blockbuster now expects a loss between $183 million and $193 million.

Shares of the company lost as much as 35% on the announcement.

Movie rental stores like Blockbuster and Movie Gallery have, of course, faced increased competition from streaming and mail-service provider Netflix ( NFLX) and kiosks from Coinstar ( CSTR).

And while the brick-and-mortars appear to be dwindling, the niche companies seem to be thriving, as Netflix reported a 36% jump in its fourth-quarter earnings on Wednesday.

The company also said it brought it 1 million new subscribers, allowing it to reach 12.3 million subscribers during the quarter.

IBISWorld analyst George Van Horn doesn't expect conditions to improve for Blockbuster over the next year. He foresees the company doing away with stores entirely and reestablishing itself as a new company.

So far, Blockbuster has said it plans to close nearly 1,000 stores. Instead, it is turning its focus to its kiosk business, with plans to open as many as 10,000 kiosks by the middle of the year.

But Van Horn says it will be hard for Blockbuster to move from one sector into a niche operator. "It is very difficult to go from a big company to a smaller one," he says.

-- Reported by Jeanine Poggi in New York.

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